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GIS	2020-03-18	[ { "description": "Vice President of Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Kenneth Goldman", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "DD Research -- Analyst", "name": "David Driscoll", "position": "Analyst" }, { "description": "Sanford C. Bernstein & Co. -- Analyst", "name": "Alexia Howard", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Steven Strycula", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Robert Dickerson", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "Stifel Financial Corp -- Analyst", "name": "Christopher Growe", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Faiza Alwy", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the General Mills Quarter Three Fiscal 2020 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded, Wednesday, March 18, 2020.", "I would now like to turn the conference over to Jeff Siemon, Vice President of Investor Relations. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Nelson, and good morning, everyone. I'm here with Jeff Harmening, our Chairman and CEO; and Kofi Bruce, our CFO. Also, joining us this morning for Q&A is Jon Nudi, who leads our North America Retail segment.", "I'll turn the call over to them in a moment, but before I do, let me first touch on a few items upfront. A press release on third quarter results went out earlier this morning, and you can find the release and a copy of the slides from this morning on our Investor Relations website. It's important to note that our remarks this morning will include forward-looking statements that are based on management's current views and assumptions, including facts and assumptions Jeff and Kofi will share related to the impact of the COVID-19 virus outbreak on our results in fiscal '20.", "The second slide in today's presentation lists a number of factors, among them the impact of COVID-19, that could cause our future results to be different than our current estimates.", "And with that, I'll turn it over to my colleagues, beginning with Jeff." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks, Jeff, and good morning, everyone. Our key messages today are listed on Slide 4. But before we cover our execution against fiscal '20 priorities, our Q3 results and our updated outlook, given this extraordinary period of time, I'd like to take a minute to discuss what we're seeing with respect to the COVID-19 virus outbreak and share what General Mills is doing to address our most important objectives, which are the continued health and safety of our employees and our ongoing ability to serve consumers around the world.", "For the past 154 years, General Mills has played a critical role and making food to meet the needs of our consumers. And in recent weeks, I can tell you that I'm proud of the way we partnered with our retail customers to address the increased demand for increased demand for food at home. We are taking steps to flatten the curve and limit exposure to the virus, while continuing to safely operate our business. We've asked all of our employees to partake in social distancing practices, and we've required those who can to work from home through at least April 1. For the safety of all involved, we've also restricted business travel and visitors at our facilities. With that in mind, Slide 5 summarizes how COVID-19 has impacted our business in recent weeks and what we expect to see in the coming months. As we mentioned last month at CAGNY, nearly half of our Haagen-Dazs shops in Greater China had been temporarily closed. In total, we saw a 90% decline in traffic in shops and substantial declines in other food service outlets in China in February, resulting in a significant reduction in Haagen-Dazs sales in Asia for the month. This was a 50 basis point headwind to total Company organic net sales growth and an estimated 150 basis point headwind to adjusted operating profit and adjusted diluted earnings-per-share growth in the third quarter. As the virus continues to spread, we expect to see reduced consumer demand for away from home food in the near term impacting both our Asia and Latin America and Convenience Stores & Foodservice segments. In Asia, while most of our shops are now open again, many have reduced hours of service and store traffic is still down roughly 60% during the month of March. At the same time, we expect to see greater near-term demand for food at home, primarily impacting our North America Retail and Europe and Australia segments. While it is still early, we've seen increased customer orders and higher retail sales takeaway in Nielsen-measured channels since the beginning of March. Our US retail sales results for the week ended March 7 were up low-double digits, including Pet and we anticipate takeaway for the week ending March 14, will be many times higher across all channels. While we assume this short-term stock up demand will ebb in the coming months, our expectation is that overall at-home food demand will remain elevated in Q4 and the bulk of any unwind will happen in fiscal '21. There is a great deal of uncertainty in this component of our forecast and if we see a material change in outlook, we will provide an update before the end of the fiscal year. Importantly, our supply chain is operating effectively around the world and we've been able to service the vast majority of customer demand to date. Our outlook assumes, we continue to operate our supply chain with minimal disruption, but this could change if the virus situation worsens materially. Given this heightened level of uncertainty regarding COVID-19, our full-year guidance that Kofi will cover in a few minutes, reflects a wider range for sales, profit and EPS, than we would typically carry with just one quarter remaining in the year. With those assumptions in mind, let me now turn it over to Kofi, to review our third quarter financial performance and updated outlook for the year. Kofi?" ] }, { "name": "Kofi Bruce", "speech": [ "Thanks, Jeff, and good morning to everyone. Slide 7 summarizes our financial results for the third quarter. Net sales were flat to last year at $4.2 billion. Organic net sales were also flat with another quarter of strong growth in Pet largely offset by declines in North America Retail and Convenience Stores & Foodservice. As expected, constant currency adjusted operating profit was 8% below prior year results, driven primarily by higher SG&A expenses, including higher media investment.", "Third quarter adjusted diluted earnings per share totaled $0.77, down 6% in constant currency, driven by lower adjusted operating profit, partially offset by lower net interest expense.", "Slide 8 summarizes the components of net sales growth in the quarter. Organic net sales were in line with last year with positive organic price mix largely offset by a modest decline in organic pound volume. Foreign exchange was flat in the quarter.", "Turning to segment results on Slide 9. North America Retail performance in the third quarter compared against our strongest quarter from a year ago on the top and bottom lines. The results included third quarter organic net sales, which were down 1%, primarily driven by US Meals & Baking. In the first nine months of the fiscal year, organic net sales were in line with year ago levels, which was a 1 point improvement over our fiscal '19 organic net sales growth. We drove sequential net sales improvement in US Snacks and US Yogurt in the third quarter, while our US Cereal results stepped back versus the first half growth rate, as we expected.", "Looking at our fiscal '20 year-to-date in-market results, we grew share in six of our top 10 categories, which comprise roughly 85% of our Nielsen-measured retail sales in the US. And third quarter constant currency segment operating profit declined 9%, primarily due to a significant increase in media expense, as well as lapping double-digit profit growth in last year's third quarter.", "Turning to Convenience Stores & Foodservice on Slide 10. Organic net sales declined 2% in the quarter driven by non-Focus 6 Flour and Mix businesses. Net sales for the Focus 6 platforms grew 2%, led by Cereal, Frozen Baked Goods and Yogurt, which continued strong contributions from our new two-ounce equivalent grain cereal offering in schools and bulk Yoplait yogurt. Third quarter segment operating profit was down 5%, driven by higher input costs.", "Slide 11 summarizes our results for Europe and Australia. Third quarter organic net sales were down 1%, driven by declines in Yogurt and Ice Cream, partially offset by growth in snack bars and Mexican food. In terms of in-market performance in the quarter, retail sales were up double digits for snack bars and up mid-single digits for Mexican food. Third quarter segment operating profit declined 11% in constant currency, driven by higher input costs, partially offset by lower SG&A expenses.", "In Asia and Latin America, third quarter organic net sales essentially matched year ago results. Net sales in Latin America were up low-single digits in constant currency, driven by continued improved performance in Brazil after a slow start to the year. Net sales in Asia were down low-single digits in constant currency in the quarter. As Jeff mentioned earlier, the COVID-19 outbreak had a significant negative impact on foot traffic in our Haagen-Dazs shops and food service outlets in Asia. And the majority of our stores were temporarily closed in China. As a result, February slower Ice Cream net sales in Asia were a 500 basis point drag on the segment's net sales growth in the third quarter. This headwind was partially offset by strong growth on Wanchai Ferry dumplings in China, driven by increased at-home food consumption in February.", "Third quarter segment operating profit in Asia and Latin America was down 64% in constant currency, driven by higher SG&A expenses and lower Asia Ice Cream net sales, partially offset by higher net sales in Latin America.", "Our third quarter Pet segment results are summarized on Slide 13. I'm pleased to say we had another great quarter of growth with net sales up 11%, driven by strong growth in food, drug and mass or FDM channels and positive price mix. This net sales performance was led by strong double-digit growth on Blue's two largest product lines, Life Protection Formula and Wilderness.", "Looking at in-market performance, our year-to-date all-channel retail sales were up low-double digits and we continue to gain share in the US pet food category.", "On the bottom line, third quarter segment operating profit grew 29%, driven by higher net sales, partially offset by higher media expense.", "Slide 14 summarizes our joint venture results in the quarter. Cereal Partners Worldwide posted top line growth for the sixth consecutive quarter with constant currency net sales up 1%. That growth was broad-based, led by the UK, Middle East, Mexico, and Turkey. East, Mexico and Turkey. Haagen-Dazs Japan net sales declined 5% in constant currency, driven by lower volume, partially offset by positive price mix. Third quarter combined after-tax earnings from joint ventures totaled $11 million, down 8% from last year, driven by phasing of brand investment at CPW and lower volume at HDJ, partially offset by positive price mix in both businesses. Turning to total Company margin results on Slide 15. Third quarter adjusted gross margin was down 30 basis points, driven by higher input costs, partly offset by positive net price realization and mix. Adjusted operating profit margin was down 130 basis points in the quarter, driven by higher SG&A expenses, including a significant increase in media investment. Slide 16 summarizes other noteworthy Q3 income statement items. Unallocated corporate expenses, excluding certain items affecting comparability increased $8 million in the quarter. Net interest expense decreased $21 million, driven by lower average debt balances and lower rates. With our good progress on debt pay down and favorable interest rates, we now expect full-year net interest expense to total $470 million, approximately. The adjusted effective tax rate for the quarter was 21%, compared to 19.9% a year ago, driven by certain discrete tax benefits in fiscal 2019, partly offset by changes in country earnings mix in fiscal '20. And average diluted shares outstanding were up 1% in the quarter. Now, turning to our fiscal year-to-date results on Slide 17. Net sales totaled $12.6 billion, down 1% versus last year, driven by unfavorable foreign currency exchange. Year-to-date organic net sales were in line with last year, with positive price mix offset by lower volume. Adjusted operating profit was up 2% in constant currency, driven by positive price mix, partially offset by higher SG&A expenses, including higher media investment. Year-to-date adjusted diluted earnings per share of $2.51 increased 5% in constant currency, driven by higher adjusted operating profit, lower interest expense, and higher non-service pension income, partially offset by higher net shares outstanding. Slide 18 provides our year-to-date balance sheet and cash flow highlights for fiscal '20. Nine-month cash from operations was $2.2 billion, up 7% from the prior year, driven primarily by higher earnings. Our core working capital balance totaled $342 million, down 31% from a year ago, driven by continued improvements in accounts payable. Capital investments in fiscal year-to-date totaled $269 million. Given the timing of year-to-date spending, we now expect full-year capital spending to finish a bit under 3% of net sales. Nine-month free cash flow totaled $1.9 billion, up 14% from last year. This strong free cash flow performance enabled us to pay $895 million in dividends and reduce debt by $862 million in the first nine months of our fiscal '20. Now, let's turn to our outlook, including our fourth quarter expectations, which are summarized on Slide 19. We expect Q4 organic net sales growth to step up significantly, driven by improved performance in North America Retail, as well as an extra month of results in Pet as we align that business to our fiscal year-end. Q4 reported net sales will benefit from a 53rd week in May. This accelerated net sales growth will drive a strong increase in gross profit dollars in the quarter, which will be partially offset by a significant increase in growth investments in brand building and capabilities. And as Jeff indicated with regards to the impact of COVID-19, we'll remain agile as the demand for at-home versus away from home food evolves across our markets. Our outlook assumes that we continue our strong supply chain execution through the end of the year without significant disruption. With that as a backdrop, our updated fiscal 2020 guidance is outlined on Slide 20. We continue to expect organic net sales to increase 1% to 2%. The combination of currency translation, the impact of divestitures executed in fiscal '19, and contributions from the 53rd week in fiscal '20 is expected to increase reported net sales by approximately 1%. Constant currency adjusted operating profit is now expected to increase 4% to 6%, which is ahead of the previous range of 2% to 4% growth. The primary drivers of our increased profit outlook include increased Holistic Margin Management productivity savings, a modest reduction in our input cost inflation forecast and continued tight control over administrative expenses. Constant currency adjusted diluted earnings per share are now expected to increase 6% to 8% from the base of $3.22 earned in fiscal '19, which is ahead of the previous range of 3% to 5%. The primary drivers of our increased EPS guidance are the increased forecast for adjusted operating profit and the expectation for reduced interest expense that I mentioned earlier. We continue to estimate that foreign currency will be immaterial to adjusted operating profit and adjusted diluted EPS. We continue to expect to convert at least 105% of adjusted after-tax earnings into free cash flow. And we'll maintain our disciplined focus on cash to achieve our targeted year-end leverage ratio of 3.5 times net debt-to-adjusted EBITDA. With that, I'll turn it back over to Jeff to cover our progress against our fiscal '20 priorities." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks, Kofi. On Slide 21, you can see our three key priorities for fiscal 2020. As I reflect on our results for the first nine months of the year, I'm pleased to be able to say that we have a good line of sight to deliver on all three. First, we're on track to deliver accelerated organic sales growth compared to our fiscal '19 results. We expect to improve organic growth in North America Retail by a full point versus last year and to deliver double-digit organic growth in the Pet segment. After getting off to a slow start in the first quarter in our remaining three segments, our top line trends have improved in the last two quarters and we continue to work to get those businesses back to growth.", "Second, we expect to deliver a positive year on margins with good results on HMM productivity and positive price mix from our strategic revenue management efforts, allowing us to significantly increase growth-oriented investments and brand building and in capabilities. And third, as Kofi just mentioned, we're on track to achieve our fiscal 2020 leverage reduction target.", "With these priorities in mind, I'll share a few examples of our year-to-date performance, highlighting what's working well and where we're working to improve. I'll begin with North America Retail focusing on Cereal, Yogurt and Snacks. I'm quite pleased with our performance in US Cereal to date. Following two years of modest retail sales growth in fiscal '18 and fiscal '19, our results have accelerated to 1% growth in the first nine months of fiscal '20. We've strengthened our share leader position in the US through remarkable brand building and strong execution against the fundamentals. For example, we've invested behind compelling consumer ideas, such as our Cheerios heart health campaign, which drove 4% year-to-date retail sales growth on the Cheerios franchise. Retail sales for the Cinnamon Toast Crunch franchise were also up 4% so far this year, driven by strong media support on the core, as well as continued success of recent innovations such as Cheerios and Chocolate Toast Crunch.", "And our innovation continues to add to our growth with Blueberry Cheerios, a new oats and honey variety of Cheerios Oat Crunch and Peanut Butter Chex, representing the three largest new products in the category in the third quarter.", "Now, let's turn to US Yogurt on Slide 23. Our strategy to get Yogurt back to growth centers on continuing to grow our core product lines through brand building and product news, while at the same time, innovating and faster growing spaces that will soon become sizable enough to offset declines we're seeing in retail -- in our tail. While our year-to-date results modestly lag our fiscal '19 trends, driven by a more driven by more significant tail distribution losses and the phasing of support on our Oui by Yoplait product line, we're encouraged by more recent performance. We continue to drive growth in our core with year-to-date retail sales up 2% for original-style yogurt and up 6% for Go-GURT. We've seen sequential improvement in our distribution trends in the last two months, while continuing to grow turns per point of distribution this fiscal year. Our second half innovation is off to a good start. While it's still early, our limited edition Starburst line of original-style Yoplait and our new coconut-based dairy-free offering by Oui by Yoplait are the two largest launches in the category since January. And we're increasing our brand building support on our core, including Oui by Yoplait, which saw retail sales improve in the third quarter behind a stronger consumer support plan. For US Snacks on Slide 24, we drove retail sales improvement through the first nine months of fiscal '20 and we expect further improvement in the fourth quarter behind innovation, renovation, brand building support, and improved distribution. Nature Valley performance has benefited from our successful wafer bar innovation, which is the biggest launch in the snack bar category this year, as well as improved merchandising execution. On Fiber One, our renovated products and refresh marketing campaign have made the brand more relevant for modern weight managers. These two brands are also beginning to lap significant distribution losses from a year ago, which should further improve their retail sales trends and our treat bars featuring household favor brands such as Cinnamon Toast Crunch, Lucky Charms and Golden Grahams are continuing to enjoy outsized growth with year-to-date retail sales up over 100%. On fruit snacks, we drove 5% retail sales growth and strengthened our leading market share position in the first nine months of the year behind excellent performance on Gushers and Disney equity fruit snacks. With benefits from better distribution trends, contributions from Nature Valley innovation and Fiber One renovation, and increased brand building, investment behind bars and fruit snacks, we remain on track to improve US Snacks performance in fiscal '20. Overall, we're making progress in North America Retail through the first nine months of the year. Year-to-date organic net sales results are a full point better than last year and we're competing effectively, holding or growing share in six of our top 10 categories, and we're stepping up investment behind our brands to build momentum as we close out fiscal '20 and head into fiscal '21. Turning to our Pet segment on Slide 25. We continue to drive double-digit all-channel retail sales performance on Blue through three quarters. From a channel standpoint, year-to-date retail sales were up significantly in food, drug and mass, as we benefited from our expansion to new customers and the launch of Wilderness in food, drug and mass in last year's fourth quarter. Importantly, retail sales for food, drug and mass customers who have carried Blue more than 18 months were up 31% in Q3. As expected, year-to-date retail sales in Pet Specialty were down versus last year. We continue to support the channel through unique programs and innovation. And as we shared at CAGNY last month, we're launching two new lines into select Pet Specialty retailers in the second half, including Baby Blue, which brings solutions to new and younger pet parents at a time when they are most engaged and True Solutions, a line of pet food formulated to treat common pet ailments. And Blue Buffalo continues to drive strong year-to-date retail sales growth in the rapidly evolving e-commerce channel. Looking ahead to Q4, there are two factors that will have a material impact on our Pet segment results this year. First, we'll lap last year's distribution expansion and Wilderness launch in the food, drug and mass, which drove significant pro forma growth and positive price mix in last year's fourth quarter. Second, as Kofi mentioned, we report an extra month of results in our Pet segment in this year's Q4 as we align the segment to General Mills May year-end. For the full-year, we remain on track to deliver 8% to 10% like-for-like growth for the Pet segment, excluding the benefit of the calendar differences in fiscal '20. We're excited about the growth prospects ahead and continue to remain confident in the long-term opportunities for Blue Buffalo. In total, we're encouraged by the performance in North America Retail and Pet this year. For our other three segments, we had a slow start to the year and while we've improved organic sales since the first quarter, there's clearly more work to do to get these businesses back to grow. As we look ahead, we remain agile across all segments as we navigate the changing consumer demand patterns and at-home versus away from home food driven by the COVID-19 virus. In addition, for Convenience Stores & Foodservice, we're focused on continuing to drive growth in the Focus 6 platforms, while improving our performance in Flour and Mix. In Europe and Australia, we expect to regain some lost distribution on Haagen-Dazs in France in Q4, and at the same time, we anticipated some short-term headwinds in the UK, driven by reduced distribution and lower levels of quality merchandising. Our priorities for this segment are to continue to invest behind our accelerated platforms, including snack bars, Old El Paso and Haagen-Dazs, while working to stabilize yogurt through focus on our core lines, including Petits Filous, Yop, and Perle de Lait. In Asia and Latin America, we'll continue to drive growth on our accelerated platforms. including Haagen-Dazs ice cream, and Nature Valley snacks, while investing behind important regional brands, such as Wanchai Ferry in China and Yoki and Kitano in Brazil. I'll close our remarks this morning by summarizing today's key messages. First and most importantly, our top focus remains on the health and safety of our employees, as well as serving our consumers as we manage through the rapidly evolving situation with COVID-19. Second, we're executing extremely well and we're on track to deliver our fiscal '20 priorities and what is proving to be a highly dynamic environment. Third, our third quarter results were broadly in line with our expectations, excluding the impact of the COVID-19 virus in Asia. And finally, we're raising our guidance on profit and EPS. With that, let's open the mic for questions. Operator, can you please get us started?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Our first question comes from the line of Andrew Lazar with Barclays. Please proceed." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning, everybody." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Andrew." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Andrew Lazar", "speech": [ "Hey, there. Interesting question I think is whether some of the unanticipated trial that General Mills and others are getting as a result of the sort of current situation. Maybe some portion can be sustained longer term as consumers add some items, maybe their ongoing shopping basket, but they wouldn't have otherwise done as they see some of the improvements made by certain brands to improve product quality and sort of relevance over the past couple of years. I know it's a hard one to obviously answer now. But maybe you can share some of your thoughts on this and maybe a little context or a bit of maybe what your consumer insights might say about some of the improvements or the areas where the Company has made. What you think are some of those improvements in terms of things like product trial and repeat rates? Where you've made maybe significant changes in relevance, things like that? I appreciate that it's dynamic, and some of this is we'll have to see. But maybe just some of your thoughts on that would be really helpful. Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Andrew, that's a really thoughtful -- this is Jeff. Really a thoughtful question. Let me give you a couple of insights from China and then I'll pass it to Jon Nudi to maybe give you a couple of insights from North America Retail. And in China, as we said, our shops business has been down over the last month. But interestingly, our frozen dumplings business has been up double digits and particularly with delivery at home. And it's very clear that we've increased household penetration in China and that demand continues to be strong even as our shop business open up in China gets back to work. And so, I'm not sure the lessons we learned in China will hold everywhere, but at least what we're seeing in China is that, our household penetration on Wanchai Ferry -- cherry Ferry dumplings has increased and that there is strong growth following the fact that people are starting to get back to work.", "We have done a lot of work in the US on some of our product lines, in particular Snacks, but I'll let Jon Nudi comment on that." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah. So good morning, Andrew. I guess, the first thing right now, obviously, it's a really fluid situation. So the bulk of our time is spent on working with the retail partners and servicing the business. That being said, as Jeff mentioned, we've worked hard over the last few years to renovate the majority of our product lines. If you think about refrigerated baked goods, we've touched the bulk of that business which is big, important and profitable for us. Cereal has been renovated as well. So we do believe it's an opportunity, perhaps as consumers come back and try our products again after several years to see the products and the improvements that we've made and ultimately, hopefully, drive penetration for the long-term." ] }, { "name": "Andrew Lazar", "speech": [ "Appreciate your thoughts. Thanks, everybody." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Ken Goldman with J.P. Morgan & Company. Please proceed." ] }, { "name": "Kenneth Goldman", "speech": [ "Hey, good morning and thank you for the questions. Two from me. First, just wondering if you could elaborate a little bit on what you've seen in the last week or two in your Convenience Store business. I know it's hard to know you're not exactly timing your shipments with their takeaway. But any color there would be helpful. Just obviously given the consumers are on the road a little bit less.", "And then the second question is, you talked a lot about increased marketing and I totally appreciate the benefits of that in the long run. Can you walk us through a little bit maybe of how that conversation how that conversation goes internally when you have increased demand naturally already? Whether you're thinking about pulling back at all on some of that marketing and maybe letting some of that cash flow either drop to the bottom line or being reinvested in capex or other ways? Just trying to think about how you balance those factors? Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So, Ken, and as you -- as we look at channels, I mean, clearly, the situation is evolving quickly. And I'll give you what insights we have, which may not be sufficient. But, look, as we look at March so far we haven't seen a big fall-off in our Convenience & Foodservice business through today. But clearly, the situation continues to evolve and you like us saw stores closing, and that's a big piece of our business and we also see the restaurant traffic is down and what we're seeing is those two things, there is some offset by what we see in Convenience Stores where the traffic is strong. And so, unfortunately, certainly with healthcare. And so, we would expect in the fourth quarter that our C&F business would be down for all of those factors. But look, the situation continues to evolve and ways that you would probably anticipate.", "In terms of how we think of marketing for the fourth quarter, that's a good question. I mean, the first thing I would say is that, as we look around the world, we have made sure that whatever marketing we have at the messaging is appropriate. It's a unique time and we needed to make sure whether we're doing what we're talking about our brands on social media or we're doing it through a broad scale like TV. First of all, our message has to be appropriate for the time. And I can tell you we've done that worldwide and we feel like it is.", "Second is that, part of the appropriate of that message, I think, includes not talking about stocking up and that kind of thing. We see consumers doing that already. Having said that, for us, brand building is a long-term investment. It's not only what we do this quarter. So we'll continue to build our brands in appropriate ways because the impact is not only for now, but it's three months from now and six months from now. In addition, and this is only one man's opinion with very little data to back it up. But I think it also can never sense a normalcy for people, as their lives are anything but normal in many parts of the world. And so, for us, we think we have a responsibility to do that, whether it's delivering our products or whether it's advertising Cinnamon Toast Crunch." ] }, { "name": "Kenneth Goldman", "speech": [ "So a one man's opinion with little data to back it up, that's what I do for a living. So, thank you, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah." ] }, { "name": "Kenneth Goldman", "speech": [ "Please stay safe." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Same to you." ] }, { "name": "Kofi Bruce", "speech": [ "Same to you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Robert Moskow with Credit Suisse. Please proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hi. Thanks, Jeff. I'm trying to think through some really worst-case scenarios from a supply chain perspective, like a two-week period where people just are locked up in their houses, can't go to manufacturing facilities or distribution centers. Have you and John Church kind of thought through those scenarios and if that happens, is there a possibility of like federal government assistance, anything to keep the food supply chain moving? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So, we -- so Rob, it's a good question. And certainly, keeping the supply chain moving is at the top of our mind. And so, I think it's an insightful question. As we think about it, the first couple of things I would say is, look, up until this point the supply chain has been working remarkably well and our service levels are well over 90%. And I will tell you, our retail partners have been very grateful for the work that we and others have done. And so, certainly up until this point in time, the supply chains has been working very well. Despite maybe even you see pictures of store shelves being empty. I can tell you that food continues to flow. We continue to make it. Our retailers continue to stock as quickly as they can and that all is actually working pretty well.", "As we look ahead, one of the things that -- we need to do a couple of things, one is that, we need to make sure our employees remain safe, and the second is that, we would need to maintain that -- we need to maintain the delivery of products. We needed to do both. We can't really do one or the other. We have to do both.", "In terms of employee safety, I would say that, while people are at work, we already follow very strict food safety guidelines and employee safety guidelines at our plants, hand-washing and things like that. And the guidelines set forth by the FDA and the USDA. One of the things that we are doing incrementally as we have adjusted our leave policy to make sure that people who are sick and stay home and get paid and then stay at home because we certainly don't want sick people coming into our manufacturing plants or offices. And the -- as I said, we put some policies in place to help them out. We've also worked through a number of contingencies, but to date, I think it's also important to note that the FDA in a note they put out yesterday, reiterated that statement, there is currently no evidence of food or food packaging being associated with transmission of COVID-19. And so, we anticipate continuing production through most of our -- the course of our normal actions.", "The only thing we've done differently at some of our sites is that, we have encouraged social distancing. So instead of having everybody gathered in the lunch room at one time. We're encouraging people to do it at different times and the current -- and so having breaks all at one time, doing breaks at different times. So we've been responsible in that way." ] }, { "name": "Robert Moskow", "speech": [ "Okay, Jeff. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of David Driscoll with DD Research. Please proceed." ] }, { "name": "David Driscoll", "speech": [ "Great. Thank you and good morning, everybody." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, David." ] }, { "name": "Kofi Bruce", "speech": [ "Hi, David." ] }, { "name": "David Driscoll", "speech": [ "Wanted to ask a little bit about the sales guidance. Kofi, can you talk a little bit about why the sales guidance is not actually raised? In your prepared comments it sounded like the fourth quarter is going to be really good, but when I look at your total consolidated guidance for organic revenue for the year, there is no real change right there. So, can -- do we start there?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. Absolutely, David. So just as context, the low end of our guidance would assume that the impact of COVID on the balance of the year is effectively a net neutral. And it's important to maybe set as a frame of reference, where we were at Q2, which is effectively our NAR business on to slightly ahead of expectations, our Pet business on to slightly on expectations, and then we got behind on the other businesses. And although we're making progress on C&F, EU/AU and ASLA, clearly, the expectation would have driven sort of an aggregate us the lower end of the range as a start point on the top line.", "So I think what our midpoint then gets us is effectively the at-home channels in NAR and EU/AU would partially offset the drag from ASLA and our expected traffic pressure in our away from home business on C&F. And then, obviously, at the high end, we would expect the trends we're seeing in March that are reflected in the midpoint of our range to stick through the balance of the year." ] }, { "name": "David Driscoll", "speech": [ "That's super helpful. And then just two quick follow-ups. On Ken's question, I'd like the question about what you do on your brand building, but specifically for me the twist is your promotional activity. It -- given that there are so many out of stocks and there is these runs on the grocery stores, would it be almost a requirement that you dial down your promotional activity? I think Ken was focused on advertising, but I want to look at the promotions, because why would you want to encourage even more product movement if you put big discounts on cereal per se. So, wouldn't it be logical to reduce the promotional activity, because you know the product is going to move in the fourth quarter.", "And then just one quick question on Pet. Is there any concern here that lower economic activity negatively impacts premium Pet sales? Thank you." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Hi, David. This is Jon. I'll take the first question. In terms of promotional activity, what I would say is, we're in very close communication with all of our retail partners. And again, it's a very dynamic time. So a lot of those discussions right now we're about servicing the business and really the day to day. At the same time, we are talking about promotional calendars and I think each retailer is starting to think that through, both short-term and long-term. At some of our retail customers, we have pulled back merchandising in April jointly and others, we're just beginning that conversation. So again, ultimately, it's a partnership. We're working hand-in-hand, the communication with retailers right now is the best I've ever seen in terms of partnership. We're all trying to do the same thing and it's feed our consumers. So that will be a conversation I think that will continue. And again, we're starting to pull back a bit in April, I think that conversation again will continue as we move forward." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "And then with regard to Pet, David, look, during the last recession, we didn't see a pullback on pet food. And as we looked at Blue Buffalo when we bought it, one of the things we liked about it was that demand for pet food seems to be pretty inelastic. And what we've seen so far in the fourth quarter is not to the same degree as we've seen in North America Retail. But, look, people love their pets and they want to make sure they take care of their pets. And so, we feel like our retail takeaway for Pet in the fourth quarter is going to be robust.", "Now, remember we have comps to go against, we built a lot of inventory due to a launch last year in the 53rd -- an extra month an extra month. So there are a lot -- there's a lot going on. But I would say, demand for pet food, we continue to see very strong. And to the extent that the US has some economic hardships as a result of this virus, we would anticipate the pet food category would still be a robust category." ] }, { "name": "David Driscoll", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Alexia Howard with Bernstein & Company. Please proceed." ] }, { "name": "Alexia Howard", "speech": [ "Good morning, everyone." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hey, Alexia." ] }, { "name": "Alexia Howard", "speech": [ "Hi. So, can I ask about -- it may be too early to tell, but are you seeing any sort of channel shift into the e-commerce channel as a result of COVID-19? And if you're not seeing that yet, are you anticipating that that could happen and how are you gearing up for that? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So, again, what we saw in -- I'm assuming you're talking about the US, but I'll actually start with China. Well, what we did see in China was a pretty significant shift to the e-commerce channel, and we were well prepared for that and we serviced our customers both in-store and online, but we did see, as you can well imagine, an increase in the e-commerce channel.", "And I'll let Jon Nudi talk about what we've seen and what we expect in the US." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah. So, I would say, Alexia, we've seen broad-based demand across all channels. Certainly, e-commerce is spiking. Big picture, it's still a relatively small channel in the US. So, even though we're seeing more demand there, it's something we can clearly service and we're working with those customers to make sure they have the product that they need. But again, as this thing has progressed over the last couple of weeks, I think you saw certain channels strengthen first and as of the last week or so, I'd say, we see broad-based demand across all channels in the US." ] }, { "name": "Alexia Howard", "speech": [ "Okay. And then as a quick follow-up, are you able to quantify how much your marketing spending was up, the turnaround and what you anticipate for the fourth quarter?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure. Alexia, this is Kofi. So, in the third quarter, we were up in the high-teens percent and in line with what we sort of telegraphed at the end of our Q2, our earnings release. I would expect our fourth quarter will look similar to slightly up in relation to the third quarter." ] }, { "name": "Alexia Howard", "speech": [ "Thank you very much. I'll pass it on." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of David Palmer with Evercore ISI. Please proceed." ] }, { "name": "David Palmer", "speech": [ "Thanks. I think you mentioned that orders and perhaps the scanner data [Phonetic] will show something many times greater than the first week of March in terms of takeaway. The question I would have first is one of leverage on sales. What sort of rules of thumb would you have for us in terms of the cash flow and earnings contribution from these big increments of sales growth 5, 10 points? We can think of great flow-through from great -- the capacity utilization, but we can also consider some elements of higher expenses as the big rush happens and obviously, there's going to be supply chain strains with availability of people. And then I have a quick follow-up." ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. I think we would expect on balance to get some additional leverage out of the volume moving through our plants, which are obviously running close to capacity. And then I'll let you direct your follow-up." ] }, { "name": "David Palmer", "speech": [ "Yeah. And then as far as take home, the at-home meals are something like 80% of American consumption anyway. So, the pain and suffering we're seeing in restaurants, which is very substantial. Their proportionate pain is not as much of the at-home gain, once we get past this big stocking up period both at the at-home level and the supermarket level. So the question is, one of, how do we think we're going to be looking at in terms of consumption increase over the course of this calendar 2020, how should we be thinking about that benefit and the lapse for the typical food company? Is it something like a single-digit type of number? I mean, any sort of rules of thumbs about how you're thinking about this and modeling this as we look across the calendar '20 landscape? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, listen, I -- as you well know, I hate to dodge your question but this one, I'm just going to -- I'm going to have to take a pass on because trying to model our current situation, I'm not really sure what model we would use to be honest with you. What we do believe is it over the next couple of months, I mean, you talked about calendar 2020, I would say, over the next couple of months, it's very clear to us that restaurant traffic will be down, it's very clear to us that schools and university feedings will be down and that consumption is going to shift to at-home. And so, those are the trend and we don't have a lot more insight than you do in terms of the data, but those trends are clear to us. And that at-home food is going to be higher. And so, I'm not trying to dodge it, just to be cute, look, it is just evolving so quickly. And what we don't know is the depth and we don't know the duration. And a couple of months in maybe we can give you a better view of what's going to happen. But right now, to be honest, our primary focus is keeping our employees safe and making sure that we can deliver all the food that our consumers and retailers are demanding of us. And so far we've done a really good job on both counts." ] }, { "name": "David Palmer", "speech": [ "Beautiful. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Steve Strycula with UBS. Please proceed." ] }, { "name": "Steven Strycula", "speech": [ "Hi, good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Steve." ] }, { "name": "Steven Strycula", "speech": [ "So, Jeff, a quick clarification, if we were to take the midpoint of your guidance for fiscal '20, what does that imply in terms of, qualitatively speaking, for the North American business for the balance of the year? Does that mean that basically the month of March we see a big bump? And then what would that mean to get to the upper end of your range for your guidance, would that imply that this endures into April and May? So that would be the first part of my question." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So let me give you a broad stroke, and I kind reiterate a little bit of what Kofi said and that, for us to get for -- to get to the high end of our guidance, it would assume that we would see elevated levels of demand for the remainder of the quarter and our at-home food consumption and that we would see a drop in our consumption in C&F. And then at-home demand would be both here in the US and as well as Canada and Europe.", "The midpoint would assume that we've seen the strong demand to date, but that demand would tail off either because consumers are stocked up or retailers are stocked up or the virus is under control in a relatively short period of time, so that would be the midpoint of our estimate." ] }, { "name": "Steven Strycula", "speech": [ "Okay. Very helpful. And for Kofi, as we think through the puts and takes of what Dave Palmer was asking about the shift to food at home from food away from home. If we net that together, would we expect a net sales gain and more importantly, from an EBIT contribution, would there be some stranded costs from factories potentially not being utilized or does the margin mix fully kind of offset that, not sure if they go over the same supply chain or not? Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. Well, certainly in North America, it's a co-mingled supply chain. So I think net-net, we would expect the balance of our at-home business increase to more than offset any of the -- any potential drag. So I would just reiterate our plant -- we expect our plants to be fully -- close to fully utilized during this period." ] }, { "name": "Steven Strycula", "speech": [ "Great. Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Michael Lavery with Piper Sandler. Please proceed." ] }, { "name": "Michael Lavery", "speech": [ "Good morning. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Michael." ] }, { "name": "Michael Lavery", "speech": [ "You have a new Chief Digital and Technology Officer and just would love if you could give maybe a little sense of how we might expect the changes there? How some of the ways are you're using data and digital and what kind of push might be coming that a new hire could help drive?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So, we're really pleased to have Jaime Montemayor on board as our new Chief Digital and Technology Officer. He's had a heck of a first few weeks as everybody in the world starts working from home and we keep our systems going. Jaime is going to be terrific and he'll continue the work that we've already started. And I think, for me, whatever you do on the digital technology front, needs to follow your business strategy and what you're doing from a business standpoint. And to the extent, we're doing strategic revenue management and we're doing more specific marketing and scale. So through things like boxed out for education or our websites or through e-commerce. I think on the revenue generation front, what you will see is the enablement -- technology enabling us to do things we wouldn't be able to do before in more -- in better ways than we're able to do before.", "And then correspondingly, on the cost side, because I think there benefit -- there'll be benefits eventually in the cost side, things like global procurement, we have been doing that and we've seen tremendous savings from that and actually been able to generate the same kind of HMM with lower capital by taking our social and globally. That will -- that capability will only be enhanced only be enhanced by the use of technology and the intelligence that affords in order to be to do that more effectively. So the way we're thinking about it is that, we're going to do the activities that we've done before but the use of technology we'll be able to do it in a way that is more efficient and more effective than we've done it before. And so, it's not -- we're not chasing technology for its own sake but using it to build on business strategies we already have in place." ] }, { "name": "Michael Lavery", "speech": [ "That's helpful color. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Rob Dickerson with Jefferies. Please proceed with your question." ] }, { "name": "Robert Dickerson", "speech": [ "Hi, great. Thank you so much. Just a question on near-term demand relative to manufacturing capacity. What we've heard obviously through all the media outlets, kind of what I'm hearing today is food supply chain remains strong, which I believe it does. But just kind of given that the near-term demand is substantially higher than for at-home right now relative to basically any time in history. How do you think about meeting that demand in the next month or two as, let's say, some inventories rollout? It's really just kind of gaining some perspective on just the food chain in general and specific to General Mills just vis-a-vis demand. Thanks." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Hi, this is Jon Nudi. So let me take a crack at that for how we're thinking about in North America. I'd say, first of all, again, it's about -- our first priority is the safety of our employees and food safety and we're very focused on that. Our plants are running very well right now. Again, near capacity and actually running ahead of the throughputs that we had planned over the last couple of weeks, which is terrific. We have a control tower in place across North America, that's actually looking at all of our businesses. So balancing our North America Retail businesses, our Convenience & Foodservice and Pet as well. And that control tower is a live group of people and systems that are working 24/7 and really balancing where we're seeing demand, what lines are running and what products are running.", "The other thing I would tell you is that, we're working very, very closely with our retail partners. And the partnership has been terrific. So, we're talking about how we can simplify the supply chain. In some cases, that might mean running fewer SKUs or running the big SKUs of soup and not running some of the tail brands, and there's significant time required to change lines. Talking about shipping, full pallet quantities as opposed to mix layers on pallets to customers. And then making trade-offs around DSD, direct store deliveries, for our retailers, that's actually a very good thing. For us, it gets to be a bit more challenging as it takes throughput out of our system. So, we're having live conversations, I mentioned earlier, I've had conversations with top retail senior execs that are big customers and the partnership is really good. So, as of today, again, it's something that we're looking at on an hourly basis. We continue to stay tight with our retail partners and we believe that we'll be able to serve our consumers for the short and long-term." ] }, { "name": "Robert Dickerson", "speech": [ "Super. It's very helpful. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Bryan Spillane with Bank of America. Please proceed." ] }, { "name": "Bryan Spillane", "speech": [ "Hey, good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Bryan." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning, Bryan." ] }, { "name": "Bryan Spillane", "speech": [ "So, Kofi, just a question on -- I guess, on just the commodity cost basket. I think in the quarter you had indicated it came in maybe a little bit favorably. I know, obviously, oil has moved a lot. But maybe if you can just give us a perspective right now in terms of kind of what key variables are that are moving? It looks like packaging, at commodities and not necessarily looking for guidance for next year, but just kind of how that cost basket is evolving now and how we can maybe think about it going forward?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. I think, Bryan, great question. I would just start by reminding you, we're probably about 90% plus hedged at this point. So we have a pretty fixed structure through the balance of the year. I think that said, I think I would just refer you back to my earlier comments, I would expect our inflation to round up to 4%. So it is slightly favorable to our expectations at the start of the year based on sort of the trend line and what we're realizing in our cost base." ] }, { "name": "Bryan Spillane", "speech": [ "All right. Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Chris Growe with Stifel. Please proceed." ] }, { "name": "Christopher Growe", "speech": [ "Hi. Good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Chris." ] }, { "name": "Kofi Bruce", "speech": [ "Hey, Chris." ] }, { "name": "Christopher Growe", "speech": [ "Hi. Just two questions for you if I could. I'm just curious how -- if you looked at your non-food service businesses in Asia, how they performed in the quarter. You mentioned Wanchai Ferry being up double digits. Has that informed your modeling for the US business in the fourth quarter?", "And then I had a second question, which is that, did you start to see inventories build in the third quarter, late in the third quarter, in anticipation of the stock up activity, this pantry loading? Did that affect North American Retail reported sales in the quarter? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. So on the first question as what we've seen in Asia, does it inform how we think about this now? I mean, I think it informs how we think about what we're going to see, but I don't know there's going to be a one-to-one correlation between what we saw in China. I mean, every market is a little bit unique and how they transfer food and food habits and so forth. But certainly, it informs our view and tells us that away from home consumption was certainly going to increase, we believe, over the short-term based on what we've seen there. So it has informed our view on that.", "In terms of retail inventories, no, we did not stock up retail inventories before the end of the third quarter in anticipation of what was going to happen in the US. We didn't take them down either. We were kind of running normal inventory levels and the change of pace on consumer habits and the spread of the virus has been the likes of which we have never seen. And so, we're reacting real-time and we're acting very well. But no, we did not come into the quarter with elevated levels of inventory in the US or frankly, anywhere." ] }, { "name": "Jeff Siemon", "speech": [ "And Chris, this is Jeff Siemon. I just remind everyone that's listening, our quarter ended on February 23. So while that is only three weeks ago, which is hard to believe, there really wasn't anything in the US that was happening at this -- at that time. It's really all happened subsequent to the end of the fourth -- third quarter, excuse me." ] }, { "name": "Christopher Growe", "speech": [ "That's a good point. Thank you. Okay." ] }, { "name": "Jeff Siemon", "speech": [ "Yeah. I think we have time for just sneak in one more." ] }, { "name": "Operator", "speech": [ "All right. Our last question comes from the line of Faiza Alwy with Deutsche Bank. Please proceed." ] }, { "name": "Faiza Alwy", "speech": [ "Yes, hi. Good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Faiza Alwy", "speech": [ "Hi. So I wanted to ask about, just outside of stocking up and sort of lapping that stocking up, just how do you think about packaged food and specifically your categories and your brand and how those might perform in a potential recession, whether or not, it's prolonged? I don't know if you've had time to think through it or if you've been -- if you sort of run models planning for it, but I just love your initial take on how we should think about a recessionary scenario and how your categories and brands might perform in that scenario? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, this is Jeff. I would say first is that, the honest truth is, over the past month we've been focused on the near-term and delivering what we need to for -- delivering for the near-term and executing really well and it's not like we haven't had any thoughts in the future, but frankly, to get in the future we need to execute on the now. So we have been -- we went wildly focused on that.", "I would say that, for the relatively current period, Jon Nudi, I think mentioned it, but our brands are actually well positioned in that, or one or two in our categories. And as people look for things, they know in times like these our brands tend to do fairly well because it offers comfort because it's the brands that they know and they trust. And to the extent that retailers are cutting down on the number of SKUs, they have, in the short-term, in order to make sure they sell through as much product as possible, it's really helpful to have the top turning brands in the category, which -- the categories, which we do. So, in the short-term, we feel like we're in a good position to both serve our consumers and serve the customers that are eventually going to serve the consumers.", "In the long-term, look, it has been so long since we had a recession and especially here in the US. But certainly, during that time people tend to eat in more and General Mills did quite well, but that was a decade ago. We'll see how it plays out this time." ] }, { "name": "Faiza Alwy", "speech": [ "Okay. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "Great. I think that's all the time we have. So we'll go ahead and wrap up the call for this morning. Thanks everyone for your time and attention. We really appreciate you being with us this morning. I really hope that everyone stays safe and healthy. If any of you have follow-up questions, please -- I'll be around all day, so don't hesitate to reach out. Thanks again." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
GIS	2018-06-27	[ { "description": "Vice President Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jeffrey Harmening", "position": "Executive" }, { "description": "Executive Vice President and Chief Financial Officer", "name": "Donal Mulligan", "position": "Executive" }, { "description": "Bank of America -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Kenneth Goldman", "position": "Analyst" }, { "description": "Stifel Nicolaus & Co., Inc -- -- Analyst", "name": "Christopher Growe", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Unknown Analyst", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "-- Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "-- SIG -- Analyst", "name": "Pablo Zuanic", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "John Baumgartner", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Steven Strycula", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Alexis Borden", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Ladies and gentlemen, thank you for standing by and welcome to the fourth quarter fiscal 2018 earnings conference call. During the presentation, our participants will be in the listen-only mode. Afterwards, we'll conduct a question and answer session. At that time, if you have a question, please press the 1 followed by the 4 on your telephone. If at any time in the conference you have to reach an operator, you can press the * followed by the 0. As a reminder too, this call is being recorded Wednesday, June 27, 2018. Now, I would like to turn the calls over to Jeff Siemon, Vice President Investor Relations. Please go right ahead, sir." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Tommy. And good morning, everybody. I'm here with Jeff Harmening, our chairman and CEO and Don Mulligan, our CFO. And I'll hand the call over to them in a moment. But before I do, I'll cover a few housekeeping items. Our press release on fourth quarter and full year earnings was issued over the wire services earlier this morning. You can find the release and a copy of the slides that supplement this morning's remarks on our investor relations website. And I'll remind you that our remarks this morning will include forward-looking statements that are based on management's current views and assumptions. The second slide in today's presentation list factors that could cause our future results to be different than our current estimates. Included in our press release this morning was a reminder that we'll be reporting results of our newly acquired Blue Buffalo business on a one-month lag to our corporate calendar. We took a similar approach in previous acquisitions including Annie's, Yoki, and Yoplait international.", "As a result, our fiscal 2018 financials do not include net sales or operating profit from Blue Buffalo. Though, our 2018 earnings per share do include the impact of higher shares and interest due to acquisition financing. Don will provide details on the impact of Blue Buffalo on our 2019 financials later in the presentation. Finally, I'll note that starting with the first quarter of fiscal '19, we'll be adopting a new presentation of pension, post-retirement, and post-employment benefit expenses. This will separate the service costs from other benefit related expenses or income which will move below operating profit. When we report our first quarter earnings in September, we'll provide you visibility to how the new income statement presentation will impact our 2019 adjusted operating profit growth rate and related guidance, though it will not impact earnings per share or EPS growth. And with that, I'll turn you over to my colleagues, beginning with Jeff." ] }, { "name": "Jeffrey Harmening", "speech": [ "Thanks, Jeff. And good morning, everyone. Fiscal 2018 represented an important step in returning General Mills to sustainable topline growth. We finished the year on a positive note in the fourth quarter, delivering top- and bottom-line results that met or exceeded our most recent guidance, including a third consecutive quarter of organic net sales growth as well as strong growth in profit, margins, and earnings per share. We made significant progress against our global growth priorities in fiscal 2018. We competed more effectively, improving our organic net sales trends by 400 basis points over the course of the year. We enhanced our capability as an e-commerce and strategic revenue management, and we moved to reshape our portfolio for future growth with the acquisition of Blue Buffalo, a fast-growing, highly profitable business that is leading the transformation of the US pet category. We're pleased with our broad-based topline performance.", "And we know there is more work to do to address rising costs and deliver better results on the bottom-line. As we turn to fiscal 2019, we'll continue to follow our Consumer First strategy and invest behind our global growth priorities to accelerate our topline growth again. We're also keenly focused on maintaining our efficiency in this more inflationary cost environment. And we have initiatives under way to help protect our profitability and continue to drive cash flow. On slide five, you can see the key financial performance metrics for our fourth quarter. Net sales totaled $3.9 billion, up 2% from last year. Organic net sales increased 1%, driven by positive net price realization and mix across all four segments. We saw particularly good net sales performance on our accelerate platforms, including snack bars, Haagen-Dazs, and Old El Paso. Importantly, we gained share again in US cereal in the quarter, despite a double-digit reduction and merchandising.", "And we grew our US yogurt market share in the quarter for the first time in three years. Segment operating profit in the quarter totaled $727 million, up 7% in constant currency reflecting favorable net price realization and mix, benefits from cost savings initiatives and lower SG&A expenses. Adjusted operating profit margin increased 170 basis points versus last year. In addition, adjusted diluted EPS totaled $0.79, an increase of 7% in constant currency. This result included a seven-point headwind from higher net interest and shares related to Blue Buffalo Financing. Turning to the full year results, fiscal 2018 net sales of $15.7 billion were up 1% as reported and were flat to last year on an organic basis. Organic sales growth in our convenience stores and food service and European and Australian segments was offset by the clients in North America retail and Asia and Latin America.", "From a platform standpoint, net sales growth was led by our natural and organic, snack bars, and Haagen-Dazs businesses while yogurt declines moderated significantly from year-ago trends. Total segment operating profit of $2.8 billion declined 6% in constant currency. We delivered another strong year of HMM savings, and we reached our restructuring savings goal. However, those results were not enough to offset unexpectedly high freight and raw material inflation, increases in other operating costs, and higher merchandising. Full-year adjusted operating profit was down 90 basis points. Adjusted diluted EPS were $3.11, essentially matching year-ago levels and cost in currency. This included a two-point headwind from incremental interest and shares related to the Blue Buffalo financing. Finally and importantly, we delivered an excellent year of cash generation with free cash flow up 28% over year-ago levels. Earlier this year, we outlined three global priorities to return our business to consistent topline growth.", "Compete effectively everywhere we play across all brands and geographies, accelerate growth on four key platforms where we have leading brands, capabilities, and attractive margins and which play in faster-growing categories, and reshape our portfolio for growth through acquisitions and divestitures We made progress against each of these priorities in fiscal 2018. Most of the improvement in our organic sales growth last year was driven by competing more effectively around the world. At the beginning of the year, we said we'd grow our global cereal business in fiscal 2018, and we accomplished that goal. We grew retail sales in market share in the US behind strong marketing campaigns like Good Goes Around on Cheerios and unicorn marshmallow news on Lucky Charms. We secured increased in-store displays at higher price points resulting in improved merchandising performance. And we launched the biggest innovation in the US category this year with chocolate Peanut Butter Cheerios.", "TPW net sales were flat in constant currency in fiscal 2018 with growth in Asia and the Middle East offset by declines in western Europe. And we grew cereal in our convenience stores and food service segment including K-12 schools and colleges and universities, leveraging our strong taste brand like Cinnamon Toast Crunch, our broad portfolio of gluten-free cereal, including Cheerios and Chex, and our granola brands led by Cascadian Farms. In US yogurt, our goal was to significantly improve our performance by innovating in faster-growing segments of the category. Thanks in large part to our Oui by Yoplait and Yoplait Mix-in innovations, the two biggest launches in the category in fiscal '18, we dramatically reduced our net sale declines and drove share growth in the fourth quarter. We also competed more effectively in fiscal '18 across a number of regional businesses. We got in the zone on merchandising in the key seasons on our US soup, refrigerated dough, and dessert businesses.", "And we supplemented that with target investment, including a new advertising campaign on Pillsbury and a new line of Progresso organic soups. As a result, we saw significant improvement in retail sales performance. And we grew market share and aggregate on these businesses for the year. Also, on our Wanchai Ferry frozen dumplings business in China, we launched premium innovation and expanded distribution helping drive double-digit topline growth in 2018. As consumers rapidly evolve the way they buy their food, our e-commerce capability is becoming increasingly critical to our ability to compete successfully. And we're continuing to leverage our advantage in this space. Our global e-commerce business grew at almost 50% in fiscal 2018, including nearly 70% in North America. Our full basket market shares online continue to over-index relative to the fiscal stores in both the US and Europe.", "And General Mills is seen as a key strategic partner for our e-commerce retail customers, bringing differential insights and solutions to drive growth. On our four accelerate platforms, Haagen-Dazs, snack bars, Old El Paso, and natural and organic, we expanded distribution, launched innovation, and increased brand awareness in fiscal 2018, laying the foundation to accelerate their growth in 2019. Haagen-Dazs retail sales were up double digits in 2018 as we broadened distribution of mini cups and stick bars across Europe and Asia, modernized the brand with the rollout of new packaging and a global advertising campaign, and continue to launch remarkable innovation like green tea mochi, peanut butter flavors, and limited edition flower flavors. Retail sales for our snack bars were up low-single digits in fiscal 2018 with growth across all geographies, including North America, Europe, Asia, and Latin America. New layered bars and Soft-Baked Filled Squares generated growth for Nature Valley in the US.", "And our businesses in Europe and Mexico leveraged a US product pipeline to accelerate Nature Valley sales. Fiber One has been a drag on results in the US as we right size the business and focus our shelf presence on the best turning items. But we saw excellent growth for Fiber One in Europe and Australia where the brand is relatively new by expanding distribution and driving brand awareness with increased media support. And increased availability and awareness drove strong double-digit growth for Larabar in the US and our Pillsbury snack bar business in India. Old El Paso performance in 2018 was mixed with overall retail sales up low-single digits. Retail sales in Europe and Australia were down modestly as more competitive category dynamics in France and Australia offset good performance in the UK and Nordics.", "We drove retail sales growth in North America behind our Anything Goes In campaign as well as execution of initiatives to secure front of store display, allowing us to reach the Old El Paso consumers before they pass the produce aisle. For our North American natural and organic portfolio, retail sales were up mid-single digits in 2018 which represents a slowdown from the prior year as we exited some tail SKUs and channeled specific product lines. We continue to see stronger growth on our core products such as Annie's Mac and Cheese and Bunny Grahams, Cascadian Farms cereal and EPIC meat snacks. Beyond measured channels, our natural and organic brands are driving our course in e-commerce as early adopters for food online tend to over-index toward natural and organic brands. Overall, these four platforms led our growth in fiscal '18, and I am confident we'll see them accelerate in 2019 as we invest to launch innovation, expand distribution, and increase brand awareness.", "Our third global growth priority is reshaping our portfolio for growth. And we took a major step in this direction in fiscal 2018 with the acquisition of Blue Buffalo, the leading brand in the fast-growing wholesome and natural pet food category in the US. The transaction closed on April 24th, and we're moving full steam ahead with our transition plans, working to bring General Mills expertise to bear where it's needed and ensuring we stay out of their way when it is not. I am very pleased to report that Blue Buffalo's solid business momentum has continued. Year-to-date through April, net sales continue to grow double digits driven by expansion in the food, drug, and mass channels and aggressive growth in e-commerce which are more than offsetting declines in the pet specialty channel that are in line with our expectations. This spring, we successfully started up our new treat facility in Joplin, Missouri.", "And we expect to start production at the new Richmond, Indiana factory at the end of the summer which will help us fuel further distribution expansion. I am confident in our ability to deliver on our plans for continued growth for Blue Buffalo and fiscal 2019. Billy Bishop will share more about those plans at our investor day event in two weeks. On that note, let me review our company's three key priorities for fiscal 2019 which are summarized on slide 11. First, we plan to grow our core by competing more effectively and accelerating our differential growth platforms. We expect to deliver further improvement in yogurt in 2019 as we continue to drive innovation in faster-growing spaces in the category. We're launching some fantastic new products around the world this year, including a new platform in the US that offers consumers a modern approach to weight management by delivering a simply better yogurt with high protein and less sugar.", "We'll continue to compete more effectively in cereal in 2019 behind great consumer news and innovation like Cheerios Oat Crunch that's hitting the US shelves this month. We have strong plans across many regional brands, including new product news on Totino's hot snacks, Progresso soup, Betty Crocker desserts, and Wanchai Ferry dumplings. In total, we expect to grow our global net sales from innovation in fiscal 2019. We also expect to improve our growth in emerging markets which underperformed in fiscal 2018. With lingering effects from Brazil's enterprise reporting system implementation now behind us, we expect to see better results in Latin America in 2019. And we're investing in accelerate plans for Haagen-Dazs and snack bars in Asia. On Old El Paso, we'll build on a strong 2018 fourth quarter in Europe and Australia driven by new gluten-free tortillas.", "And we'll strengthen our natural and organic business with news on Annie's Mac and Cheese as well as increased distribution on core EPIC meat bars and new EPIC performance bars. We'll tell you more about all of these and other 2019 accelerate initiatives at investor day. Our second key priority is to successfully transition Blue Buffalo into the General Mills portfolio. Our focus on fiscal 2019 is on continuing the expansion into the food, drug, and mass channel while pressing our advantage in e-commerce and maintaining our strength in the important pet specialty channels. We'll also ensure smooth start-up of the Richmond facility. And we'll grow the Blue brand's relevance with pet parents behind superior communication and brand building support. We are confident that by leveraging the best of Blue Buffalo and General Mills, we'll continue this business's track record of double-digit topline growth and even faster bottom-line growth in fiscal 2019.", "Our final priority for 2019 is to deliver our commitments on profit and cash by executing with excellence across the organization. To combat elevated input cost inflation, we'll increase our cost of good HMM savings this year, driven by a full year of benefits from our new global sourcing initiative. We'll also begin the process of streamlining our North American logistics network, taking miles out of our system and optimizing inventory levels. Beyond HMM, we'll look to drive price realization by leveraging our strategic revenue management capability. We came a long way in fiscal 2018 to build our SRM expertise. We hired an expert from the beverage industry to lead this effort. We brought in other external hires and combined them with internal talent who know General Mills and our categories. And we have developed systems, analytical tools, and consistent methodology for identifying the best opportunities for price realization by brand and geography.", "In fiscal '19, we're taking actions against these opportunities, leveraging a wide range of SRM levers, including price pack architecture changes, trade optimization, mixed management, and list price increases. As we expect slightly higher benefits from assets, we expect slightly higher benefits from price mix in fiscal 2019 compared to last year. We'll also look to build on our track record of cash generation by capitalizing on opportunities to further decrease our core working capital. With those priorities in mind and including the addition of Blue Buffalo, we expect to deliver on the fiscal 2019 targets laid out on slide 12.", "Namely, we expect net sales to increase 9% to 10%. We're targeting 6% to 9% growth in adjusted operating profit and constant currency, and we expect constant currency, adjusted diluting earnings per share to range between flat and down 3% Reflecting the investments we're making to build capabilities and accelerate growth as well as impact of purchase accounting from the Blue Buffalo acquisition. With that, I'll turn it over to Don Mulligan to review our fiscal 2018 results and 2019 outlook in more detail." ] }, { "name": "Donal Mulligan", "speech": [ "Thanks, Jeff. And good morning, everyone. Jeff provided a summary of our fourth quarter financial results. Now I'll share a few additional details starting with the components of net sales growth on slide 14. Organic net sales increased 1% driven by positive net price realization and mix across all four segments, partially offset by lower contributions from organic volume growth. Foreign currency translation was a one point benefit to net sales. Turning to our segment results on slide 15, North America retail, organic net sales were down 1% in the fourth quarter and for the full year. This represents a 400 basis point improvement over our fiscal '17 growth rate, driven by solid, fundamental execution, including better innovation, more compelling marketing and consumer news, and stronger in-store merchandising. These efforts translated into market share growth for seven of our top nine categories in the US in fiscal '18.", "At the operating unit level, US snacks posted 2% net sales growth in the quarter and for the full year driven by Nature Valley innovation and product news on Larabar and fruit snacks. US cereal grew net sales 2% in the quarter behind effective consumer news on core brands, including Lucky Charms and seasonal varieties of Cheerios and Reese's Puffs. Full-year US cereal net sales were flat, while we estimate retail sales grew 1% including nonmeasured channels. On a constant currency basis, Canada net sales declined 5% in the quarter, and were down 1% for the full year. US meals and baking net sales were down 2% in the quarter and were flat for the full year with increases in Annie's Mac and Cheese, Totino's hot snacks, and Betty Crocker desserts offsetting declines on Helpers and specialty potatoes.", "US yogurt net sales were down 5% in the quarter, marking the fourth consecutive quarter of improvement, as declines on Greek and light segments were partially offset by contributions from Oui by Yoplait and Yoplait Mix-ins innovations. Constant currency segment operating profit increased 7% in the fourth quarter due to positive net price realization and mix, increased HMM savings from global sourcing and lower SC&A expenses, partially offset by input cost inflation. Full year segment operating profit declined 4% in constant currency driven by input cost inflation, higher operational cost, and increased merchandising, partially offset by lower SG&A. In convenience stores and food service, fourth quarter organic net sales were up 5%, led by strong performance on our frozen meals, cereal, and snack platforms. Fruit snacks and our Pillsbury stuffed waffle performed well in C stores, while our cereal offerings continue to generate good growth in food service channels.", "Full year organic net sales were up 3%, driven by growth on the focus six platforms and benefits from index pricing on bakery flower. Segment operating profit increased 11% in the fourth quarter, driven by benefits from net price realization and cost savings initiatives, partially offset by higher transportation cost and commodity inflation. Full year segment operating profit declined 2% reflecting higher input cost, partially offset by positive net price realization and benefits from cost savings initiatives that accelerated in the back half of the year. Our Europe and Australia segment finished the fiscal year with positive momentum and delivered a solid year on the topline. Organic net sales increased 4% in the fourth quarter, driven by strong growth on snack bars, Haagen-Dazs, and Old El Paso. Full year organic net sales were up 2%. Constant currency segment operating profit increased 37% in the quarter due to favorable sales mix, net price realization, and benefits from cost savings initiatives.", "Full-year segment operating profit was down 22% in constant currency driven by a significant raw material inflation and currency driven inflation on products imported into the UK. In our Asia and Latin America segment, organic net sales were flat in the fourth quarter and down 2% for the full year. Remember that last year's fourth quarter included an extra month of results in Brazil, as we aligned that business to our fiscal calendar. Excluding that difference, organic net sales would have been up double digits in the quarter, led by continued growth in Haagen-Dazs in Asia, Wanchai Ferry in China, and our snacks businesses in India and Latin America. Segment operating profit declined $13 million in the quarter driven by higher input cost and SG&A expenses as well as the impact of the reporting difference. For the full year, segment operating profit was $40 million, compared to $84 million a year ago.", "Turning to margins on slide 19, we delivered 70 basis points of improvements in our adjusted gross margin and a 170 basis point increase in our adjusted operating profit margin in the fourth quarter. Driven by positive net price realization and mix, increased benefits from cost savings initiatives, and lower SG&A expenses. Full year margins were down year-over-year due to higher input cost inflation, operational cost, and merchandising, partially offset by HMM savings, positive net price realization, and lower SGA expenses, including an 8% decline in media. Slide 20 summarizes our full year joint venture results. Jeff already shared fiscal '18 sales results for CPW. Haagen-Dazs Japan cost of currency net sales were up 1% for the full year driven by volume growth on core mini cups. Combined after-tax earnings from joint ventures totaled $85 million for the year, down 3% in constant currency, primarily driven by input cost inflation, especially on vanilla for HDJ and restructuring charge at CPW.", "Slide 21 summarizes other noteworthy income statement items in the fourth quarter. Restructuring and impairment charges totaled $151 million, including $97 million of impairment charges related to the Yoki, Mountain High, and Immaculate Baking brand and tangible assets. On allocated expenses, excluding $30 million related to acquisition transaction cost as well as other items affecting comparability decreased $23 million from a year ago, driven by various non-recurring items. Net interest expense increased $68 million. Approximately half of that increase was due to incremental interest paid on newly issued debt. And the remaining portion was related to the Bridge Term Loan Financing for the Blue Buffalo acquisition which was excluded from adjusted earnings. The adjusted effective tax rate for the quarter was 26.7% compared to 26.8% a year ago. And average diluted shares outstanding increased 1% in the quarter, reflecting the additional equity raised in March as part of the Blue Buffalo financing.", "Slide 22 provides our balance sheet and cash flow highlights for fiscal '18. A year in core working capital balance totaled $580 million, down 27% versus the prior year. And benefits from our terms extension program more than offset higher receivables and inventory balances from consolidating Blue Buffalo's assets acquired in the fourth quarter. Full year operating cash flow was $2.8 billion, up 18% from a year ago, primarily driven by improvements in working capital. Fiscal '18 capital investments totaled $623 million or 4% of company net sales. Full year free cash flow grew 28% to $2.2 billion which represent the 120% conversion rate on our adjusted after-tax earnings. Then we paid $1.1 billion in dividends in fiscal '18. Slide 23 highlights some key financial assumptions for fiscal '19. We expect input cost inflation to be approximately 5%, one point higher than fiscal '18 levels. We're roughly 40% covered on our global commodity positions at this point in the year.", "We're targeting cost of goods sold, HMM savings of approximately $450 million which is ahead of year-ago levels, driven by a full year benefit from our global sourcing initiative. We plan significant growth investments in our accelerated platforms, especially Haagen-Dazs and snack bars as well as in global capabilities like e-commerce. These initiatives will enhance our growth in fiscal '19 and will drive further acceleration in 2020 and beyond. Below the profit line, we expect net interest expense to total approximately $550 million, driven by higher debt levels resulting from the Blue Buffalo financing. We're planning for an adjusted, effective tax rate of 23% to 24%, reflecting a full year impact of US tax reform. We anticipate average diluted shares to increase roughly 4%, driven by our equity issuance. And we expect the Blue Buffalo deal will be approximately $0.04 dilutive in fiscal '19, adjusted diluted EPS. This includes $0.09 of non-cash expenses from the inventory step up and purchase price amortization charges.", "Based on these assumptions, slide 24 summarizes our fiscal 2019 outlook for our key financial metrics. As Jeff noted, reported net sales are expected to increase 9% to 10% including the addition of Blue Buffalo. We project organic net sales to range between flat and up 1%. On operating profit, we've made a change from our historic practice of guiding to total segment operating profit. And instead, we're providing guidance on adjusted operating profit which includes corporate items. For fiscal '19, we estimate constant currency adjusted operating profit will increase 6% to 9% from the base of $2.7 billion reported in fiscal 2018 with 11 points of growth coming from Blue Buffalo, inclusive of the purchase accounting impact. Constant currency adjusted diluted EPS is expected to range between flat and down 3% from the base of $3.11 earned in fiscal '18. We're targeting free cash flow conversion of at least 95% of adjusted after-tax earnings.", "And as Jeff noted earlier, these targets include another year of double-digit topline and even stronger bottom-line growth for Blue Buffalo in fiscal '19, excluding the impact of purchase accounting. Let me also comment briefly on our view of phasing for the year. Blue Buffalo purchase accounting will be a $0.07 drag in EPS in Q1, driven by the inventory step up. In addition, while we entered the year with a high level of input cost inflation, we expect price mix benefits from SRM will build over the course of the year. As a result, we expect constant currency adjusted diluted EPS will be down double digits in the first quarter and will strengthen through the rest of the year. With that, let me turn you back over to Jeff for some closing remarks." ] }, { "name": "Jeffrey Harmening", "speech": [ "Thanks, Don. And let me close with some final thoughts. We took an important first step in fiscal 2018, returning our business to sustainable topline growth. And we're leveraging our Compete, Accelerate, and Reshape growth priorities to further improve our growth profile going forward. In 2019, we're investing behind capabilities and accelerate platforms to get our core business back to growth. And we'll successfully transition Blue Buffalo into the portfolio. And there's more work to do on reshaping the portfolio, including divestitures from some growth diluted businesses. We're taking actions on our margins as well. In fiscal 2019, we'll deliver higher HMM savings, and we'll see increased benefits from strategic revenue management and administrative cost savings actions announced last quarter. Still, those won't be enough to fully offset higher inflation and the incremental growth investments we're making this year.", "So, we're also working on additional initiatives that will primarily drive efficiencies beyond 2019, including our logistics network reorganization, further enterprise process transformation efforts, and initiative to improve our international margins. And we continue to see opportunities to reduce working capital and drive free cash flow growth. In summary, we're committed to our Consumer First strategy and our global growth priorities. We're also confident that we're on the right path to consistently generate profitable growth and top-tier returns for our shareholders. With that, we'll wrap up our prepared remarks and open the call for questions. Operator, can you please get us started?" ] } ]	[ { "name": "Operator:", "speech": [ "Thank you very much. And once again, ladies and gentlemen, if you'd like to register a question, just press the one followed by the four on your telephone. You'll hear a three-tone prompt to acknowledge your request. If your question has been answered, to withdraw your registration, press the one followed by the three. Using a speaker phone, turn off your headset before entering your request. One moment please for our first question. And we'll get to our first question on the line from Bryan Spillane with Bank of America. Please go right ahead." ] }, { "name": "Bryan Spillane", "speech": [ "Hey. Good morning, everyone. Just I guess a question about gross profits in fiscal '19. And I guess two questions. 1) I think if I did the HMM math correct, seems to imply that you'll need between a point and two points of price mix in order to hold gross margins flat for the year. Is that the right way to think about it?" ] }, { "name": "Jeffrey Harmening", "speech": [ "Yeah, Bryan, it is. As we've said with higher inflation, even at 5%, given our HMM, a pricing of 1% or 2% is enough to combine with HMM to offset that level of inflation. So, that's the way to think about our F19 gross margin." ] }, { "name": "Bryan Spillane", "speech": [ "Okay. So, as we're modeling it out, we're looking at the operating profit growth expectation for the year. Is the assumption that you'll be able to get hold gross margins flat for this year? Or might that not be the case?" ] }, { "name": "Jeffrey Harmening", "speech": [ "Well, we expect to be flat or better, especially with the inclusion of Blue Buffalo, with the accretion we'll get from Blue Buffalo in the year." ] }, { "name": "Bryan Spillane", "speech": [ "Okay. All right. Thank you." ] }, { "name": "Operator:", "speech": [ "Thank you very much. We'll get to our next question on the line. It's from the line of Ken Goldman from JPMorgan. Please go right ahead." ] }, { "name": "Kenneth Goldman", "speech": [ "Hi. Good morning. Jeff Harmening, I guess I was curious for your take on this. One of the questions I get on this space, in general, is how do we get out of the pendulum cycle where for a certain period of time, companies in the food space focus on margins. And then for a certain period of time, they focus on sales. And they may have to invest to get those sales. It feels like from a General Mills perspective, right now Mills is focusing more on the topline, willing to sacrifice some margin in the short-term. When do we, in your view, get to the period where we have sustainable topline growth and margin growth where you're not necessarily investing more every year to get to that topline growth. Is that a late 2019 thing? I'm just trying to get a sense for your timing for that because, without that, it's hard to get that bottom-line growth that the space used to have." ] }, { "name": "Jeffrey Harmening", "speech": [ "Yeah, Ken. I think it's a fair question. What I would say is that the key for us, as I've talked about, is to try to get to the middle of the boat. On the one side of the boat, all we're gonna do is drive cost savings. And the other side of the boat is you driving growth without regard to what your profit is. I think the key for us is to get to the middle of the boat. And what you've seen from us over this last year and what you'll see next year is a greater emphasis on topline growth than we've had. But it's certainly not at the expense of efficiency. And so, we're driving better topline growth across all of our four segments. And we plan to do that in fiscal '19. But at the same time, we are continuing to drive efficiencies. I think that's why I laid out that HMM's gonna be increasing next year. We took some administrative actions in the fourth quarter to reduce our admin load, and we're looking at redoing our logistics network. And so, for us, the key is to get in the middle of the boat.", "As we look at 2019, one of the things that we realize that we'll have to do is we'll have to make some investments in growth capabilities in order to drive that continued growth. I'm really pleased with the 400 base improvement that we made this year. If we can make another 100 basis point improvement next year, that'll give us a long way to get back to sustainable growth. And if you add on top of that another maybe 75 points of organic growth from the growth of Blue Buffalo, you start to get to a place where you're between 1% and 2% growth. So, we feel like we've made significant improvements in '18.", "We'll take another big step forward in '19. And my hope is that in the next year after that, we can get back to a sustainable level which is about 3% topline growth. So, we feel like we're making good progress on that front. And the key for us is to invest in the right capabilities, whether it's e-commerce or growth things like capabilities and Haagen-Dazs for driving freezers or things like that and to make sure we're doing that while maintaining our efficiency." ] }, { "name": "Kenneth Goldman", "speech": [ "Okay. Thank you very much." ] }, { "name": "Operator:", "speech": [ "Thank you. We'll get to our next question on the line from the line of Chris Growe with Stifel. Please go right ahead with your question." ] }, { "name": "Christopher Growe", "speech": [ "Hi. Good morning. I just had a question for you, if I could. First of all, one of the things that was a big factor here for the fourth quarter was freight inflations. I wanna understand perhaps to Don, how much of that 5% inflation would you say is driven by freight cost being up year-over-year?" ] }, { "name": "Donal Mulligan", "speech": [ "Yeah. Our logistics cost we expect to be higher than that 5%. So, it is driving it up. We also expected to see the heavier weight of that in the first part of the year because it accelerated as F18 unfolded. So, both expected to be -- one of the key drivers of our inflation is to be just a little bit more frontloaded." ] }, { "name": "Christopher Growe", "speech": [ "Okay. And just a quick question I could ask in relation to Blue Buffalo. You have a lag in the way you're reporting that business. Is there an extra month that comes through in the year in terms of the way you report that extra month that's the month of May, if you will?" ] }, { "name": "Donal Mulligan", "speech": [ "Not in fiscal '19. At some point, we would expect to align it with our reporting calendar, but that's not baked into our fiscal '19 plan or guidance." ] }, { "name": "Christopher Growe", "speech": [ "Okay. Thank you very much." ] }, { "name": "Operator:", "speech": [ "Thank you. We'll get to our next question on the line from Akshay Jagdale with Jefferies. Please go right ahead with your question." ] }, { "name": "Unknown Analyst", "speech": [ "Good morning. This is actually [Louby] on for Akshay. Apologies if I missed this earlier, but how should we think about organic sales growth in the North American retail business for fiscal '19? Are there any puts and takes that we should be thinking about here in the new year?" ] }, { "name": "Jeffrey Harmening", "speech": [ "We didn't give any guidance for segment growth. And we'll talk more about what we expect out of our segments at our investor meeting in a couple weeks. What I will say is that if you look at our business next year, not only for North America retail but in general, I would expect it to get incrementally better again on yogurt in the US. We were down over 20% in the first quarter and reduce that to minus 5% in the fourth quarter. And we like our innovation coming out. And Oui is doing well.", "And so, I would certainly hope and plan in the coming year that our yogurt business will continue to get better. We actually gained share in the fourth quarter. And I think more broadly, as you look at us as an organization, we had a rough first half in Brazil and not great in Asia, but we really accelerated growth in the back half of the year in those geographies behind our growth platforms. Namely, snack bars like in India and the Middle East and Haagen-Dazs and Wanchai Ferry in China. And so, I would expect incremental growth for us to come in our emerging markets, particularly with Brazil as we're lapping the systems implementation and in China where we saw a lot of growth coming in the second half of the year." ] }, { "name": "Unknown Analyst", "speech": [ "Thanks. So, just to follow up on that, in North America, obviously, the organic sales growth trends over the last several quarters have improved quite a bit. Do you expect in fiscal '19 to see positive organic sales growth in North America?" ] }, { "name": "Jeffrey Harmening", "speech": [ "Look, we'll talk about that in detail in a couple weeks. And I don't mean to dodge the question, but I guess I'll dodge the question only to say that we'll talk more about that. What I will say is that one of the things I'm really pleased about our North American business is how broad our growth was. We gained share in seven out of nine categories this year, including some of our most important categories. Those categories represent 80% of our business. And I think when some folks talk about the year we had, they talk about lapping a tough year a year ago which is certainly true. And we gained share in soup, and we did better on refrigerated baked goods. But really, the gains were broad-based. So, if you look across our bars business, you look across yogurt, we improved. You look across cereal, we improved. And so, that momentum I think will carry into next year. In particular, I think what gets underestimated is that we came in the year with a distribution drag.", "We were down about four, five points of distribution. And we're exiting the fourth quarter with distribution relatively flat. We've been gaining distribution. In fact, we've been gaining distribution in categories like cereal. And so, that'll be a tailwind for us that John Nudi will speak more about in a couple weeks." ] }, { "name": "Unknown Analyst", "speech": [ "That's helpful. Thanks. I'll get back in queue." ] }, { "name": "Operator:", "speech": [ "Thank you very much. We'll get to our next question on the line. It's from the line of Jason English with Goldman Sachs. Please go right ahead." ] }, { "name": "Jason English", "speech": [ "Hey. Good morning, folks. Thank you for letting me ask a question. I'm actually gonna try to jam two questions in here. First, we came into the year with a lot of talk about this transitory pain on trade spend accrual with this anticipation of a sizable reversal late this year. You didn't make any comments about it, so can you comment now and maybe give us some quantification of how much of that reversal benefit was evident in fourth quarter results?" ] }, { "name": "Donal Mulligan", "speech": [ "Yeah, Jason. This is Don. It came through as we had indicated. Again, it was a year-over-year comparison. So, it wasn't so much what we had to do in '18 as what the quirk of our '17 recognition. So, it came through as we expected. That's what allowed us to bring our operating profit, our segment operating profit in on guidance. So, it came at the magnitude we had guided before." ] }, { "name": "Jason English", "speech": [ "What was that magnitude? Can you remind me?" ] }, { "name": "Jeffrey Harmening", "speech": [ "And then Jason, it's Jeff. Yeah. It was about 100 basis points in the first half of the year. Negative about a hundred basis points, positive in the second half. And you see that flow through, as we saw a little bit better price mix appreciation in the third quarter. That was a piece of it." ] }, { "name": "Jason English", "speech": [ "That's helpful. Thank you. And the question on the guidance. You're guiding to X buff, EBIT down 4% to 5% I think for the year. But you're guiding organic sales flat to up. You're guiding to -- in response to Spillane's question -- for flattish gross margins. What's driving the underlying, stand-alone, EBIT decline?" ] }, { "name": "Donal Mulligan", "speech": [ "Our guidance for EBIT in total is 6% to 9% growth, 11 points of that coming from Blue Buffalo. So, you can do the math on what the base business is gonna do, down low-single digits, so maybe 5%. So, what's driving that? In total, we're getting the benefit of accretion from Blue Buffalo. We are getting benefit from increased HMM and from our pricing as well. But the headwinds are a higher level of inflation. Embedded in that, of course, is the purchase price accounting for Blue Buffalo.", "That's part of the 11% from Blue Buffalo. But most importantly, below the gross margin, we're seeing increase in growth driving capability investments and accelerate investments. Jeff talked about many of these as we think about driving and putting additional investment behind Haagen-Dazs, snack bars, Old El Paso, e-commerce, continuing to build our data analytical capabilities to drive SRM. All those are embedded below the gross margin line. We also, frankly, have about a $40 million incentive true-up year-over-year. And then I mentioned a couple of discreet feeble nonrecurring items in our Q4 corporate that we'll lap as well." ] }, { "name": "Jason English", "speech": [ "Okay. Thank you. I'll pass it on." ] }, { "name": "Operator:", "speech": [ "Thank you very much. We'll get to our next question on the line. It's from the line of Robert Moskow with Credit Suisse. Please go right ahead." ] }, { "name": "Robert Moskow", "speech": [ "Thank you, Jeff and Don. There was a comment during the script saying that your merchandising levels were actually down in fourth quarter. And I guess that means in terms of retail activity. Can you help explain why that was year-over-year? And then what kind of merchandising activity do you expect in fiscal '19? Do you expect to have equal amounts? More amounts? Trying to understand that. And then just one little thing. I think you said your inflation number embeds the purchase accounting increase. That doesn't sound like real commodity inflation. Did I hear that right? Thanks." ] }, { "name": "Donal Mulligan", "speech": [ "No, you did not hear that right. The 5% doesn't include any impact from the purchase accounting." ] }, { "name": "Jeffrey Harmening", "speech": [ "I think Don was saying it'll be 11 points of impact of EBIT growth includes the purchase accounting for Blue Buffalo." ] }, { "name": "Donal Mulligan", "speech": [ "Right." ] }, { "name": "Robert Moskow", "speech": [ "Okay. Thank you." ] }, { "name": "Jeffrey Harmening", "speech": [ "Yeah. Rob, you had a question about merchandising and Q4. I think the reference I had in the script was to our cereal merchandising which was down double digits. And I mention that only because there's been a lot of commentary about how we just bought share in cereal with merchandising up. But I think it's really important that people listening to this call understand that we actually drove share growth in cereal in the fourth quarter with merchandising being down double digits which really speaks to our baseline or our nonpromoted business which was up over 2% during the quarter end. The reason why that's important -- we had really good new products, and our marketing is terrific. I highlighted Lucky Charms and Cheerios.", "I could also have highlighted Cinnamon Toast Crunch or Reese's Puffs. And so, as we look at this year, we're really pleased with our cereal business and the fact that we could grow share in the fourth quarter with merchandising and being down double digits I think speaks to what we've been talking about which is the strength of our marketing ideas and our marketing execution in cereal. As we look at next year, John Nudi will talk more about that in a couple weeks. So, I'll leave that to him. But I think we'll see some tailwinds from new products in our US business as we will for our business in general. And also, distribution. I think that's probably something that people underestimate is that we came into this year with some distribution gaps because we discontinued a lot of SKUs. And as we look at fiscal '19, we look to either hold steady or grow our distribution. That's on the basis of our broad topline momentum. And so, John will talk more about that in a couple weeks." ] }, { "name": "Robert Moskow", "speech": [ "I just had a follow-up. When you grow your distribution, does that come with higher slotting fees also?" ] }, { "name": "Jeffrey Harmening", "speech": [ "In the US, slotting fees are not a huge expense in general. They come with some slotting fees, but that's not a huge cost driver for us." ] }, { "name": "Robert Moskow", "speech": [ "Okay. Thank you." ] }, { "name": "Operator:", "speech": [ "Thank you very much. We'll get to our next question on the line with Pablo Zuanic with SIG. Please go right ahead with your question." ] }, { "name": "[inaudible].", "speech": [ "Obviously, it's adding 9% to sales in fiscal year '19. But we don't know exactly what the base is. So, just some comments in terms of underlying growth there, embedding the projection. And if you can, any comments in terms of using the other plant on Cheerio? I know you said late summer. How aggressive can the entry be into FDM in fiscal year '19, i.e., Walmart? Any color you could give there in terms of sales strengths and outlook for Blue Buffalo would help. Thanks." ] }, { "name": "Jeffrey Harmening", "speech": [ "All right, Pablo. Let me try to take those one at a time. And if I miss one, it's not on purpose. But as we look at Q4 in pricing, I think the first thing to recognize when it comes to strategic revenue management, and you see that it's our first quarter we talked about pricing, there really are a lot of levers, including mix. And in our fourth quarter, we drove a lot of positive mix. And I'll give you a couple of examples. In Europe, these accelerators that we've talked about like Haagen-Dazs and Old El Paso and bars, not only are they in fast-growing categories, but they're also mix accretive. And so, to the extent we accelerate growth on those, you see it come through in the pricing. You see it come through in our margins. You see it come through in profitability. And so, in our fourth quarter in Asia and in Europe, you saw a quite a bit of mix. And so, you'll see that. In the US, you can see a pullback in merchandising a little bit in the fourth quarter. And that drove about a point of pricing for us in the fourth quarter.", "And so, as we talk and think about pricing, it really is pricing and mix. So, there are a lot of different levers associated with that. In terms of the commentary on what's changed, if you look more broadly, we saw in 2018 about 2% pricing across our categories in North America as opposed to 1% pricing the year before. So, in our categories themselves, we've seen -- again, product mix is a part of that. But we've seen some pricing appreciation. I think it's because the external environment is changed. And we're all seeing higher inflations, whether it's on logistics or whether it's on labor costs and manufacturing or whether it's on input costs. And no one wants to lead with pricing. We're all trying to become more efficient, just like we are with our logistics network and HMM. That's certainly in the first line of defense. But when you get to levels of inflation for us that reach 4% in this current fiscal year, and we're projecting at 5%, you need a little bit of pricing in addition to all those other cost levers to offset it.", "And I think we're seeing that broadly. The other theme, and I'm not sure that you asked this, but I think it's important is that there's been a lot of commentary about retailer competition. And there certainly is a lot of retailer competition, in particularly about e-commerce. And I don't want this point to go by, but we grew our e-commerce business by 50% globally this past year, and 70% in North America. And we over-index in the categories we compete and including about a 120 index on our full basket sales relative to what we have in brick and mortar. And so, there's been a lot of talk in the industry about e-commerce being the death of brands and especially food brands. And all we keep doing is growing our e-commerce business and growing our share within it. And so, we're particularly pleased about that. And that's why we're gonna continue to invest in that capability as we look into F19. Then you asked a question about Blue Buffalo. And I'm not gonna give specifics about our distribution plans.", "Billy Bishop will talk about Blue Buffalo later. What I will say is that when it comes to supply chain, we've got a treats facility up online a little bit ahead of schedule. And the Richmond facility is due to come online later this summer. Blue Buffalo, I've been really impressed with their supply chain team. They've got really high-quality supply chain team. We're gonna add to that capability because we have more high-quality supply chain folks. And I think for us, the key is that with Blue Buffalo, I'm not sure we're gonna speed up their acceleration to the channel. I think what we're gonna help them do is execute with excellence, not because they don't have good people because they have a lot of good people, and we have a lot of good people. And together, we have enough people to get the job done. And so, we're confident in our FDM expansion plans. At the same time, we think we're growing our share in e-commerce. And that business is growing really quickly.", "And we haven't forgotten about the pet specialty channel. And even though that channel is declining, it's still a very important channel for us. And we'll look to distinguish ourselves across the different channels on Blue Buffalo." ] }, { "name": "Donal Mulligan", "speech": [ "And Pablo, this is Don. Just in terms of the baseline, obviously, you have the Blue's reported results through calendar '17. Think about the accretion you'd expect in Q1 for them. And then that probably finds a pretty good base. We'll be issuing an 8K with the Pro Forma results for the combined company in just a handful of days. And that will give you a better line of sight." ] }, { "name": "Pablo Zuanic", "speech": [ "That's helpful. Thanks." ] }, { "name": "Operator:", "speech": [ "Thank you very much. We'll get to our next question on the line from John Baumgartner with Wells Fargo. Please go right ahead." ] }, { "name": "John Baumgartner", "speech": [ "Good morning. Thanks for the question. Jeff, can you speak a bit more to the reinvestment plans for fiscal '19? And how does that F19 plan differ from what was undertaken in F18? What did you learn from this past year's reinvestments in terms of what worked, maybe what was less successful versus expectations?" ] }, { "name": "Jeffrey Harmening", "speech": [ "Well, what I would say is that we have increased confidence going into F19 that some of the things we put in place, if we double down those investments, that they'll work. And I'll use e-commerce as an example of that. We are gonna increase our investment in e-commerce this coming year because we saw the investments pay off. And that is indicated in our growth rates. But beyond that, I would say that we saw acceleration in the back half of this year, especially the fourth quarter. We put some money against acceleration on Haagen-Dazs and on bars. And we really saw some really strong results in both Asia and in Europe. And I'll give you a couple of examples. We turned on advertising for the first time on Fiber One bars in Australia and saw really good results. And so, we've decided to turn that advertising on in the UK. And my guess is we'll see good results there as well. And on Haagen-Dazs, we've doubled down on some of our new product efforts.", "And I'm particularly pleased with how we've progressed in Asia behind our growth in Haagen-Dazs. And in the fourth quarter, we accelerated growth in Europe on Haagen-Dazs behind increased marketing spending as well as increased new product introductions. And so, we'll spend more on R&D, for example on those businesses as we look into the coming year. And then finally, I'll highlight India. We don't talk a lot about India, but we had tremendous growth in bars in India and the Middle East. And we'd like to continue that this next year. And so, what we've done at the end of fiscal '18, which you start to see in our fourth quarter will continue on to next year. And what I will also tell you is that there'll probably be some things that don't work as well as we want. And we're keeping a close eye on all of our investments. And we'll double down on the things that really work well. And if things don't work as well as we want, we'll shift those resources and put against things that are a higher return.", "But what I will say is we have increased confidence based on what we saw in the fourth quarter that we're accelerating on the right platforms, and the things that we're doing are making a difference." ] }, { "name": "John Baumgartner", "speech": [ "Great. And then Don, how should we think about advertising spend in F19? Is that up? And by how much? Not sure if I missed that." ] }, { "name": "Donal Mulligan", "speech": [ "Yeah. For our media spend for next year, we're really talking about a total brand investment. And we do expect it to be up in '19. Media for our base business will likely be flattish. But we'll have additional investment in customer activation and e-commerce, things that don't necessarily get the media line. Obviously, our total brand investment will be up significantly when you roll Blue Buffalo in. So, we have a number of tools that we use to grow our sales. They don't all land in the media line, as we talked about in the last few calls. But in total, we expect our media to be roughly flat at our base business." ] }, { "name": "John Baumgartner", "speech": [ "Okay. Thanks for your time." ] }, { "name": "Operator:", "speech": [ "Thank you very much. We'll get to our next question on the line from Steven Strycula with UBS. Please go right ahead." ] }, { "name": "Steven Strycula", "speech": [ "Hi. Good morning. Two part question. First part for Don. Wanna dig into the inflation a little bit in HMM productivity. What were the total HMM savings for fiscal '18?" ] }, { "name": "Jeffrey Harmening", "speech": [ "About $400 million, Steve. This is Jeff." ] }, { "name": "Steven Strycula", "speech": [ "Okay. Gotcha. And then in terms of for your input cost inflation for 5%, is that just for raw materials and packaging? Or does that include the logistics inflation that was up significantly this year? Just wanna know if these are two separate pieces." ] }, { "name": "Jeffrey Harmening", "speech": [ "Nope. That's all in. 5% is everything against our cogs." ] }, { "name": "Steven Strycula", "speech": [ "Okay. Gotcha. All right. That's helpful. And then for Jeff, just do understand the core US business, and I realize you're not gonna guide to organic sales for next year until the analyst day. But can you give us a little bit of texture as to the different big businesses, whether cereal, yogurt? Should we think about this business for the full year next year? how should this trend relative to how we exited the fourth quarter? Just because the first half of 2018 was a little bit soft, so I just wanna understand how the go forward trend stack up versus how we exited 4Q. Thanks." ] }, { "name": "Jeffrey Harmening", "speech": [ "Yeah. Well, I would say one of the -- I'm at the risk of repeating myself. I appreciate the question. I think the thing I'm most pleased about is the broad-based improvement. And what I would hope for next year is that we continue to have broad-based improvement. As I mentioned, yogurt is the one that improved the most throughout the year. And we'll look for that to continue. The business we probably had outsized growth this year was on soup because we had a really tough year the prior year. We made some investments in our soup business. Our competitor didn't have the best year. And so, in 2018, we probably had some outsized growth on our soup business. And maybe we'll repeat that, and maybe we won't. But that one, I wouldn't look for outsize growth on that one only because we had a particular poor year the year before, and we came back with a particularly good year. On the rest of it, I think the key is that we really like our marketing efforts and our new product efforts.", "And to the extent that your marketing is good and your innovation is good, those things are repeatable. And I think what you'll see for us next year is that broad base. We think our new product innovation is good. Retailers think it's good which is also important. And it's really good on our big categories, so cereal and snacks and yogurt. And we'll reveal those plans in more depth. But we had good, new product innovation at the end of last year. We'll have good, new product innovation this year. And that'll help us drive distribution growth which will be a tailwind for us as opposed to a year ago. And I'll save the rest for John Nudi in a couple weeks. And he can give you some more detail." ] }, { "name": "Steven Strycula", "speech": [ "All right. Thanks." ] }, { "name": "Jeff Siemon", "speech": [ "Hey, Tommy, I think we'll try to get one quick one in here. I know everybody's gonna transition to another call in a couple minutes. So, maybe time for one more." ] }, { "name": "Operator:", "speech": [ "Certainly. We'll proceed with our final question from the line of David Driscoll with Citi Research. Please go right ahead." ] }, { "name": "Alexis Borden", "speech": [ "Hi, this is Alexis Borden in for David this morning. Just a quick one. How did the truck strike in Brazil affect your fourth quarter if at all? And how might it flow into next year?" ] }, { "name": "Jeffrey Harmening", "speech": [ "Well, as we think about the fourth quarter, I think it -- first of all, Brazil is less than 3% of our entire business. And it had a little impact on the last few days of the last quarter. And it'll have an impact on the first few days in the next quarter. But overall, as an organization, it's not gonna be a huge factor for us. Certainly, the SAP implementation from last year was a much bigger factor than what we've seen in the trucking so far this year in Brazil." ] }, { "name": "Alexis Borden", "speech": [ "Okay. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "All right. That was a quick one. Thanks, Tommy. And thanks, everybody for your attention. Feel free to reach out over the course of the day if you have more questions. I'll be on the phone all day. Thanks again, and we'll talk to you soon." ] }, { "name": "Operator:", "speech": [ "Thank you very much. And thank you, everyone. Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you disconnect your lines. Have a great day, everyone." ] }, { "name": "Alexis Borden", "speech": [ "More GIS analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
GIS	2023-12-20	[ { "description": "Vice President, Investor Relations and Treasurer", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeff Harmening", "position": "Executive" }, { "description": "Barclays Capital -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Nik Modi", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Pamela Kaufman", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Matthew Smith", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Chris Carey", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the General Mills second quarter F '24 earnings call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. [Operator instructions] As a reminder, this conference is being recorded, Wednesday, December 20, 2023.", "I would now like to turn the conference over to Jeff Siemon, vice president for investor relations and treasurer. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thank you, Dina, and good morning to everyone. Thank you for joining us this morning for our Q&A session on our second quarter fiscal 2024 results. I hope everyone had time to review our press release, listen to the prepared remarks, and view our presentation materials, which were made available this morning on our investor relations website. Please note that in our Q&A session this morning, we may make forward-looking statements that are based on our current views and assumptions.", "Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which may be discussed on today's call. I'm here with Jeff Harmening, our chairman and CEO; and Kofi Bruce, our CFO. So, let's go ahead and get to the first question. Dina, can you please get us started?" ] } ]	[ { "name": "Operator", "speech": [ "Of course. [Operator instructions] Our first question is coming from the line of David Palmer with Evercore ISI. Please go ahead." ] }, { "name": "David Palmer", "speech": [ "Thank you. A question on North America retail margins. They've been impressive in spite of the volume declines we've been seeing. Do you think that the segment margin can hold near these levels given what's going on with volume trends? And I guess, what -- a couple of factors I'm thinking about is some of your high-margin categories like dough might be a negative mix effect.", "But then again, you're talking about accelerating productivity gains. And so, curious about the margins for that segment." ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. David, thanks for the question. Just to rewind a bit, we've seen the margin improvement, to your point, largely on the backs of really strong HMM delivery. So, one of the features of this environment has been sort of the stabilization of the supply chain environment, which has allowed us to step up HMM more acutely on this business than our other segments and also to get at some of those disruption-related costs.", "We've made really strong margin progression gains on this business on the backs of those two things. I expect that to abate a bit here as we move forward just as a result of having already gotten out a good chunk of those disruption-related costs. So, on balance, I see this business poised for more stability in aggregate." ] }, { "name": "David Palmer", "speech": [ "And then with regard to the pet business, you know, maybe -- is there a comment you want to make there about what the biggest fix will be from here? You know, Wilderness, for example, has been relatively weak. But, you know, what do you think the best earliest fixes will be for that business and what are some of the long-term things you're looking to do to improve the trajectory? Thanks." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. Thanks, David. This is Jeff. You know, I would say that, you know, in the presentation, we shared four things we're working on, and, you know, a couple of the things we know that we can improve upon to improve the profile of the business.", "And, you know, two of them were -- we feel good about. And that's important because, you know, it shows that the Blue brand is still strong. And so, as we look at Life Protection Formula, we've changed our advertising on that, and the business has responded, you know, nicely, and we've seen steady improvements there. We have changed the merchandising on our treats business.", "And while not all the way to bright, we've seen, you know, significant improvement throughout the second quarter on that business. And yet, the results are still not what we want to be. And so, you know, that leads to, you know, what needed to come next. And there are really a couple of businesses that we need to improve.", "One is our wet business and our wet pet food. And so, you'll see us introduce some value and variety packs in the back half of the year, starting in January. And that -- you know, we'd like to see improvements in that. And then the biggest fixes, which will take a little bit longer, and they're kind of interlinked, but they're not the same, one is Wilderness.", "And, you know, we really need to reposition the Wilderness brand and do some work on that, and that'll take a little while to get back to full health. The other is that, you know, we have the pet specialty channel. In itself has not done particularly well. We over-indexed in that channel.", "And there are some things we can probably do to perform better in that channel, even while we keep investing to grow our food, drug, and mass channel, which we're quite pleased with the results, and online with the results. The other thing I guess I would add is, you know, we did have -- as we look at the back half of the year, you know, the reason we're not saying, you know, recovery or stabilization is that in the back half, we had shipments ahead of sales last year. And so, we're lapping that. That is particularly true in the third quarter.", "And so, even to the extent we see some stabilization in the sales trends in pet, the reported net sales are going to lag that because of some inventory build in the back half of the year. So, those are the things that we need to do. Some of them are underway, and we like what we see so far. And there are a couple more that we really need to work on, and it'll take a little bit longer." ] }, { "name": "David Palmer", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Andrew Lazar with Barclays. Please go ahead." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Thanks so much. Good morning, everybody." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning. Jeff, I wanted to maybe chat a bit about, you know, I realize, as you've talked about in the prepared remarks, the company has some EPS flexibility despite the weaker sales, you know, in the form of lower sort of compensation expense versus last year, the HMM that's been stepped up, some more share repurchase versus your sort of initial expectations. So, I guess my question is, you know, is '24 a year where maybe the company perhaps should lean in even more and maybe be a little less concerned about sort of a specific EPS range, if you will, in order to set it up -- set the company up for a more sustainable sort of growth in '25 and beyond? That's a question I'm sort of getting a lot this morning, so I just wanted to get your thoughts on that if I could." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. Andrew, I'm glad you asked, and I appreciate the fact that you're getting a lot. I think it's a really important question because, you know, our job is to maximize long-term shareholder return, not in any particular quarter, frankly, even in any particular year. And so, one of the things that we -- as we look back over time, when the consumer is stressed and, you know, results are harder to come by, you know, one of the things we've seen successful companies like ours do is reinvest for the future.", "And that comes in the form of consumer investment, but also investment in capabilities, things like strategic revenue management and performance marketing and automating supply chains and things like that. And so, incumbent and included in our results is an increase in consumer spending. Even though we've guided down on our sales for the year, we'll still invest in consumer spending. And we're still investing in all the capabilities that we know will drive our growth, not only for this year, but in years to come.", "And then that's with regard to growing revenues, but also maintaining our discipline on HMM. And, you know, automation and using AI in our supply chains are going to be important parts of that as well. So, one of the things that, you know, I want to make sure you can tell your investors is that, you know, while our profit guidance is still 4% to 5% growth on EPS, that's inclusive of making sure we maintain our reinvestment in the business. And we're able to do that because our HMM levels are very high right now, we're taking out the cost from our supply chain.", "And as you mentioned, our admin costs are declining." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Thanks for that. And then just on -- a bit more on the faster competitor normalization of shelf availability comments that you made in the prepared remarks, is it an issue in a specific category or is it more broad-based, and is General Mills actually losing shelf space, or, really, just others now having better availability in the slots that they have, and what have you seen that mean for promotional intensity or not? Thanks so much." ] }, { "name": "Jeff Harmening", "speech": [ "All right. Andrew, I'm going to try to address all those questions, and if I miss one, come back because I didn't mean to --" ] }, { "name": "Andrew Lazar", "speech": [ "Will do." ] }, { "name": "Jeff Harmening", "speech": [ "I didn't mean to skip it. Yeah." ] }, { "name": "Andrew Lazar", "speech": [ "Will do." ] }, { "name": "Jeff Harmening", "speech": [ "On the on-shelf availability, you know, when we put our guidance together for this year, I mean, we grew at 10% last year and our original guidance was 3% to 4% this year. And so, we knew that on-shelf availability would be a headwind for us because, frankly, our supply chain held up a lot better than our competition did a year ago. So, we calculate -- we factored that into our guidance for this year. But the fact of the matter is on-shelf availability for our competition increased a lot faster, particularly private label and small players, faster than we had anticipated.", "Importantly, they're now catching up to our on-shelf availability. And so, we've actually improved our on-shelf availability this year. So, it's not as if we have gone backward, we -- our on-shelf availability is higher now. And you can see that out because we've reduced our disruption costs.", "It's just that our competitors have increased quite a bit now and have, you know, kind of drawn even with us after trailing for like four years. So, you know, that's the first part of the question. We anticipated but not the rate of change. In terms of the -- and we'll lap -- we'll start lapping that, really, in kind of late April and May of this year, so that's when we started to see this impact.", "In terms of distribution, one of the things -- you know, our teams, across the board, certainly in North America retail, are really executing well, and our share of distribution is actually up. And so, there's not a problem with our distribution. In fact, the opposite. Our distribution looks good.", "And I will say that I'm really excited about our innovation in the back half of this year, which I'm hoping will bolster that further. We've got good innovation in cereal, we've got good innovation in yogurt and soup, and Old El Paso and Haagen-Dazs. And so, you know, as I look across our big, you know, billion-dollar businesses, our innovation lineup is really good and, frankly, better than it was last year. And so, as we look to the next half of the year, I think we can see, you know, our distribution continuing to build.", "You know, as what it means to promotional -- you know, the promotional environment, it's been a very rational promotional environment, you know, against, you know, some thoughts to the contrary. We have seen the number of promotions pick up this year, as we expected, because of on-shelf availability. Importantly, we've also seen the quality of the merchandising, specifically the quality of merchandising that we get, has also accelerated. And because the quality of merchandising has improved for us, we've seen the list we receive, but also the ROI we receive, have been better than they were a year ago.", "But importantly, and this is a really important point, even though the level of merchandising has increased in frequency, it has not increased in depth. And even the frequency is still below where it was before the pandemic, and the depth of the promotion is well below. So, yes, we're seeing increased levels of promotion. We expected that.", "And frankly, the returns are better because of the quality of merchandising that we're seeing." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Thank you so much and have a great holiday." ] }, { "name": "Jeff Harmening", "speech": [ "Thanks. You, too." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Ken Goldman with J.P. Morgan. Please go ahead." ] }, { "name": "Ken Goldman", "speech": [ "Hi. Thank you. Good morning. When you visited New York a couple of months ago, you mentioned that you're -- you know, you may lean in a little bit harder to share repo.", "So, I don't think today's announcement on that line item was a huge surprise. But I guess I'm curious, you've also spoken about your ongoing desire to be flexible for potential strategic acquisitions. And I'm just wondering, is there any read through, you know, from your willingness to purchase more shares than you initially expected into how you kind of see the ripeness of M&A opportunities, I guess, in today's market?" ] }, { "name": "Jeff Harmening", "speech": [ "Yeah, Ken. This is Jeff. Let me start with that question. And, Kofi, if you want to add any color commentary, that will probably be helpful, too.", "But no, the fact that we repurchased more shares in the quarter than originally anticipated at the beginning of the year is not a reflection of a change in -- on how we view capital allocation. We -- we're investing quite a bit in the business and then, you know, increasing our dividend. And then if we see M&A, we'll certainly do more M&A. And if not, we said we repurchase shares, which is what we're doing.", "And, you know, importantly, our net debt to EBITDA levels are in a good place. And so, to the extent that we see something that we think can create shareholder value in terms of portfolio reshaping, we're more than capable of doing that. So, what you've seen is really a reflection of our executing against the capital allocation priorities we already stated." ] }, { "name": "Kofi Bruce", "speech": [ "And I think, Ken, the only other thing I'd add is just to state one of the obvious sort of underlying points, we're getting additional leverage out of our repurchase activity. So, our dollars are going further because of the pressure, obviously, on the stock and as much as the stock has come down since the beginning of our fiscal year. So, that's also amplifying the impact in terms of the diluted share count and the acceleration into the front half of the year. But I think I'd reiterate Jeff's point, we expect to have more than ample flexibility for M&A should we see the right project or set of projects.", "None of the things we're doing at share repurchase we would expect to take our leverage above three times net debt to EBITDA." ] }, { "name": "Ken Goldman", "speech": [ "And then changing subjects, you know, one of the more appealing elements of pet food as a category has been the high level of switching costs, especially in premium, where there's less price sensitivity to. Just curious, though, given some of the challenges facing Blue, is it fair to wonder if maybe the cost to switch isn't quite as high as we all thought and that premium isn't quite as protected, or do you think maybe, hey, we're just in a unique time when the specialty channel is kind of lagging at the same exact time that the consumer suddenly worse off?" ] }, { "name": "Jeff Harmening", "speech": [ "Yeah, Ken, that's a fair question. I think there are two things at play here, and one of them you pointed out, but I'll start in another area. As we look at the pet food business, the feeding business, and certainly, that was a majority of the business we bought when we bought Blue Buffalo is feeding, is relatively inelastic. And, you know, when we see that with the -- you know, our dry pet food, both cat and dog food performance, the -- but treating, and we bought into that when we bought the pet food business from Tyson a couple of years later, that is actually more elastic and is more of an impulse purchase.", "And that's why when you see the economy as it is, people trading down to less expensive treats if they're still treating and trading a little bit out of treats because they're trying to economize on that, but they stick with the feeding. And so, the first part of the question -- the first part is is that the feeding part is actually not more inelastic than we had thought. The -- but, you know, treating is more elastic. The second piece is it's a combination, as you say.", "I mean, I don't remember the last time we've seen 30% increase in cost, you know, over three years. And while it's relatively inelastic, it's not completely inelastic. And so, the combination of the tremendous increase in input costs, combined with the pet specialty channel where we over-indexed, you know, that is -- there's no question that those two things have had an impact on our business in the short term. But importantly, as we look over the five years we've owned the business, we've doubled the business.", "The Blue brand is really strong when we execute well against it, whether it's on Life Protection Formula advertising or holiday treats or things like that. We see the business really respond well. And it's very clear to us, this humanization trend is going to continue, and that Blue is well-placed to capture that over the course of time." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Nik Modi with RBC Capital Markets. Please go ahead." ] }, { "name": "Nik Modi", "speech": [ "Yeah. Thanks. Good morning, everyone. On the promotional -- I want to follow up on the promotional comment.", "You know, one thing we're hearing from retailers is, you know, the lift doesn't seem to be as good as we've seen historically, Jeff. So, I just -- I was hoping you can just comment on that. And is that something you're seeing in the marketplace, and does that kind of maybe be a -- send a signal that perhaps absolute price points have become too high? I would just love your comments on that." ] }, { "name": "Jeff Harmening", "speech": [ "So, you know, when we talk about historical, it kind of depends, Nik, on what we mean by historical. I don't mean to be acute with this, but if we look relative to where we were a year ago, you know, what we see is our lifts have actually improved vis-a-vis where they were a year ago. If we look to see where the lifts are versus where they were four years ago, they're not quite at the levels where they were four years ago. And I don't have a fact that I can point to as to why exactly that is the case.", "But I would tell you that, you know, neither we nor consumers have seen inflation the way we've seen it over the last few years. And consumers are still getting used to new prices in the marketplace. And I suspect, you know, whether that's food or gas or rent or any number of things, that that is absolutely the case, and it will take a little while for consumers to settle in to what new price points are to the extent we continue to see inflation, which we do, even if at a more modest level. So, Nik, I would say that relative to a year ago, we're pleased with the progress of our lifts.", "But relative to historic pre-pandemic, they're a little bit lower, and I would surmise that it's the consumer catching up to a new reality." ] }, { "name": "Nik Modi", "speech": [ "Great. Thanks. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Pamela Kaufman with Morgan Stanley. Please go ahead." ] }, { "name": "Pamela Kaufman", "speech": [ "Hi. Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Pamela Kaufman", "speech": [ "I had a follow-up question on the guidance for this year. Just wanted to see if you could walk through the puts and takes of the updated outlook. So, your org sales outlook implies about 800 million less in sales this year at the midpoint versus before, but you narrowed your EBIT growth guidance slightly compared to your prior expectations. So, can you just walk through -- I know you have the higher HMM savings, but where else are you finding offsets in the P&L because HMM wouldn't seem to explain the full impact on -- you know, the lower impact on EBIT changing?" ] }, { "name": "Jeff Harmening", "speech": [ "So, Pam, Kofi and I are going to tag team this. Let me talk about that -- let me talk about the revenue, and then Kofi is going to take the rest of the P&L side. On the revenue side, the way I think about our guidance is that in order to hit the low end of our guidance, let's call it, you know, minus 1%, that would indicate that we would see a continuation of the top-line performance we saw in Q2 and which would indicate a little bit better volume and a little bit less price/mix than we saw in the second quarter, but in absolute terms, you know, about the same as we saw in the second quarter. The higher end of our guidance, which suggests that the categories get a little bit better, which we think they certainly could due to lapping the SNAP, you know, emergency reductions from a year ago and, you know, January through March and from our lapping pricing activity from March and April of last year.", "So, you know, those two things, combined with, you know, a little bit better share performance based on the out-of-stock situation changing near the end of the year, you know, we could hit the top end of the guidance we suggested. So, that kind of brackets the top line, and I'll let Kofi talk a little bit more about the profitability." ] }, { "name": "Kofi Bruce", "speech": [ "Sure, Pam, and thanks for the question. I would just note, the HMM adjustment is pretty significant. As a reminder, in the past two years, we've delivered below our historic levels of kind of 4% and 3% for each of the prior two years due to the supply chain disrupted environment. We're now on pace to deliver 5% against an early expectation of 4%.", "That is the biggest single contributor, but we are seeing, you know, improvement in our inflation but not significant enough to change the routing. So, that's a modest contributor as well. But the other component in gross margin is the supply chain-related disruption costs. So, as I mentioned earlier, one of the features of this environment is supply chain stability has allowed us to get at some of those embedded costs we took on to operate in this environment, and we've made sequential improvement over the last four quarters on this and most acutely within our North America retail business.", "And then lastly, the adjustment of our incentive off of last year's peak levels. So, you know, as you know, last year, really strong year performance, historically high levels of incentive-based comp, which is variable and based on the top- and bottom-line projections. As that's both normalized at the start of the year to a base expectation of planned targets and, now, as we take the top line down, that's almost $100 million in reduction in admin expense. So, as you take all of those, that gives us the confidence to keep within the range, albeit a little tighter as volume expectations come in from the top of the year." ] }, { "name": "Pamela Kaufman", "speech": [ "Thanks. That's very helpful. And just a follow-up question on gross margins, they're now back to pre-pandemic levels, so how are you thinking about the potential for gross margin expansion from here? On one hand, you have the benefit from HMM, but I'm assuming there will be some volume deleverage. So, how should we expect gross margins to progress, and do you kind of see them at the right levels here?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. Well, OK, I think it -- you know, implied within our guidance would be, you know, a little bit less gross -- operating margin expansion, bolstered, obviously, by gross margins in the back half as we see a step-down -- a sequential step-down in the contributions from price/mix as we lapped last year's SRM actions fully by Q4 of this year. You know, I'd just note, we've made significant progress at the gross margin level and bolstered, in part, not just by HMM these past two quarters, but, in part, by the disruption costs that I mentioned earlier, 170 basis points, 120 basis points in the back half of last year and the first half of this year, respectively. So, I would expect we'd see more normalized levels of gross margin expansion going forward, kind of off of this base.", "There are still a little bit more disruption-related costs to get out, primarily in some of our other businesses outside of NAR. So, that'll give us a little bit of a tailwind. But to your point, given the volume environment, that's largely going to go to offset the impacts of deleverage." ] }, { "name": "Pamela Kaufman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And our next question is coming from the line of Matthew Smith with Stifel. Please go ahead." ] }, { "name": "Matthew Smith", "speech": [ "Hi. Good morning. Wanted to follow up on the elevated level of HMM savings here in the year. You mentioned it's a step up relative to the prior two years where it was a bit lower because of inflation and supply chain issues.", "But how much of the elevated rate here this year is a pull forward from savings that you would expect next year? Or I guess that's another way of saying just how sustainable is this elevated rate of HMM savings as you exit fiscal '24?" ] }, { "name": "Kofi Bruce", "speech": [ "Well, I would expect that if the supply chain environment remains stable and continues to stabilize even a little further, we will have the ability to deliver at least in line with our historic levels of about 4% HMM, 4% of COGS. I would expect that the contributions from getting out some of those other disruption-related costs that's sitting in COGS to decrease a bit here as we've gathered a good chunk of them on the back of our NAR business and as we see maybe a smaller base of cost in the other three segments. So, all things equal, I think 4% would be a good long-term estimate for us to migrate back to, provided the supply chain environment continues to cooperate." ] }, { "name": "Matthew Smith", "speech": [ "Thank you, Kofi. And, Jeff, maybe a follow-up about your share performance as you begin to lap the rebuild of competitive distribution, which I believe you said that begins to move into the base as you exit fiscal '24. You're holding and gaining share in the majority of the distribution of your categories. So, would you expect your dollar market share performance to improve as you lap that competitive rebuild or are there other concerns like consumer value-seeking behavior or list price gaps that may need to be addressed as the share of shelf normalizes?" ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. One of the things that I'm most pleased with is that, you know, over the last five years, particularly in North America retail, we've gained share in 60% of our categories. And, you know, we continue to execute well. And, you know, the key to our success, once we start to lap the on-shelf availability and once we lap the pricing activities from March and April, will be to the question that Andrew proposed, which is making sure we maintain our brand-building support and really good brand-building, make sure we execute against what I think is a really good innovation, and continue to execute in store.", "And if we do those things, and I would expect us to do those things, then, you know, our share performance will certainly improve over time. And hopefully, as we're exiting this fiscal year and beginning next fiscal year, we'll see that happen. Interestingly, you know, our dollar share performance, you know, has not been what we needed to be. In terms of pound share, we are growing pound share in about 40% of our categories.", "And then that's because even though our pricing trailed inflation, so we responded to inflationary pressures, we're actually more agile than our competitors. And so, that provided us a dollar share benefit last year. And, you know, this year, it's a headwind, but we are growing pound share in roughly 40% of our categories." ] }, { "name": "Matthew Smith", "speech": [ "Thanks, Jeff. I'll leave it there and pass it on." ] }, { "name": "Jeff Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Michael Lavery with Piper Sandler. Please go ahead." ] }, { "name": "Michael Lavery", "speech": [ "Thank you. Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Michael Lavery", "speech": [ "I wanted to -- have a couple of follow-ups on the shelf availability. You said it's improving for competitors. Would you say that it's -- that there are still headwinds to come there or is that sort of all caught up to a normal level? And then on the promotional sort of dynamic related to that, you gave some color on how that environment looks. But just given your guidance update, it would seem like, strategically, you'd rather take a little bit of the volume hit than push promo much harder.", "I suppose, first, is that a fair characterization? Then what would make you lean in more on the pricing side?" ] }, { "name": "Jeff Harmening", "speech": [ "On the on-shelf availability, I mean, the competitors have kind of caught up to our levels, and that's been pretty stable for the past few months, and I wouldn't accept -- I wouldn't expect that to accelerate. So, I think we've seen a stabilization in that. Now, we'll see that their on-shelf availability, you know, kind of -- which is equal to ours, I'll remind you. So, we're -- actually, we're doing quite well.", "So, it's equal to ours. You know, we'll see -- they will see that benefit for the next, you know, three or four months until they start to lap it, you know, a year from now. And so, while it has stabilized, you know, we'll see some of our competitors see a benefit for that for the next few months, and then they won't. You know, in terms of the pricing environment itself, you know, I'm not really going to get into specifics of future pricing.", "You know, what we do see is that -- I think importantly, we've seen an inflationary environment ahead of us. I know there's been talk of deflation in some cases, and that may be true for things like commodities like milk and eggs. But it's certainly not true for restaurants. You know, their inflation is actually outpacing ours, and we see inflation in the low single digits.", "So, you look at our -- the category pricing, and it's somewhere in the 2% to 3% range. So, we see continued inflation, even at a lower level. And, you know, usually, pricing tends to follow inflation because that's the basis on which we increase prices if we see an inflationary environment. And so, the -- I -- as we look at trade-offs, I mean, our job is to create long-term value for shareholders, and we do that by serving consumers, and we'll do that by making sure that our brands are strong and by innovating and making sure the products are available when and where people want them." ] }, { "name": "Michael Lavery", "speech": [ "OK. That's really helpful. And just one quick follow-up on pet. You had mentioned the retailer inventory destocking and characterized it as a temporary headwind.", "Is that just because there's only so low they can go or do you expect it to reverse?" ] }, { "name": "Jeff Harmening", "speech": [ "I do not expect it to reverse. I think there's only so low that it can go. And, you know, we may see a reduction again in the third quarter because I suspect that our sale -- our reported net sales are going to lack our sales out to consumers. And so, we may have not have seen the bottom of that as we look at our third quarter.", "But really, it's a -- more of a -- I don't see a rebound in inventory levels and especially as some of our retailers specifically look to manage their working capital." ] }, { "name": "Michael Lavery", "speech": [ "OK. Great. Thanks so much." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Chris Carey with Wells Fargo Securities. Please go ahead." ] }, { "name": "Chris Carey", "speech": [ "Hi. Good morning, everyone." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Chris Carey", "speech": [ "So, just a couple of quick follow-ups for me. You know, I guess, number one -- and I think you've been clear about this, but maybe just to, you know, put a bow on this. I mean, in your prepared remarks, you mentioned that price/mix will remain positive in fiscal '24. You know, I'm not sure if I'm reading too much into this, but is there an expectation that price/mix could turn negative in any given quarter ahead, you know, near or medium term because of, you know, mix dynamics or potentially some, you know, step-up in promotional activity? And just secondly, Jeff, you mentioned an expectation for some improvement in category growth.", "Is any of that just associated with lapping SNAP benefits as you get kind of deeper into your fiscal Q4?" ] }, { "name": "Kofi Bruce", "speech": [ "I'll take the first part of that question, and then I'll let Jeff get you on the second. So, look, our expectations on price/mix are really built around the fact that we'll be sequentially stepping down as we lap pricing actions that we took throughout last year. We should fully lap those by the time we get to the end of the fiscal year. We're not expecting any of the quarters to deliver a negative price/mix, but merely just a step-down in the contribution from price/mix to total RNS." ] }, { "name": "Jeff Siemon", "speech": [ "And, Chris, this is Jeff Siemon. One point I'd add there is what you're seeing over the last couple of quarters is mix, even at the segment level, is more of a headwind. You know, as for example, our pet business, you know, is growing slower than the other parts of the business, that's a higher price per pound business as our food service business, which is low price per pound, is outperforming. And so, there are mix elements within the segments that do depress the overall enterprise price/mix." ] }, { "name": "Jeff Harmening", "speech": [ "And when -- you asked a question about growth at the category level. You know, there are a couple of headwinds. One is just a little bit of consumer behavior and feeling the economic pressure and a little bit less discretionary spending. And, you know, I don't frankly know when that will turn around.", "Consumers are certainly still stressed right now. They feel the impact of inflation over the past few years, and we certainly understand that. The thing that we -- that's more discrete, really, is the lapping of the SNAP emergency allotments -- benefits from last year. And those kind of go state by state, but they took place last year between January and March.", "And that may be a 1-point benefit to the categories that we -- that we're in. And so, it's not a heroic increase, but certainly a stabilization of the categories. And, you know, we'll start -- as I said, we'll start to lap that here in the next month or so throughout our fiscal third quarter." ] }, { "name": "Chris Carey", "speech": [ "OK. Helpful. I'll pass it on. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "OK. I -- unfortunately, I think that's all the time we're going to have this morning. Thank you for all the good questions and discussion. Appreciate your time and attention, and we will look forward to catching up in the New Year.", "In the meantime, happy holidays to everyone, and please reach out if you have any follow-ups to the IR team. Thanks." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
GIS	2021-09-22	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "Bernstein -- Analyst", "name": "Alexia Howard", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Steve Powers", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Nik Modi", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Consumer Edge -- Analyst", "name": "Jonathan Feeney", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Rob Dickerson", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the General Mills First Quarter Fiscal 2022 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded today, Wednesday, September 22, 2021.", "It is now my pleasure to turn the conference over to Jeff Siemon, Vice President of Investor Relations. Please go ahead, sir." ] }, { "name": "Jeff Siemon", "speech": [ "Thank you, Frances and good morning, everyone. I appreciate you joining us today for our Q&A session on the first quarter results. I hope everyone had time to review the press release, listen to our prepared remarks and view our presentation materials, which were made available this morning on our invest Investor Relations website. Please note that in our Q&A session, we may make forward-looking statements that are based on our current views and assumptions, including facts and assumptions related to the potential impact of the pandemic on our results in fiscal '22. Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which may be discussed on today's call.", "And on the call with me this morning are Jeff Harmening, our Chairman and CEO; Kofi Bruce, our CFO; and Jon Nudi, Group President of our North America Retail segment.", "So, let's go ahead and get to the first question. Frances, can you please get us started." ] } ]	[ { "name": "Operator", "speech": [ "Absolutely. [Operator Instructions] And our first question will be from the line of Andrew Lazar with Barclays. Please go ahead." ] }, { "name": "Andrew Lazar", "speech": [ "Great, thanks very much. Good morning, everybody. Jeff wanted to start off, maybe to get a better sense of how you were thinking about guidance for the rest of the year and kind of how you're managing the business? And obviously, what's still a very volatile environment. I guess specifically, it sounds like the company has not made meaningful adjustments to its original net sales outlook for the remainder of the year, but it seems like consumption still remains elevated even into your fiscal 2Q and volume elasticity in response to pricing, all admittedly early is almost non existent so far, and the company obviously has taken additional pricing actions as well. So I guess at a high level, I'm trying to get a sense of how much of guidance sort of bills -- builds in a sales deceleration and cost increases that you're already seeing versus just trying to be prudent in what's clearly still a very fluid sort of environment? Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, thanks, Andrew. And let me -- let me start by just kind of reiterating what's kind of in our guidance and what's not and then I'll provide some clarity on kind of what lies ahead even -- even in an uncertain market, I find that clarity beat certainty in terms of how we think about these things. And the guidance, it’s important -- you kind of hit on it that our updated guidance for the year would reflect the beat we had in sales in the first quarter which we just announced, but really didn't have any change in our sales performance for the balance of the year. And I mean, that probably raises the question then if our sales [Technical Issues] remains elevated as it has for the first quarter, would that indicate that there is a possibility that our sales could be higher and the answer is yes. There is that possibility.", "And our second quarter has certainly started out well, particularly in North America, as you look at the retail sales and is looking past, so our second quarter is off to a nice start. But there certainly -- there is a lot of uncertainty in our -- the revised guidance we have did not contemplate yet, revised demand guidance. But I think we have a much better view as Q2 unfolds. And as we announced earnings in Q2, we'll have a better view not only of the quarter, but then how does demand look for the rest of the year.", "The other piece of it is really on the bottom line in our guidance with -- our guidance not only contemplates what happened in the first quarter, but also the elevated inflation that we're going to see for the balance of the year. We said it was 7% at the beginning of year, that's clearly going to be between 7% and 8% now as we go on the year. It also contemplates some pricing actions that we have taken in order to help address that rising inflation and how our profit comes in will be determined, I think about how much exactly does inflation go up and exactly when does -- was pricing hit.", "In terms of as we look forward, I think the important things that -- there are a couple of things that are really clear to ask. One is that inflation is going to continue through the balance of our fiscal year, which is to say the first half of calendar '22, that much is clear. It's going to be broad. The second thing is clear is that we've done a really nice job with pricing so far and we -- our prices are going to go up for the remainder of the year as we see inflation going up and so you start to see that at the end of Q1 and by hitting Q2 you'll see more pricing. And our job is to, as we've done for the last three or four years, just kind of stay in the middle of both, which is to say, we're not going to chase sales growth at the expense of profitability nor are we going to be slave as to profit margin at the expense of things like driving our brands, and this balance of driving sales growth and profitability has served us well over the last few years, and I would argue during the pandemic has served us especially well and we're still in the midst of it. So I think I'll stop there, otherwise it will probably be a filibuster. But I appreciate the starting question." ] }, { "name": "Andrew Lazar", "speech": [ "Yeah, I know very, very helpful. And then just a very quick follow-up. With some of the incremental pricing, retailors obviously always say the same thing, which is they're open to pricing when things are structural as they see structural versus let's say, surely transitory and things of that nature. So I guess if you've kind of gone back to the well so to speak as a lot of others have as well, are those conversations changing at all broadly speaking in terms of what is sort of acceptable or thought of as transitory versus structural things that one would need to price for, just curious perspective on that? Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Let me give you an overview and then Jon Nudi if you have anything to add, I would welcome your commentary as well. I mean, ideally you'd not like to go to back to retailers multiple times or consumers with price increases, but we're clearly not an ideal market and in a market, and everyone understands that not only is our inflation but everyone understands it’s also a dynamic and it really is. And I probably used that word 15 time this morning about dynamic market and so people understand the need to revise plans and make sure that we're staying current, and we’re all see -- we're all seeing the same cost for those transportation costs or labor costs, or ingredient cost. I mean, we're all seeing the same kind of costs, whether it's CPG companies or retailers. So it's not – it’s never easy. But I think there is an understanding that we're not -- we're in a market that is continuing to change. Jon Nudi, any color you'd like to add to that." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah, I think that's exactly right, and obviously retailers are seeing increased cost inflation as well. And one of the things we're really proud of is the strategic revenue management capability that we've built over the last five years or so, and it's differential in terms of the information we have, the data, the talent and the stories that we can put together. When you come to retailers with a rationale that makes sense and facts, they tend to listen and we're really leveraging the entire restaurant toolkit as well. So obviously, we’ve taken some list price increases. But we continue to look at promotional optimization and mix of PPA and we’re leveraging all this different tool. So, so far so good. We like the way that conversations have gone. We've gotten majority of our pricing accepted and more importantly, reflected in the market. So that's the trick as well. So we're really working well with retailers and we'll continue to take the inflation and deal with this as we move throughout the year." ] }, { "name": "Andrew Lazar", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Ken Goldman with J.P. Morgan. Please go ahead." ] }, { "name": "Ken Goldman", "speech": [ "Hi, good morning, thank you. With the understanding that you don't provide specific quarterly guidance, are there any items, Kofi, that we should be particularly aware of as we model the current quarter? I guess, especially as we think about unusual comparisons with last year with the timing of pricing by segment? I want to make sure we're sort of minimizing potential surprises there." ] }, { "name": "Kofi Bruce", "speech": [ "Sure, Ken, and thanks for the question. But obviously, as you think about the -- in particular in the first half, second half perspective on the year, with Q1 coming in stronger than we expected on both the top and the bottom line, we would expect a little bit more balanced year in terms of the flow of margins, in that we're seeing more on the cost, obviously the cost increase coming in, in the back half, offset by a little bit stronger performance in the first half. And we do still expect our pricing realization to come in sort of full force in Q2 and against the inflation expectations. So just to give you a little bit more color. We don't want to get any deeper on a quarter-by-quarter basis." ] }, { "name": "Ken Goldman", "speech": [ "I appreciate that. Thank you for that. And then as a follow-up, you showed in your chart -- sorry, you showed a chart in your slides on how difficult the labor market is, obviously your inflation outlook is being raised today largely because of that. We are anecdotally and it's very early, but hearing that perhaps the worst is over though for the labor situation given some benefits rolling off, giving back to school, obviously labor is still incredibly difficult to secure. I guess I'm just asking is it worsening anymore? Are you seeing a peak in that -- in those challenges? Just curious how to think about that going forward from here?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Ken, I would think the -- it's a very fair question, Ken. I guess, we foresee split labor challenges persisting for quite a while. I mean, especially if you look at logistic. So there is a shortage of truck drivers here in the U.S. and that's not going to abate for a while. There is a shortage in shipping containers. As we look at global transportation, you can see them on pictures you know, and the LA port. So that's not going to -- that's not going to be -- go away for a while. And while we have seen a little bit of loosening in the labor markets once the government spending has kind of decreased, that’s not going to solve the whole, that's not going to solve the whole dilemma. So I would suggest that the challenges we have with labor and labor inflation are going to persist for quite some time. We have not really seen them abate significantly to this point." ] }, { "name": "Ken Goldman", "speech": [ "Makes sense. Thanks so much." ] }, { "name": "Operator", "speech": [ "Our next question is from David Palmer with Evercore ISI. Please go ahead." ] }, { "name": "David Palmer", "speech": [ "Thanks. Good morning. In your transcript, you mentioned that your service levels weren't quite where you wanted them to be. I'm wondering what is the average out there in service levels in the industry and where do you think General Mills is versus normal for today for the industry, but also normal versus itself? And is there any sort of outcome from this? Is it, is it -- are you below where you'd like to be in terms of ship sales or are there penalties happening?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Fair question. Jon Nudi, do you want to -- do you want to take that on?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah, absolutely. So, David, what I would say is that our service levels are certainly better than they were at the beginning of the pandemic, but still quite a bit off of where we'd like them to be, which is in the high '90s. And really we're seeing a wide -- widespread impact, everything from raw material vendors, challenges that are internal manufacturing, co-packer manufacturing, in our distribution network. And it's almost whack-a-mole right now. So we have literally hundreds of disruptions in our supply chain that really changes on a daily and weekly basis. So we’ve gone back to some of the practice that served us well in the beginning of the pandemic, we've stood up -- the control tower is at the working level on a daily basis, on a weekly basis that I think more senior level to really dig in and work with our teams to solve these issues, and we do expect these issues to persist throughout the year.", "What I like is the way that we're performing and I think we're outperforming versus many of our competitors in the space. So we are probably somewhere in the '80s in terms of total service levels. And what I would tell you that it varies widely across categories and majority of our categories were actually in the '90s and then performing well. We a few that -- we have capacity issues and we have ingredient issues that are really dragging us down. So we continue to work closely with retailers. In fact, the bulk of our discussions right now with retailers are really around service and making sure that we can ship the product that our consumers are ultimately looking for still. I like the way that we're performing and at the same time I think it's going to be a challenge as we continue to move throughout the rest of the year." ] }, { "name": "David Palmer", "speech": [ "And then just a follow-up on Pet food, maybe a good time to go over where you think the big picture strategy and opportunity is now that you closed on the treats acquisition. Where are your market shares, maybe by major Pet segment and -- and where do you see that opportunity? Where do you see that market share going to from your major segments? And I'll pass it on. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Sure. On Blue Buffalo, the first thing I would say is that our organic business on Blue Buffalo performed quite well in the first quarter. I mean, we were up 20% in gaining market share, really across all the different segments. Having said that, I think it's important also to reflect that for Pet, we probably had our easiest comp of the year in this past quarter. We kind of grew about 6% in the first quarter last year and 18% in the second quarter. And so as good as I feel about Blue Buffalo, I feel great about it. I wouldn’t model 20% growth for us from here on out because the comparisons get quite a bit steeper as the year goes on. But Blue Buffalo in itself is performing quite well. We really have opportunities across the segment. We over index in dry dog food and we basically under index in every other sub-segment of the category. So there is broad opportunity.", "And I would say with the Tyson acquisition, you know when we first looked at it several months ago, we liked it. Once we had bought it, we got a closer look. We really liked it. Now that we have it, we like it even more. And what I can tell you is that the growth of 20% is -- kind of exceeded our initial expectations and it's a good management team and we not only bought some nice brand, a good portfolio, but a good team. And what that acquisition really helps us to do is cement our leadership and treat part of the dog category and something we wouldn't have been able to get to by ourselves. And so, it's very complementary, both in product form and customers where Blue Buffalo sits. So the more we got to see it [Technical Issues] good after spending that kind of money to make an acquisition, but we feel good both about Blue and about this recent acquisition of the Tyson Pet food business." ] }, { "name": "David Palmer", "speech": [ "Okay, thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Michael Lavery with Piper Sandler. Please go ahead." ] }, { "name": "Michael Lavery", "speech": [ "You've got broad pricing across -- really it looks like every category and segment. Can you touch on just what you're seeing as far as elasticities and certainly your sales are holding up. But any surprises, any variation? It looks like the consumer demand really remains strong, but especially just looking ahead, anything we should maybe watch out for or where there could be some, a little bit more volume pressure perhaps?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Michael, what I would say is you made an observation I think was really important, which is that the pricing that we’ve realized in the first quarter is broad, and I think that speaks to what Jon Nudi was talking about earlier on our strategic revenue management capability and the fact that our capability is significantly better across our company than it was four years ago, and you see that in the market. We got out to market fast and we've been out there effectively.", "As we look at -- you talk about elasticity of demand, it is still early. We don't have a tremendous amount of data points yet. Having said that, it seemed to us as if demand is holding up quite well and is holding up a little bit better than we had thought. And if I think through the logic of that, particularly here in the U.S., you see that restaurant -- restaurant traffic is still down, the food cost from away from home eating are going up at least as fast as they are in at-home eating because [Technical Issues] a piece of that and they face the same pressures we do from an ingredient [Technical Issues] So when you see broad-based inflation not only in at-home eating but also perhaps even more so in away from home eating where restaurants many of them, they not only do they see inflation but they're having trouble staffing all of their -- all of the restaurants. It seems to us that this is an environment where as just elasticity is, at least so far it seemed us are a little bit lower than what we have said. Now the sample size of the smaller, we'll continue to monitor of that, but that's what we see in the world right now and pretty much true across the world, whether it's here in the U.K. or in China or Brazil." ] }, { "name": "Michael Lavery", "speech": [ "Okay, that's great. And just a follow-up on your comments about the digital programing and just the unique position you have with all the data you get from the receipts for Box Tops. Can you give a little bit more sense of how you can take advantage of that and really put that data to work?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, what we're able to do, whether it's the Buddies by Blue Buffalo, whether it’s Box Tops for Education, or whether as what we're doing in China with our Haagen-Dazs omnichannel approach to shops is that we can better meet consumer demands and we can give them things that are more specifically interesting to them and the more specific things you can give to consumers, the better off you're going to be in attracting their sales. And not only that, particular things like Box Tops for Education, we can also partner with our retail customers because a lot of them have first-party data now and we can combine the data that we have with the data that they have in order to customize offers to consumers that are to the benefit of them, realizing of course all the privacy laws and so forth.", "So I don't want to go in too much more depth on that, other than to say that it's the next evolution of marketing and we've talked about connected commerce, and I think for some it sounds like a buzzword, but we want to give you a couple of clear example that here -- at least here at General Mills it’s not a buzzword, it's something we're taking -- we're taking an active approach to." ] }, { "name": "Michael Lavery", "speech": [ "Okay, great. Thanks so much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Chris Growe with Stifel. Please go ahead." ] }, { "name": "Chris Growe", "speech": [ "Hi, good morning. Thanks for the time." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Chris." ] }, { "name": "Chris Growe", "speech": [ "I just, Hi. I just had a quick question, if I could. In an environment where you're seeing stronger revenue growth and that's translated into stronger profit growth as we saw in the first quarter. I just want to get a sense around investment, and that can obviously take many forms, marketing or investing back in the business, sort of white space, and you've got a lot of investment back in the business for the last few years, but I want to get a sense of as we think about your opportunities for say incremental marketing or something along those lines, would continued stronger revenue growth prompt you to want to reinvest more heavily is the ultimate question?" ] }, { "name": "Kofi Bruce", "speech": [ "Chris, thanks for your question. So as we think about structurally where we are in the year, we're confident that we have strong support behind our priority brands and we would expect to retain that even as we do see additional cost pressure come in and on the basis of everything we know, we still believe that we have strong ideas and we're going to continue to support those. I think as we roll forward here, we will also continue to support our capabilities, investments around data and analytics. So, at the core of our expectations and our guidance, we've preserved our expectations for the year." ] }, { "name": "Chris Growe", "speech": [ "Okay, thank you. And this is a final question, if I could. In relation to the incremental cost inflation that you expect for the year, you also talked about some more SRM actions, and obviously you still have HMM savings. So the inflation that's coming through, do you believe you can offset that with your SRM initiatives this year, such that costs are roughly offset by the SRM initiatives and plus HMM?" ] }, { "name": "Kofi Bruce", "speech": [ "So I think I'll start with just the recognition -- the environment remains dynamic on the cost side. So we are seeing cost changes moving through the system rapidly. We are at this point we do have a best call on the cost picture for the year moving up from 7% to 8%, and we've got plans to address what we can see. And the best thing I can tell you is that we are prepared to act should it change further, which is a very distinct possibility in this environment given how much we've seen it move here in the first three months of the year." ] }, { "name": "Chris Growe", "speech": [ "Just one follow-on Kofi is the incremental inflation, is that across the remaining three quarters or is it maybe depressed more heavily in say Q2, just understand how the cost -- the incremental costs run for the year?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah, so I'll give you the perspective that it is going to impact the second half of the year a little bit more heavily than the first half as you can expect given the combination of our hedge positions and where we would expect to see this exposure more heavily hit us. So that that is part of why we would give you the perspective that we see a little bit more balanced in the profit picture between the first half and the second half." ] }, { "name": "Chris Growe", "speech": [ "Okay, got it. I heard it before and understood. So thank you for that. I appreciate your time this morning." ] }, { "name": "Kofi Bruce", "speech": [ "Thank you, Chris." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Alexia Howard with Bernstein. Please go ahead." ] }, { "name": "Alexia Howard", "speech": [ "Good morning. Can you hear me okay?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes." ] }, { "name": "Alexia Howard", "speech": [ "Perfect. All right. So the first question I had was really around the -- the categories or the businesses that are holding or gaining share. I think you said that of your priority businesses you are holding or gaining share in over two thirds of those. I'm just wondering which businesses are not priority and is there an overall number for the company overall? And then I have a quick follow-up." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, I'm not going to get it down to the decimal point, Alexia, on what’s priority and not. But I would say that our priority businesses are the overwhelming majority of our businesses. So they are the most significant part. They represent the top 10 categories for us in the U.S., and our categories in Europe and Asia and Brazil, and they include all of the global categories as well as the local gems that we talk about. So it's the vast majority of our categories. And so when we say we're gaining share, you know roughly 65% or so of our categories, you can be confident that is most of our -- that is most of our categories throughout the world. And we say prioritize though because it doesn't included some, but it includes all of the biggest most important categories for us." ] }, { "name": "Alexia Howard", "speech": [ "Okay, thank you very much. And then I think you said earlier that – in answering to the question about service levels that there are certain categories where you got capacity constraints and/or ingredients issues. Are you able to just give us a little bit more color on where those ingredients issues are happening? Is it bringing things in from emerging markets? And then domestically is it capacity issues mainly because of labor or is it getting parts into the machine? I'm just trying to figure out where the pain points are from a supply chain perspective? Thank you very much, and I'll pass it on." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, I would say, Alexia, there are a couple of categories where we have supply constraints only because demand has been -- has been high for such a long time and I'll give you a Fruit Snacks as an example of that here in the U.S. where we grew share, massive amounts of share two years in a row. Demand was high. Before the pandemic, it has been high, during the pandemic, it’s certainly high right now. And so we've had to go out and add more capacity, which we're going to do later, which we signed off on a year ago and which we come to market a year, but that takes a long time to get through. So Fruit Snacks will be a great example of one of those places and desserts right now would be another example where the desserts category has been really strong for us and so we have capacity constraints.", "When it comes to -- when it comes to ingredients, it's a little bit here and a little bit there. It's not one particular ingredient all around the world. It's really a combination of small things, as I think Jon Nudi aptly described it as whack-a-mole. I mean, there is a lot of those ingredient shortage here and a little bit there and labor shortage here and truck that’s not out there and so it is not geography or category what we said, it's a little bit of everything. And from what we understand, I think probably most of our competitors and most of our retail customers are experiencing something very similar." ] }, { "name": "Alexia Howard", "speech": [ "Great, thank you very much for the color. I'll pass it on. I appreciate that. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Steve Powers with Deutsche Bank. Please go ahead." ] }, { "name": "Steve Powers", "speech": [ "Hey, thanks guys. Hey, Kofi, not to belabor it, but just to round out the comments you made thus far on cost and cadence. Can you just talk about where cost inflation ran in the first quarter relative to your call for 7%, 8% of the year? And then if possible the same thing on HMM savings relative to the 4% full year impact expectations? And then I got a follow-up, pet like, to suggest. Thanks." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. So our HMM brand roughly in line with our sort of full year forecast. And then I think as you look at cost inflation, it was a touch lower and still elevated, so not -- I don't want to get too precise. But I think it's a touch lower than we expected to be for the remaining three quarters was in the original inflation cause has relatively balanced." ] }, { "name": "Steve Powers", "speech": [ "Okay. Okay, that helps. And then, Jeff, going back to the pet treats and he Tyson brands, as you said, after a very solid strong start, can you expand just on your expectations there as you -- mainly as you plug those businesses into the Blue Buffalo go-to market model and just any context on timing as to how you see that process unfolding? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, I was. First of all I would say it's off to a strong start. I mean, you know -- what I'm really pleased with is the way that the Tyson team we inherited and the Blue Buffalo team are really working together already even if we hadn't applied it into our system. And as I indicated earlier, they are certainly a talented team that we brought over from Tyson and we feel good about that, but we haven't plugged them into our whole system yet, either our distribution system or how that -- or our omnichannel system. And so that's going to take a little bit of time. I mean, I don't have an exact date for that. The key for us is that we maintain our execution of that business because it's executing quite well on its own. While we bring it in piece by piece to some of the Blue Buffalo businesses and some things will integrate and some things we won't. And, but what I can tell you right now is that the teams are working very well together and it's – we’re only a couple of months, but we like to start we're off to. And I think once we are able to plug in some of our capabilities to this Tyson business for the strategic revenue management, which we really haven't quite done yet or Holistic Margin Management, which we haven't done yet or plug it into the sales team and have for their capabilities, we think that there is -- there's quite a bit of room for growth." ] }, { "name": "Steve Powers", "speech": [ "Okay, very good. Thank you very much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Nik Modi with RBC Capital Markets. Please go ahead." ] }, { "name": "Nik Modi", "speech": [ "Thanks. Good morning, everyone. Jeff, I wanted to ask a question about -- you've been talking a lot about whack-a-mole, which I think is pretty clear given environment. But the whack a mole seems like it's becoming more normal when you think about disruptions, weather events and labor shortage, labor issues are probably going to persist longer, issues with other countries in the U.S., and trade wars, impacted ingredient costs. So I'm just curious like -- do you think the industry in general needs to go through a mini capex surge to really appropriate the supply chains and the capabilities to make sure that they can deliver consistent results through this, that I would characterize this is going to be probably a volatile environment for many years to come?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, the -- Nik your observation that there is a volatile environment across all of the things you indicated, I think that's exactly right. What I would say is I think in environment that are difficult, General Mills has tended to perform its best and you saw that during the beginning of the pandemic. I think you see it with our first quarter release and I'm certainly hopeful that you'll see it in the subsequent quarters. And people talk about strategy all the time, but execution is pretty important. And we're executing really, really well and is because we're addressing all of the things that you just talked about.", "Now the question is how do address it. Capital may be one area, in some places automation maybe an area in some case, but I would also tell you that the coordination among your supply chain and your marketing functions and your sales functions, that's as important as adding capital expenditures or automation or things like that. And so I do believe that the challenges that we see right now I think they are the new normal for the foreseeable future. And we know what the supply chain we have and with the restructuring that we just did, which kind of addresses the holistic business here in North America, I think our chances of executing well will remain high." ] }, { "name": "Nik Modi", "speech": [ "Excellent. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Robert Moskow with the Credit Suisse. Please go ahead." ] }, { "name": "Robert Moskow", "speech": [ "Hi, thanks for the question and congrats on the results, certainly much better than I expected. I wanted to know about the hedges, Kofi. I think you said that you are about 50% hedged for the year. In the back half of the year, can I assume that, that means that you're generally like 0% hedged in the back half? And then what kinds of things do you hedge and what do you not hedge? Maybe you could remind us because like trucking, logistics costs, are those part of the hedges or is it really like just ingredients that you hedge?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure. So just -- I'll start by just a gentle correction of our hedge levels, we're at about 66%, so roughly two thirds covered on the year at our present demand and volume expectations. So I think to your question about what we cover, I think generally in ingredients on commodity side, we'll be able to hedge where there are markets on some of those ingredients that cover the key long-term contracts which gets you effectively the same thing. As we look at the logistics side, obviously we do have long haul and short haul trucking contracts in our network. Obviously, with the labor pressures, there is upward price pressure on that entire complex just as a result of the shortage of drivers to get to drive trucks, and frankly even labor, loan trucks and shipping containers on the other side. So that we are -- we have covered partially through the contracts that we have and the key is making sure that we continue to execute most of our routes on contract and we are seeing a little bit of pressure as a result of having do more sort of off contract and off network as a result of the labor shortage in the environment." ] }, { "name": "Robert Moskow", "speech": [ "Okay that makes sense. And what happens when a supplier like is late or have to charge premiums to you because of logistics challenges. Is that hedged or is that not hedged?" ] }, { "name": "Kofi Bruce", "speech": [ "Generally, no. And that is part of what I think one of the things that Jon had spoken to pretty clearly is the entire network incoming and out is under similar pressure. So that's a place where we do see some incremental operating costs in this environment." ] }, { "name": "Robert Moskow", "speech": [ "Okay, makes sense. Thanks for the clarity." ] }, { "name": "Kofi Bruce", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Our next question is from Jonathan Feeney with Consumer Edge. Please go ahead." ] }, { "name": "Jonathan Feeney", "speech": [ "Good morning. Thanks very much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Jon." ] }, { "name": "Jonathan Feeney", "speech": [ "In the years before the pandemic, I had the pleasure of covering some of the retailers too as well as the food and it seem conversation was relentlessly data versus relationships, it was all about elasticity and private label shares and retailers getting smarter, omnichannel creating more data, and it basically forcing retailers to change their shelf sets more frequently based on all this, maybe more quantitative factors than qualitative and -- but in the past six months it seems like there is this narrative in the industry that it seems that retailers are unhappy with case fill rates, it's difficult and the industry pricing wise like -- that was a very good performance to have a minor relative performance, to have a minor gross margin decrement year-over-year, but some others are much worse. It feels to me like the pendulum has swung and now it's -- well that data is less important. I mean, elasticities to your point earlier excellent, private label shares are in free fall in most of these categories. I mean, supply is short, you would think if this is where you look at the inflation's of that, I lived through in '07 and 2011, like these kinds of indicators would have suggested dramatically more pricing protecting it, maybe even expanding gross margin on a two-year basis certainly versus pre-pandemic levels and better utilization, etc. So, I guess I wanted your comment about -- is that -- am I wrong about the analytics, first of all? Is that right about that kind of pendulum and the conversation between you and your retail customers. And do you think that in a more normal environment swings back to where, Hey more people buying your products, elasticities are good and I suggest more pricing power over time? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "I guess, Jonathan, let me take a crack at that overview and then Jon Nudi to the extent you want to add on. When I think about the data versus relationships when it comes to retail customers, I think about it the same way as I think about brick and mortar retail and e-commerce, which is at the end, and especially in food where -- yes, we have e-commerce, 85% of our e-commerce goes through stores. So you need to be good at e-commerce and you need to be good at the physical distribution of our product as well, which is why we talk about connected commerce. The same is true of what we're going through with retail customers right now. Yes, data is important, it will be coming -- it will remain important. Data keeps getting better for our retailers. It keeps getting better for us, that will certainly play a role, but you only trust the data of people you actually trust and so the retail relationships we have are also important because as we go to market and talk about what's going on in the environment, we need to make sure we have those relationships. So they are both important.", "As we think about elasticity of demand, we'll see -- we're kind of an uncharted territory, to be honest with you. And that's why all elasticity models are always based on historical data, which is useful to a point, but only to a point. And that's why I made the commentary earlier about we're seeing -- we're seeing inflation broadly not only across our products but also across restaurants as well and that's why I made the comment about service levels at restaurants and the ability to get labor because it seems like in that environment it feels like elasticity should hold up pretty well and they have so far, but we'll see what is to come. Jon Nudi, anything you want to add on either of those topics?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah, I mean, I think that's well said. The only thing I would add is I think prior to the pandemic there was a narrative that big brands were challenged and I would say -- first of all consumers like our brands and we continue to build them, innovate and build our brands and that's worked for us. The other thing I would say is for retailers. There's power in having scale, so they can – a retailer can make a call to us and we operate across 25 different categories in the U.S., and that's helpful in the supply chain side. We can work in all those categories and really drive scale and make sure that we're operating well to service their shelves. And the same time, we can focus on capabilities, whether that be connected commerce and digital marketing or e-commerce. So I think retailers are recognizing and have recognized that having powerful partnerships with some big manufacturers is beneficial to them, those three months of work, it's good for us and it's good for them as well." ] }, { "name": "Jonathan Feeney", "speech": [ "Thanks, very helpful answers. I appreciate it." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And speakers our final question for today will be from the line of Rob Dickerson with Jefferies. Please go ahead." ] }, { "name": "Rob Dickerson", "speech": [ "Great, thanks so much. So just a quick question kind of to dissect category dynamics a bit. Obviously, elasticity kind of remains just unknown, but seems as if, maybe there is encouraging light at the end of the tunnel, so to speak. At the same time though you're seeing food at home demand remains a bit elevated, but then we also see either Cereal Meals and Baking decline a bit, which obviously isn't shocking relative to the year ago quarter. I'm just curious as you sit down and you think about the guide, any you dissected category to category, is it fair to say as we move forward over the next few quarters or so or as mobility increases that it's rational to think that maybe Meals and Baking and Cereal is still a bit more pressured relative to kind of still with COVID rate versus snack to maybe the snacking part of the portfolio actually continued to perform despite shifts in mobility? So that's the first question. Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, I would guess, I would say, Rob, that broadly speaking -- I mean all of our categories are up -- was over where they were a couple of years ago and -- and at the same time you're right, as consumers get to be more on the go, categories are more on the go have -- we've seen an uptick in those and for our, that's our bars category, for example. And whether that's in Europe or whether that's in U.S., we've seen the same kind of trend. But I think importantly, either whether you look at Baking or whether you look at Cereal, I mean the trends versus a couple of years ago are pretty good and the ones for on the go categories are improving as you suggest. Jon Nudi anything you want to add to that commentary?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "No, I think you had it. I mean, obviously it's dynamic, and when we compete in as many categories as we do and there's a lot of moving parts and one of the things that Jeff has really stressed since he has been CEO is that we want to compete effectively in all the categories we compete in, and so that's what we're really focused on. And obviously, just that snacking has really rebound and we're seeing good growth there. And there is big important categories like Cereal, where again over a two-year basis we are growing, which is great. And we think there's some dynamics of kids getting back to school and focus on convenience. We'll see that category continue to accelerate, which we sell in August. So we like how we're competing probably in the U.S., we've grown share and grew to 50% of our business in Q1 and we've done it for four years in a row. So, again this wasn't just a pandemic-driven performance. We like the way that we're competing and we'll continue to focus on as we move forward." ] }, { "name": "Rob Dickerson", "speech": [ "Okay, perfect. Thank you. And then just quickly, I think in the prepared remarks you stated that it's an ongoing process in your search for potential go forward acquisitions, but then also potential divestment. So I guess just very broadly speaking now that we have sort of timeline on yogurt divestment, would you say you're kind of like largely done with that, that's the piece of the portfolio optimization efforts or are you always looking, let's say, and specifically looking at certain pockets that could still be up for divestment potential? Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, well I guess, I mean, what I would say is that we're looking to close the related [Phonetic] transaction at the end of this year and we just closed an acquisition with Tyson, so we feel good about those things. I would view our portfolio shaping as kind of an always-on capability. I mean, similar we view strategic revenue management, used to be episodic until we made it always on and the same will be true with our portfolio shaping. I'm really proud of what we've done in our base business, not only this quarter, but the last few years. But it's also clear to me that we need to do that and continue to reshape our portfolio and some of that will be through acquisition and I think this Tyson acquisition is a great, a great example of that.", "And to the extent that we think that the investments are better spent in priority category versus those that aren't as prioritized, we'll look at additional divestment opportunities as well, and so we'll continue to compete effectively in the categories we're in and we'll continue to look for M&A opportunities. I think one of the things that I have been most pleased about over the last couple of years is that we've been able to do both effectively, and whether it's the start of Tyson or the way we've done with Blue Buffalo, we're keeping our eye on the ball as we've divested Yoplait, we've done all of that. And so there are some companies you can see that, but I feel good about that combination for us and we'll continue to look at that into the future." ] }, { "name": "Rob Dickerson", "speech": [ "All right. Super. Thanks so much, guys." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And speakers, I'll return the call back to you, you may continue with your presentation or closing remarks." ] }, { "name": "Jeff Siemon", "speech": [ "Great, thanks so much. We are going to wrap up there. Thank you, everyone, for the time and good questions this morning. If you do have follows-ups, please feel free to reach out to me throughout the day. Otherwise, we look forward to speaking with you again next quarter. Thanks so much." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
GIS	2017-12-20	[ { "description": "- Vice President of Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "- Chairman and Chief Executive Officer", "name": "Jeff Harmening", "position": "Executive" }, { "description": "- Chief Financial Officer", "name": "Don Mulligan", "position": "Executive" }, { "description": "- President of North American Retail", "name": "Jon Nudi", "position": "Executive" }, { "description": "- Stifel -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "- Wells Fargo -- Analyst", "name": "John Byrne", "position": "Analyst" }, { "description": "- JPMorgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "- Morgan Stanley -- Analyst", "name": "Matthew Grainger", "position": "Analyst" }, { "description": "- Citi -- Analyst", "name": "David Driscoll", "position": "Analyst" }, { "description": "- Consumer Edge Research -- Analyst", "name": "Jonathan Feeney", "position": "Analyst" }, { "description": "- Jefferies -- Analyst", "name": "Akshay Jagdale", "position": "Analyst" }, { "description": "- UBS -- Analyst", "name": "Steven Strycula", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Ladies and gentlemen, thank you for standing by, and welcome to the Second-Quarter Fiscal 2018 Earnings Conference Call. During the presentation all participants will be in a listen-only mode. Afterwards we'll conduct a question-and-answer session. At that time, if you have a question, please press the 1 followed by the 4 on your telephone.", "If at any time during the conference you need to reach the operator, please press * 0. As a reminder, this conference is being recorded Wednesday, December 20, 2017. I would now like to turn the conference over to Jeff Siemon, vice president of investor relations. Please go ahead, sir." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Sarah, and good morning to everybody. I'm here with Jeff Harmening, chairman and CEO; Don Mulligan, our CFO; and Jon Nudi, president of our North America retail segment, and I'll hand the call over to them in a moment, but before I do, I'll cover our usual housekeeping items. A press release on our results in the second quarter was issued over the wire services earlier this morning, and you can find the release and a copy of the slides that supplement our remarks this morning on our Investor Relations website. I'll remind you that our remarks will include forward-looking statements that are based on management's current views and assumptions.", "And the second slide in today's presentation lists factors that could cause our future results to be different than our current estimates. And with that, I'll turn you over to my colleagues, beginning with Jeff." ] }, { "name": "Jeff Harmening", "speech": [ "Thank you, Jeff, and good morning, everyone. Thank you for joining us today to discuss our second-quarter fiscal 2018 results. Our biggest challenge entering 2018 was to change the momentum on our top line, and I'm pleased to say that we have delivered broad-based improvement in the second quarter across geographies, product platforms, and channels. We're executing better, we have stronger innovation, more effective brand-building, and better merchandising that's driving market share gains in the majority of our key global platforms.", "We're doing aggressively in key emerging channels like e-commerce, and I'm also pleased to say that we grew organic sales in absolute terms across all four of our operating segments this quarter, and, while we like our momentum, I must say it feels great to grow again in absolute terms. While we like the momentum we're building on our top line, we also know we have work to do to deliver the year. Our second-quarter total segment operating profit was improved over the first quarter, but still down over a year-over-year. We have concrete plans in place to deliver strong profit growth in the second half of the year while continuing to drive our top line.", "So with two quarters behind us and good visibility to our back half plans, we are raising our organic sales outlook for the year and maintaining our guidance for the profit and EPS growth. With that as a summary, let me turn it over to Don Mulligan to provide more details about our second-quarter performance." ] }, { "name": "Don Mulligan", "speech": [ "Thanks, Jeff. Let's break into our financial results on Slide 6. Net sales totaled $4.2 billion in the quarter, up 2% as reported. Organic net sales increased 1%.", "Total segment operating profit totaled $773 million, down 8% in constant currency. Net earnings decreased 11% to $430 million and diluted earnings per share declined 8% to $0.74 as reported. These results included a $42 million charge related to a prior-year tax adjustment. Adjusted diluted EPS, which excludes the tax charge and other items affecting comparability, was $0.82, down 5% on a constant-currency basis.", "Slide 7 shows the components of total company net sales growth. Organic net sales increased 1% in the second quarter, driven by sales mix and net price realization. Foreign currency translation yielded a 1 point benefit to total net sales. Second-quarter adjusted gross margin decreased 240 basis points and adjusted operating profit margin was down 220 basis points as expected, driven by higher input cost, including currency-driven inflation on imported products, unfavorable trade expense phasing, stronger seasonal merchandising performance, and a 7% increase in media expense.", "These were partially offset by savings from cost management activities. As we look ahead, there a few key drivers that will strengthen our adjusted operating profit margin from the low 17% range in the first half to more than 18% in the second half. First, we expect to drive positive net price realization and mix across all four segments, driven by trade phasing, pricing in certain geographies, and improved sales mix; second, our cost savings will accelerate as our global-sourcing initiative ramps up; and third, we expect input cost inflation to moderate a bit after peaking in the second quarter. For the full year, having increased our sales guidance and maintained our profit guidance, we now expect our adjusted operating profit margin to be below last year due to a higher input cost outlook, more negative transaction FX impact, some incremental investment we've chosen to make in our differential growth platform to accelerate their growth in fiscal '19, and favorable translation FX helping sales more than operating profit.", "Slide 10 summarizes our joint venture results in the quarter. CPW net sales declined 2% in constant currency due to volume declines in the U.K. partially offset by strong performance in Asia, Middle East, and Africa region. Häagen-Dazs Japan constant-currency sales were 3% below a year-ago period, when net sales grew 21% in constant currency.", "On a year-to-date basis, constant-currency net sales were up modestly for CPW and up 4% for Häagen-Dazs Japan. Combined after-tax earnings from joint ventures totaled $24 million in the quarter compared to $30 million a year ago, driven by lower volume and higher input costs for CPW, and a comparison against 27% constant currency after-tax earnings growth last year. Slide 11 summarizes other noteworthy income statement items in the quarter. We incurred $6 million in restructuring and private related charges in the quarter, including $5 million recorded in cost of sales.", "Corporate and allocated expenses, excluding certain items affecting comparability, increased by $17 million. Net interest expense was down 1% versus prior year, and we continue to expect full-year interest expense will be flat to last year. The effective tax rate for the quarter was 35.9% as reported, compared to 32.8% a year ago, driven by the prior-year adjustment I mentioned earlier. Excluding items affecting comparability, the tax rate was 29.3%, roughly in line with our full-year expectations, and 310 basis points below last year's quarterly rate due to favorable impact from discrete foreign items.", "We continue to expect our full-year adjusted effective tax rate will be in line with last year. At this point, we have not incorporated any estimate of the impact of U.S. tax reform legislation into our guidance. And average diluted shares outstanding declined 3% in the quarter.", "We now expect shares to be down approximately 2% for the full year. Turning to our first-half financial performance. Net sales of $8 million were down 1% as reported and on an organic basis. Segment operating profit declined 12% in constant currency, and adjusted diluted EPS was down 6% as reported and 7% in constant currency.", "Turning to the balance sheet. Slide 13 shows that our core-working capital decreased 42% versus last year's second quarter, with benefits from our terms extension program more than offsetting higher accounts receivable. First-half operating cash flow totaled $1.6 billion, up 45% over the prior year, driven by continued improvements in accounts payable as well as changes in trade and incentive accruals. Year-to-date capital investments totaled $260 million, and through the first half of the fiscal year, we returned over $1.1 billion to shareholders through dividends and net share repurchases.", "As we turn our attention to the second half of fiscal '18, we expect to continue to drive strong seasonal merchandising performance as the soup and baking key seasons extend through the third quarter. We have an excellent back-half innovation lineup, and we expect our new product sales will continue to outpace last year. We anticipate favorable price mix across each operating segment. We expect input cost inflation to moderate in the second half and cost savings to accelerate with the largest benefit coming in the fourth quarter.", "As a result, we're targeting strong growth in segment operating profit and adjusted diluted EPS in the second half. Importantly, given the seasonal merchandising in the third quarter, cost savings ramping up in the fourth quarter and some shifts in below-the-line items, we expect growth in SOP and EPS to be more heavily weighted to the fourth quarter. To close my portion of our remarks by updating fiscal '18 guidance. Namely, we now expect organic net sales growth to be in the range between flat and down 1%.", "This translates to a 300- to 400-basis-point improvement over our fiscal '17 performance. In addition, we now estimate currency translation will increase reported net sales by approximately 1 percentage point for the full year. We continue to project total segment operating profit growth to be in a range between flat and up 1% on a constant-currency basis. As I said, we now expect adjusted operating profit margin to be below last year's levels.", "We continue to expect adjusted diluted EPS will increase between 1% and 2% in constant currency. As I mentioned earlier, this outlook excludes any impact from proposed U.S. tax reform legislation, and we continue to estimate foreign currency will have a $0.01 favorable impact to full-year adjusted diluted EPS. With that, I'll turn it over to John for an update on our North American retail performance." ] }, { "name": "Jon Nudi", "speech": [ "Thanks, Don. Good morning, everyone. I appreciate the opportunity to give you a deeper dive into our North America retail segment. I'm proud to lead this team.", "We have great people, we're moving with urgency, and we're operating differently than a year ago, and I think you can begin to see that translate into our performance. The key messages from North American retailers this quarter are similar to headlines for our total company. We're driving broad-based top-line improvement, with organic sales slightly positive, amounting to flat in the quarter. Our profit was down this quarter but improved sequentially over the first quarter, and we've clear initiatives that will deliver profit growth in the second half.", "We're executing well against our fiscal '18 priorities, and we have strong back-half plans in place to maintain our trajectory. Looking at the financial results from the second quarter, organic net sales from this segment were up just under 0.5%. U.S. cereal posted 7% net sales growth, which was ahead of Nielsen-measured retail sales due to non-measured channel growth, strong selling for Chocolate Peanut Butter Cheerios, and other quarterly timing shifts.", "Fiscal year-to-date, U.S. cereal net sales and retail sales were each roughly flat to last year. U.S. snacks net sales increased 5% in the quarter, with growth on Lärabar, Nature Valley, and fruit snacks, partially offset by declines in Fiber One.", "Canada net sales were up 1% in constant-currency and net sales for the U.S. meals and baking operating unit were down 2%. U.S. yogurt net sales declined 11%, an 11-point improvement over the first quarter, driven by continued declines on light and Greek varieties, partially offset by excellent innovation and news on core established brands.", "Segment operating profit declined 5% in constant currency in the quarter, driven by higher input costs, unfavorable trade phasing, and increased advertising and media expense, partially offset by favorable product mix and benefits from cost savings. We've driven sequential improvement in U.S. retail sales since beginning of the year. In fact, our second-quarter retail sales trends are almost 700 basis points better than the fourth quarter of last year, and our improvement is driving better results for our categories.", "We saw retail sales turn positive in measured channels in the second quarter. And it's not just a couple of businesses driving this trend: Our retail sales trends are better in eight of our nine largest U.S. categories, and we've had absolute retail sales in dollar share growth in this quarter on six of these nine businesses. Not only are these trends broad-based, they're high quality.", "We've increased our brand-building investment this year and we've been leveraging new campaigns on some of our biggest brands. Generated by new creative agencies, we're taking a fresh approach to consumer messaging. For example, new campaigns on cereals, Nature Valley, and Pillsbury are helping drive baseline sales improvements by as much as double digits through these brands since the end of last year. We're also seeing benefits from an increased focus on innovation, with retail sales from new products up more than 50% this year, driven by successes like Oui by Yoplait and Chocolate Peanut Butter Cheerios.", "In total, our second-quarter baseline sales trends in the U.S. improved by over 600 basis points relative to the fourth quarter of 2017. That represents more than 75% of our overall improvement in Nielsen-measured channels. We're also driving better merchandising performance this year.", "Our display support, which is the most effective merchandising vehicle, was up double digits in the quarter. And when you have good brand-building support and strong innovation, you're merchandising works even harder for you. It's important to note that we're maintaining discipline in our pricing in the market. Average unit prices for our overall U.S.", "portfolio were up 5% in the first half. However, three-quarters of that increase was due to significant mix impacts from our yogurt business. Excluding yogurt, average yield prices from the rest of our portfolio were up 2% in the first quarter and about 0.5% in the second quarter. The quarterly change was driven in part by moving into the zone on our soup and refrigerated dough businesses, where our seasonal prices were lower than last year but still higher than two years ago, as we had planned.", "As we look ahead to the second half of fiscal '18, remember that our Nielsen pricing metrics will compare against periods last year on an aggregate U.S. pricing was up 5% or more. We're also driving stronger results in growing channels, including exceptional performance in e-commerce. Our U.S.", "e-commerce business grew 82% in the first half of the year, and we still enjoy higher market shares in online full-basket purchases, compared to shares in bricks-and-mortar channels. We're excited about the opportunity that e-commerce provides, and we'll continue to develop our insights and capabilities to keep our business in an advantaged position in the emerging channel. With that as a backdrop, I thought I'd briefly check in on the segment priorities I shared on our Investor Day in July to give you a preview of the product news and innovation that will drive results in the back half of 2018. Our top priority in North America retail is to drive improved performance in U.S.", "cereal, and I'm happy to report that we're achieving that goal through six months. We've seen a strong turnaround in performance in measured channels this year, with retail sales growth in the second quarter, and we've gained 70 basis points of market share through the first half. Four of our largest [Inaudible]-oriented cereals, which make up over one-third of our portfolio, are driving our performance this year. Year-to-date, retail sales for Lucky Charms and Cocoa Puffs were each up 14% while Cinnamon Toast Crunch and Reese's Puffs are up 8% -- and don't call them kids' cereals because roughly half the consumption on these brands is by adults.", "Compelling consumer news has been the theme across these brands, whether that's new marshmallow news each quarter on Lucky Charms or cinnamon news on Cinnamon Toast Crunch, which has driven 43 consecutive months of market-share gains for the brand. We're planning to extend our cereal momentum in the second half, behind some exciting innovation and impactful marketing executions. Chocolate Peanut Butter Cheerios, which launched in October, is off to a great start and is turning at the top of the category. We'll continue to fuel this new product in the second half of strong [Inaudible] the quarter.", "In January, we're going to be launching two new Blasted Shred cereals in peanut butter-chocolate and Cinnamon Toast Crunch flavors, in an effort to invigorate the $400 million Shredded Wheat segment by delivering us a tidy and taste. And we'll tap into the fast-growing nut butter trend, with new almond butter and peanut butter varieties of our Nature Valley Granola cereals. We're supporting these launches as well as the rest of the portfolio with remarkable marketing and merchandising. I'm probably most excited about our Cheerios merchandising initiative with the Ellen DeGeneres show that begins in January.", "We're running an [Inaudible] sweepstakes, where consumers share an act of good they've demonstrated for us to win two prizes: one for themselves and one to share with another person as an act of good. The sweepstakes will be announced on the show next month. Now let's shift gears to our second priority, which is reshaping our U.S. yogurt portfolio by innovating the faster-growing emerging segments of the category.", "Our 2018 yogurt innovation has been tremendously successful thus far, led by Oui by Yoplait, which already makes up almost 10% of our U.S. yogurt portfolio. Oui's glass jar and unique positioning really stand out on shelf, which has helped drive strong consumer trial, and we're seeing an acceleration in repeat purchases. Retailers love Oui because it is driving more sales from current consumers and attracting new yogurt buyers.", "Through the first four months on shelf, Oui is the largest launch in the category over the past five years, and Yoplait Mix-Ins, targeted toward traditional yogurt lovers looking for great-tasting snack options, has been the second-largest launch in the category this year. While innovation is critical to our U.S. yogurt strategy, it's also critical that we stabilize our two large core platforms in Kid Yogurts and Original Style Yoplait. This year, we adjust our biggest consumer [Inaudible] Go-Gurt franchise by making the tubes easier to open.", "Consumer investment communicating this change is driving improvement on the Go-Gurt business, with retail sales nearly flat in the second quarter. We're also investing in advertising for our Original Style Yoplait, featuring our Mom On campaign, where we celebrate hard-working moms and show her how Yoplait fits into her busy life, and we've seen sales trends improve here as well over the last few quarters. We have plenty of news to drive further improvement on yogurt in the second half. On Oui, we're launching four additional flavors in January: raspberry, key lime, mango, and blackberry.", "We're also launching a new line of Annie's pouch yogurts. We make this product using organic whole milk and four flavors, that combine fruits and vegetables, with no added sugar. Fruit is the hero in the traditional yogurt segment. Nearly 50% of shoppers would like more.", "So we're giving them what they want and adding more fruit to our Original Style Yoplait. We're updating the package to communicate the change, and messaging the change on TV and digital advertising. We've also see a [Inaudible] opportunity in the traditional yogurt segment, maybe we can bring more consumers to the shelf with a decadent, whole milk, and real fruit offering. Our new fruit sideline shows off its indulgent ingredients with clear packaging and it's priced at $1 to maintain broad appeal.", "We know there's still a long way to go on U.S. yogurt, but we like the direction we're heading and we think the combination of our first-half improvements and our back half-news will help us cut our declines to single digits by the end of the year. Our third party in North American retail this year is driving differential growth on Totino's hot snacks, Old El Paso, and snack bars. I would say we've generated good growth so far this year, with low single-digit retail sales increases across each of these large platforms.", "On Totino's hot snacks, we have a full slate of consumer support planned for the back half, targeted toward a millennial male consumer. We're bringing to life our \"Live Free, Couch Hard\" campaign in time for Football championship season, by inviting consumers to show us how they couch hard. We're supporting the campaign with football-themed in-store merchandising, and we'll continue to run advertising on digital and TV throughout the year. For Old El Paso in the second half, we're accelerating our in-store activations.", "We'll again partner with Avocados from Mexico, which is one of our largest merchandising events of the year, and we're bringing taco-truck merchandising displays to key retailers. And we'll continue to support the business with our Anything Goes and Old El Paso campaign. Growth on our snacks bar business has really been a tale of two stories, with strong growth for Nature Valley and Lärabar, offsetting declines declines on Fiber One. Retail sales for Nature Valley were up double digits so far this year, helped by new advertising on our core and excellent performance on our new nut butter biscuits and granola cup platforms.", "And Lärabar continues to deliver 30% retail sales growth behind strong distribution growth and investment behind its food mix and food campaign, which will continue in the back half of the year. The story on Fiber One is more challenging, and we're working hard to improve performance by refocusing our messaging on our core consumer and renovating our products and packaging to return to Fiber One's core role, permissible indulgence, and though retail sales were still down sharply in the first half, driven by reduced distribution, base sales per point of distribution have turned positive, which is a good indicator of future trends. We're working to rebuild the innovation pipeline on Fiber One, including the launch of eight new items in January, featuring four flavors of Fiber One bites, and we're supporting these launches with our all-mind TV and digital advertising. We have some great new indulgent offerings on Nature Valley as well.", "Consumers are looking for indulgent treats made from real food, so we're introducing layered bars that have a triple layer of nut butter, granola with nuts, and chocolate, and we're launching soft-baked filled squares that combine whole-grain oatmeal bars with creamy peanut butter filling. We'll support these launches with TV, social media, digital coupons, and merchandising. With winter in full swing here in Minneapolis, I thought I'd share a quick update on our performance so far in the key soup and baking seasons. We're back in our game on -- in soup this year.", "Retail sales for Progresso are up 2%, and we've gained a 0.5 point of share in the category two months into soup season, with strength across our core registered business, including new Progressor Organic. Retail sales for our Betty Crocker dessert mixes were up a half-percent since October, and we gained over a point of share behind strong in-season support and good performance from our core segments. And on Pillsbury refrigerated dough, our results improved over last year's key season, but we're still not where we want to be. Our new media campaign, \"Made at Home,\" is driving better baseline sales and we have stronger merchandising plans this year.", "Retail sales declined 1% in the first two months of key season, but we're seeing month-by-month improvement and we posted growth in November. Our final priority for this year is to expand our national organic portfolio, and we're seeing good results here too, particularly on three of our largest businesses: Mac & Cheese, cereal, and fruit snacks. We've generated year-to-date market-share gains across each of these categories due to strong customer engagement, distribution expansion, and in-store support, and we'll continue those efforts throughout the second half to continue to drive growth on our national organic portfolio. I'll close by summarizing my key messages from North American retail today.", "We're seeing broad-based, high-quality improvement on our top-line trends, including organic sales growth in the second quarter. Our profit performance is improving, and we have clear initiatives that will deliver profit growth in the second half. We're making progress on our fiscal '18 key priorities, and we have strong back-half plans in place to maintain our trajectory. For the full year, we now expect organic sales to be down 1% to 2%, which is 100 basis points better than our original guidance, and we expect segment operating profit growth on a constant-currency basis.", "With that, I want to thank you for your time this morning, and I'll hand it back over to Jeff." ] }, { "name": "Jeff Harmening", "speech": [ "Thanks, Jon. I'll cover second-quarter performance for all of the three segments. In convenience stores and foodservice, second-quarter organic net sales were up 5%, driven by mid-single-digit growth for the Focus six platforms and benefits from index pricing on bakery flour. Within the Focus six, innovation drove strong double-digit growth on frozen meals, including new frozen breads and stuffed crescents in K-12 schools, and new stuffed waffle in convenience stores.", "We also generated good growth on cereal in the foodservice channel. Segment operating profit was down 2% in the quarter, driven by higher input costs. Looking ahead to the second half, we expect to continue driving good performance on frozen meals, led by strong demand in K-12 schools for our healthy, delicious and easy-to-prepare meal solutions. And we like the prospects for our stuffed waffle, which meets many C-store's consumer desires for convenience and great taste.", "We've also seen our snacks business strengthen in C-stores recently, and we'll build on that success with support for Gushers and Nature Valley Granola Cups. And finally, we expect further growth on cereal in the back half, including our successful granola offerings in colleges and universities. Turning to Europe and Australia. Organic net sales were up 1% in the second quarter.", "We gained market share across our seven largest Häagen-Dazs markets, driven by innovation on stick bars and mini sticks, new packaging on our prime business, and investment behind the new advertising campaign. Our performance on yogurt improved behind new product innovation, focusing on a combination of simple ingredients and great taste. In the U.K., we leveraged our learning from Canada to drive 25% growth on Liberte, and in France, we found success with our Triple Sensations launch. On snack bars, innovation and increased distribution drove double-digit retail sales growth across the segment, including in the U.K., our largest snacks bars market.", "Segment operating profit totaled $27 million in the quarter compared to $41 million a year ago, primarily driven by significant raw-material inflation and currency-driven inflation on products imported into the U.K. As we look at the back half, we expect Häagen-Dazs and snack bars will lead the segment's growth. It's summer in Australia, and we're looking to build on our successful Häagen-Dazs launch last year by driving the brand's consumer awareness through media, sampling, and consumer promotions. On Fiber One snack bars, we'll leverage our diet season playbook to reach consumers who are looking for an indulgence that doesn't break their New Year's resolution.", "In our Asia and Latin American segment, second-quarter organic sales matched year-ago levels, with growth in Asian markets offset by declines in our Latin American markets. In China, we had our strongest Häagen-Dazs mooncake season in four years, behind new flavors and improved marketing. Our Wanchai Ferry business strengthed behind our innovation and marketing of our core shrimp dumpling line, and we continue to expand distribution for Yoplait yogurt. We also posted excellent growth on our snacking platform in India and the Middle East.", "While our Latin America business improved from the first quarter, net sales were still below last year due to continued challenges related to our enterprise reporting system integration in Brazil, as well as the impact of natural disasters in the Caribbean and Mexico. Segment operating profit decreased to $17 million in the quarter compared to $29 million a year ago, reflecting currency-driven inflation on imported products and increased media and advertising expense. We have an exciting lineup of news planned across Asia in the second half of this year. There is strong demand for premium yogurt in China, so we're expanding our Perle de Lait line with two new flavors created specifically for our Chinese Yoplait consumers, matcha green tea and red bean, and we'll have more news to share on [Inaudible] innovation in coming months.", "For Häagen-Dazs, we're introducing two new flavors of our limited edition fruits and flower line. We'll continue to roll out our global packaging design, and we're launching new green tea and red bean flavors on our popular Häagen-Dazs mochi line. In addition, we have some important snack bar launches across the segment, including new Pillsbury pastry cakes in India and Nature Valley Crunchy single bars across Asia, which better align with Asian consumers' preferred sizing and price point expectations. Before I close, I wanted to provide a brief update on the four key growth priorities for fiscal 2018 that we outlined back in July: first, our momentum is building on cereal, and I like our chances to grow cereal globally, including CPW this year; second, while there's still work to do, we've made significant progress on improving our U.S.", "yogurt business through innovation, thanks to the great Oui and Yoplait Mix-Ins; third, we're shifting resources toward our differential growth platforms. As Don mentioned, we've added an investment on these platforms this year to accelerate growth -- to accelerate growth in fiscal 2019; and fourth, we're in the zone for soup and baking seasons, and we expect our performances on those businesses will be much improved versus last year. With that, let me summarize today's key messages. We delivered high-quality, broad-based improvement in our net sales performance this quarter, with organic sales growth in absolute across all four operating segments.", "We drove sequential improvement and operating profit in the second quarter, and we have clear plans in place to deliver profit growth in the back half of this year. And with six months in the books and visibility to the impact of those second-half plans, we're raising our 2018 organic net sales guidance and maintaining our outlook for total segment operating profit and adjusted diluted EPS. And now we'll open up the call for questions. Operator, will you please get us started?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. Ladies and gentlemen, if you like to register for a question, please press the 1 followed by the 4 on your telephone. You'll hear a three-tone prompt to acknowledge your request. If your question has been answered and you'd like to withdraw your registration, please press the 1 followed by the 3.", "If you're using a speakerphone, please lift your handset before entering your request. One moment please for the first question. And our first question comes from the line of Chris Growe with Stifel. Please proceed." ] }, { "name": "Chris Growe", "speech": [ "Hi, good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning, Chris." ] }, { "name": "Chris Growe", "speech": [ "Good morning. So I just had a question for you in relation to this pretty significant shift you're going to see in margin for the second half of the year and you got a pretty significant improvement built-in. You obviously have some trade-phasing benefit coming in later in the year -- sorry the trade-accounting benefit. But your trade, I think you said would be higher in the third quarter.", "And I know that cost savings are picking up and inflation is coming down. When I put it all together, I'm trying to understand, especially into the third quarter, how that gross margin's going to pick up significantly or should it be more fourth-quarter weighted? And then overall for the year, as you think about gross margin, how much could that be down? Are you going to give any kind of color around the amount of gross margin decline for the year?" ] }, { "name": "Don Mulligan", "speech": [ "Sure. OK, good. This is Don. Many questions rolled into that but I'll try to answer.", "If I don't, let me know. First on the gross margin, as we said in the second quarter, of the operating margin, more broadly [Inaudible]. The key drivers in the second quarter were [Inaudible] costs, including transaction FX, unfavorable trade phasing, and we kind of went into the accounting behind that last quarter, so I won't go down that again. But that will -- that impacted the quarter, as we expected.", "Again, charge seasonal merchandising and we had increased media expenses and that was partially offset by costs. If you look at the back half, we -- again, strengthen from the low-17% than we saw in the first half, more than 18% in the second half. And the primary drivers are going to be positive price mix on all four [inaudible], and that's driven reported results by trade phasing, reversing, improved sales mix and pricing, as we mentioned, in certain geographies. Our cost savings will accelerate as those -- -as our goal sourcing issue ramps up and the input cost inflation will moderate.", "So [inaudible] for the full year was higher than we expected but will moderate in the second half after peaking in the second quarter. Those are the drivers. You see your question on the phasing, it will take more than the fourth quarter. And the reason for that is that the merchandising activity obviously carries through the third quarter.", "As I mentioned, the global sourcing savings ramp up in the fourth quarter. The largest impact, one of the things we talked about at the beginning of the year, was our incentive -- we began reducing our incentive accrual last year primarily in the third quarter so we'll see that impact, that year-over-year impact, drag in the third quarter will limit the growth in margins. And then the below line, where I think the EPS is tax rate. The tax rate will be a negative comp in Q3 and a positive in Q4.", "There's a number of factors that will skew the margin to the fourth quarter and the one tax item that will skew the EPS for the fourth quarter." ] }, { "name": "Chris Growe", "speech": [ "OK. That was helpful. Sorry. So just a quick follow-up then would -- be in relation to you've had a couple of food industry competitors tear down some larger scale acquisitions recently and seems like they're really heavily focused on growth of these acquisitions.", "I'm just curious. You're very internally focused right now. You've got a lot going on at General Mills. Is that -- these acquisitions that would be of interest to you? I mean, more from a high-level, growth oriented acquisitions or maybe you can comment, perhaps, on your pipeline of acquisitions or how you're looking at that today for General Mills?" ] }, { "name": "Jeff Harmening", "speech": [ "Yes, so, Chris, this is Jeff Harmening. What I would say is that first, we don't feel pressure to do M&A just because all the other kids are doing it. So -- and we don't really think that scale for the sake of scale is what's important. We think that having leading positions in good categories is really what drives growth.", "Having said that, what I will say is that a couple of things: One is that M&A is part of our growth strategy. The first piece, and most important piece of that, is being competitive in the markets we're currently competing in; the second piece is then accelerating in some certain categories; and then, the third piece is M&A itself. So we think M&A has a role in our growth strategy going forward but it's one of three pieces. The most important and the foundation of being which is being competitive in our own categories.", "To that extent, what I will also tell you is that, I'd say we're increasingly confident in our ability to execute M&A as part of this broader strategy. And really, for three reasons: The first is that we're increasingly confident in execution on our base business. And internally, we talk about that all the time, that being competitive, where we are, kind of, gives us a better foundation to build upon, whether that's accelerating in other categories or whether that's M&A, so we're feeling increasingly confident about that as hopefully the second quarter results start to show; the second is that, whether it's Annie's or Epic or our Carolina yogurt business, which we've acquired recently, one of the things we feel good about is that we've demonstrated our ability to grow growth businesses, and in the case of Annie's, we've actually accelerated that growth. And we've been able to use our internal capabilities effectively in order to do that.", "And so, we feel good about our base business. We feel that -- we feel good about our ability to grow businesses. And with a lot of our restructuring behind us, we're -- we feel like our ability to integrate businesses will certainly be improved; and then third, look, we have the financial capacity to execute against M&A. Our cash flows are really good, Don and his finance team have done a really nice job with working capital.", "And to the extent we can grow our profitability in the back half of the year, which we feel good about. We've got a good cash flow. So we feel good about our base business, increasingly good, and our ability to execute that. We feel good that we've been able to grow businesses -- growth businesses, and we have the capacity.", "So and M&A would be an important component of our growth but it's only one of the three." ] }, { "name": "Chris Growe", "speech": [ "OK. Well, thank you and and happy holidays." ] }, { "name": "Jeff Harmening", "speech": [ "Happy holidays. Thanks, Chris." ] }, { "name": "Operator", "speech": [ "Thank you and our next question comes from the line of John Byrne from Wells Fargo. Please proceed." ] }, { "name": "John Byrne", "speech": [ "Good morning, thanks for the question." ] }, { "name": "Don Mulligan", "speech": [ "Hey, John." ] }, { "name": "John Byrne", "speech": [ "Jon, I'm curious there's some concern circulating about retailers scaling back to center store to make room for the perimeter and then just downward pressure on pricing from suppliers in general, but from your commentary doesn't sound as though you're expecting an impact for Mills. So could you speak a bit to the broader retailing environment? How you're seeing retailers responding to your initiatives? And then in terms of just shelf base and merchandising, and also, how you're comfortable the margins won't deteriorate further, relative to to the guide?" ] }, { "name": "Jon Nudi", "speech": [ "Yes, sure. Thanks, John. I'll give you answers to as many of those questions as I can, there's a lot rolled up there. Clearly, it's a competitive environment right now as new players enter the U.S., as emerging channels like e-commerce come on to the scene.", "So definitely, it's comparable from the retailer's side as well as the manufacturer's side. What I can tell you is I feel really good about our ability to compete in this environment. We're big in the U.S., we're one of the top food companies. We have scale across center store, refrigerated, and frozen, and as we grow, our -- the categories of our retailers grow.", "And so again, it's important that we have good plans locked in with our retailers. In addition to that, we've got one of the best sales forces, as ranked by Cantor, in the industry. And they're doing a great job of really sitting down with the retailers and putting together joint business plans. And what we find the joint business plans are trade-offs.", "And again, even across our retail, we might give a bit in one category to get something in return in another. But by applying our scale, and, again, if we're growing broadly, it's really good for our retailers category, we'll find a way to get a win-win solution. So again, there's a lot going on. Certainly, space optimization, that's something that we're seeing as well.", "What I'll tell you there is, we have some businesses that are going to win in that. So we have a broad snacking portfolio which will likely win in that environment. In addition to that, Natural Organic's a core strength of ours as well, we're the third largest natural organic player in the country, so that's good. And in the categories that might contract, what we tend to see is the smaller manufacturers, the third or fourth or fifth players tend to be the ones that lose.", "And if you look at our business in the U.S., 80% of our brands are either No. 1 or No. 2 in their category. So it's tough out there for sure, but at the same time, I actually feel like we're in a place now that we can be advantaged and really win in this marketplace." ] }, { "name": "John Byrne", "speech": [ "Great. Thanks, Jon. thank you" ] }, { "name": "Jon Nudi", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. And our next question comes from the line of Ken Goldman with JPMorgan. Please proceed." ] }, { "name": "Ken Goldman", "speech": [ "Hi, good morning, everybody." ] }, { "name": "Jon Nudi", "speech": [ "Hi, Ken." ] }, { "name": "Ken Goldman", "speech": [ "I just wanted to get -- Don, I appreciate the -- you gave a healthy list of reasons why the second half will get better in terms of the growth, especially on the bottom line. But I think what might help is if you give a little sense of maybe of which of those factors will be the most critically important as we think about modeling the business. Because one of the questions I've been getting this morning and I have it myself is, you're talking about better price mix, obviously some of that is trade accrual phasing. You're talking about less cost inflation, cost inflation innovation.", "Just trying to get a sense of really where the key, I guess, pivot points are that's going to make or break the year because in modeling it, I don't know if we necessarily have enough information to sort of say, all right, this is what really needs to have happened for this company to make it. So I'm just trying to get a sense if you had to bucket or rank them, how you would do that in terms of the factors helping them in the second half?" ] }, { "name": "Don Mulligan", "speech": [ "Yes, sure. There really are -- the major piece has got to be the price mix. And probably, half of that is going to be from the reversal and the trade accrual. And as we said in the first quarter, that was about a 100-basis-point drag, it was close to that in the second quarter, that will start reversing in the second half.", "And then on top of that, we expect improved sales mix in the second half, given the businesses that will drive our growth. And pricing in certain geographies, obviously, across the emerging markets, a little bit in the U.K. as we battle the transaction FX. And so, that will be the largest driver.", "Second will be the cost savings, acceleration that we see in global sourcing, again, that's going to be largely in the fourth quarter, and then the third and the smallest bit will be the input cost moderation." ] }, { "name": "Ken Goldman", "speech": [ "OK. Thank you for that. And then, just a quick follow-up. Just so we set expectations, I think, at a reasonable level.", "Can you give us any sense of all -- and I really do appreciate you guys talking about this being more fourth quarter rather than the third quarter -- but are we talking about EPS potentially being flat in the third quarter year-on-year or are you still expecting to be up to some degree, based on what you're seeing right now?" ] }, { "name": "Don Mulligan", "speech": [ "You know, we still said growth in the third quarter but the majority of the growth is going to be in the fourth quarter." ] }, { "name": "Ken Goldman", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. And our next question comes from the line of Matthew Grainger with Morgan Stanley. Please proceed." ] }, { "name": "Matthew Grainger", "speech": [ "Hi, good morning, everybody. I wanted to ask, first, Don, I guess, about the opening question on the proposed tax legislation. And I know there's probably going to be a hesitancy to give formal comments before everything is set in stone. But can you give us any sense, assuming it passes in its current form, 21%, where the consolidated tax rate for the company would go and how we should think about the flow-through of that to the bottom line in the second half and then 2018? Maybe just in generality if not in absolute.", "And, I guess, secondarily, just to the extent that you can talk about this on a forward-looking basis, do you see that having any impact on the promotional equilibrium in the industry? How do you think about the ways that cash flow may be or that earnings flexibility might be reinvested?" ] }, { "name": "Don Mulligan", "speech": [ "Yes. Well, I guess, I'll start by just saying that we think it's important for U.S. businesses to be -- to not to be competitively disadvantaged globally, relative to our foreign competitors. So a lower corporate tax rate, as the current legislation envisions, certainly makes the U.S.", "a more attractive place to invest. The territorial system makes U.S.-based corporations more competitive because we have reduced global tax burden, and obviously, we have increased access to our cash from foreign earnings. So that's the positive. Based on the current legislation, clearly, it's still a moving target.", "Even just last night, the Senate made some changes that the House now has to revote on, the bottom line, we'll see a reduction in our effective tax rate, but Matt, frankly, the exact timing of it and the magnitude of it will have to determined once you see the final bill. It will be favorable but how it'll phase in '18 versus '19 and the absolute magnitude, we will have to come back to you on once we actually digest the entire bill, and we'll do that in due course once that's available to us." ] }, { "name": "Matthew Grainger", "speech": [ "OK, understood. And, I guess, just one question from a, sort of, a category standpoint. I guess, just your thoughts on the health of the cereal category in the U.S. at the moment? I know you're gaining share.", "You saw strong sales delivery here in the quarter. But overall, when we look at the scanner data, the category is still declining 2% to 3%, it looks like promotional levels are up year-on-year, although I know that can sometimes be misleading. I guess, are you happy with where the category is at the moment and do you think anything needs to change there to ensure that the growth you're seeing right now is going to be more sustainable?" ] }, { "name": "Jon Nudi", "speech": [ "Yes, sure, Mathew. This is Jon. What I can tell you is that we really like the way that we're competing in the cereal category right now. When you look at our performance through the first half, our change in strength is pretty significant and nearly 70% of that change is from baseline sales.", "So again, it's really better renovation, better marketing that's driving our results in the category. And that's really been the recipe for success in the category over the long term. So we're very committed to, again, continuing to build strong brands and then innovate more aggressively, and we feel really good about the pipeline as we look forward. As you think about the category, it's still a big category, important category, the fourth-largest across grocery.", "And we believe -- and it's highly penetrating, 90% of households consume cereal. So we really believe in the category, we think there's growth ahead. There's some interesting timing things. So again, if you think about the category, it grew nicely during the financial downturn.", "So between 2007 and 2012, the category grew. As the economy gradually got better and out-of-home eating increased, we saw the category tip to negative. So we're starting to see that moderate in terms of the in-home versus out-of-home. We also know that 30% of consumption of the category comes from boomers and older adults and that group of consumers is going to grow.", "So we absolutely believe in the category. We believe that strong marketing and good innovation can drive it. We're committed to doing our part, and we look forward to again, driving our growth as we move to the back half and into the future." ] }, { "name": "Matthew Grainger", "speech": [ "OK. Great. Thanks and happy holidays, everyone." ] }, { "name": "Don Mulligan", "speech": [ "You too." ] }, { "name": "Jon Nudi", "speech": [ "You too." ] }, { "name": "Operator", "speech": [ "Thank you, and our next question comes from the line of David Driscoll with Citi. Please proceed." ] }, { "name": "David Driscoll", "speech": [ "Great, thanks a lot, and good morning, everybody." ] }, { "name": "Jon Nudi", "speech": [ "Hey, Dave." ] }, { "name": "David Driscoll", "speech": [ "I wanted to follow up, Jon, on refrigerated dough. So can you -- you touched on it in your prepared comments but can you just talk a little bit more about the trends and how the state is? And I'm kind of curious why sales aren't a bit stronger there, that's such a dominant franchise and comping against a reasonably weak year-ago period. Can you expect refrigerated dough to see material improvement in the remainder of the winter season? And, kind of, what would give you confidence if that would be true?" ] }, { "name": "Jon Nudi", "speech": [ "Yes, Dave, a good question. Obviously, an important category for us. And as I mentioned, we got off to a bit of a slower start than we had hoped. We are seeing improvement for sure.", "I'd say, two things drove the slower start: one was, our distribution built a bit slower than we had planned as we came to the key season. What I can tell you is distributions getting to our projected levels as we really enter December and January here; and the second thing is, we missed a promotional window on a major retail in October. And as a result of that, that really impacted our performance there. As I mentioned in the prepared remarks, we grew in November, which is great, and we're seeing some positive things so far in December.", "So we are still confident that we're going to deliver a much improved year in refrigerated baked goods. We believe that we're trending in the right direction." ] }, { "name": "David Driscoll", "speech": [ "Thank you. And then two follow-ups. One on cereal. And I'm just specifically interested in the ship-in versus sell-through second-quarter impact and then what it means to the third quarter.", "So given a plus-7 in the second quarter, are we going to have a negative in the third quarter, simply because of the timing issues between 2Q and 3Q? There's that one, and then I had a, just have a follow-on tax question for you, Don. Maybe you don't have all the quantifications on, which is understandable. But, I think, we're all just curious what the company will do with the money, higher capital spending, dividend, share purchase? Just -- what do you do with, kind of, found money of this magnitude? Thank you." ] }, { "name": "Jon Nudi", "speech": [ "Hi, I'll quickly take the cereal question. I mean, the short answer is, we don't expect a knock-on effect in Q3. If you look at the -- first of all, you look at the first half, our end market movement and our net is almost perfectly aligned. So again, it's right where we expect it to be.", "There is some quarterly shifts, so the biggest drivers in the RNS versus movement difference in Q2 was first, non-measured channels continued to grow nicely, and that's a piece of it. We shipped Chocolate Peanut Butter Cheerios in October, and that's off to a great start, as I mentioned. All of that hasn't moved to the register. And actually, at the beginning of the quarter, we had some impact to the hurricanes.", "If you remember in August, the hurricane hit Texas. And as a result, due to some supply chain interruptions, we filled pipeline in September that likely would have shipped in August. So again, we feel really good about how we're performing in cereal and expect normal movement in RNS as we move to the back half of the year." ] }, { "name": "Don Mulligan", "speech": [ "Yes, on the tax front. You know, as we see with any increase in earnings, we'll evaluate several uses. We'll look at investment, we'll look at capital investment, we'll look at M&A, and clearly, cash return to shareholders. Our long-term expectations on how we're going to drive the business haven't changed." ] }, { "name": "David Driscoll", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. And our next question comes from the line of Jonathan Feeney with Consumer Edge Research. Please proceed." ] }, { "name": "Jonathan Feeney", "speech": [ "Good morning. Thanks so much and happy holidays." ] }, { "name": "Don Mulligan", "speech": [ "Good morning." ] }, { "name": "Jonathan Feeney", "speech": [ "I had a couple of questions. First, I know, when you think about U.S. retail specifically, can you comment at all about -- anything stand out to you as far as pockets of success by channel, like mass versus traditional or -- not necessarily in absolute but, say, relative to the competition. I know you mentioned e-commerce but any, sort of, like takes where, wow, this is really working, it's really coming together in a particular channel.", "And secondly, and maybe related, there's been -- can -- there's been a fair amount of data we see and what you reported to us in this morning, share gain across a lot of your different categories. Can you comment on the -- you mentioned a competitive environment, but specifically, that share gain this year right now at a time when everyone's looking for the same thing. Can you comment about your take on your potential competitive responses in 2018 and how you're set up for that?" ] }, { "name": "Jon Nudi", "speech": [ "Sure, sure. This is Jon. So a couple of things. One, we really like the way we're competing across categories.", "And, again, as I mentioned in my prepared remarks, we're seeing broad-based improvement across the majority of the categories. And we like the way we're competing across channels. It surely is broad-based there as well. We feel like we're winning in the majority of our channels.", "So that feels really good. As we think about share, again, the thing that gives us good confidence that we're heading in the right direction here is that the majority of our change and improvement in trend is really coming from baseline sales. So again, across total U.S. retail, 75% of our improvement is via baseline sales.", "So it's really not a case of merchandising driving the bulk of our improvement. So it's better marketing. And as I mentioned in my remarks, we made a pretty major change last year, shifting long relationships of advertising agencies, moving to some new ones, and spending a very like [Inaudible] that we see in market and we know that is driving our businesses in our baselines. And our innovation's better, it's up 50% year-over-year.", "And I can tell you that's actually off the same number of items. So again, it's not just throwing a bunch of stuff out there, it's actually better quality. So we're really focused on competing, we're focused on the fundamentals, and we believe that if we continue to do that, we can continue to see broad-based wins across our business." ] }, { "name": "John Feeney", "speech": [ "Great, Jon. And any comments about the channels at all, particularly successes that you had?" ] }, { "name": "Jon Nudi", "speech": [ "Yes, again, we feel good generally across the majority of the channels. And again, without calling out to specific customers, there's some puts and takes. But the reality is, we're growing share across all channels. And, I think, for us right now, that's the focus to compete wherever we are.", "So I'm not going to -- there's not one that jumps out of me. Again, we feel really good about how we're jumping in all of them." ] }, { "name": "Don Mulligan", "speech": [ "And to build on Jon's point, to broaden that from the U.S. to more broadly, globally. One of the things we're most pleased with for the quarter in general is just the breadth of our growth. And so, whether you look across product categories in the U.S., we improved.", "If you look across channels in the U.S., we improved. If you go across channels more broadly like convenience stores and foodservice, we improved. If you look at Europe, we improved. If you look at Asia, we improved.", "And so the -- for us, I mean, Jon answered the question for the U.S., but I will say, more broadly as a company, one of the things we're most pleased about for the quarter that we hope to continue and we plan to continue. It's just the breadth of the improvement that we have seen, and that's geographic improvement in channel as well as product line." ] }, { "name": "John Feeney", "speech": [ "Well, thanks very much. And if you have any spare room for the Super Bowl, don't be shy. I'm an excellent house guest. You know how to reach me." ] }, { "name": "Operator", "speech": [ "Thank you. And our next question comes from the line of Akshay Jagdale from Jefferies. Please proceed." ] }, { "name": "Akshay Jagdale", "speech": [ "Hi, good morning. Thank you for the question. I wanted to ask about the innovation momentum. So can you comment on the yogurt launch you mentioned? It's obviously the best category it seems.", "But what's the endgame there? If you could help us, sort of, size that opportunity. And more importantly, like, what has that taught you or your organization that you can apply to other franchises? And when should we potentially expect some of that, meaning more sort of big-bet innovation across your other franchises? Thank you." ] }, { "name": "Jon Nudi", "speech": [ "You're welcome. So this is Jon. I'll give you a few thoughts on Oui. So again, we're very pleased with the results there.", "It's about 1.5 share of the category already. We expect that'll continue to increase. And for Year 1, again, we expect this to be in north of $100 million in sales. So again, it's off to a terrific start, and we're seeing really good repeat rates and consumers are telling us that they view it as very, very unique.", "In terms of how we got there, I'm really proud of the -- and again, let me just start by saying, we know there's a lot more work to be done in yogurt. So we're not taking any laps in that category, to be clear. But I like the way that that team's really operating. They're focused on playing our game and looking for opportunities, and certainly things are going to be growing in the future and bringing fundamental innovation.", "And they did it in a really scrappy way, innovating quickly and closely with consumers. This truly is consumer-first innovation. And by being in-market and iterating over time, we got to a product that really resonates with consumers that really works hard. So the actual process that we use to create Oui, we're really actually moving it across all of our reviews in the U.S.", "and really around the world to make sure that we move more quickly, and make sure that we're connected as closely as to the consumers as we can. And we believe that's going to help our pipeline as we move forward and make our innovation even more impactful." ] }, { "name": "Jeff Harmening", "speech": [ "And to build on Jon's point, one of the things I'm very pleased about, if you look across our organization and how we're working differently now is that Oui yogurt's a great example of something simple ingredients and great tasting. Well, we used that same kind of thought in the U.K. and in France, and it didn't happen to be Oui, but the same consumer insight drove Liberte's success in the U.K. and Triple Sensations' success in France.", "So as an organization, we're getting better, much better, and much faster, sharing insights across geographies. And I'm really proud of the U.K. team for example, for taking Liberte, which has been so successful in Canada, and not trying to do anything different than what was done in Canada and applying that to the U.K. and growing it by 25%.", "And so, I'm pleased with our team here in the U.S. on yogurt, and we see improvement broadly in our yogurt business across the globe. And I'm also pleased with how we're working differently, whether that's the specifics of the launch of Oui here in the U.S. or how we're sharing ideas broadly and quickly, globally." ] }, { "name": "Akshay Jagdale", "speech": [ "So just a quick follow-up. So when do you think we'll start to see a broader impact on your top-line growth as you're sharing these ideas, right? That's globalization or just innovation being the bigger piece of top line. It's already better but should we expect that to accelerate? And when might that happen?" ] }, { "name": "Don Mulligan", "speech": [ "Well, obviously, look, I think you're already seeing this in this quarter. I mean, we cut our losses on yogurt, our declines on yogurt in U.S. in half behind innovation, and we hope to get to single-digit losses and plan to get the single-digit losses in the U.S. in the back half of the year.", "We are down less than 1% on yogurt in Europe this quarter. So this was one of the best quarters we've had behind new innovation. So to be honest with you, I think you're starting to see it already, and we've got a team that's dedicated to continuing that, whether it's on yogurt or in Häagen-Dazs or Old El Paso and on snack bars. If you look at the second half of the year, one of the things I mentioned in my remarks was that you'll see Nature Valley in Asia and our expanding Nature Valley in Asia and that's based on success we saw in Europe.", "And obviously, the success we're having in the U.S. but applying it to Asia consumers in a slightly different format that works for them. And so honestly, I think, you're starting to see it now, and our plan is to continue that." ] }, { "name": "Akshay Jagdale", "speech": [ "Perfect. I'll pass it on. Thank you. Happy holidays." ] }, { "name": "Don Mulligan", "speech": [ "Happy holidays." ] }, { "name": "Jeff Harmening", "speech": [ "Operator, I think we probably just have time for one more, unfortunately." ] }, { "name": "Operator", "speech": [ "Thank you. And our last question comes from the line of Steven Strycula with UBS. Please proceed." ] }, { "name": "Steven Strycula", "speech": [ "Hey, guys, good morning. Two-part question. For the first part, just wanted to get a sense of -- I think Ken was asking about it earlier, but did absolute gross margin magnitude of pressure that we're seeing for the full year obviously gets better [ in ] the second half. But is it a fair way to think about it, down 50 basis points for the year? That's my first part." ] }, { "name": "Don Mulligan", "speech": [ "We'll let me focus on -- let me focus on operating margins, and it's actually what we've been giving guidance on. And I mentioned the factors that will drive it: inflation is going to run higher than we -- slightly higher than we expected and transaction FX will work against us. We've added some investment in accelerators to drive growth, the top line of which will come through next year. But we're incurring some cost this year to make it happen.", "And then I mentioned just the, kind of, the nature of our transaction FX, which is helping the top line more than SOP or more than the operating profit. And just to put it -- just to mention about it, we were talking about a swing here of maybe 50 basis points. We will still be in the zone of 18% operating margins for the full year. So we crack that level last year and that still remains 200 basis points above where we were three years ago.", "So just, kind of, in the order of magnitude, that's where we we're going to land for the year." ] }, { "name": "Jeff Harmening", "speech": [ "And Steve, this is Jeff. I don't think gross margin, we don't expect a material difference in gross-margin trends versus operating margin trends, so the drivers are very similar." ] }, { "name": "Steven Strycula", "speech": [ "OK. Thanks, that's very helpful. And then, just a question for Jon, just on the soup business. I just wanted to get a sense, there's been a little bit of a shuffling of the deck in the category for the soup season this year.", "Just wanted to think about how you think about the health of the overall category, total shelving displays, not just specific to you but the category in general? And then, how do we think about, given some of the decisions that were made intra-quarter, are you seeing that -- obviously Progresso's doing better, but do you think that the category is maintaining its momentum, and what stopped it from necessarily being a bit back of the the business next year?" ] }, { "name": "Jon Nudi", "speech": [ "Sure, Steve. The category's through key season's growing, so that's good overall. And again, Progresso's growing share, which we like. Similar to some of the other businesses, what we really like is that 80% of our improvement in trend in soup is actually coming from baseline sales.", "So again, it's fundamentals, it's good marketing, and we've got a little bit of innovation with Progresso Organic that's working for us as well. And again, like many for the categories comments, it's about the fundamentals and competing well, and if we do that, we think that we can be successful and drive the category. And again, through key season, we're seeing the category grow and it appears to be healthy and we're having good constructive conversations with the retailers around it. So we'd expect continued growth through the back half of the year." ] }, { "name": "Steven Strycula", "speech": [ "OK. Great. Thanks, guys." ] }, { "name": "Jeff Harmening", "speech": [ "All right, Sarah. Thanks. Unfortunately, I know we didn't get to everybody today. I know there are a few people probably still hoping to get a call -- question in.", "So I'm on the phone all day. Please feel free to reach out and connect on any questions from here on out. Thanks a lot." ] }, { "name": "Operator", "speech": [ "Thank you. Ladies and gentlemen, that does conclude our conference call for today. We thank you for your participation and ask that you please disconnect your lines." ] }, { "name": "Steven Strycula -- UBS -- Analyst", "speech": [ "More GIS analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
GIS	2022-09-21	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeff Harmening", "position": "Executive" }, { "description": "Group President, North America Retail Segment", "name": "Jon Nudi", "position": "Executive" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Cody Ross", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Steve Powers", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "Consumer Edge Research -- Analyst", "name": "Jonathan Feeney", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "Ken Zaslow", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the General Mills first quarter fiscal 2023 earnings Q&A webcast. [Operator instructions] As a reminder, this conference is being recorded Wednesday, September 21, 2022. I would now like to turn the conference over to Jeff Siemon, VP of investor relations. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thank you, Kelly, and good morning, everyone. We appreciate you joining us today for a Q&A session on our first quarter fiscal '23 results. I hope everyone had a time to review our press release and listen to our prepared remarks and view the presentation materials, which were made available this morning on our IR website. It's important to note that in our Q&A session, we may make forward-looking statements that are based on our current views and assumptions.", "Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which maybe discussed on today's call. I am here with Jeff Harmening, our chairman and CEO; Kofi Bruce, our CFO; and Jon Nudi, group president of our North America retail segment. Let's go ahead and get right to the first question. Kelly, can you please get us started?" ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] And our first question comes from Andrew Lazar with Barclays. You may proceed with your question." ] }, { "name": "Andrew Lazar", "speech": [ "Thank you. Good morning, everybody." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "Maybe to start off, I think the area that diverged from expectations the most in the quarter was certainly on gross margin, which actually expanded modestly year over year. I was hoping you could provide a bit more detail on sort of the drivers of this performance. And maybe more importantly, how do you see the sustainability and sequential cadence of margin performance through the remainder of the year?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure, Andrew. This is Kofi. I would just note we are pleased with the start on margins for Q1. The primary driver, just as we think about kind of where we are, the HMM cost savings plus benefits from price/mix, offset inflation, deleverage and our other sort of operating costs we have taken on in this environment to show modest expansion in the quarter.", "I think as we look forward, we are not going to give guidance largely in recognition still of the fact that we are in a highly dynamic environment and still vulnerable to supply chain disruption. So as we think about the operating environment, there is still a high degree of volatility. The biggest variables, as you can imagine, as we think about the gross margin progression for us are going to be volume performance on the level of disruption and as we obviously would just take note of the inflationary environment, where we just noted that we are expecting modestly higher inflation for the year. So that's kind of the table setting." ] }, { "name": "Andrew Lazar", "speech": [ "OK. And then I guess second, I am curious of some of the volume declines that you are seeing just based on elasticity in, let's say, North America retail. Do you have a sense for how much of that is due to, let's say, the loss of promoted volume versus base or full price volume just given that you and others are not promoting as much in light of current service levels? And I guess I asked this, because it could help us get maybe an even better sense of the health of sort of the underlying business, if you will?" ] }, { "name": "Jeff Harmening", "speech": [ "Yes. Jon Nudi, do you want to take that?" ] }, { "name": "Jon Nudi", "speech": [ "Yes, good morning, Andrew. So as we look at the unit declines, the vast majority of that is due to promotional pulling back and not so much frequency, but really adjusting our price points. So in most categories, it's up to about 75% of the unit decline is due to promotional pullback." ] }, { "name": "Andrew Lazar", "speech": [ "OK, very helpful. Thanks so much." ] }, { "name": "Operator", "speech": [ "Our next question comes from David Palmer with Evercore ISI. You may proceed with your question." ] }, { "name": "David Palmer", "speech": [ "Hi. I am trying to think of a good follow up on gross profit, because obviously that was very impressive this quarter. I am wondering how are you viewing your gross profit performance, your gross margin performance versus your plan so far, maybe you could speak to that? And I am wondering to what degree would you be teasing or have us tease out perhaps some benefits that might not repeat in the future, some things that are outsized benefits such as some of the market share gains in your higher margin categories or perhaps promotional activity that you don't feel like will be as favorable anything that you would do to caution us on gross margins?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. I think sort of broadly beyond the quality, let me get to the front part of your question. In the quarter largely the -- what was sort of unexpected on gross margin was the level of volume and on the back of the elasticities that Jon just alluded to, which were lower than we expected going into the quarter and into the beginning of the fiscal year. So that resulted in less deleverage pressure.", "So that flowed through to gross margin. I think as a cautionary note, well, I would certainly be in the front of the line along with all our business leaders, including Jon to want the environment stabilized, I think supply chain disruption is still very, very real, categorically well above historical levels and the cost of servicing volume in this business even as we think we are doing it competitively in our North America business is just higher and will remain higher until we see that stabilization. So that probably is the first and primary cautionary note. And the second is obviously the interaction of pricing and volume and elasticities in this environment remains, still hard to read because we are in a historical period and it is hard frankly to coalescence.", "So those are sort of the cautionary notes and they all have pretty reasonably significant impact on gross margins. I think the last thing is, as we noted in the scripted remarks, we did flag some other headwinds that potentially will flow through to operating margin, including increased investment on the business to sustain long-term growth and the cost of the expected cost of the recall on Haagen-Dazs." ] }, { "name": "David Palmer", "speech": [ "And if I could just squeeze in just a follow-up on your – the supply chain comment, was there improvement through the quarter such that your so-called exit rate, supply chain friction was less at the end of the quarter than it was at the beginning of the quarter that gives you hope that, that will be less going forward? And I will pass it on. Thanks." ] }, { "name": "Kofi Bruce", "speech": [ "Yes, sure. So a fair question. As we entered the year, we expected a very modest improvement in the level of supply chain disruption. The quarter effectively played out in line with those expectations and with the expectations we set at the beginning of the year, which are we are still expecting a categorically higher level of supply chain disruption than our historical experience." ] }, { "name": "David Palmer", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from Chris Growe with Stifel. You may proceed with your questions." ] }, { "name": "Chris Growe", "speech": [ "Thank you. Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning, Chris." ] }, { "name": "Chris Growe", "speech": [ "I just had a question if I could. And I think you have an expectation that elasticity will increase from here. I think that's a very prudent assumption. I am just curious if you are seeing any signs of that or any indicators that would increase that -- that would indicate that elasticity is increasing or maybe some categories where you are seeing it perhaps that give you a bit of a warning sign for the business overall.", "It seems like it's going pretty well across the industry. I just want to see if there is anything that we are missing here?" ] }, { "name": "Jeff Harmening", "speech": [ "Chris, this is Jeff Harmening. I mean, I don't think that – I don't think you have missed anything so far. As Kofi alluded to just a minute ago, elasticities have been more favorable to us than we had anticipated in the current environment, particularly as consumers have traded to away-from-home meeting to more at-home eating consumption. It's just a matter of as we look through the year, we would anticipate that elasticities would become a little bit less favorable than they are right now, but still more favorable than they would have been historically, but so far, we haven't seen really any change in elasticities, which for us was a positive for the quarter." ] }, { "name": "Chris Growe", "speech": [ "That's great. Thank you. And I know we have had a few gross margin questions. It was quite a great performance there.", "I just was curious maybe Kofi to you and to the phasing questions around the gross margins, do you still have price increases that are going into place that need to take place to offset the inflation? And I guess related to that, you had this increase in inflation, does that prompt you to take more pricing at retail overall? Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "No, I appreciate that. We have most -- the vast majority of our pricing in the market to address or announced to address the inflation that we see, including the revised modest provision up in the inflationary guidance. And the last round being in our North America foodservice business, where we have taken some additional steps to address cost of goods as we saw more inflation in the quarter than we did price/mix. So I think we are in a place where we feel comfortable we have got this sort of bounded." ] }, { "name": "Chris Growe", "speech": [ "OK, great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Cody Ross with UBS. You may proceed with your question." ] }, { "name": "Cody Ross", "speech": [ "Hey, good morning. Thank you for taking our questions. I am just going to nitpick a little bit here. You noted supply chain headwinds in pet.", "Can we unpack that a little bit, which brands and categories are you seeing the most impact? And I am just a little bit surprised that given the pet demand that you are seeing or demand in the pet category, you were not able to deliver total sales dollars in line with the fourth quarter of last year?" ] }, { "name": "Jeff Harmening", "speech": [ "Yes. So let me take that, Kofi, and I'll unpack it a little bit and then if you want me to unpack it even more let me know. But I would say first, I would remind everybody on the call that we grew our pet business double-digits yet again in the first quarter and then we have increased our pet sales of $1 billion over the last four years. And so while it may not have been the run-rate in Q4 is still growing at double-digits.", "So I guess that would be my first bit of context. The second I would always say is that I think it's also important to remember that Q1 last year, our sales were really, really strong. And that's not only because we had capacity, but also we are working off some inventory. So we are selling not only everything we could make first quarter of last year, but we are also drawing down inventory levels, a product we had made previously.", "And so the comparisons are particularly difficult by the way as they are in the second quarter of this year as well. And so the comparisons are really difficult. When we look at -- so when we look at our performance, I would say our supply chain improved modestly throughout the quarter in pet. Our service levels improved modestly in line with our expectations.", "And we actually grew share in the wet pet food category and we lost share in treats and dry and that's where we don't have the capacity.Just to answer your question just a little further, as a reminder, we anticipate having more capacity for treats coming online in the third quarter in January of this year and then dry is going to take another few quarters to get in line. And that's important to note because as we think about our second quarter in pet, we will have a lot of costs from increasing service in the business, whether it's through external supply chain or through adding capacity on treats and warehouse space and all those things, but we won't yet have the sales associated with it. So you can expect our second quarter pet to be a little bit challenged, but we're highly confident that will rebound in the third and fourth quarters of this year." ] }, { "name": "Cody Ross", "speech": [ "And that's 2Q Pet margin that you're referring to, not sales? I just want to make sure I understand that." ] }, { "name": "Jeff Harmening", "speech": [ "Yes. I would say primarily the margin piece, yes." ] }, { "name": "Cody Ross", "speech": [ "Got it. That's helpful. And then one more quick question, if I may. You noted in your prepared remarks plans to step up brand building and investments for growth.", "Which categories and brands do you see the most opportunity? Thank you." ] }, { "name": "Jeff Harmening", "speech": [ "Well, I would say, over the long run, we see the most opportunity in our global brands and our local gen businesses. And so that they include businesses like pet and Haagen-Dazs and Nature Valley probably the biggest upside potential, but also some of our local gen businesses like Totino's where we highlighted during the quarter and we are adding capacity is now a $1 billion brand for us, Pillsbury, which is a $1 billion brand, [Inaudible] in China. So the biggest areas of opportunity for us are going to be probably the ones that you would anticipate, which are big billion-dollar brands in global categories as well as some of our local gem brands that I just mentioned." ] }, { "name": "Operator", "speech": [ "Our next question comes from Steve Powers with Deutsche Bank. You may proceed with your question." ] }, { "name": "Steve Powers", "speech": [ "Hey, thanks. Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Steve Powers", "speech": [ "I want to hit on gross margin again. And then a follow-up on pet. On the gross margin, so acknowledging the uncertainty around volume progression and the supply questions, Kofi, you mentioned. We just focused on the phasing of run rate inflation relative to pricing benefits and HMM benefits.", "Do any of those things get tougher from 1Q before they get better? Or it feels like you're relatively well caught up between pricing and productivity benefits relative to the rate of inflation as we run through the first quarter. So I'm just trying to get a sense of, a, if that's correct and then, b, the only thing that can get worse for some reason before they get better?" ] }, { "name": "Kofi Bruce", "speech": [ "Well, I would say, broadly, we are modestly higher on inflation in the front half and modestly is probably appropriate. But I think on balance, it is still a relatively balanced year in terms of our inflation call between 14% and 15%." ] }, { "name": "Jeff Harmening", "speech": [ "Steve, I'd just say, from a pricing standpoint, we will start to roll over more meaningful pricing in the back half of this year. And obviously, we saw a strong price/mix come through in Q1 that's likely similar in Q2 and then it decelerates as we start comping more meaningful step-ups last year." ] }, { "name": "Steve Powers", "speech": [ "Yes, OK. That's fair. Thank you very much. And then on the Pet question, given sort of the tightness of supply, and it looks like you're obviously making efforts to bring supply online.", "But it feels like the real relief isn't going to come at this point until fiscal '24. We've seen competitors in the space start to buy up capacity to sort of accelerate that and get incremental capacity online sooner. And I just wanted to kind of play that off to you and just get a sense for -- is that something you would consider as you think about capital allocation and M&A strategies is adding capacity through acquisition, something that's on the table? Or are you more inclined to just stick to building it out and working through co-packers." ] }, { "name": "Jeff Harmening", "speech": [ "Yes. Thanks. Very fair question. Let me make sure.", "There is one point I want to make sure or clarify because you talked about relief coming in fiscal '24. I would say, I think about it in two pieces. And I'm not trying to nitpick, but I think this is important. Our tree we're lacking capacity and treat and dry.", "On treats, we will bring on external capacity in the third quarter of this year. So we don't need to wait until fiscal '24 for treat capacity, and we are really short on that. We bought a great business on Nudges and True Chews and so forth, we are branding at Blue Buffalo. So we are really excited about what we can do.", "We just need the capacity, and we don't need to go out and buy additional capacity for that because we will have what we outcome in January. One the dry, it is true that it's going to take a while for us to get dry capacity. And if something became available, whether it's through external supply chain or buying or another source the question, would we be willing to look at that, absolutely, we'd be willing to look at that if it would speed up our rate instead of doing it internally. We haven't had that option yet present itself, but we're at two, we would certainly evaluate that and the speed to market of that and the cost relative to doing it ourselves." ] }, { "name": "Steve Powers", "speech": [ "Great. OK, thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jason English with Goldman Sachs. You may proceed with your question." ] }, { "name": "Jason English", "speech": [ "Hey, folks. Thanks a lot, and congrats on a strong start to the year. I'm going to come back to pet, but was really a different question. So first, the capacity that you're going to be bringing on and dry, can you give us some context in terms of like quantify how much is this is going to add for you in fiscal '24." ] }, { "name": "Jeff Siemon", "speech": [ "Jason, we said it's going to be about upwards of $150 million of capital that we're putting in. We talked about that on the Q4 call. But beyond that, we haven't we haven't quantified what percentage of additional capacity, but it will be a meaningful chunk to add." ] }, { "name": "Jason English", "speech": [ "OK. And you are not alone, right, Nestle is adding, [Inaudible] is adding, Hills is adding, as Steve mentioned, both organically and inorganically, Simmons is adding, Phelps is adding, like it's a plenty of small manufacturers, there is a lot of capacity. It seems like it's coming in like the wake of COVID as we start to anniversary a pull-forward pet adoption. In other words, it seems like it's coming at a time when there is not a lot of volume growth in the industry.", "How does this play out? And as we think forward, what's the risk that gets pretty darn competitive with an overbuild of capacity and becomes a pretty promotional category." ] }, { "name": "Jeff Harmening", "speech": [ "Yes. I understand the rationale behind the question. But I mean promotional activity in pet really is in a very productive effort because demand is pretty inelastic and consumers tend to be very loyal. I would also add that even pre-pandemic, as you probably realized, Jason, you probably remember this, is that we were growing Blue Buffalo double digits already even in a category that was barely growing in terms of pound before that.", "And the most important thing to remember is not the trend of the pandemic, but it's a humanization trend, which I know you well remember. And that's been going on for 15 years or so and Blue Buffalo is very well positioned to grow in that market. So even in the face of a category that sees low growth in pounds, Blue Buffalo participates in the fastest-growing part of a very attractive category with the best brand. And so we're confident no matter what happens in the rest of the category.", "That Blue Buffalo is going to be well positioned as we look to the future." ] }, { "name": "Jason English", "speech": [ "Yes. No doubt. I'm not arguing that premiumization should fade away. And to that point, you've got double-digit growth this quarter.", "I think everyone has double-digit growth because the inflation out there. Can you unpack maybe that that price/mix line then for us? Like how much of it just pass-through of higher cost? And how much of it is the mix, the premiumization that you're talking about?" ] }, { "name": "Jeff Harmening", "speech": [ "It's really a combination. So we have seen meaningful pricing SRM actions on the business obviously, the business itself is high mix, but the largest amount is really what we're seeing from an SRM standpoint in the quarter." ] }, { "name": "Jason English", "speech": [ "Got it. Alright. Thanks a lot, guys. I will pass it on." ] }, { "name": "Jeff Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from Bryan Spillane with Bank of America. You may proceed with your question." ] }, { "name": "Bryan Spillane", "speech": [ "Hey, good morning, guys. Wanted to ask a question about foodservice. And I guess, looking at the margins in the quarter, I know you called out in the press release that maybe pricing has lagged outside of flower milling. So can you just talk about a couple of things.", "One, how much pricing do you think you're going to need to recover margins? Can margins sort of recover in the course of fiscal '23. And then maybe separate from that, is there any, I guess, like stranded cost or dis-synergy related to the resegmentation that's kind of reflected there. So is it more than just inflation? And is there any like stranded cost or anything related to the resegmentation that's affecting it in the near-term?" ] }, { "name": "Jeff Harmening", "speech": [ "So I'll have Kofi probably get into the specifics of this, but this is Jeff. Let me just -- it's a lot to unpack in food service this quarter. I guess one of the takeaways top line I would share with you is that we have high confidence in our food service business and certainly and the fact that we can grow it into the future and that the margins will improve. So I want you to know there is nothing fundamentally mass in our food service business.", "Having said that, there is a lot going on in this particular quarter. So probably let Kofi explain a little bit of that." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. And let me just start with your reference to index flower pricing or index pricing on our bakery flower, so as a reminder, that is profit neutral, dollar profit neutral. So as prices go up to cover costs, it just flows through at a fixed dollar profit. So as you think about that, a good chunk of the price/mix you saw in the business, which was about 21 points was actually driven by index pricing.", "On the rest of the business, we did not see enough price/mix come through to fully cover the inflation in the quarter. We subsequently have additional pricing to work with pass-through to the customers. And we would expect in the balance of the year, we will continue to see improvement in the margin prospects for the business. To your question about stranded costs, so just as a reminder, we decoupled the convenience business, primarily focused on convenience stores and other smaller convenience channels and put that into North America retail as part of the snacks business.", "And with that, we actually moved administrative structure as well. So there isn't really an overhang from stranded costs, all of that kind of went with the business. So this is a pretty fair representation of the underlying food service business margins." ] }, { "name": "Bryan Spillane", "speech": [ "OK. So some of this is just the math of flour prices going up, you get the dollar profits, but it's profit neutral. And the rest is really just going to be catching up to inflation, I guess in the non-flour milling piece? Is that a good way to say that?" ] }, { "name": "Kofi Bruce", "speech": [ "That is exactly the way I would put it. You have got it." ] }, { "name": "Jeff Harmening", "speech": [ "And, Bryan, just to maybe put a finer point on that pricing going up for index pricing with no incremental profit dollars coming with it is actually margin negative for the segment in the quarter to the tune of about 200 basis points. So margin which is obviously a big portion of -- you are seeing that flow through in this quarter." ] }, { "name": "Bryan Spillane", "speech": [ "Yes. Perfect. Thanks, Jeff. Thanks, guys.", "Appreciate it." ] }, { "name": "Jeff Harmening", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jonathan Feeney with Consumer Edge. You may proceed with your question." ] }, { "name": "Jonathan Feeney", "speech": [ "Hey. Good morning. Thanks very much. Two questions.", "First, I wanted to dig in on the 14% to 15% expected COGS inflation. Could you comment, if you can, any more about kind of how much of that is input costs relative to all the other structural inflationary things in Japan? Just a flavor for that or is input cost the vast majority of that would be helpful. My second question would be more broadly in the U.S. promotional levels, merchandising levels or if you want to use the syndicated data, something like 10 points off their pre-COVID normal.", "Are retailers expecting they get back to that pre-COVID normal at some point? Thanks." ] }, { "name": "Kofi Bruce", "speech": [ "Yes. Well, let me start on the front part of the question, and then I will hand the second part probably to Jon or Jeff. Just as you think about our call on modestly higher inflation, we are seeing a couple of things go on, but primarily it reflects the burden of higher labor, energy and transportation costs on our suppliers, in particular, on items in our COGS that have high conversion. So, think about your value-added ingredients such as nuts, fruits, flavors, etcetera, so the pass-through impact of that.", "Second is that as we have been working our way through the quarter and on the expectation that we will see higher volume flow-through as a result of slight lower elasticities than expected. We have outstripped coverage in some areas. So, we are actually buying out in the back of the year at and exposed to more spot market prices. So those are the primary drivers as we think about it.", "And then just as a reminder, we started taking coverage positions at the turn of the calendar year for this year. And our coverage position is still reasonably strong relative to the spot prices. So, we are effectively pretty in the money as you think about our coverage. So, those are some of the critical things just as you think about the guidance and how we are thinking about the balance of the year on inflation.", "And then I will let Jon or Jeff handle the second part of your question." ] }, { "name": "Jeff Harmening", "speech": [ "Yes. This is Jeff. Let me take that one. I think as I said at a conference a couple of weeks ago, we think the risk of promotions ramping up significantly over the next couple of quarters is quite low.", "And the reason is that you kind of have to believe three things to be true in order to see a lot of promotions increase. The first, you would have to think that this inflationary cycle were different than the ones we have seen before. And I was running a business in the last inflationary cycle here at General Mills. And what we see is that there isn't really a sharp increase in promotions coming out of an inflationary cycle.", "So, you have to think that the environment would be different. The second thing is you have to believe the disruption in the supply chain are going to change significantly from where they are now. And the third is that you would have to see COGS inflation not only decelerate, but also get to absolute deflation. And the fact is that I think you need all three of those things, we don't see any of those things as we see right now.", "We just increased our guidance on inflation a little bit. We have told you that supply chain disruptions remain high, elevated, they are about two times what they were before the pandemic, even if they are below what they were a year ago. And then there is inflationary cycle as we see keep playing out, but that's what we think. I mean that the risk is relatively low given what I just laid out." ] }, { "name": "Jonathan Feeney", "speech": [ "Thanks. Very helpful." ] }, { "name": "Jeff Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Ken Zaslow with Bank of Montreal. You may proceed with your question." ] }, { "name": "Ken Zaslow", "speech": [ "Good morning, guys." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Ken Zaslow", "speech": [ "Two questions. One is, what are your expectations for your innovation progression this year and next relative to the last two years?" ] }, { "name": "Jeff Harmening", "speech": [ "I would say in aggregate, we would expect our levels of innovation to roughly flow the same as they have in prior years. I would say the one exception to that would probably be our pet business. Clearly, when you are capacity constrained innovating when you are capacity constrained is a little bit difficult. And so in pet, we would see our innovation weighted to the second half of the year, and we will talk about that more in December.", "We are actually quite pleased with some of the innovation we see coming. A lot of it is on our established businesses and some of it some new products. But in pet, I would say that we probably have more coming in the second half of the year than the first half of the year. But in general, the innovation timing is roughly similar." ] }, { "name": "Ken Zaslow", "speech": [ "But you don't think that you will accelerate given your supply constraints being a little bit ease. I would have thought you would have told me your innovation will actually accelerate over the next two years, given all the things that have happened between the consumer and the -- but I hear what you are saying. I am just curious. And then my next question is as you go forward in a couple of years, can your gross profits expand if elasticity becomes what you think it's going to be and volumes don't kind of subside a little bit, or do you truly need the volume operating leverage because that seems to be one of the points you pointed to as a key core reason for gross margin expansion.", "So, I was just trying to get a little color on that, and I appreciate your time." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. I appreciate the question. This is Kofi. So I would just note.", "Our gross margins are down still relative to the pre-pandemic. So, in fiscal '19, probably about 140 basis points or so and I think the goal for us during this inflationary period has really been to drive our HMM cost savings between roughly 3% to 4%. And our price mix benefits from SRM to be enough to offset inflation. And I think actually, as we measure it, we have done a pretty good job of kind of covering the inflation with the combination of those two things.", "The reason our gross margins are down versus that period is because of the cost of dealing with supply chain disruptions and the additional cost to operate and serve the business in this environment. So, those costs, when the supply chain environment stabilized are the things that we would expect to be able to take out in relatively short order with targeted HMM and productivity actions as well as changes in our supply footprint. And that, I think gives us confidence that as we step out of this environment, we will be able to get our gross margins back to sort of pre-pandemic levels in a more stable environment." ] }, { "name": "Ken Zaslow", "speech": [ "OK. Appreciate it. Thanks, guys." ] }, { "name": "Jeff Harmening", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from Michael Lavery with Piper Sandler. You may proceed with your question." ] }, { "name": "Michael Lavery", "speech": [ "Thank you. Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Michael Lavery", "speech": [ "You have mentioned consumers shifting back to more food at home as part of what's probably softening elasticities, but your organic growth in food service outpaced North America retail. And even going back a few years, I know there are some moving parts, maybe the comparisons aren't all perfect, but it looks like even against fiscal 1Q '20, it's growing faster. Is that driven by inflation and index pricing, or is there just that much momentum in food service? Maybe help us reconcile just how strong the numbers look versus some of the very logical color about consumer shipping back to more homes." ] }, { "name": "Jeff Harmening", "speech": [ "Michael, you are right in the sense that it is logical to assume that the food service will move in a different direction than with our retail business, given the trend at at-home consumption. But there are two things playing into this for the quarter and one thing playing over this more generally. In the quarter, remember, we have a lot of index pricing on bakery flour, which really inflates the sales number on our food service business. I mean the accounting is right, but it makes it look higher than it would be otherwise.", "And so that really all of our growth this quarter in food service is a result of that index pricing. That's the first thing I would tell you. The second is that even given that, though, our food service business doesn't move in perfect correlation, inverse correlation with our retail business because we have a really big school business. And so we are not only servicing restaurants, we have a significant part that we sell cereal and yogurt and other baked goods through our education, and we are really, really good at that.", "And so that demand tends to be a little bit more inelastic. And so even though it may seem logical in the face of it, they have food service inversely with retail, and point of fact, ours doesn't move perfectly that way for that reason, even if we take out of consideration the index pricing." ] }, { "name": "Michael Lavery", "speech": [ "OK. That's helpful. And then can I just follow-up on -- you called out higher SG&A in pet as one of the margin drivers or having an impact on margin. What maybe is behind that? I guess I am just curious because if there is the capacity constraints on two of the biggest pieces of that business, it wouldn't seem like it's higher marketing.", "Is it just a sort of a step-up in the G&A, or what's behind the SG&A curve there?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. No, we have had, along with most of our retail businesses, modest increases in our spending behind data and analytics. So, that would be a big chunk of, as you think about what's driving SG&A growth in the comp. That would be more of it.", "As you know, obviously, we have maintained modest levels of increases in media as we step through, and we are trying to manage through the supply pressure on this business." ] }, { "name": "Jeff Harmening", "speech": [ "And, Michael, the one other thing is you have got now a full quarter of the Tyson business that we acquired last year. So, there is a bit of step-up in SG&A just by the math of adding an incremental business there." ] }, { "name": "Michael Lavery", "speech": [ "OK. Thanks for all of that." ] }, { "name": "Jeff Harmening", "speech": [ "You bet. OK. I think we are going to go ahead and wrap up there. I appreciate everyone's time and good questions.", "And please feel free to follow-up over the course of the day with the IR team, and we look forward to being in touch next quarter." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
GIS	2021-03-24	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Group President, Pet", "name": "Bethany C. Quam", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Faiza Alwy", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Nik Modi", "position": "Analyst" }, { "description": "Consumer Edge -- Analyst", "name": "Jonathan Feeney", "position": "Analyst" }, { "description": "Guggenheim -- Analyst", "name": "Laurent Grandet", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the fiscal 2021 Q3 earnings call. [Operator Instructions] I would now like to turn the conference over to Jeff Siemon, VP of Investor Relations. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks Jennifer, and good morning to everyone. On behalf of my colleagues at General Mills, thanks for joining us. We are looking forward to have our live Q&A session on our third quarter results. Hope everyone had a chance to review our press release, listen to our prepared remarks and view our presentation materials, which were made available this morning on our Investor Relations site.", "Also refer to the press release we issued yesterday, announcing our proposed sale of our European Yoplait operations to Sodiaal. I'll just note that in regard to that transaction, we have a memorandum of understanding and that is still subject to appropriate labor consultations, regulatory filings and other customary closing conditions. And we expect to close the proposed transaction by the end of the calendar year.", "Further more, it's important to note that in our Q&A session today, we may make forward-looking statements that are based on management's current views and assumptions, including facts and assumptions related to the potential impact of the COVID-19 pandemic on our results in fiscal '21. Please refer to this morning's press release for factors that could impact our forward-looking statements and for reconciliations of non-GAAP information which may be discussed on today's call.", "I'm here virtually with Jeff Harmening, our Chairman and CEO; Kofi Bruce, our CFO; Bethany Quam, Group President for our Pet segment; and Jon Nudi, Group President for North America Retail. We're holding this call from different locations, so hopefully technology cooperates and everything goes smoothly.", "And with that, we can get into the first question. Jennifer, you can get us started." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] Our first question comes from the line of Andrew Lazar with Barclays. Please proceed with your question." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning, everybody, and thanks for the question." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "I think I'd like to stick with the the-year growth CAGAR methodology that you kind of laid out and discussed in the prepared remarks. Thinking about it that way, it would imply fiscal 4Q organic sales growth that would look to be roughly in line with what you reported in fiscal 3Q, again on a two-year basis. And I realize some of this is likely a bit of a shift of inventory refill from that you expected in 3Q into 4Q. But it would seem to suggest you believe sales growth -- the sales growth deceleration, as reopening occurs, is likely to be maybe slower than many currently expect. So I'm just trying to get a sense if that's a fair characterization of your thinking at this juncture. And if it is, sort of what's informing that viewpoint? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Thank you, Andrew. This is Jeff Harmening. You do have that -- you have that exactly right. As we look at the third quarter of this year, demand was high all over the world, including the US, fueled by clearly the pandemic, as well as stimulus spending, and in addition to that, some weather-related events. So, as we look at Q4, we really believe that our sales, both in terms of pounds and pricing, is going to be higher than it was pre-pandemic, and we're seeing that in the first couple of weeks of the month, and we're confident the consumer behaviors aren't changing as quickly as some would think. And what fuels that, Andrew, is really, as you look at the last year, if you look at 2020, our foodservice business in general in the US, the industry declined about 25%. And of that, about 25% was quick service restaurants, schools and healthcare. And we've seen quick service restaurants bounce back and school are gradually getting online, as is healthcare, so a lot of bounce back relatively quickly. Another 25% of that decline was related to casual dining, and that's going to take longer to come back. And then, finally, about half of the decline we've seen over the last year in away-from-home eating is really driven by travel, leisure, business and industry, think canteens at places of work. And clearly, that's going to take a longer term to come back, if it ever does at all, because we're not going to work the same way. We're going to be working at home a little more than ever before. People want flexible schedules. While consumers may be making vacation plans now more than they have, business people are not going to be traveling as much because technology has caught up and we realized we can do a lot of things remotely. And so, we have -- what fuels our belief in the fourth quarter and what we're confident is, there's not an inventory buildup, as moving will be better than what some expected, based on what we've seen over the past year and kind of what we see in the first few weeks of this month, this quarter." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Thanks very much. I'll leave it there." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Ken Goldman with J.P. Morgan. Please proceed with your question." ] }, { "name": "Ken Goldman", "speech": [ "Hi, thank you. Two from me. First, how should we think about your appetite for being aggressive on share repo [Phonetic]? Just looking back prior to Buff deal, there were some years the Company spent upwards of $1.7 billion on buyback. So should we think this level is at least within the realm of possibilities? Or do you want to keep a little more dry powder around? That's my first one." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. Ken, this is Kofi. Good morning. Thanks for the question. Look, I think we are absolutely in a position where we ended the quarter with a really strong balance sheet, our leverage ratio at 2.8 times net debt to EBITDA, which means that we've continued to make great progress against our capital goals. I expect we will restore our full capacity to use all of our levers of cash return. And I think the signal that I think was important is that we've already started. So, while I can't commit to anything beyond what we've done, we continue to have the flexibility to act and use our balance sheet to the extent that -- the full extent of our capital allocation policy. And I think as a reminder, share purchase is the last of those. So, that is where we would look to manage leverage and steer any excess free cash flow." ] }, { "name": "Ken Goldman", "speech": [ "Thank you for that. And then, Bethany, within broader pet food, the refrigerated [Indecipherable] it's small, but it's growing quickly, not really showing a lot of signs of slowing down, except for some supply chain issues. Has Blue Buffalo's appetite to break into this subcategory changed at all? Or is it still sort of a wait and see attitude? It's not necessarily what you said, but some of your predecessors may have kind of implied in talking about it." ] }, { "name": "Bethany C. Quam", "speech": [ "Hi, thanks for the question. What we really have seen is that pet parents throughout this pandemic have really wanted to continue to offer their pets different forms. So you're talking about different forms here. So we've seen mixing between kibble and then wet food from cans -- our wet business is performing incredibly well -- as well as fresh. It's still a very small part of the category, but the trend is pet parents continuing to mix different kinds of food. So we'll continue to look at all those different areas and continue to take the Blue Buffalo master brand where we think pet parents want to see it." ] }, { "name": "Ken Goldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Chris Growe with Stifel. Please proceed with your question." ] }, { "name": "Chris Growe", "speech": [ "Hi, good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Chris." ] }, { "name": "Chris Growe", "speech": [ "[Speech Overlap] had a question for you on -- to start first with the -- with cost inflation and to better understand kind of the moving pieces in the gross margin, again, it's very clear about the inflation and there were some costs to secure incremental capacity. So just to understand a couple of simple things, was weather a factor at all in the gross margin for you this quarter? And then, I also just want to understand like the rate of inflation and then how fourth quarter inflation might look in relation to the third quarter." ] }, { "name": "Kofi Bruce", "speech": [ "Sure, Chris, I'll be happy to address your question. Thanks for asking. So, as you think about the other factors, certainly as you -- as we flagged, there are higher cost to operate in this higher demand environment. And I will tell you that part of the cost in our logistics network costs have gone up in relation to responding to the high demand environment. Specifically, as we're operating in an environment where we need to open new lanes of freight to reach our external supply capacity but also to reposition within the network, which is where we've seen some incremental costs as related to the weather in the quarter. And as we get to Q4, while we're not giving guidance on Q4 inflation, I think it's important to note, for the full year, we are still expecting about 3% inflation. And the way I'd characterize it is, our expectations at the beginning of the year were 3%, and we are rounding up to about 3%, and we are in a position now where we will be rounding out to about 3% inflation. And I think the critical thing for us is, we're taking the opportunity to act with all of our SRM and our HMM levers to set ourselves up to in anticipation of higher inflation as we step into F22." ] }, { "name": "Chris Growe", "speech": [ "Okay, thank you for that. And then, I had a separate question, if I could, on Pet, so perhaps for Bethany. But just in relation to -- you had some incremental promotional costs around Tastefuls, the launch of that. Did that continue? Do you see a step-up -- sort of increase in promotional spending for that business? And then, that's also a division where there has been higher costs. Is that where we could see some pricing coming through? Has that come through at all in the industry? Not looking for a forward commentary there, but have you seen that yet in the industry?" ] }, { "name": "Bethany C. Quam", "speech": [ "Well, starting with the support [Phonetic], we're launching a new business. And so, you have cost to do that, and so we see ourselves spending at a rate that's right for the category. And again, we can work within the entire portfolio. So, those are launch costs that we're talking right now. In terms of premiumization, that is absolutely continuing in every part of the category. So the premium cost per pound on wet cat food, definitely higher than what you see in dry. But every part of the category continued to premiumization on a cost per pound basis." ] }, { "name": "Jeff Siemon", "speech": [ "And Chris, this is Jeff Siemon. I'd just add to the original question about cost in the quarter, I just note that on a year-to-date basis, the Pet segment has had about a little over 24% margin versus 22.5% last year. So, while the quarter was -- maybe there was a little bit of incremental cost, we still feel very good about where we are year-to-date for that business from a margin and a growth standpoint." ] }, { "name": "Chris Growe", "speech": [ "Okay, thank you for that, and appreciate it." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Michael Lavery with Sandler Piper [Phonetic]. Please proceed with your question." ] }, { "name": "Michael Lavery", "speech": [ "Thank you. Good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Michael Lavery", "speech": [ "Just following up on the Pet segment, you've had some accelerating volume growth over the course of the year. Can you give a sense of how much of that is driven from pipeline fill behind new launches versus just kind of a more run rate type momentum?" ] }, { "name": "Bethany C. Quam", "speech": [ "Yeah, thanks for the question. So, we continue to see the movement of the business accelerate. And so, in Q2, we had talked a little bit about movement when we had reported 18% sales being a little bit ahead of our inventory. But our movement accelerated as we went into Q3. And so, we feel pretty good about the levels of inventory at this point." ] }, { "name": "Michael Lavery", "speech": [ "Okay, great. And then, just following up on the inflation question, looking ahead a little bit, can you give a sense of how much you're positioning yourself for '22? And just trying to get a sense of how much you think the current kind of run in prices might be sticky versus waiting to take some positions if it may come back. What's your thinking on that at a high level?" ] }, { "name": "Kofi Bruce", "speech": [ "Well, certainly at a high level, we are preparing for higher inflation, and I don't want to get too far ahead. We'll come back and talk to you in Q4 about F22 inflation expectations. But I will just reiterate, we are taking actions on the basis of that preparation, specifically around our HMM and our strategic revenue management plans and using all of the levers of strategic revenue management." ] }, { "name": "Michael Lavery", "speech": [ "Okay, great. Thanks so much." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Robert Moskow with Credit Suisse. Please proceed with your question." ] }, { "name": "Robert Moskow", "speech": [ "Hi, Kofi and Jeff. I think I'm going to get the same answer as Michael just got, but inflation is accelerating higher than you thought, and I know you have multiple levers to offset it. But within SRM, I think list price increases are one of those levers. So, is it fair to say that, that will have to be utilized more than originally contemplated? And look, a lot of retailers are talking about inflation right now. A lot of your competitors are talking about inflation. Is it fair to say that there is more willingness to pass that through? I know it's never easy. But it's not just you who is facing the inflation." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "It's Jeff. Just let me take that question because if you get the same answer, then at least you get it from a different person. So, I will start by saying that inflation is very broad based. It's actually global. So, we're seeing it across the globe. We're seeing inflation, and it's broad based across commodities, across logistics, across things like aluminum and steel. And so, whenever you see this kind of broad-based inflation and it's global, that's an environment where you're going to realize net pricing. And we certainly go to HMM first. But in this kind of environment, just like a few years ago when we saw the same thing -- our retailers are seeing it, our competitors are seeing it, and we're seeing it. And so, we will realize pricing. We'll also just -- we will use all of the tools, and that includes loss [Phonetic] pricing, whether it's loss [Phonetic] pricing, it is price pack architecture against how manage trade, and then finally, price and mix. We'll need to use all those levers. And when it comes to pricing, you go from the macro to the micro pretty fast. And so, the levers we pull certainly depend on category and they should depend on geography. And so, I will -- we'll use all those -- we'll use all the levers at our disposal, and we'll begin that process here in the fourth quarter." ] }, { "name": "Kofi Bruce", "speech": [ "And let me just add for additional context, a reminder that our first lever is Holistic Margin Management, so our cost of goods sold productivity, which has been averaging about 4% annually. So we're not relying just on SRM to address the issue. The first 4 points or so, we would expect to get through gross margin productivity." ] }, { "name": "Robert Moskow", "speech": [ "Okay. I'll leave it there. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Jason English with Goldman Sachs. Please proceed with your question." ] }, { "name": "Jason English", "speech": [ "Hey, good morning, folks. Thank you for..." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Jason English", "speech": [ "I guess, I was going to keep coming back at sort of the same point of question, and that's really just trying to understand the margins here. Kofi, I think, clearly great margins this quarter, and I think you're guiding for profit or margins to actually be below fiscal '19 levels in the fourth quarter, so below pre-COVID. And I'm trying to wrap my head around it. You're talking about HMM savings exceeding inflation. So, for the year, you're actually net deflation on those two. You've got phenominal volume leverage, huge pricing rolling through the best pricing in years. What is the other offset? You stack those up right there and I would expect meaningful margin expansion for the year, not profit actually falling below pre-COVID. What are the other offsets? Can you help us quantify them? And which of those offsets may be transitory and related to COVID with costs falling out as we look over the next, say, 12 to 24 months?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure. So let me let me speak to some of the key drivers here. Foundationally, after those, you need to look at the higher operating costs in this environment related to us securing additional capacity from external supply chain. And with that, the logistics costs associated with operating in that environment puts us in a position where we are securing more lanes for freight to support that external capacity at higher spot market rates, which we would note that we're seeing about mid-single digit inflation in freight in this environment. So, as we're exposed to the spot markets on those external supply chain lanes, the cost of delivering to customers and distribution centers is higher. So, those two factors, I would expect, to be largely linked to the demand environment. And as supply and demand come more into balance, as our inventory levels in the system come more into balance, I would expect those costs to abate. And obviously, we're lapping a tremendously strong Q4 where a fair amount of leverage was driven just in part because of the inventory in the system that both us and the retailers used to draw down to service the demand." ] }, { "name": "Jason English", "speech": [ "That's really helpful. Is there any way to quantify some of those things like the transitory logistics cost that can fall away, just so, as we look to tackle our model, we've got some of the right puts and takes that we're contemplating?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. I don't want to get too specific on Q4. But I think it's fair to say that those two -- as you think about the offsets to some of the key drivers and specifically leverage, those are more than sufficient to offset some of the leverage benefits we expect to see this year." ] }, { "name": "Jason English", "speech": [ "Okay, thank you." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Faiza Alwy with Deutsche Bank. Please proceed with your question." ] }, { "name": "Faiza Alwy", "speech": [ "Yes, hi, good morning. So, I guess, I wanted to follow up on Andrew's question, and that was -- but I wanted to see if you could talk about how you think consumption patterns will trend from here, and within that, specifically how you think about the snack bar category, which is one of your global platforms. But, Jeff, you talked about how you don't expect consumer habits to change. So, I'm curious how you're thinking about the recovery in that category. The overall category is fragmented, and there are many different segments. So, just wondering if you could share your aspirations around how you would like to play in the overall category." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, so let me make -- thanks for the question. Let me make a clarifying point. What we see happening is that demand will be higher in the near future than it was pre-pandemic. Certainly, as people return to eating out and people are going to schools, we'll see a reversion of some of that volume back to where it was before, just not all the way back. So, I would envision an environment where demand is not as high as it is today in at-home eating, but it's higher than it was pre-pandemic. And I think some investors and some analysts feel that volume is just going to snap back to the way it was before the pandemic. And what we've seen -- outside of the US, what we're currently seeing in our current channels will lead us to believe that any return to normal will be more elongated and that return to normal will eventually be different. So, as we see that, the same would hold true of our bars category. And I'll give a little highlight -- high-level commentary, and then Jon Nudi may want to weigh in. In bars, because it really is energy on the go, the fact that the category has been down recently is because people have not been on the go as much. As people start to get out a little bit more, we've seen the category improve a little bit. In fact, I'm really pleased with our progress in terms of share. We're competing effectively all over the world in the bars category. That would be the US, as well as Europe, as well as Australia. And so, we're starting to see that category return a little bit, and we've been competing quite effectively in it.", "Jon, do you have any other -- anything you want to add to that?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "You really hit it, Jeff, on the on-the-go nature of the categories. A tough time with the grain snacks, down high-single digits year-to-date. Performance bars is down double digits. So again, that's been the toughest to play. As Jeff mentioned, we've been really focused. In fact, one of the things I'm proud of is that we're actually growing share in total bars. As many of you remember, we've been struggling in this category for the last few years. And our turnarounds were really led [Phonetic] by Nature Valley, our biggest brand. We've got some really strong marketing on air, some great news around recyclable wrapper that just rolled out, as well as the number one launching in the category, which is [Indecipherable]. So, we feel good about how we're performing. And as Jeff mentioned, when we get back to a more normal time, these categories will bounce back to growth." ] }, { "name": "Faiza Alwy", "speech": [ "Great. And then, just I wanted to also take advantage of Bethany being on the call. And Bethany, I was hoping you could give us a little bit more color on the treats side of the business. Early on, there was a view that as Blue Buffalo moves into FDM, that is the channel where treats are more prevalent. And I think it's been a bit disappointing relative to everything else that Blue has done. So I'm curious if you have any thoughts on the long-term potential of the treats business and whether there is sort of more innovation, more marketing, anymore work you can do or that you think needs to be done around that side of the business." ] }, { "name": "Bethany C. Quam", "speech": [ "Yeah. Thanks. You're absolutely correct, Faiza. As you get exposed into the food, drug, mass channel, there is more treats that are sold in that channel. Blue Buffalo definitely resonates with pet parents in terms of trading. You'll see here in the four quarter, we are launching a new innovation behind bones, and so that is the opportunity for pet parents to clean -- to feed a bone alternative, crunchy biscuits that meets the true Blue promise. And so, we are continuing to do well in the treats category, but we know we can do better. And so, we have both innovation launching as well as we're doing some price pack architecture work as well. And so, we're able to merchandise. If you look at the pet category, the treats segment is obviously more responsive to merchandising than your food segment. And so, if you look in our remarks today, we have a picture of how the whole portfolio will show up now. And so, when we merchandise, retailers are able to offer the new bone, our sticks, our sizzlers, and we really cover all different treat types. So, we're continuing to press merchandise. We also are starting to do some different types of marketing behind treatable moments. And so, we are pushing on all areas to continue to drive that. It's a huge category. We've got growth. We'd like to have a higher share of it." ] }, { "name": "Faiza Alwy", "speech": [ "Great, thank you so much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Nik Modi with RBC Capital Markets. Please proceed with your question." ] }, { "name": "Nik Modi", "speech": [ "Good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Nik." ] }, { "name": "Nik Modi", "speech": [ "So, I just wanted to ask about new items. My understanding is, General Mills is going to be pretty active in this area in 2021. And just within a construct in the backdrop of SKU rationalization happening at retail, I just wanted to kind of understand how that kind of is going to work as you look to really get all products onto the shelf. And then, I just have a quick follow-up." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Jon, do you want to take that?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, sure. So obviously, there's some SKU rationalization going on, really driven by click and collect and retail is really optimizing the shelf space. At the same time, consumers are always looking for new products and new innovation. I think retailers are very engaged by that as well. So in fiscal '21, our new products have done quite well. In cereal, we've got three of the top 3 launches in the category. [Indecipherable] we've got three of the top 4 launches and we've got a great track record, and that track record really helps us selling new products. So the bar is higher, and we've got to have good items, we've got to perform, and we really have a track record of doing that, which will help us as we place new items in the coming year. The other thing we're actually looking at is our share distribution is up overall and in our key categories as well. And again, the new products really helped us with that. So, as summer is going to approach, we're really excited about the plans we have coming for fiscal '22 as well, which we will share as we get closer to the end of the year." ] }, { "name": "Nik Modi", "speech": [ "And Jon, just as we think about SKU rationalization and how retailers prioritize which brands they have on the shelf, would you expect additional space kind of over the next 12 months as a result of some of those changes?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Well, I think, Nik, obviously, the highest turn SKUs are getting more shelf space right now as they really are using the shelf for bricks and mortar shopping, as well as their click and collect operations. So, our top SKUs continue to grow shelf space, and that's a really good thing for us. And then, from and innovation standpoint, again, I think that retailers are looking for a track record of success. So, as we've proven that we can do that, I think, they are looking to our items first. I think in some cases, the smaller companies that are coming in, where a few years ago, retailers were jumping over [Phonetic] those those items, it's a tougher environment for that right now. So, I think for a manufacturer that have brig brands that turn well, it's a good time with shelf. And I think new products are really all about how exciting you can get retailers and consumers about those items and building a track record to deliver. And again, we've been able to do that more recently." ] }, { "name": "Nik Modi", "speech": [ "Excellent. Thank you. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Jonathan Feeney with Consumer Edge. Please proceed with your question." ] }, { "name": "Jonathan Feeney", "speech": [ "Good morning, and thanks. I've looked at -- given a clearly -- I think you touched on this a little bit before, but given a clear rise in visible costs here, I'm a little surprised there is not more dedicated effort to raise pricing. Is this something that's like just tactical inside your organization. You're just going to let it right here? Or is this a response to discounting and private label growth or fear about that in the marketplace? Because you would look at the -- you would look at your input costs and everything that's in the headlines, and this would -- this feels like a 2006 type environment, and yet we're not seeing that at least yet on the pricing front." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hey, Jon -- go ahead, Kofi." ] }, { "name": "Kofi Bruce", "speech": [ "No, hey, Jon. I think just to answer your question, we certainly are responding right now on the expectation that inflation is going to be higher. As Jeff referenced earlier, we're seeing it broad based. We're seeing it global. And we're, frankly in all of our businesses, looking hard at that and using the SRM levers. So, I think you'll see us acting. And in fact, in some of our businesses, we already have have actions in market on the SRAM front. So, I would just sort of respectfully note that we're moving right now." ] }, { "name": "Jonathan Feeney", "speech": [ "Okay. I recognize it's a sensitive topic. Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Laurent Grandet with Guggenheim. Please proceed with your question." ] }, { "name": "Laurent Grandet", "speech": [ "Hey, good morning, everyone. I'd like to come back on the Pet segment. I'd like to understand better the dynamics in price/mix as it was negative in the quarter. Third quarter, you launched some premium wet and treats, but also where -- [Indecipherable] said and you grew in the pet specialty for the first time, which probably asked for premium price. So I'd like to understand better what was driving this negative in the price/mix in the quarter and how we should think about price/mix in that segment going forward. Thank you." ] }, { "name": "Bethany C. Quam", "speech": [ "Again, thanks for the question. So, for the nine months of the year, our sales are up 13% and our profits up 22%. So we feel really good about how we're able to drive the business in the quarter. Our mix can vary depending on channel, and so as we continue to build out -- this is a really young business in some channels. And so, as we are building out [Technical Issues] we didn't have a variance from the channel mix but also the product mix. And so, we invested behind the different parts of the business. I feel good about the long-term price/mix. Again, what's driving the Pet category is premiumization. Blue Buffalo is solely in that part, and we will continue to ensure that we have the right price/mix, and it can vary by quarter, by channel, by product mix." ] }, { "name": "Jeff Siemon", "speech": [ "Hi, Laurent, this is Jeff Siemon. I'd just add that as a reminder to everyone, especially in the first half of the year, we are comparing against the first half last year where we were still expanding our Wilderness line more broadly into food, drug and mass. And so, that is a very high price/mix business, and so the comparison was probably a headwind through the first half, maybe a little bit into the back half. As we go forward, right now, fully comped all that expansion. And Bethany said, a lot of the innovation and news you're seeing is in the wet and the treats segments, which are certainly mix positive. So we feel good about where we go from here." ] }, { "name": "Laurent Grandet", "speech": [ "Thanks. My second question, a completely different topic. It's about Yoplait in Canada. Not much visibility on the business there. Could you maybe give us some colors as to, should we think about the same type of profitability in Canada that you've got in the US? And also, in terms of growth, is it growing faster? I'd like to have a bit more color on the Yoplait Canada, Please. Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, Laurent, we have a good market position in Canada. Why don't I have Joh Nudi provide some of the commentary on that business?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah. Hey, Lauren. We really like our business in Canada, yogurt business. It's about a third of our whole business in Canada. And actually a bigger business for us is deliver Liberte. So it's about 60% of our yogurt business in Canada versus 40% for Yoplait. And one of the things we love is Liberte is the leading Greek yogurt in Canada. So, while we, a few years back, didn't do so well [Indecipherable] in US, we did very well in Canada, and a result, have a strong market share position in the market. So we'll [Indecipherable] to more as we move forward, and we'll probably highlight some of the new products and other things that we have coming, but we really like our business is performing well in Canada as we speak." ] }, { "name": "Laurent Grandet", "speech": [ "Thank you. I'll pass it on. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of David Palmer with Evercore ISI. Please proceed with your question." ] }, { "name": "David Palmer", "speech": [ "Thanks. As you know, in the US, there are some markets that are reopening faster than others, Texas and Florida. I'm wondering as you look at some of those micro examples, what sort of two-year trends are you seeing, and maybe even within that, some insights that you're garnering about the reopen and the impact on your individual categories, retail, Pet and within retail. And I have a follow-up." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "David, let me -- this is Jeff. Let me provide a little background on the last year, and I'll tell you a little bit of what we were seeing in the last month or so. But as we look at the past year, we've really seen the at-home trends across our markets, and some have been relatively more open than others, as you know. We've seen at-home trends have kind of accelerated across those markets, even in the markets that are more open. And there may be a couple of points less growth at home than those that have been relatively more closed, but we're seeing pretty consistent performance across markets over the past year, whether it's at-home or away-from-home consumption. There's been a lot of talk on reopening in the last month. But the data gets really challenging because -- especially because of the weather situation. So for example, Texas has opened up its away-from-home eating, but they had a huge winter snowstorm over the last month, which elevated demand quite a bit. And so, trying to pick them apart as pieces and the variables over the recent short term is really difficult to do. I don't say that to try to hide anything. But if you look at it, you'll see that at-home consumption in Texas will be up, which would be counterintuitive, but that's because of the huge storm. So I think we'll know a lot more at the end of this quarter once we've seen more. So right now, what I can tell you is, over the long term, over the last year, we've seen elevated demand across markets. Over the summer time, there are so many variables to play that really that is to pick them apart." ] }, { "name": "David Palmer", "speech": [ "Yeah. I sympathize with that. It feels like we're going to be looking week by week from now on. But when we look at this last year, this fiscal '21, and we look backward, what are some COVID-related costs, both direct and indirect? For example, you cited the supply chain demand and that the elevated trucking costs and that just basically freight and logistics being under such pressure that it's essentially an indirect COVID-related cost. But is it -- could you maybe sum that up in terms of gross margin headwinds that you will be lapping in fiscal '22? And I'll pass it on." ] }, { "name": "Kofi Bruce", "speech": [ "Yeah, sure. And I'll add to that list some of the other COVID-related costs such as some of the policy -- leave policy dispensation we've given to our employees, obviously some of the security protocols and adjustments we've made in the early days. And I expect a good portion of those costs, as we work into a more normal environment, to sort of get back in line with normal trend. So I wouldn't build off of a base of this cost on a full go-forward basis, as you think about F22, and demand potentially for at-home consumption being lower than this year but even still elevated above pre-COVID levels. I'm not going to quantify at this point, but we'll talk more about that as we work our way into F22." ] }, { "name": "David Palmer", "speech": [ "Okay, thanks." ] }, { "name": "Jeff Siemon", "speech": [ "Jennifer, I think that's all the time we have. So I think we'll go ahead and close up now. Thanks everyone for taking the time out and the interest. If you've follow-up questions, please reach out over the course of the next couple of days. And we hope everybody is staying safe and healthy. And we'll talk again next quarter. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
GIS	2022-06-29	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeff Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jon Nudi", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Cody Ross", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Pamela Kaufman", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Tom Palmer", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Steve Powers", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the General Mills fourth quarter fiscal 2022 earnings Q&A webcast. [Operator instructions] As a reminder, this conference is being recorded, Wednesday, June 29, 2022. I would now like to turn the conference over to Jeff Siemon, VP of investor relations. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thank you, Kelly, and good morning to everyone. We appreciate you joining us today for a Q&A session on our fourth quarter and full year fiscal '22 results. I hope everyone had time to review our press release, listen to our prepared remarks and view our presentation materials, which were made available this morning on our Investor Relations website. Please note that in our Q&A session, we will make forward-looking statements that are based on management's current views and assumptions.", "Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which may be discussed on today's call. I'm here with Jeff Harmening, our chairman and CEO; Kofi Bruce, our CFO; and Jon Nudi, group president of our North America retail segment. Let's go ahead and get right to the first question. So, Kelly, can you please get us started?" ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question comes from Andrew Lazar with Barclays. You may proceed with your question." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Thanks. Good morning, everybody. I think you've talked about over the course of this year how the combination of HMM and pricing and other levers have actually been pretty effective at sort of protecting a lot of the -- at least the dollar cost of actual sort of inflation, but that supply chain costs and some other things, of course, have weighed on margins and profitability as well, like it has for the group as a whole.", "I guess as you look forward to '23, I think you mentioned that you anticipate another sort of, call it, low double-digit benefit from pricing that you've taken already or is already in place. But of course, you still see another very significant 14% jump in inflation and slowly but surely, hopefully will continue to improve on the supply chain side. So I guess the question is, do you think that the combination of pricing and the HMM and the other levers that you've got would be enough in fiscal '23 to sort of better protect dollar profit, even including some of the supply chain issues and other things as opposed to just cost inflation? And then I just got a quick follow-up." ] }, { "name": "Jeff Harmening", "speech": [ "Kofi, you want to take that one?" ] }, { "name": "Kofi Bruce", "speech": [ "Absolutely. Thank you, Andrew. So as we think about our approach to the next fiscal year, we're thinking about it much the same way. We're expecting only a modest decline in the level of supply chain disruption.", "We expect, as you mentioned, our price realization and a combination of HMM to largely offset the dollar cost of the 14% inflation that we've called. And our expectation is that the remainder of cost from disruption, we would work out over time to the extent that we see the environment stabilize. So the only big question remains when that happens. I think we're expecting another year of uncertainty candidly similar to the table that was set this year." ] }, { "name": "Andrew Lazar", "speech": [ "OK. And then obviously, it's still very dynamic, and I know there have been plenty of discussions and a lot of debate, of course, around pricing and cost and everything else. But as you built your plans going into '23 and then discussed them with your key retail customers and things, I guess, are there things that have changed a little bit around going into your plans for fiscal '23 in terms of your retailer conversations versus, let's say, a year ago, meaning things around innovation or marketing plans, merchandising plans? I mean are you seeing customers start to think a little bit differently about those things as opposed to simply the pricing and inflation dynamic? Or am I being naive and we're just not there yet?" ] }, { "name": "Jeff Harmening", "speech": [ "Jon, do you want to take that question?" ] }, { "name": "Jon Nudi", "speech": [ "Yes. Absolutely. So it certainly is a dynamic environment. There's no doubt about that.", "And certainly, inflation and supply are two of the big topics that we spend a lot of time with retailers on. But I would say, Andrew, that things are pivoting back a bit more to growth from a marketing standpoint, from an innovation standpoint. So we're having those conversations as well. And also how do we provide value to consumers at a time that they need it as well.", "So we're talking about many things that were -- honestly, a year ago was really about supply that we were thinking in advance. So I think things are getting back to some of the conversations we've had in the past, and it's all about how do we properly grow our businesses together." ] }, { "name": "Andrew Lazar", "speech": [ "OK. Great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Bryan Spillane with Bank of America. You may proceed with your question." ] }, { "name": "Bryan Spillane", "speech": [ "Hi. Thank you, operator. Good morning, everyone. I guess my question -- and maybe this is for you, Kofi.", "If we look at the guidance, the organic guidance, right, so the revenue range is 4% to 5%. And if you add back the impact of -- the net impact of the divestitures and acquisitions, the operating income range is 1% to 4%. So can you just kind of help us kind of think through what are the drivers that would cause you to be at the low end of that range, the OI range or the higher end of that OI range, again, assuming that 4% to 5% organic sales growth is the right number? Is it a reflection of commodity volatility? Or just like what are some of the pieces there that kind of describe or inform that wider range in OI?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. No. I appreciate the question. And I think back to my earlier comments about sort of the backdrop for the operating environment, it still remains volatile with a high degree of uncertainty.", "I think we're expecting as a backdrop that the supply chain disruptions, to the extent they are foreseeable, will in the near term, not abate that much. So that is a factor that, even as we worked through this past year, was a headwind to margins and, even as we moved from quarter to quarter, provided some volatility to our expectations. So the guidance range primarily reflects that. And then obviously, inflation is -- our best call based on the information we have in front of us, is 14%.", "But I would note that our expectations moved up even as we worked through the early part of this last fiscal year we just closed. So those are the two primary sources of volatility driving our expectations on the range." ] }, { "name": "Jon Nudi", "speech": [ "Bryan, I'd just add one additional piece on the inflation, is we are about 55% covered on our ingredients and packaging material requirements as we start the year. That's a bit higher than average, but that still leaves obviously some lack of coverage, especially in the back half of the year. So to Kofi's point about the uncertainty." ] }, { "name": "Bryan Spillane", "speech": [ "OK. And anything in terms of -- I guess, you might -- you must know more about the first half of the year than the second half of the year. Just anything we should think about that in terms of phasing? Just in terms of the inflationary pressure, is it a little bit more front or back half loaded?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. So I think that's a great question and one worth just a little bit of comment. So as you think about the year, I would say we'd expect that the first half profit growth to be slightly weighted and favorable to the second half. A lot of that obviously is in part of the weight of the comparison on this Q4 that we just closed.", "But as you think about inflation, which you also referenced, we would expect that to be highest in Q1 and then decelerate as you work sequentially through the comps over the course of the year. And price/mix, we'll expect a partial impact in Q1 from recent actions and a full impact kind of in Q2. And then the other factor that I'd just call out that's worth mentioning is the impact of divestitures. The ones that we've announced and the ones that we've closed will be a bit higher than the first half before we begin to lap the yogurt and dough divestitures, which happened in the second half of this recent fiscal year." ] }, { "name": "Bryan Spillane", "speech": [ "All right. Thanks, Kofi." ] }, { "name": "Operator", "speech": [ "Our next question comes from Robert Moskow with Credit Suisse. You may proceed with your question." ] }, { "name": "Robert Moskow", "speech": [ "Hi. I guess a couple of questions. Kofi, I think in the middle of the year, you actually quantified the cost of supply chain disruptions, and then I don't know if you've quantified it since. Do you have a number for us? And when you talk about your pricing and HMM actions offsetting cost inflation, does it also offset that disruption estimate? Or is that a separate number? And then I have a quick follow-up." ] }, { "name": "Kofi Bruce", "speech": [ "Yes. So we didn't provide a number. It's -- I think is in the range of 200. Previously, 250 is about where we'd half the mark here at the end of the year.", "And then I think back to my earlier comments, as we look at the full year, our adjusted gross margins are down. And if you kind of deconstruct that the elements would drive you to inflation being about 500 basis point roughly drag, offset almost completely by price/mix and HMM. And that leaves the cost of the operating environment, the disruptions, the deleverage, other intermodal transfers, all the things that we're doing to accommodate supply in this environment as the driver of the margin decline." ] }, { "name": "Robert Moskow", "speech": [ "OK. And I might just not be confident in finding things. But I'm having trouble finding the price/mix for North America retail in fourth quarter. I think I'm backing into something like 16% pricing.", "So --" ] }, { "name": "Kofi Bruce", "speech": [ "You're close." ] }, { "name": "Robert Moskow", "speech": [ "OK. So if your cost inflation --" ] }, { "name": "Kofi Bruce", "speech": [ "15-plus percent is the number of organic price/mix." ] }, { "name": "Robert Moskow", "speech": [ "So I guess here is the question. If your cost inflation for the year is only 14% but you're running pricing at 16%, isn't that a net positive?" ] }, { "name": "Kofi Bruce", "speech": [ "Are you talking this fiscal year or next fiscal year?" ] }, { "name": "Robert Moskow", "speech": [ "Fiscal '23. So for fiscal '23, I think you're guiding to 14% inflation. Your pricing in your biggest segment of the market is up mid-teens. So I guess it seems like the pricing benefit is -- from a dollar standpoint is a net positive compared to your price inflation on a cost inflation on a dollar standpoint." ] }, { "name": "Jon Nudi", "speech": [ "Yes. Rob, I think you've got -- I mean, you have to remember that we'll be starting to roll over some pricing as we come into fiscal '22 and certainly much more so as we get into the back half of the year as we have significant pricing come through in the back half of -- sorry, of fiscal '22, we'll be rolling over that in fiscal '23, my apologies. And then I think the other piece that would be included in that would be the offset from volume and deleverage that comes through. We mentioned that we are expecting elasticities to be below historical levels but to increase somewhat as we go through '23." ] }, { "name": "Robert Moskow", "speech": [ "OK. That makes sense. And should I think about like for first-quarter pricing, is it -- you're lapping only a 4% price/mix for North America, but you're taking more action. So are those two things kind of offsetting each other, do you think? Like you'd still be mid-teens in the first quarter?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. Roughly. I think that's a fair assumption." ] }, { "name": "Robert Moskow", "speech": [ "Got it. OK. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Michael Lavery with Piper Sandler. You may proceed with your question." ] }, { "name": "Michael Lavery", "speech": [ "Thank you. Good morning. Just looking at the SNAP benefits that -- federal COVID emergency authorization is now set to run at least into October. And that, of course, supports the state emergency elevated levels of SNAP benefits that have been pretty significant.", "As you contemplate your top-line guidance, what assumptions do you make around how that might unfold?" ] }, { "name": "Jeff Harmening", "speech": [ "I would start -- and I'll have Jon Nudi follow up on this. But I -- Michael, I would start with the -- our assumptions include people starting to eat from away from home more to a little bit at-home eating. And so I think as consumers become more concerned about the economic reality, the first thing they tend to do is eat more at home and less away from home, and we've seen restaurant traffic year over year the last couple of months has gone down a little bit and eating at home has gone up. And so as we think about our assumptions for the year -- and we saw this in the last recession, the Great Recession.", "We saw that consumption of away-from-home eating was down and replaced by at-home eating. We're seeing the same kind of behavior start now. So that's actually the first place I'd start. And then -- and that's because consumers want to eat out more, but the cost of eating away from home is more than double the cost of eating at home.", "And then, of course, there's value-seeking behaviors once they get in the store, but consumers try to change their habits as little as possible and still be able to get what they want. And so that's how I would frame -- I mean, it's not an answer to the SNAP question, but before we go deep down that hole, I just wanted to start with kind of an overarching comment. And so, Jon or Kofi, do you want to take over a little bit on the SNAP question?" ] }, { "name": "Jon Nudi", "speech": [ "Yes. So thanks, Jeff. And I think you hit it exactly right. So SNAP is obviously one of the elements that will drive top line.", "And while SNAP is down versus pandemic highs, it's still above prepandemic periods. So we continue to monitor SNAP and it plays into things. But as Jeff mentioned, some bigger factors in play as well, including the shift to more in-home eating. And then even what's playing out in our categories.", "We've obviously watched very closely as well in terms of how branded players are performing, how private label is performing. And if you look back through history during economic downturns, we tend to perform pretty well and see our categories increase by one point or two in terms of volume performance. We've actually held our own from a share standpoint during those periods. We've seen the second and third-tier brands lose share to private label.", "So it's a dynamic time. We're very close to our business and watching all the factors. But SNAP is just one of those." ] }, { "name": "Michael Lavery", "speech": [ "That's really helpful color. That's great. And just to follow up, I know you've called out the elasticities you expect to start at least getting closer to normal levels and factoring in some of that volume piece. On the pricing side, just especially with what the consumer is facing and some of the pushback maybe even from retailers, are you starting to feel like you're hitting a price ceiling in any categories? Or is it really still more of the same like it's been in this recent environment?" ] }, { "name": "Jeff Harmening", "speech": [ "I would say, Mike, up until this point, we haven't really seen any change in elasticities. And I think the reason for that -- there are a couple of reasons for that. One is that consumers have switched to more at-home eating because it's more expensive. So the reason I started talking about, I would say, would be a big contributor to elasticities not having changed much even over the last month from what they were two or three or four months ago.", "And the consumer is actually still in a -- they're still in a decent place. They're getting nervous. But when it comes to savings rates or the employment rate, I mean, consumers are still spending quite a bit of money. Now as they look ahead, they get nervous because they see inflation and so forth.", "But right now, the consumer is in a decent place. And any -- we haven't really seen any elasticity change, and I think that's because of the shift from away-from-home to at-home eating." ] }, { "name": "Michael Lavery", "speech": [ "OK. Really helpful. Thanks so much." ] }, { "name": "Operator", "speech": [ "Next question comes from Cody Ross with UBS. You may proceed with your question." ] }, { "name": "Cody Ross", "speech": [ "Hey. Good morning, folks. Thank you for taking my question. I just want to dig a little into pet here because the pet margin continues to slide further driven by inflation and supply chain disruptions that you called out.", "Did this catch you by surprise during the quarter? And when do you anticipate the rate of margin declines to moderate? And then I have a follow-up." ] }, { "name": "Kofi Bruce", "speech": [ "Yes. Absolutely. Sorry. I just presumptively jumped in there.", "So thanks for the question. It's -- I just want to kind of set the frame by just acknowledging I think the pet business for us is still seeing a really strong demand, right? And we've grown the pet business double digits on both the top and the bottom line in the four years post acquisition. So this is more a function, as we look at the margins, specifically around two things, roughly in equal measure: the first, the impact of the acquisition that we completed early this year, this past fiscal year of the pet treats business, which is largely driven by some onetime costs and some modest margin dilution that comes with that business; and then second, the cost to serve, which were acutely higher in the quarter on the pet business. We've sought to service that business at levels to meet demand.", "We candidly were not able to produce to the demand we saw in the quarter and have had challenges and headwinds as we worked through the year. We're taking significant actions, to your question on kind of what we're doing about it, to debottleneck and continuing to add external supply capacity. In addition, we've put $150 million of capital spending, additional capital spending behind our dry dog food business, which is where we're seeing the most acute challenge on service to get additional capacity online in -- starting in F '24. So we would expect this -- the margin pressure to modestly improve as we take the near-term actions and then the real unlock to come as we get additional capacity, both external and internal, online." ] }, { "name": "Cody Ross", "speech": [ "Gotcha. Thank you. And I just want to follow up a little bit about gross margin and some of the stranded costs you expect. So if you combine the low double-digit price/mix with the HMM savings, it looks like you should fully cover the inflation you're going to endure next year.", "You'll also be lapping the supply chain challenges in the second half next year. Is it fair to say right now that gross margin could actually increase next year? And if not, is that because of stranded costs? And if so, can you just kind of give us any color as how much stranded costs you expect?" ] }, { "name": "Jeff Siemon", "speech": [ "Cody, I think -- this is Jeff. You're -- I think you've got the right drivers. You're right that HMM plus our SRM pricing actions are intended to offset the inflation component. We did talk about a modest decline in disruptions.", "We will have an impact from divestitures and obviously, in particular, the Helper and Suddenly Salad divestiture. That's clearly a higher-margin business as we disclosed in the announcement of the deal. And so the divestiture of that business will have a negative mix impact on margin for the year." ] }, { "name": "Cody Ross", "speech": [ "Got it. Thank you very much. I'll pass it along." ] }, { "name": "Operator", "speech": [ "Our next question comes from Pamela Kaufman with Morgan Stanley. You may proceed with your question." ] }, { "name": "Pamela Kaufman", "speech": [ "Hi. Good morning. In the prepared remarks, you highlighted that portfolio reshaping is going to be an ongoing aspect of the company's strategy. One of your key competitors is pursuing a more surgical approach to portfolio reshaping.", "What are your views on pursuing a similar strategy? And have you considered splitting up the company across higher and slower growth segments?" ] }, { "name": "Jeff Harmening", "speech": [ "Yes. Thanks for that question. What I love is that our strategy is working, and it has been working regardless of what competitors are doing. Our strategy has been working for the last four years as that inspire continued growth above our long-term algorithm and the fact we're share in the majority of our categories.", "And so I think actually, the worst thing that we could do is look at what somebody else is doing and try to emulate that when the strategy we have is working. And I say that because we're executing well on our core business as evidenced by the share gains over the last four years. But we've also integrated M&A quite well and whether that's seamlessly divesting the yogurt business or aggressively growing Blue Buffalo and the pet treat business. We feel great about that.", "The other thing I would say is it kind of goes -- people get lost and we talk -- there are a lot of dis-synergies or splitting things up and not only financial dis-synergies, but also capability of dis-synergies. And let me give you a couple of examples. When we bought the Blue Buffalo business, one of the things we said was that the capabilities we have at General Mills are very similar to what is needed at Blue Buffalo. And one of those is extrusion technology, which is the technology we use in cereal.", "And we're one of the world leaders, if not the world's best, at extrusion technology. The same would be true for things like thermal processing, where the same technology that's used for wet pet food is used in things like soup and yogurt and other things. And so for a whole host of reasons, but ending with our strategy is working. Whatever our competitors do, their strategy may be the best for them, but we really like our strategy.", "We like the way it's working. And at the end of the day, it's creating quite a bit of value for shareholders." ] }, { "name": "Pamela Kaufman", "speech": [ "Great. And also, you've discussed how you expect consumers to seek more value given the pressures that they're facing. In this environment, how are you thinking about managing price gaps versus private label and your branded competitors? It seems that your price gaps have widened pretty meaningfully versus private label and your categories. So what are your expectations around trade down? And how are you thinking about price gaps going forward?" ] }, { "name": "Jeff Harmening", "speech": [ "I'll let Jon Nudi answer the details. I would note that our pricing, it has been higher in the last few months, but at the same time, we're still growing share, which I think speaks to the strength of our brands. But Jon, you want to follow up?" ] }, { "name": "Jon Nudi", "speech": [ "Yes. Absolutely. And, Jeff, you touched on this before, but it's not only looking at our categories but looking at broader consumption. So it starts with our consumers eating away at restaurants or eating at home, and we're seeing that shift to at home, which is important.", "We've built an SRM capability over the last five or six years that we're really proud of. And it's much more sophisticated today than it was. We're able to monitor what's happening in the environment and then take targeted actions. And it might be list pricing.", "It might be promotional optimization. So we're taking the actions we believe will enable us to win in the categories that we're competing in. And we are. If you look at the past year, we've grown share in the majority of our categories, not only North America retail, but really across the enterprise, leveraging this SRM capability.", "We take private label very seriously. I would call it retailer brands. We believe the best course is to make sure that we build our brands and we innovate. And over time, if you look at our performance, our categories actually hold up really well versus private label.", "In total food and beverage, private label has an 18% share, and our categories sits at 10%. And again, we believe that's because we build our brands and we innovate. We'll continue to do that as we move forward. So we compete in North America Retail alone in over 25 categories.", "We're laser-focused on looking at what's happening from an inflation standpoint, how we're going to offset that from a pricing standpoint, how we're going to build our brands and how we're going to innovate. Again, we feel good about our plans for the coming year. We do believe that we're going to be able to scale effectively and grow share in a majority of our major categories again in fiscal '23." ] }, { "name": "Pamela Kaufman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Chris Growe with Stifel. You may proceed with your question." ] }, { "name": "Chris Growe", "speech": [ "Hi. Good morning. Just had a question for you to be clear on kind of the phasing of pricing through the year. Is it -- so you have pricing actions that have already either been announced or -- and you have carryover pricing from this past year.", "So is it the second quarter when pricing plus your HMM cost savings would be sufficient to offset inflation? Is that the right way to think about that in the second quarter?" ] }, { "name": "Jeff Harmening", "speech": [ "Yes. Roughly --" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. Sorry. I jumped in again. So, Chris, it's roughly right.", "I think that's a fair expectation given the inflation assumption for the year and the expected data." ] }, { "name": "Chris Growe", "speech": [ "OK. And then I was curious, jumping over to the pet division. You're bringing on new co-packers. You won't have new capacity available, it sounds like, until fiscal '24.", "Do you believe you can meet demand in fiscal '23? Is it the addition of co-packers and perhaps some of the new capacity that's going to allow you to meet demand in fiscal '23 for that division?" ] }, { "name": "Kofi Bruce", "speech": [ "I think it's fair to say in the near term, this will continue to be a headwind. We expect modest improvement to come in the near term primarily from bottlenecking and enrollment, continued enrollment of additional external supply chain capacity. But I wouldn't expect it to be fully enough to satisfy the demand we're seeing on the business in the near term." ] }, { "name": "Chris Growe", "speech": [ "OK. That's all I have for you. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Ken Goldman with J.P. Morgan. You may proceed with your question." ] }, { "name": "Tom Palmer", "speech": [ "Good morning. It's Tom Palmer on for Ken. I wanted to ask on elasticity. So guidance assumes elasticity increases but remains below historic levels.", "I just want to make sure I understand this. Are you assuming elasticity returns to more normal levels at some point over the year or that some degree of below-average elasticity persists throughout the year? And why you have that view? And what do you consider to be normal elasticity?" ] }, { "name": "Jeff Harmening", "speech": [ "So do you want to take that, Kofi?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. This is Kofi. So I think the fair assumption is for the full year, our guidance is predicated on elasticities being higher than this past year, where, as a reminder, they were significantly below what our historical modeling would tell us. We are not expecting for the balance of the year a full -- a return to the full levels of elasticity that the historical models would indicate.", "Structurally, there are a number of reasons for this, and Jeff referenced a lot of them around the at-home dynamics, the consumption patterns that we expect to see from consumers being a primary driver as a backdrop. And then I think it's hard to drive by the continued challenge around supply chain disruption as you think about that as a backdrop for choice and selection for consumers. And then lastly, when you think about the broader inflationary pressures and the value trade-offs that the consumers make, it's important to note that inflation is hitting away-from-home food more heavily and even at-home food. So I think all of those things go forward our assumption." ] }, { "name": "Tom Palmer", "speech": [ "OK. And then just on shipment timing, I think a quarter ago, you talked about how some of that undershipment in North America would likely be a fiscal '23 event. At least looking at Nielsen, seems to be a bit of timing benefit in the fourth quarter. Is there more to come as we think about 2023?" ] }, { "name": "Jeff Harmening", "speech": [ "Jon, do you want to take that?" ] }, { "name": "Jon Nudi", "speech": [ "Yes. Absolutely. We actually don't believe there is any benefit in the quarter. We think nonmeasured channels is really the difference versus what you see in deals and in movement versus RNS.", "So we don't believe that we either built inventory or replenished it at our customers. So as we move through the first half of fiscal '23, we expect some of the same service issue that we experience through fiscal '22 to still be with us. So as a result, we're not baking in any real benefit from rebuilding inventories." ] }, { "name": "Tom Palmer", "speech": [ "All right. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Steve Powers with Deutsche Bank. You may proceed with your question." ] }, { "name": "Steve Powers", "speech": [ "Yes. Thanks. Good morning, everybody. Just a relatively quick follow-up on pet, if I could.", "I think the discussion has been pretty full. But I guess the growth rate, as realized in the quarter, was still quite substantial despite the supply constraints. So I guess is there -- can you give us some color on what that implies about what you're seeing in all channel consumption, number one? You said you're not delivering to that demand. How are you thinking about channel inventory levels? Any risks that we should be -- that you're monitoring or we should be aware of around fulfillment rates or out-of-stocks? I guess I'm looking at the current situation as a potential opportunity as you catch up, but I'm also just trying to level set on the interim risk." ] }, { "name": "Kofi Bruce", "speech": [ "Yes. Well, let me frame it primarily through to the lens of what we saw for service and as we look at the fourth quarter on this business. Our service levels came in at the high end of 60%, low end of 70%. So I think the opportunity as we go forward is to be running probably closer to 80%.", "But we see strong demand across all the channels as we look forward. So this is not a demand issue. It is ultimately going to be -- even modest improvements in supply will allow us to unlock additional growth. And the other factors I think you listed around retailer inventories are less a challenge and a consideration as we look ahead." ] }, { "name": "Jeff Harmening", "speech": [ "And I would say in terms of risk, I'm not sure there's risk beyond what we've already identified in our guidance. I mean the demand is clearly there, and we've accounted for the fact that in the very near term, we're not going to catch up fully to demand, but this is not beyond the way of what we know how to do. I mean this is really about debottlenecking capacity and using external sources and then building more capacity. And so as you indicated, we also have to remember, we did grow, I think, 20% in the fourth quarter.", "So we feel great about our pet business, and we just have to make sure that we get our capacity back particularly in dry dog food, and we're in the process of doing that." ] }, { "name": "Steve Powers", "speech": [ "OK. Very good. Thank you very much." ] }, { "name": "Operator", "speech": [ "And our final question comes from David Palmer with Evercore ISI. You may proceed with your question." ] }, { "name": "David Palmer", "speech": [ "Thank you. Just following up on the gross margin question. So far, gross margin in fiscal '22 was 33%, I think, and gross margin in pre-COVID fiscal '19, mid-34s. I wonder what the net impact to that gross margin has been from M&A over that time.", "Basically, I'm wondering how much lower gross margins were versus pre-COVID on a comparable basis and how that compares to that 200 basis points plus of supply chain friction you mentioned." ] }, { "name": "Kofi Bruce", "speech": [ "Yes. I think I can give it to you in the perspective of the friction from other supply chain costs being the primary driver of the drag as you look from beginning of that period to -- through the most recent quarter. I think I would note that some of the biggest divestitures we've made over that period also had probably some margin dilution already embedded in our P&L. So to the extent that we are -- the most recent divestiture obviously had attractive margins, but the net of all of those is probably a small props to neutral from a margin mix perspective." ] }, { "name": "Jeff Harmening", "speech": [ "So, basically, the decline -- to put a finer point out, the decline versus pre-COVID is really all supply chain disruptions." ] }, { "name": "David Palmer", "speech": [ "Yes. That makes sense. Any thought on the ability to reclaim that margin? Is there anything aside from the timing of pricing actions versus inflation that makes you think you can't get back to a business-adjusted pre-COVID gross margin level?" ] }, { "name": "Kofi Bruce", "speech": [ "Yes. No. Look, I think the main thing I would start with is a recognition that the supply chain environment is stabilizing. And once that begins to stabilize, we will be able to apply our peer-leading HMM capability to get at these costs.", "Some of these costs will fall fully naturally with the environment and the stabilization of supply chain. Some of them will require just some focused HMM work, and all within our capacity to deliver. If you look at our historical ability to drive HMM, pre-COVID levels have been in the 4% to 5% range. So I think this is comfortably in the zone of what we can manage.", "What's not notable right now, obviously, is exactly when we'll see the supply chain environment stabilize. But that is the way we're managing the business." ] }, { "name": "David Palmer", "speech": [ "And I just had one last one. Your media advertising, you said in the presentation, it's going to go up by more than the 5% CAGR that you've had over the COVID era. And so that would be -- I guess, would get you 20% above pre-COVID levels in media spend. This is sort of a fundamental change that you started from before -- just before pre-COVID where you're, I guess, getting bigger in digital.", "And I think it's worth sort of addressing how different this has been for you, how you're spending on this, but also why you'd feel confident that this is getting an ROI in a way that would make you different than you were in the three years before COVID." ] }, { "name": "Jeff Siemon", "speech": [ "Maybe I'll -- let me clarify one point --" ] }, { "name": "Jeff Harmening", "speech": [ "Jon, you want to clarify that a little bit?" ] }, { "name": "Jeff Siemon", "speech": [ "Yes. Let me clarify one point, and then maybe I can shift it back to Jon or Jeff. Dave, in the presentation, we talked about the fact that we expect media to be up in fiscal '23, but there wasn't a relation to the growth rate. That was just in terms of dollars.", "So we've grown at a 5% compound growth rate in the last three years. We expect media to be up in fiscal '23, but that wasn't a rate guidance. So in terms of where we're spending or how we feel about it, maybe I'll pass it over to Jon or Jeff." ] }, { "name": "Jon Nudi", "speech": [ "Yes. I would just say we feel great about our media and the granularity we have and understanding the return or ability to optimize. So north of 50% of all our media spend is digital now, and among that digital spend, more than 50% is performance marketing. And that's where we're leveraging our first part, which we've invested to acquire, partner with the retailers and their data, which is really powerful and becoming really targeted, building one-to-one personalized relationships.", "And then testing and iterating at scale. We can take 200 different ads online and optimize and really have the -- focus on the one that have the best return. And that's seeing significant increases in return for us. So we believe we're getting more than -- more return from our advertising than ever before.", "We're able to optimize the days of shooting an ad and hoping it works for a year or over. We're literally optimizing ads on a daily basis. That's really good for our brands because it helps build them and helps refine the messages, and it builds more loyalty for us as well. So we feel great about media, and we're continuing to invest heavily to make sure we have the digital capabilities needed in the future." ] }, { "name": "David Palmer", "speech": [ "Great. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "Jeff, you can close out here." ] }, { "name": "Operator", "speech": [ "Pardon me, it seems Mr. Harmening's line did disconnect, unfortunately. So, Mr. Siemon, you're good to close the call, if you'd like." ] }, { "name": "Jeff Siemon", "speech": [ "No worries. Thanks, Kelly. We just appreciate everyone's continued engagement and interest in General Mills. Certainly, the IR team will be available today for follow-ups, but we wish you all a good continued summer, and look forward to catching up soon.", "Thanks so much." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
GIS	2021-06-30	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "J.P. Morgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Guggenheim -- Analyst", "name": "Laurent Grandet", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Faiza Alwy", "position": "Analyst" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "Kenneth B. Zaslow", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the General Mills Fiscal 2021 and Q4 Earnings Call. [Operator Instructions]", "I would now like to turn the conference over to the VP of Investor Relations, Mr. Jeff Siemon. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thank you, Frank, and good morning. Thanks everyone for joining us today for our Q&A session on fourth quarter results. I hope you had time to review our press release, listen to our prepared remarks and view our presentation materials, which were made available this morning on our Investor Relations website.", "It's important to note that in our Q&A session, we may make forward-looking statements that are based on management's current views and assumptions, including facts and assumptions related to the potential impact of the COVID-19 pandemic on our results in fiscal '22. Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which may be discussed on today's call.", "I'm here this morning with Jeff Harmening, our Chairman and CEO; Kofi Bruce, our CFO; and Jon Nudi, Group President of our North America Retail segment.", "I'll go ahead and get to the first question. Frank, can you get us started, please." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Our first question comes from Ken Goldman with J.P. Morgan. Please proceed." ] }, { "name": "Ken Goldman", "speech": [ "Hey, good morning. Thank you. Two for me. The first is, can you give us a sense of what to expect for the cadence of the cost inflation this year? And then the second one is, The Street, I think, is looking for maybe about 40 basis points in your gross margin in terms of the decline year-on-year in fiscal '22. I know you're not guiding to this, but given what you've said about inflation, HMM and pricing and nearly net pricing, is it kind of reasonable to expect something in this range or is that far off from what you're looking for? Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "Hey, Ken, this is Kofi. Thanks for the question. So as we look at the year, I think it's important for us to just give some perspective, and I'll address it maybe through the lines of the flow of margins. We would expect our back half to deliver higher margins than the front half with particular pressure on Q1 where we would see the combination, obviously, of inflation and pricing that starts later in the quarter, the benefits of pricing flowing through later in the quarter. So -- and as for the flow of those, that guidance on margins would reflect roughly relatively balanced flow on our expectations for the full year for inflation, and then obviously, with the pricing really kicking in as we step into Q2." ] }, { "name": "Ken Goldman", "speech": [ "All right. Thank you. And then just the second question. Is that 40 basis points for the year that The Street is looking for, is that far out of line with what you're thinking, Kofi?" ] }, { "name": "Kofi Bruce", "speech": [ "Well, we're not going to give guidance at gross margin. But obviously, our guidance on profit, on operating profit and sales would indicate something in the range of a modest decline in operating profit margin." ] }, { "name": "Ken Goldman", "speech": [ "Okay. Thanks so much." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from Andrew Lazar with Barclays. Please proceed." ] }, { "name": "Andrew Lazar", "speech": [ "Thanks for the question. Good morning, everybody." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "Jeff, I know you used the words dynamic, and I'm certain a bunch of times in your prepared remarks. And even though the consumer side of things may be getting -- maybe a little bit more visible, obviously, the cost and comparison side of the equation are still pretty challenging. So I guess my question is, how much flexibility do you think you've left yourselves in the FY '22 guidance in light of the industry challenges, also knowing how the timing of pricing and other actions tends to work to offset costs?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Andrew, I think your observation is a good one. And we use dynamic and we use uncertain, I also say volatile, so we can throw that one in too, right? And it is -- from a demand perspective, it's still as volatile. And even if mentally many consumers are getting beyond COVID, the demand environment is volatile not only with respect to at-home versus away-from-home consumption but also what is the impact of pricing going to be? And what does that mean for elasticity? So I would say the demand environment is still volatile, and is the cost environment. And so whether that's input costs on manufacturing or whether that's transportation or whether those are commodities, it is a pretty volatile environment.", "What I'm proud of is over the past year, and we've been able to navigate that well and do what we said we're going to do. In fact, each of the last three years, we've done what we said we're going to do. And now we still have to face this year. And -- but I feel good about our guidance. I don't think it's so conservative, and I don't think we're on over our SKUs. We're trying to tell you here's what we think we will do. And is it easy in this kind of environment? No. But I feel good about our capabilities and how we're executing right now. And we're very clear on our path forward. So all of those things give me confidence that we can do what we said we're going to do. But it's a tricky environment, and I think that it will be." ] }, { "name": "Andrew Lazar", "speech": [ "Thanks for that. And then there was a survey done recently that we read about one of the large CPG brokers, and it showed how, I guess, manufacturers were more optimistic about sort of sales trends in the back half of this calendar year compared to retailer expectations. And I didn't know if you've encountered sort of this divide in expectations in your discussions with your key customers. And if you have, maybe why you think this gap exists with respect to the differential again and expectations around maybe sales and/or stickiness between manufacturers and retailers?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, Andrew, and this -- I want this to come off in the right way, but you know what I said just a second ago that it's volatile. I think this is exhibit A, when you have a group of one -- one group thinking one thing, another just shows that there's a level of uncertainty and volatility. That would be the first point. The second is that if you look at our guidance for the year, we said we'd be down modestly on sale of minus 1% to minus 3%.", "And I can tell you that we're locked up with our retail customers, and we have good partnerships with them and we're pretty well aligned with what they think. And so -- but I can understand why there are differences because it is a volatile environment by -- varies by category as well as geography. So we're very well aligned with our customers, not only on the demand environment, but also the cost environment. They see the same cost pressures we do. And we've instituted pricing in the vast majority of our categories and markets throughout the world. And while no one wants to increase prices, we've had to do that because the cost environment is what it is. And we have found them to be understanding because they're in the same kind of boat that we are." ] }, { "name": "Andrew Lazar", "speech": [ "Okay. Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Robert Moskow with Credit Suisse. Please proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hey, thanks. I was thinking about the terms that you're using, Jeff, to describe the environment as volatile. But I want to get a little tighter on it because I would say that the cost environment is very volatile and maybe the pricing as well. But your opening comments would indicate that demand has been fortuitously strong, it has stayed strong. So are you saying demand is volatile too or are you just saying it's uncertain? Because I would describe it as uncertain because you just don't know how their people will react in the fall when maybe they go back to school and go back to offices." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, Rob. I appreciate the distinction. I would say that what we have seen in the recent past is not very volatile. In fact, it's been pretty steady. And honestly, it's kind of playing out as we thought it would, which is our business was down in the last quarter versus where it was last year during the stock up. It was actually quite a bit higher than it was pre-pandemic as are our shares. And we've been talking for quite some time that although in some corners people thought demand would kind of fall off a cliff when people started going back to the office and got returning to normal pre-pandemic, we said we think actually some of these behaviors will be sticky, and that's what we have seen. So it hasn't been volatile in the recent past.", "The question is, what's going to happen for the remainder of the year as pricing kicks in, as we -- as kids go back to school as we hit the fall, I think it will be a volatile environment, and we're calling it the best we can, given our assumptions. But you are correct. It hasn't been volatile in the recent past. But as we look ahead three months and six months, I think that will be what we're going to be dealing with." ] }, { "name": "Robert Moskow", "speech": [ "Okay." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "And yeah, I would note, during that period, Rob, we still expect at-home food consumption to be above pre-pandemic levels, even if it's below -- slightly below a year ago." ] }, { "name": "Robert Moskow", "speech": [ "Right. Okay. And this question might be more in the weeds, but the strategy in grow, I guess, division or organization that you're creating internally, is that just combining some corporate functions together like corporate insights and M&A together or are you expanding the role and taking some of the responsibilities of the business units like revenue growth management maybe and pulling it into this division? Like how is this -- how big of a change is this division you've developed?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. It's a -- I would say it's a decent-sized change, but what we're not doing is taking operating responsibility out of the businesses. And in fact, what we're doing is pushing operating responsibility for the near term and more closely align to the businesses, which is really important. So we are doing that. In terms of the strategy area itself, we are centralizing some of the capabilities because you do want to do modeling, for example, in many different places. You want to be able to do that in one central location, but then it's up to the businesses themselves to use that modeling and then to decide what's best for their businesses. So you want some centralized capabilities so you can develop scale and expertise, but then you want to use those models to be in the businesses who are responsible for the P&L. So that's where we're doing that.", "The other thing we're doing, I would say, is that similar to what we've done with strategic revenue management over time, we're -- at one point in time many years ago, it was something we did periodically was thinking about pricing and we turned into it always on kind of function. The same would be true of our strategy function. We're kind of beefing up our strategy function as well as M&A as we look to the future and certainly what we need to do to hit our sustainable top-line growth targets is we need to keep competing effectively, but we also need to do more portfolio shaping. And so in that sense, we have an always-on strategy group that is maybe different than what we have done in the recent past." ] }, { "name": "Robert Moskow", "speech": [ "Okay, all right. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from Laurent Grandet with Guggenheim. Please proceed." ] }, { "name": "Laurent Grandet", "speech": [ "Yes. Good morning, everyone. And maybe if I can come back on one of those questions. So when you say at-home consumption will be more elevated in post pandemic, I mean, I think that's probably what the assumption for everyone. Now by how much, it's really a question. So could you maybe help us understand your thinking process made by category, how you see those more elevated than -- consumption post pandemic and what is triggering this in your view?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Laurent, thank you. I think for this call, it's probably not helpful for us to go category by category. But I think if I can give you -- what's underlying the assumption as to why we think this is going to happen. In our human food business, and I'm going to separate pet. But in our human food business, what I would say is that there are a couple of factors underlying our belief that we'll continue to see demand that's above pre-pandemic levels. The first is that more people are going to work from home more often than go into the office every day. And we're fairly certain that, that is here to stay. So there will be a new normal and where people work.", "The second is that consumers, many millennials have really gained cooking skills and baking skills and new found confidence in the kitchen and they can find that they can save money by doing it. And so while they -- we're not saying people won't want to still go out to eat, we believe that there's a younger generation that maybe not have done this before. Our penetration data show this, especially in the U.S. that we have a whole new group of consumers that have elevated demand.", "The third would be that our e-commerce business has grown rapidly over time. In fact, it's now 11% of our sales, up from 5% 18 months ago. And while the continued growth may not be linear over the next period of time, many people have found shopping in grocery stores become much easier than it was before. And any time you got a convenience to someone's lives, it tends to stack. So for all of those reasons on our human food business, we believe -- even as people go out to restaurants more, even as kids start to go back to school, there will be some of the demand that is sticky for food at-home.", "The other thing I would say is, for pet is a little bit more straightforward, and frankly, there are more pets than they were before. And that is certainly true here in the U.S., it's true in other parts of the world as well. But particularly in the U.S., 85% of those new pets are in homes that already contained one pet. And so these are people who are used to having pets. And so the amount of pet food that's going to be consumed over the next few years, we think, is going to be elevated in addition to the fact that the fastest-growing part of pet continues to be the natural segment, which is where our Blue Buffalo competes. And so we would anticipate that the category itself will be above what it has been the last couple of years, and that natural will remain ahead of the category in terms of growth." ] }, { "name": "Laurent Grandet", "speech": [ "Thanks. And if I may, I got the second question. It's about plant-based dairy. We have seen, I mean, recently increased interest in plant-based dairy from consumers and actually also from investors as well. So could you please update us what's the plan with your Yoplait brand in the U.S. and Canada as well as again that internationally and potentially maybe update us about your pet investment as well? Thanks." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Hey, Laurent, it's Jon Nudi. Hope you're well. So the yogurt category in the U.S. is really starting to accelerate. So it was up 5% in April and May, up 2.5% in June. And really, what's driving that is this simply better health segment, so that was up 31%. So that's products like Ratio Keto, which is one of our products, Pillsbury and Triple Zero, and we put plant-based in there as well. So we're definitely seeing growth in that segment.", "In terms of the Yoplait, we launched a plant-based product several years ago that has continued to do quite well. We're actually looking at launching a Yoplait plant-based product in the coming year as well. So it's still relatively small in yogurt in the U.S., growing quickly. Really, that's simply better health segment with the dairy-based products there, Ratio Keto, and Triple Zero and the Bulk. So plant-based remains an area of focus for us. I would tell you it's not the biggest segment and probably not with the bulk of the growth come in the coming year." ] }, { "name": "Laurent Grandet", "speech": [ "Thanks. And internationally for Haagen-Dazs, any plan there?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "When it comes to plant-based ice cream, I think it is a very, very small part of the category. What I will say is our Haagen-Dazs business has been growing very, very nicely and continues to do well all over the world, particularly strong growth in China and in Europe this past year. And we've got some great innovation coming on Haagen-Dazs. And so plant-based is really small, but we are confident that we can continue to grow our Haagen-Dazs business really well in key geographies and looking for a summer where more consumers are out and about." ] }, { "name": "Laurent Grandet", "speech": [ "Thank you. Thank you, guys. I'll pass it on. Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you, Laurent." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jason English with Goldman Sachs. Please proceed." ] }, { "name": "Jason English", "speech": [ "[Technical Issue]" ] }, { "name": "Jeff Siemon", "speech": [ "Jason?" ] }, { "name": "Operator", "speech": [ "Pardon me. Mr. English, you're cutting out. I don't know if you can reestablish the connection." ] }, { "name": "Jason English", "speech": [ "I'm going to switch handsets. Is this better?" ] }, { "name": "Kofi Bruce", "speech": [ "That's much better." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, it's great. Thank you." ] }, { "name": "Jason English", "speech": [ "Awesome. Okay. Sorry about that. So now that you've announced price increases in the vast majority of categories and markets, can you give us some clarity on how much net price realization you expect to realize in your down one to three full year organic sales outlook?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. Jason, this is Kofi. Appreciate the question. Let me give you a frame to think about this. So as we give guidance on inflation of about 7%, we would expect our holistic margin management to register about 4 percentage points of cost of goods sold. So that would offset a good portion of the inflation. And obviously, in this environment, we would need some additional price realization. While we're not quantifying it, we would expect the combination of levers through strategic revenue management, both list pricing, price pack optimization, trade optimization, all of those things to yield us enough to cover our inflation expectations." ] }, { "name": "Jason English", "speech": [ "Okay. So take that remaining 3% of COGS and gross it up to revenue is probably a safe place to go right now? I think that's what you said. Switching gears but still remaining kind of on the topic of offsetting inflationary pressures. Your recent restructuring announcement, I thought you're going to have a lot more meat on the bone to give us today on this. But there's not a lot. Can you give us more clarity around the initiatives, including the expected cost savings? And how much do you expect to reinvest?" ] }, { "name": "Kofi Bruce", "speech": [ "Well, I will give you a frame to think about this. And let me sort of touch on what we're getting at. This is not simply a cost savings exercise, as Jeff kind of alluded to in some of his earlier answer. We are sort of aligning resources to growth-facing purposes. So there isn't here an expectation that we'll prioritize. Areas like digital and data and analytics, SRM, strategy and M&A, as Jeff mentioned earlier, those things are all critical to sort of maintaining the growth engine. Our expectation after this exercise is that our admin costs as a percent of net sales will be roughly in line with our fiscal '21. So they will keep pace with the sales decline." ] }, { "name": "Jason English", "speech": [ "That's helpful. Thank you. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Our next question comes from Bryan Spillane with Bank of America. Please proceed." ] }, { "name": "Bryan Spillane", "speech": [ "Hey, good morning, everyone." ] }, { "name": "Kofi Bruce", "speech": [ "Hey, Bryan." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Bryan Spillane", "speech": [ "Hi. So I guess my question is just around as we're working through our models and thinking about and trying to factor-in in inflation, maybe Kofi, could you give us a little bit of a -- some color on maybe which segments are going to feel more inflation than others. And maybe just how we could think of how we should be thinking about the potential volatility of inflation just within segments? And then, I guess, tied to that question is just as we're thinking about the revenue management component of covering inflation, is it more pronounced in some segments than others? Just trying to get a sense of how we should be looking at that across segments or is it really generally the same across all of them?" ] }, { "name": "Kofi Bruce", "speech": [ "I appreciate the question. And while I don't want to get too specific at the segment level, what I will tell you is all of our segments are experiencing higher inflation. We are addressing in all of our segments with the mix of Holistic Margin Management in line with our historical levels and SRM, I mean, using the entirety of the SRM toolkit in all five of the segments." ] }, { "name": "Bryan Spillane", "speech": [ "Okay. And then maybe just a follow-up. I know there's been a lot of talk about pricing, price increases as part of the way to combat inflation. We've heard that across our whole coverage universe. What do we expect on the back side of that, right? So as some of this inflation moderates, hopefully, would the expectation be that this pricing has stopped or would there be the potential that some of it would have to be dealt back as inflation moderates? Just trying to understand just how unusual this environment is, just how we should be thinking about the stickiness of those price increases if and when inflation rolls over?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "We'll probably -- usually, we don't give forward-looking views on pricing. And so I think that's probably the best plan to stick to that here, which is not to say your question is not a fair one. I just think for us to talk about future pricing is probably not something we should do too much, other than to say, I think one of the keys to our success as we look ahead as it has been recently, is our agility. And we've proven ourselves pretty agile during that last year, including with recent pricing we've taken into the marketplace relatively quickly. And I attribute that to the fact that we have an always-on capability.", "And so in a volatile market, trying to be certain is not a good place to be. What you need to be is thoughtful and you need to be fast. And I think of both of those things, and we're going to try to continue to do both of those things. So you raised a good question. We're not going to answer directly because we usually don't talk about pricing. But I do believe that the key challenge in the volatile environment is to be clear and to be agile. And we will certainly endeavor to do that and we feel good about our ability to do that." ] }, { "name": "Bryan Spillane", "speech": [ "Okay, great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from David Palmer with Evercore ISI. Please proceed." ] }, { "name": "David Palmer", "speech": [ "Thanks. Andrew mentioned that mega broker survey, and in that survey, in the Q&A, they cited there's consumer and category insights that the food companies have is a reason why the food companies were more bullish about demand than the retailer customers were. In other words, you had a better level of understanding about where things have been more sticky and for good reason. What is your latest thinking about categories and brands that you think most benefited in a semi-permanent way from COVID and perhaps because of consumers embracing new habits? And I have a quick follow-up." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Hey, David, it's Jon Nudi. As we look at our business, we think our Meals & Baking businesses particularly benefited during the pandemic, and it's all that in the sales numbers. As we really dig into our consumer insights, consumers changed their habits. Obviously, baked a lot more. We believe that some of it will be sticky. It's more than just food. It's really bringing joy to the family and bringing the family together, which is terrific. And then Jeff mentioned, millenials learning to cook, and that's something that's going to stick as well.", "So all of our research would say, certainly, we're not going to go stay at the elevated levels that we've seen in the pandemic. But consumers will eat at home more than they did prior to the pandemic and they'll use these new skills to use our products more than prior to the pandemic as well. So we're spending a lot of time. We've got a lot of new insights, really digital insights, really leveraging the first-party data that we have with Box Tops for Education, Pillsbury.com, bettycrocker.com, that's really giving us some rich views into the consumers' day in their journey. And we think, again, via that data, there's going to be something that sticks in the future." ] }, { "name": "David Palmer", "speech": [ "Thanks for that answer. One category that I'm really confused by is cereal. It's an at-home category, but it's perhaps part that lives in that world of convenience that compressed morning daypart. In other words, cereal has really lost a lot of share of at-home breakfast during COVID, if that's a way to think about it. At-home breakfast getting the benefit of people being at home, but perhaps cereal not as being as much part of that.", "In other words, cereal is up 1% over the last two years, not really that impressive. How are you thinking about cereal going forward? Do you think it actually has a bit of a rebound as people get back to convenience or is this sort of just the new normal, more of the existing normal? One of the few categories that really didn't get affected by COVID at all and it's just sort of low growth. Any thoughts there?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Absolutely, David. So for sure, I think as consumers who are at home have more time to prepare breakfast. We saw things like eggs and pancakes grow more quickly than cereal. We do believe cereal will continue growing in the future. And again, as we look over that two year period, the category did grow. We grew even more aggressively than that. So again, we increased 60 basis points of share in fiscal '21, that's 31 consecutive months of share growth, 10 consecutive quarters, four consecutive years. And we believe that cereal is an important today, it will be important in the future.", "It's used, obviously, for breakfast. It's used for snacking throughout the day. We've got some great innovation coming this past -- this coming year. And at the same time, we know that our marketing continues to work, things like cereals and our cholesterol messaging, our kid fun messaging around Cinnamon Toast Crunch and Lucky Charms. We believe the category will continue to grow. We hope again it's probably not going to be high-single-digits, but we think a little bit of growth in that category is in our future. And I think as things come back to normal, to your point, to more normal and consumers are back to school and back to the office, we'll see some of the convenience cereal provides -- providing a bit of a tail into the category." ] }, { "name": "David Palmer", "speech": [ "That's helpful. Thanks very much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Faiza Alwy with Deutsche Bank. Please proceed." ] }, { "name": "Faiza Alwy", "speech": [ "Yes, hi. Thank you. Good morning. I wanted to first just ask about your investments. So I know you've increased media spending and you've also spent to build critical capabilities. And I'm curious how you're thinking about investments as we look at fiscal '22. Essentially, I'm asking like are you expecting media spending to continue to increase at that double-digit CAGR that we've seen over the last two years? And then where -- or should we stay at the level that we're at? And then how much more investment and capabilities do you need from here and out?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So let me take that one a little bit. And then, Kofi, if there's any background you want to give as well. On -- we're not going to give specific guidance on our media spending for next year. I would say when we talked at CAGNY Q4, we had talked about as we look into the future, we'd have media grow roughly in line with sales over time. And we'll see what happens this coming year. But that's what we said we would do over time.", "In terms of investments, we're really pleased with what we've seen out of our data and analytics capabilities. And Jon Nudi touched on Box Tops a little while ago, we digitize that. In our opening remarks, we talked about some of the things we're doing in patio, you'll hear more -- a lot more about that this coming year. We've tied together an omnichannel approach in China with our shops in our retail, which is yielding some good insights, great results. We like what we're seeing there. And even on the cost side, as we look at our global sourcing efforts, we've tied data and analytics into that to help us with our costing and HMM.", "And so you can see -- you'll see us continue to invest in our data and analytics capabilities because we really like what we have seen so far. And some of that will be foundational and some of that will be on the analytics themselves to drive growth and other parts will be on analytics to help us to save money. But I think that will be a big area of investment as well our strategy and M&A area as we, again, look to further our Accelerate strategy." ] }, { "name": "Faiza Alwy", "speech": [ "Okay, great. Thank you. And then just a second question on Blue Buffalo on the Pet segment generally. I know you talked about growth in that segment. I'm curious -- I mean, it sounds like category growth is going to be strong. Are there any specific plans beyond the connected commerce initiatives that you talked about? Is there any innovation that we should look out for? And I know, at CAGNY, you talked about potentially taking Blue Buffalo to international markets, so I wonder if there's any plans to do that this year?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So first of all, we're really pleased with our Blue Buffalo performance, including the fourth quarter where our retail sales grew in the mid double -- mid-teens. And so even if it doesn't look like that on the P&L, you have to remember, we're lapping four months from last year and the stock-up from the year before. And so we're really pleased with Blue Buffalo. We see strong growth ahead. That would be my opening comment.", "In terms of how we're going to grow, this digital capability will certainly be a big piece of that, but so will innovation. We really like what we've seen on the Tasteful launch, and we're literally selling everything we can make from this new Tastefuls cat line and we're under-indexed in cat, the margins in that segment are good, and we're highly confident Blue Buffalo can play a role in that.", "We've recently launched some innovation in the snacking and the bones launch, and we're excited about what that can be, in addition then to clearly bringing online this Tyson acquisition, which we hope to close shortly. And so we're going to grow Blue Buffalo organically, continue to do that. We're bullish about our opportunity to do that as well as effectively bring on this new part of the portfolio, this Tyson treat business where we're under-index and Tyson has done a nice job with that business. But we think combining what we can do with our capabilities in pet with the business they already have, we think there's good growth in that as well." ] }, { "name": "Faiza Alwy", "speech": [ "Great. Thank you so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Michael Lavery with Piper Sandler. Please proceed." ] }, { "name": "Michael Lavery", "speech": [ "Good morning. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Michael Lavery", "speech": [ "I know you've called out the uncertainty, and I think that's all very clear. But can you give a sense around elasticity? What kind of assumptions you're making for your planning process?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure. So as we built our plans this year, we -- one of the benefits of our SRM capability as we actually have very detailed demand elasticity models. I would say that and also given not to the uncertainty of this environment and the fact that inflation in the market is broad spread, it's across industry, it's global. And so with those factors, all are potentially a setup for demand elasticity models that are by design that we're looking to be perhaps overcall the elasticity of pricing in this environment. So I'd make that note because this is an environment where that uncertainty becomes a relevant factor as we talk about demand elasticity." ] }, { "name": "Michael Lavery", "speech": [ "And so does that net you out at greater elasticity than historical levels or do you expect it to be pretty consistent with what you've seen before? What's that kind of net out to?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. Well, our models are built on sort of historical expectations. I think what I'm also giving acknowledgment to is that the environment itself is reason for us to be cautious about being certain on the call, there will be demand elasticity. There's certainly an environment where I think demand elasticity models could be launched just because of the breadth of inflation in the market." ] }, { "name": "Michael Lavery", "speech": [ "Okay. That's helpful. And just a follow-up on the C-store and Foodservice segment. You've called out how you expect the lift to volumes or sales from more demand or reopening. But can you touch on the impact for pricing and specifically pass-through pricing. How much of a factor do you expect that to be for the sales lift? And should we look the modeling an acceleration there specifically on the pricing side because of this pass-through costs?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So Michael, I would say that what we see with our cost going up is very broad. I mean it's broad across geographies, it's broad across product segments, it's broad across channels. And so that would include what we see in C&F. So our cost for our products in our Convenience and Foodservice segment are going up as well, and so we would anticipate pricing in our Convenience and Foodservice segment because we see our costs going up.", "And so in this environment, there's obviously not only inflation improvement kind of everywhere. And so it's no different in C&F. And so we would anticipate prices going up. In fact, we've already increased prices in the Foodservice segment because our costs are going up. And so -- but what I will also say is that we're very confident in our Convenience and Foodservice business to return to growth this year as schools reopen and as people get out a little bit more. We're well positioned to capture growth that returning to that market." ] }, { "name": "Michael Lavery", "speech": [ "Okay, great. Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from Chris Growe with Stifel. Please proceed." ] }, { "name": "Chris Growe", "speech": [ "Hi, good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Chris." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning." ] }, { "name": "Chris Growe", "speech": [ "Hi. I just had a couple of questions for you. When you gave your guidance for the year, like your constant currency EPS growth, I am just curious, it does not incorporate the acquisitions or divestitures. And I don't know if you have any kind of quick words on those. We've modeled or have estimated kind of 1% to 2% dilution for the yogurt business and then slight accretion for the pet treats business. Would that be in the realm of expectations? Do you have any thoughts on that?" ] }, { "name": "Kofi Bruce", "speech": [ "So Chris, this is Kofi. So we don't have new information that would change the perspective we've already given. Obviously, we do expect the pet treats business to close shortly. And obviously, until that point, we can't get too much more specific, but it is probably important to give some parameters around what slightly accretive means. I think it's important to note, we will see a portion of earnings contributions for the year. We will also see some of the purchase accounting related amortization, including inventory step-up. And those factors will lead us to expectations probably in the range of $0.01 to $0.02 accretive for the year on the pet treats business." ] }, { "name": "Chris Growe", "speech": [ "And then any comments -- no changes there on your expectations for yogurt when that closes, correct?" ] }, { "name": "Kofi Bruce", "speech": [ "No. And that sets further out, and we'll give more color as we get closer." ] }, { "name": "Chris Growe", "speech": [ "Okay. I had just one other question, if I could, on the international segments. Asia, Latin America hit about a 5% operating margin for the year. Europe, Australia, about 7.5%. Are these sustainable margins? Could they grow from here? There's obviously some pretty significant moves as we move through the year in terms of improvements in profitability. I just want to get a sense how much of that was the benefit of COVID in some cases and the pandemic? And how much of it is potential to kind of stick, if you will, based on changes you're making in those businesses?" ] }, { "name": "Kofi Bruce", "speech": [ "Chris, that's a great question. I think we've been very pleased with the progress we've made in margins on both of those businesses in this environment. Obviously, some of that is related to the leverage benefits of operating in elevated demand. But we've also been making and continue to make business model changes in both businesses that are driving margin improvements. And actually, we'll continue to make them even contemplated as part of the restructuring actions that we've already announced. So I would expect that we would hold on to the portion of these margin gains and continue to drive margin improvement and get to a much more competitive place on both of these businesses." ] }, { "name": "Chris Growe", "speech": [ "Okay. Thanks so much for your time." ] }, { "name": "Kofi Bruce", "speech": [ "You bet. Thanks, Chris." ] }, { "name": "Jeff Siemon", "speech": [ "I think we have time for one more question, Frank." ] }, { "name": "Operator", "speech": [ "Our next question comes from Ken Zaslow with Bank of Montreal. Please proceed." ] }, { "name": "Kenneth B. Zaslow", "speech": [ "Hey, good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Ken." ] }, { "name": "Kenneth B. Zaslow", "speech": [ "I have two questions. One is, you guys have been really early on the data analytics side. What are the specific new capabilities that you need? I mean I was just a little surprised that you're not there, I guess, is kind of what I think. You guys were very, very early on that. So what is the new learnings that you are looking to explore and do more with? And what will be the returns on that? And then I have a second question." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So we've been working on our data and analytics capability for a couple of years now. I would note that the first thing we had to do is build a foundation. And I won't get into the details of that in this answer, but we had to build a foundation. And then now we're building on top of that with some specific capabilities around growth capabilities like Strategic Revenue Management, growth capabilities like addressing consumers through things like Box Tops for Education and what we're doing in the pet personalization space as well as what we're doing in omnichannel in China. And then the on the cost side, what we're doing with procurement, but there's a lot more -- there are a lot more things that we can do using data and analytics to drive our business. So we'll continue to invest in order to drive those parts of the business. So it may seem like a lot, but we had to build a foundation first, which is the right way to do it. And now we're building on top of that with specific capabilities." ] }, { "name": "Kenneth B. Zaslow", "speech": [ "Great. My second question is, you put out the three year growth that you had, 2% sales, 2% operating income and 5% EPS. When you think about the next three years beyond that, does that seem like the right mix or do you think the changes that you're having should accelerate that by a certain amount of basis points? And how do you think about the next three years? And again, not next year, but just thinking about it in the three year clip, I think that's a good way of thinking about it and how you're positioning it. So I was just curious to see how you think about relative to the last three years? And I'll leave it there, and I appreciate it." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Again, I'm going to try to take you through this year. On the -- what I would say, though, on the -- look, I do respect the question. As we look ahead, our goal is to get back to sustainable growth and to get to 2% to 3% growth. And I mean, I'll probably restate something I've said already, that requires us to do two things. One is compete effectively. And I think we've said over the past couple of years, we've really improved our game there to compete. We're competing effectively pretty much everywhere around the world. So we'll continue to need to do that to get to 2% to 3% growth.", "And we'll continue to have to reshape our portfolio. And you see that through to the divestiture of Yoplait and at least the proposed divestiture of Yoplait in Europe, and you see that with the upcoming acquisition of Pluto. And so we'll look to continue to reshape our portfolio as well as compete effectively to get to that 2% to 3% growth rate. And so that will be our plan after this year. And we have got a group that's focused on that, and we've got another group that's focused on making sure we can deliver what we said we're going to do this coming 12 months." ] }, { "name": "Kenneth B. Zaslow", "speech": [ "Great. And do you think that all these things that you're putting in place seems like it should fuel this growth. But I appreciate the answer, and I look forward to seeing what you guys can do. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "All right. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "Okay. I think that gets to the end of our time this morning. So thank you everyone for your time and attention, and appreciate the good questions. Please reach out over the course of the day if you have any follow-ups. And we look forward to talking to you again soon. Bye, bye." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
GIS	2019-12-18	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Donal L. Mulligan", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "JP Morgan Chase & Co. -- Analyst", "name": "Kenneth Goldman", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "John Baumgartner", "position": "Analyst" }, { "description": "Barclays Bank PLC -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Dara Mohsenian", "position": "Analyst" }, { "description": "Goldman Sachs Group Inc. -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Faiza Alwy", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Steven Shemesh", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Guggenheim Partners -- Analyst", "name": "Laurent Grandet", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the General Mills Second Quarter Fiscal 2020 Earnings Conference Call. [Operator Instructions] Please note today's conference is being recorded, Wednesday, December 18th, 2019.", "It is with pleasure that I now turn the call over to Mr. Jeff Siemon. Please go ahead, sir." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Bridget, and good morning to everyone. I'm here this morning with Jeff Harmening, our Chairman and CEO; and Don Mulligan, our CFO. Also joining us this morning for Q&A are Kofi Bruce, our Vice President of Financial Operations, who will take over for Don as CFO on February 1st as well as Jon Nudi, who leads our North America Retail Segment. I'll turn it over to the team in a moment. Before I do, let me cover the usual housekeeping items. A press release on our second quarter results was issued over the wire services earlier this morning and you can find that release as well as a copy of the slides that supplement our remarks this morning on the Investor Relations website. Please note that our remarks will include forward-looking statements that are based on management's current views and assumptions in the second slide in today's presentation with factors that could cause our future results to be different than our current estimates.", "And with that, I'll turn you over to my colleagues beginning with Jeff." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks, Jeff, and good morning, everyone. I'll kick off this morning's remarks with our key messages on Slide 4. I'm encouraged by our second quarter performance both on the topline and bottom line. This includes broad-based improvements in our organic sales trends with strong performance in Pet, good results in North America Retail, and a significant sequential step-up in our remaining three segments. We generated strong first half earnings results while increasing media investment behind our brands. And our cash discipline drove double-digit growth in free cash flow, which allowed us to reduce our debt by more than $600 million through six months. In the second half we'll step up our investments in brand building and capabilities and future growth initiatives and we expect to see further improvement in our organic sales growth. And importantly, we'll remain on track to achieve our fiscal 2020 goals for sales, profit, earnings per share, and we are raising our guidance for free cash flow conversion.", "Slide 5 summarizes our Q2 financial results. Net sales were flat to last year at $4.4 billion. Organic net sales grew 1% led by strong growth in Pet. All five segments contributed to profit growth with adjusted operating profit up 7% in constant currency driven by HMM cost savings, lower consumer promotion expense, and favorable manufacturing leverage partially offset by input cost inflation and higher media investment. The manufacturing leverage favorability was driven by higher inventory balances at the end of the quarter, which is a timing benefit that will unwind in the back half of the year. Second quarter adjusted diluted earnings per share totaled $0.95, up 11% in constant currency driven by higher adjusted operating profit, lower net interest expense, and a lower adjusted effective tax rate. On Slide 6, you can see our three priorities for fiscal '20. As I reflect on our first half results, I'm proud to say we've made good progress on all three.", "First, we're on track to deliver accelerated organic sales growth in fiscal '20. We improved topline growth in North America Retail in the first half compared to fiscal '19 and we generated double-digit growth in the Pet segment. I'll share details on these results in a moment. Our second priority is to maintain our strong margins. In fact we're a bit ahead of our plan on the bottom line for the first half, which gives us flexibility to step up investment in the second half and strengthen topline growth. Our final priority is to maintain a disciplined focus on cash to achieve our fiscal '20 leverage target and we're well on our way to achieving our goal of 3.5 times net debt to adjusted EBITDA by end of year. With these priorities in mind, I'll now cover our Q2 results by segment before turning it over to Don to review our performance on margin and cash and outline back half expectations.", "Slide 7 summarizes components of net sales growth in the quarter. Organic sales were up 1% versus last year, primarily driven by organic volume. FX was a 1 point drag in the quarter resulting in flat reported sales. Turning to the segment results beginning on Slide 8. Second quarter organic sales for North America Retail were in line with year-ago levels. Net sales grew 5% in US Cereal and were up 2% in Canada on a constant currency basis. Net sales declined 1% in US Meals & Baking, 2% in US Snacks, and 4% in US Yogurt. Looking at our first half end market results, we grew share in five of our Top 10 categories, which comprised roughly 85% of our US retail sales. Constant currency segment operating profit increased 4% in the second quarter driven by HMM cost savings and favorable manufacturing leverage, partially offset by input cost inflation and higher media investment.", "With this is the backdrop, let's dive a bit deeper into our first half performance in North America Retail starting with Cereal. I'm very pleased by our performance in US Cereal driven by strong execution against the fundamentals. We grew our US Cereal retail sales modestly in fiscal '18 and in fiscal '19 and our results accelerated to 2% growth in the first half of fiscal '20. We've expanded our share leadership position through investment behind compelling consumer ideas such as our Cheerios heart health campaign, which drove 4% retail sales growth on the Cheerios franchise in the first half of the year. We benefited from consumer support behind Cinnamon Toast Crunch and our partnership with Travis Scott on Reese's peanut butter pops. And innovation continued to add to our growth with strong first half performance on Blueberry Cheerios and Cinnamon Toast Crunch", "Cheerios.", "I'm also excited about the plans we have for the rest of the year to build on our leadership position in Cereal. We'll continue to invest in our brands, including strong support behind the Cheerios heart health news. With more than 100 million Americans having some form of heart disease, Cheerios is on a mission to inspire happy hearts. For a limited time, we are changing some of the iconic Os into hearts supported by new advertising, an updated box design, and a social media campaign. In addition to increased brand investment, we're launching a strong lineup of innovation in the second half, including an oats and honey variety of Cheerios Oat Crunch, Hershey's Kiss Cereal, and Trix Trolls. Turning to US yogurt on Slide 10, we improved our US Yogurt retail sales in fiscal '19 behind our strategy to expand in the faster growing segments of the category and to support our core brand building investment and on-trend equity news.", "Our goal in fiscal '20 is to further improve US yogurt with a strong lineup of innovation, brand building, and product news. In the first half, our retail sales took a slight step back as we lapped a period of significant investment on Oui by Yoplait and had a more meaningful headwind from distribution. At the same time, we are encouraged by growth on our core products with retail sales for Original Style Yogurt up 1% and Go-GURT up 10% through the first half of the year. We fully expect to strengthen our US Yogurt performance in the second half of the year behind several specific initiatives. Our second half innovation lineup field a new -- features a new coconut-based dairy free offering on Oui by Yoplait with a rich and creamy texture of Oui delivered in our signature glass pot. We'll launch a new limited edition line of Original Style Yoplait in four signature Starburst flavors. And we'll launch Just 3 by Yoplait, a new line of traditional yogurts with just three simple ingredients.", "We'll also increase our consumer support in the second half on our core products and on Oui by Yoplait. And finally, we'll face reduced distribution headwinds as we move into calendar 2020. In total, we expect these efforts will result in improved retail sales growth for our US Yogurt business in the second half of the year. Now let's turn to US Snacks on Slide 11. Coming off a disappointing fiscal '19, our goal in fiscal '20 is to improve our performance by innovation, renovation, brand building support, and in-store execution. We're pleased by our US Snacks improvement in the first half. Retail sales for Nature Valley improved behind a stronger back-to-school merchandising season and the successful launch of Nature Valley Krispy Kreme wafer bar. Retail sales for Fiber One have also improved since we reformulated the product line to be more relevant for modern weight managers.", "While we're still lapping distribution losses from earlier this calendar year, our turns per point of distribution, an important leading indicator of growth, has stepped up meaningfully across both of these important brands. On Fruit Snacks, we drove 3% retail sales growth in the first six months of the year and we returned to share growth in the second quarter behind strong performance on Disney Equity fruit snacks. Our back half plans on US Snacks include continued contributions from Nature Valley innovation and the Fiber One renovation, greatly improved distribution on bars, and increased brand building behind both Bars and Fruit Snacks; all of which should drive another step-up in our US next retail sales trends in the second half. We're focused on competing effectively everywhere we play, including our $4 billion US Meals & Baking operating unit. We returned soup to both retail sales and share growth in the first half.", "Retail sales for Progresso were up 3%, primarily driven by product renovation on Rich & Hearty. First half retail sales for Old El Paso grew 6% and we grew share behind increased distribution, consumer news, and price realization across channels. We had a great year on Pillsbury refrigerated dough in fiscal '19 driving more than 1 point of share growth. We've continued to grow share in the first half of fiscal '20 thanks to distribution gains, contributions from new products like sweet biscuits, and good results on cookies. Retail sales in the first half declined 3% due to the later Thanksgiving Holiday. However, fiscal year-to-date retail sales for Pillsbury through the first week of December, which adjust for the holiday timing, were actually up low single digits. In total, we're off to a good start and we feel good about our plans for the key soup and baking season and we believe we are set up to have a successful year on US Meals & Baking.", "Overall, I'm encouraged by our first half results in North America Retail. In the second half, we'll drive improvement in US Snacks and US Yogurt while lapping more challenging retail sales comparisons in US Cereal. And we remain on track to achieve our goal of improved full-year organic growth for the segment. Shifting gears to our Pet segment on Slide 13, I'm pleased to say that we had a great second quarter with net sales up 16%. Our Q2 growth was driven by strong growth in the Food, Drug, and Mass and e-commerce channels, positive price mix, and a benefit from the timing of shipments in advance of holiday merchandising. This net sales performance was led by strong double-digit growth on Blue's two largest product lines, Life Protection Formula and Wilderness. Looking at end market performance, we drove first half all-channel retail sales up low double digits and we grew share in the Pet Food category.", "On the bottom line, second quarter segment operating profit grew 14% versus a year-ago driven by higher net sales, partially offset by higher media expense. On Slide 14, you can see how the key components for the Pet segment's first half double-digit retail sales growth breakdown by channel. Retail sales were up more than 100% in the Food, Drug, and Mass channel as we benefited from our expansion to new customers and the launch of Wilderness into the channel in last year's fourth quarter. Importantly, retail sales for Food, Drug, and Mass customers who have carried Blue more than 12 months were up 45% in the second quarter. As we expected, retail sales in Pet Specialty continued to decline by double digits. This is an important channel though for Blue and we continue to support the channel through unique programs and innovation. And Blue continues to win in the rapidly evolving e-commerce channel with retail sales up high teens through the first six months of the year.", "Looking to the second half of the year, we have an exciting lineup of consumer initiatives such as our Blue [Indecipherable] resolution promotion, we'll invest media support behind our broad portfolio of products, and we'll continue to drive distribution ensuring we have the best of Blue everywhere pet food is sold. For the full year, we remain well on track to deliver 8% to 10% like-for-like growth in the Pet segment excluding the benefit of the calendar differences in fiscal '20. We remain confident in the long-term opportunities for Blue Buffalo and we're excited about the growth prospects ahead. Shifting gears to the Convenience & Foodservice segment on Slide 15. Organic sales were flat in the quarter, a 4 point improvement over our Q1 result with volume growth offset by unfavorable price mix. The Focus 6 platforms led the segment with 2% growth behind cereal, frozen baked goods, and yogurt with strong contributions from our 2-ounce equivalent grain cereal offering and bulk Yoplait yogurt.", "Second quarter segment operating profit grew 5% versus the year-ago driven by COGS HMM savings, partially offset by input cost inflation and unfavorable price mix. In the second half of the year, we'll continue to see strong performance on the Focus 6 platforms led by our K through 12 schools. In Europe and Australia, second quarter organic sales were down 1%, a 4 point improvement over Q1 results with declines on yogurt partially offset by growth on Old El Paso Mexican foods and snack bars, two of our accelerated platforms that also drove mid single-digit retail sales in the quarter. Second quarter segment operating profit increased 45% in constant currency driven primarily by a timing difference in brand building investment that was neutral through the first half of the year. Looking to the second half for Europe and Australia, we'll improve topline growth versus the first half due to increased merchandising and brand building support behind Old El Paso Mexican food and our portfolio of snack bars including Nature Valley, Fiber One, and Larabar.", "And in Q4, we'll begin to lap the impact of reduced Haagen-Dazs distribution in France. In Asia and Latin America, second quarter organic sales increased 1%, which was also a 4% improvement over the first quarter. In Latin America, growth was driven by route to market changes in Brazil, resulting in improved performance on our Yoki brand. In China, net sales were up due to expanded distribution and pricing actions on Wanchai Ferry. In India, sales declined as we continued to change our distribution network to focus on more strategic and profitable outlets. Second quarter segment operating profit in Asia and Latin America was up 42% in constant currency driven by lower SG&A expense, partially offset by lower volume. We expect a step-up in second half growth in Asia and Latin America driven by benefits from our strategic revenue management actions and continued distribution expansion on Wanchai Ferry.", "With that, I'll turn it over to Don to cover joint ventures, margins, and cash as well as our back half expectations. Don?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Thanks, Jeff, and good morning everyone. Let me begin on Slide 19 by summarizing our joint venture results in the quarter. Cereal Partners Worldwide posted topline growth for the fifth consecutive quarter with constant currency net sales up 1%. That growth was broad-based including positive results in the UK, Australia, Turkey, and the Middle Eastern markets. Haagen-Dazs Japan net sales declined 6% in constant currency driven by slower category performance in the quarter. Second quarter combined after-tax earnings from joint ventures totaled $25 million, up 11% from last year driven by positive price mix and benefits from cost savings at CPW partially offset by lower net sales at HDJ. Turning to total Company margin results on Slide 20. Second quarter adjusted gross margin and adjusted operating profit margin were up 80 basis points and 110 basis points, respectively, driven by COGS HMM savings and favorable manufacturing leverage partially offset by input cost inflation and increased media expense.", "As Jeff mentioned, the favorable manufacturing leverage was a timing benefit resulting from higher inventory balances at quarter-end. We built inventory in the second quarter to protect service while we worked through labor contract negotiations. With those negotiations now successfully concluded, we expect inventory levels to normalize which will result in unfavorable deleverage in the back half of the year. For the full year, we expect input cost inflation and COGS HMM savings will each be approximately 4% of cost of goods. Slide 21 summarizes other noteworthy Q2 income statement items. Unallocated corporate expenses excluding certain items affecting comparability increased by $6 million in the quarter. Net interest expense decreased $13 million driven by lower average debt balances. The second quarter adjusted effective tax rate was in line with our full-year expectations at 21.9%, but was favorable to our 23.8% rate a year-ago, primarily driven by the timing of discrete tax benefits and more favorable earnings mix.", "And average diluted shares outstanding were up 1% in the quarter. Now let's cover our first half results on Slide 22. Net sales totaled $8.4 billion, down 1%. Organic net sales were flat in the first half with positive price mix offset by lower volume. Adjusted operating profit was up 7% in constant currency driven primarily by positive price mix, a one-time purchase accounting adjustment in the Pet segment in last year's first quarter, and the timing benefits referenced earlier, partially offset by higher input costs. Adjusted diluted EPS of $1.74 increased 12% in constant currency driven by higher operating profit , lower interest expense, and a lower adjusted effective tax rate. Slide 23 provides our balance sheet and cash flow highlights for the first half of F '20. First half cash from operations was $1.4 billion, up 4% from the prior year driven primarily by higher net earnings. Our core working capital balance totaled $429 million, down 19% from a year-ago driven by continued improvements in accounts payable.", "Capital investments in the first half totaled $158 million. This resulted in free cash flow of $1.3 billion, up 14% from last year. We paid $596 million in dividends and reduced debt by $655 million in the first half of fiscal '20. Slide 24 outlines our expectations for the second half. We expect to maintain our in-market competitiveness in North America Retail and will continue to drive strong retail sales growth for the Pet segment. We expect total Company organic net sales growth to accelerate in the back half due to improved results in the Convenience Stores & Foodservice, Europe and Australia, and Asia and LatAm segments as well as the extra month of results in Pet as we align that business to our fiscal calendar. We expect second half profit to be impacted by mid-teens percent increase in brand building investment, increased investments in capabilities and future growth initiatives, and the unwinding of the favorable manufacturing leverage and Pet shipment timing benefits we saw in Q2.", "From a phasing standpoint, we expect year-over-year profit results to be more favorable in Q4 than Q3 given that Q4 includes the extra month of sales for Pet and the 53rd week for the remaining segments. As Jeff mentioned upfront, we are reaffirming our key fiscal 2020 guidance metrics for sales, profit, EPS, and leverage; and increasing our guidance for free cash flow conversion. You can see our current expectations for these measures on Slide 25 namely we expect organic net sales to increase 1% to 2%. We continue to expect the combination of currency translation, the impact of divestitures executed in fiscal '19, and contributions from the 53rd week in fiscal '20 to increase reported net sales by approximately 1%. Constant currency adjusted operating profit is expected to increase 2% to 4%. The benefit of the extra fiscal week is being reinvested in capabilities and brand building initiatives to drive improvement in the Company's organic sales growth rate in 2020 and beyond.", "Constant currency adjusted diluted EPS is expected to increase 3% to 5% from the base of $3.22 earned in fiscal '19. We continue to estimate that foreign currency will be immaterial to adjusted operating profit and adjusted diluted EPS. Given our strong first half results, we now expect to convert at least 105% of adjusted after-tax earnings into free cash flow, which is up from our previous guidance of at least 95% conversion. And we'll maintain our fiscal -- our disciplined focus on cash to achieve our targeted year-end leverage ratio of 3.5 times net debt to adjusted EBITDA.", "Now I'll turn it back to Jeff for some closing remarks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks. Don. And before we close, I'd just like to take a minute and acknowledge the key leadership transition with Don Mulligan's upcoming retirement. After a distinguished 21-year career at General Mills including the last 12 years as CFO, Don will be retiring at the end of this fiscal year. He'll be stepping into an advisory role effective February 1st and retire on June 1st of 2020. As most of you listening already know, Don has served the Company and his function with distinction. He's a true expert in his field and has provided steady leadership throughout his tenure. As you can see by our results so far this year, he is certainly running through the tape. Today on his 50th earnings call, I'd like to personally thank Don for his contributions to the Company and for the counsel he has provided to me and his role. We'll certainly miss him and wish him all the best as he begins a new chapter.", "I'm also pleased to introduce Kofi Bruce, who will be taking over CFO effective February 1st. Kofi had been with General Mills for 10 years in a variety of roles including Treasurer, Segment Finance Leader for Convenience & Foodservice, and most recently as Vice President of Financial Operations. Kofi brings a wealth of external perspective from prior experiences at Ecolab and the Ford Motor Company. Kofi is well suited for this role given his breadth of experience, his track record of delivering exceptional results, and his passion for developing talent in our organization. In closing, I'd like to summarize today's key messages. I'm encouraged by our performance. We drove broad-based improvement in organic sales trends in the quarter, generated strong first half earnings and free cash flow results, and we reduced our debt. In the second half, we'll increase our investments in growth and will further improve our topline trends. Importantly, we remain on track to meet or exceed all of our key goals for fiscal 2020.", "With that, let me open up the line for questions. Operator, can you get us started?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you very much. We do welcome all questions or comments. [Operator Instructions] And our first question comes from the line of Ken Goldman of JPMorgan. Please proceed with your question." ] }, { "name": "Kenneth Goldman", "speech": [ "Hi, good morning, everyone. And Don, thank you for all your help over the years." ] }, { "name": "Donal L. Mulligan", "speech": [ "Thank you, Ken." ] }, { "name": "Kenneth Goldman", "speech": [ "I wanted to ask a couple questions. First, are you thinking this is more of a technical question. But on Slide 24, you had that you had mentioned that Blue Buffalo is the only business not to have an extra week, but I thought previously we were modeling this and maybe I just didn't understand it correctly. We were previously modeling five extra weeks in the fourth quarter and then subtract a week that went away in the first quarter, that gets us four net for the year. So, I thought we were previously guided to having an extra week in Buffalo -- Blue Buffalo for that fourth quarter, but maybe I missed it. I thought it was five total." ] }, { "name": "Jeff Siemon", "speech": [ "No. Ken, this is Jeff Siemon. You're right, we have -- the extra month is five incremental week in Q4. As we define organic versus not organic, all that change and Blue Buffalo falls under our organic sales definition. The extra -- the 53rd week in the remaining segments is above and beyond in the inorganic calculations." ] }, { "name": "Kenneth Goldman", "speech": [ "Okay. So, nothing has changed there just to make sure." ] }, { "name": "Jeff Siemon", "speech": [ "No, correct." ] }, { "name": "Kenneth Goldman", "speech": [ "Okay. Thank you. And then my next question is you have a little bit of controversy on your hands at least in the investor community right now obviously on the grain free side. We met with you guys a month ago, you didn't sound very concerned about it. Has your concern level changed at all in the last few weeks about grain free and some of the FDA reports out there or are you still not really necessarily seeing consumers react as feared?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. Thanks for the question. Ken. I mean contrary to what's been written, we actually really haven't seen an impact on our business as witnessed by the strong Q2 results on Blue Buffalo, including Wilderness which happens to be grain free. That along with Life Protection Formula really led our growth in the quarter. I do think it's important to take a step back and remember why did we get into this in the first place and what we bought was a with a great brand and a great category and a brand that travels across different diet types both grain containing and grain free and travels across channels and you can see that with our results in e-commerce and FDM. And so while there's been a lot of talk of grain free, we haven't seen it in our business and our trends even in Pet Specialty really haven't changed on grain free.", "And I also think it's important that in this discussion we don't lose sight of the fact that the FDA has really -- they have not identified a cause or link or drawn any conclusions. They have brought it to people's attention clearly, but they have not drawn a cause or link. And I would also like to say that along with our human food, we work closely with the FDA and the rest of the Pet industry is as well. Now there has been slowdown in grain free category, but there are a lot of moving pieces. I mean part of that's probably a shift to Blue Buffalo and part of that is channel shifting in all rest, but there has been a slowdown in the grain free segment although Blue Buffalo and our grain free products, we really haven't seen that." ] }, { "name": "Kenneth Goldman", "speech": [ "Thanks so much." ] }, { "name": "Operator", "speech": [ "And our next question comes from the line of John Baumgartner of Wells Fargo. Please proceed." ] }, { "name": "John Baumgartner", "speech": [ "Thanks for the question. Jeff. I also wanted to stick with the topic of DCM and maybe just looking at it differently. Can you frame the situation as you see it maybe in terms of options for the portfolio and supply chain, whether it's with three formulations or anything else? Like how do you think about the optionality there?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, I mean I think I'll start -- look, I'll start answering that question with something I mentioned briefly and that Blue Buffalo plays really well across all diet types and I think that's really important to point out. The second thing I guess I would like to say that we have some product lines that even though they're technically grain free, they also have a -- they also benefit as high protein. So I look at Wilderness and while it's grain free, it is also true that it's high in protein and many consumers buy it because of that. We don't have -- we certainly don't have any plans to reformulate products, but if we ever needed to, we can certainly shift. We currently can make some shifts and make some changes. As I said, we don't have plans to do that now because we haven't seen an impact and we don't feel the need, but should that need arise, we certainly can." ] }, { "name": "John Baumgartner", "speech": [ "Great. And then Don, very strong quarter for margins, you mentioned the benefits there from the manufacturing leverage. But how is the pacing coming through from the global sourcing and some of the logistics work you're doing both in North America and Europe? Where do those initiatives stand kind of going forward in terms of incremental benefits for the back half and maybe into fiscal '21?" ] }, { "name": "Donal L. Mulligan", "speech": [ "We continue to see strong return on the investments we made in global sourcing. For example, our HMM is tracking on plan. It will fully offset our 4% inflation this year. It tends to be -- it is running fairly consistently quarter-to-quarter. We expect both in the front and the back half for inflation in HMM to kind of run in lockstep and that's with an elevated HMM results partially driven by the global sourcing that you referenced." ] }, { "name": "John Baumgartner", "speech": [ "Great. Thanks for your time." ] }, { "name": "Operator", "speech": [ "And our next question comes from the line of Andrew Lazar of Barclays. Please proceed." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning, everybody. Happy Holidays" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Andrew. Happy Holidays." ] }, { "name": "Andrew Lazar", "speech": [ "I guess, first off, more of a quick one. I guess Don, are you able to help maybe quantify or maybe put some parameters around the benefit from some of the timing that you talked about in Pet shipments and manufacturing leverage in NA Retail that is set to unwind in the second half ?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Sure. I guess I'll step back first and just talk about margins more broadly. We are pleased with the way the middle of the P&L is developing this year. You're seeing a consistent improvement in our -- in expansion in our gross margin and even when you strip out lapping the inventory step-up on Pet from last year and the timing benefit this year, you're seeing a 30 basis point to 40 basis point improvement in margins -- in gross margins in both the first and second quarter and you're also seeing that we're investing that back in higher media, which has been running mid-single digits and actually increased in the second quarter versus the first quarter. And our admin is well controlled so we're getting leverage there, which is leading to the improve -- through the first half the improved operating margin as well.", "So, we like the structure. As we look to the second half, there's three things that we referenced. We are going to see a step-up in our brand investment that's going to be in the mid-teens. And to put it in perspective, we run an annual media budget over the last year was around $600 million. We'll also see increase in investments. We talked at the beginning of the year about getting deeper in data analytics to support our strategic revenue management and e-commerce activities and we'll continue to invest in those and increase that investment in the second half. We'll also start spending some money on pet innovation, which again will benefit beyond our beyond our F '20. And the last piece is the shipments, the reason I recap them -- or the timing, excuse me and the reason I recap them is because that is the order of impact as well.", "So, I want to make sure the first two pieces are not lost. So, the third on the timing. There's two components, it the manufacturing leveraging in North America Retail, which will -- which was created as we increased inventory in the second quarter and will unwind largely in the third quarter, and then a small benefit from shipment timing in Pet. Together those would be about a $25 million benefit or a benefit in Q2 reversed in the second half again largely in the third quarter. But again there's three components, all are material and the timing is actually the smaller of the three." ] }, { "name": "Andrew Lazar", "speech": [ "That's helpful. And then your comment on Pet is a good segue into the next question, which is I'm thinking about the runway for growth there. This fiscal you're obviously seeing the benefit from the whitespace distribution fill in the FDM channel not only from Life Protection Formula, but Wilderness sub-brand as well. Is the opportunity as we head into fiscal '21 become less about channel fill and more about I guess product form thinking about like wet and treats? And if so, I guess what does the analysis suggest to you around the magnitude of that opportunity as we go forward? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So as we look ahead, Andrew, I mean, I think one of the things I would say first of all that we're most encouraged by is if you look at the growth we have in Pet distribution, we've had for more than a year is up 45%. And so the idea that once distribution stops or growth stops is not something we subscribe to. And that actually follows what happens in human food. A lot of times when we launch new products into a channel, people are still finding those products for a couple of years. And so it's actually not surprising to us that we will see continued growth in Pet in channels where we already exist. It's actually quite good. So as we look at F '21, the first thing I would tell you even though we have quite a bit of distribution already, we should -- I think pet parents are still going to be finding Blue Buffalo especially in the Food, Drug, and Mass outlets. So, I think we'll see continued growth from that. Pet Specialty, we'll look to turnaround some of those trends in the Pet Specialty because we think that we can do better and buy it through promotions that are suited to that channel as well as some new product innovations. Carnivora is just the beginning and continue [Technical Issues]." ] }, { "name": "Andrew Lazar", "speech": [ "Can you hear me, guys?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. All right. Andrew, we're back. Don just said in 50 calls, this is a first for him. So I'm going to pass it on to Don." ] }, { "name": "Jeff Siemon", "speech": [ "Jeff was I think probably talking for a little while longer about our Pet growth opportunities so..." ] }, { "name": "Andrew Lazar", "speech": [ "We got cut off. Yes, I could help you there. We got cut off right after Jeff has said, you still see opportunity obviously in some of the core channels that you're in and then you were just going to kind of transition to the next part of the point." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Great. Okay, good. I don't want to miss it, it was sheer brilliance, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "We'll never know." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "I'm sorry, it was [Indecipherable]. Look, the other thing I was saying there was in -- the other opportunity is really through innovation through wet and treat. And one of the things we'll be -- we're spending more money in the back half of this year on is on innovation and you'll see that come to fruition in F '21. And to dimensionalize it, the wet and treat part of the pet food category is about 45% of the category so almost $15 billion in sales and we weigh under index. So, our share of dry dog food is probably about 10% and our share of wet and treat is somewhere in the 3% to 4% range. And so, the opportunity is enormous. And so as we look to next year, we think we can grow through continuing to do what we do well, which is build the Blue brand, continue with pet parents finding the channel, and through wet and treat innovation." ] }, { "name": "Andrew Lazar", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. And our next question comes from the line of Dara Mohsenian of Morgan Stanley. Please proceed." ] }, { "name": "Dara Mohsenian", "speech": [ "Hey, good morning, guys. So, two questions. First just in US Retail, Cereal had a strong quarter that's a continuation really of the solid results you mentioned over the last couple of years with the growth, but obviously also an easy comparison this year with the merchandising shift last year and one of your key competitors has talked about increasing merchandising in that business. So Jeff, was just hoping for a bit of a state of the union there on your Cereal performance, the key growth drivers going forward and where are your focus and expectations for the back half of the year. And then a similar question on US Yogurt, trends did weaken sequentially in the quarter, I think you've had some greater competition on the low end. So, maybe you can talk about the competitive environment in Yogurt, your prospects for the back half of the year. And with a number of the drivers you mentioned, do you think that business could actually get to growth in the back half of the year? Any expectations there would be helpful. Thanks." ] }, { "name": "Jonathon J. Nudi", "speech": [ "This is Jon. Maybe I'll jump in and take both those questions. On Cereal, we feel really, really good about our performance to date. The quarter was a terrific one where we were up 5% from an R&F standpoint and it's really being driven by fundamentals. If you look at our marketing, we feel great about where we are in our major brands. In fact we had the best quarter on Cereals in over a decade with our total Cereals franchise up 6.5%. Jeff mentioned some of our kids cereals in Reese's Puffs and Travis Scott collaboration. So, feel really good about our marketing on our big brands. At the same time, our innovation is quite strong as well. In fact, we have the Top 4 new products introduced over the last year in the category. Nearly 50% of all the new category volume from new products is coming from General Mills. So, feel really good about the fundamentals.", "You mentioned the comp, we were a bit softer last year in Q2 from a merchandising standpoint and obviously we benefited from that. Our comps get a bit more challenging in the back half. But as I look at the fundamentals behind marketing and innovation, we feel like we're going to compete very effectively as we move through the back half of the year. So, we feel really, really good about Cereal and importantly, the category was actually flat for the first time in quite some time in the quarter as well. It continues to get better over time and we feel good about the future of the category and certainly the way that we're competing. Switching to Yogurt. As Jeff mentioned, our goal that we set at the beginning of the year was to improve from a minus 2% that we delivered in fiscal '19, which took a bit of a step back. We were down 3% for the first half and really two major drivers of that. One was that we lost some significant distribution at several major customers last January.", "We'll lap those distribution declines next month and again we think that will be an inflection point. And also in the summer of fiscal '19, we brought up a second line on Oui and as a result, we spent a tremendous amount around marketing support to really drive that business and in fact in Q2 last year, we used up almost 40%. So, our comps normalize in the back half on Oui and that will help us from a comp standpoint. We feel really good about our core business Original Style Yoplait yogurt was up 1% in the quarter. Go-GURT was actually up 10%. We had some really great taste news and we feel good about our new product lineup for the back half as well. As Jeff mentioned, we're launching a new non-dairy Oui which is coconut based and we've got a Starburst promotion as well. So, we believe that we are still on track to meet our objective and improve it from the minus 2% and we feel yogurt [Indecipherable] as we move through the back half." ] }, { "name": "Dara Mohsenian", "speech": [ "Okay. Can you just talk a little bit about some of the low-end competition you're seeing and if that's an issue, how you view that in Yogurt? Thanks." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes. I would tell you I don't think that's something that we're super focused on. Again we think that across each of our lines, we have a very clear view of consumers. OSY, our Original Style Yoplait, again that's where we'd probably see the highest private label interaction. And as I mentioned, we grew 1% even seeing private label gain pretty strongly. So, we believe if we focus on innovation and building our brands, we can be successful. And again we believe that we're going to have strength in the back half and meet our objective." ] }, { "name": "Dara Mohsenian", "speech": [ "Great. Thanks." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Jason English of Goldman Sachs. Please proceed with your question." ] }, { "name": "Jason English", "speech": [ "Hey, good morning, folks. Congratulations on your pending retirement Don and welcome, Kofi, and looking forward to working with you. I want to bring us back to Pet with a couple of quick questions on it. First, performance in Pet Specialty, I guess I'm surprised by the continued double-digit erosion particularly in context of the much improved results you're seeing out of Petco and PetSmart and the Carnivora launch. Can you give us some context around what's driving the sustained share losses there? And also the teens type growth on e-commerce obviously strong in absolute quantum of growth, but we're hearing Nielsen talk about 40% plus growth in e-com and obviously we're seeing the robust results continue at Chewy. The data suggests you may be losing share in e-commerce as well if you could weigh in on your perspective there." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. With regard to Pet Specialty, the results aren't particularly surprising to us in Pet Specialty. It doesn't mean we like them and we're not working to turn them around. And the reason we've had tough results in Pet Specialty, I think there are two reasons. One is that in two of our biggest players, I mean we were down on distribution quite a bit and until we start lapping that which will be in the back half of the year, we'll continue to be down. And the second is we haven't had a lot of offshelf placements on marketing in those channels, which we're also looking to turnaround. And so, that's not all that surprising. The other thing is that the e-commerce channel does interact quite a bit with pet superstores and we've had strong performance in e-commerce over the years, including this latest quarter. And so, that probably accounts for some of the decline as well. But we're working -- it's an important channel for us and even if we're not surprised, it doesn't mean we're happy. And so our goal there to improve that performance in the near term.", "When it comes to e-commerce, there has been a lot written about e-commerce and I think especially about I think Chewy announced last quarter 40% growth in their business. I think it's important to remember that their growth also includes pharmacy and hard goods and not only pet food. In terms of our growth, we feel great with the Number 1 pet food online. We're the Number 1 CPG brand online and we continue to grow with pet parents. And so in terms of market share, there are probably three different sources for market share. We use two of them and according to that, we're actually growing share in the channel. We haven't used Nielsen frankly because their data has not been as reliable as we would have wanted it to. To the extent that that changes here over time, we'll pick up Nielsen. But we stopped using them because the data was not as robust as we needed it to be. I think it's also important to remember that Nielsen includes all e-commerce channels not just pure plays like Chewy Chile and Amazon, but things like Target and Walmart and all the rest." ] }, { "name": "Jason English", "speech": [ "Got it. That's really helpful. One more and I'll pass it on. On the portfolio overall, you obviously have a sizable grain in offering as well as grain free. Is there a meaningful margin delta between those two? And also what's the general price spread between those two? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "I would say for Wilderness, our pricing is higher on average than it is for the rest of the line and our margins are very robust. I'm not going to get into the specifics of that, but our margins are very robust and so -- as is with all of our pet food. So, I would say Wilderness is our biggest grain free line and it's got good margins and a higher price point." ] }, { "name": "Jason English", "speech": [ "Thank you very much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Faiza Alwy of Deutsche Bank. Please proceed." ] }, { "name": "Faiza Alwy", "speech": [ "Yes, hi. Good morning. Thanks for the question. So, I had a couple of questions. First, I just wanted to go back to the DCM issue only because as you're aware, it's a big focus point for investors. And one is it's clear that you're not seeing an impact from retail sales, but are you seeing any impact as you're looking at consumer sentiment out there? And is there anything sort of beneath the retail sales where you're potentially concerned about DCM at all? And then my second question is just a little bit broader question around your priorities. I guess if you just look at this quarter alone, you could come up with the perspective that you are prioritizing profitability and deleveraging, which is great and I don't mean to look at it on a glass half empty point of view. But maybe could you give us a little bit more comfort in terms of your priorities around topline growth and sort of what's driving this shift in investments toward the back half versus this quarter? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. So on DCM, I'll probably reiterate a statement I made a little bit earlier, which is to say that we haven't seen an impact on our business from this. Now there are a lot of moving pieces with channels and distribution bills and all the rest, but we have not seen an impact on our business from the discussion of DCM and there has been quite a bit of discussion. There's been a slowdown in the grain free segment within the category. So, that also has to be said and some channels are impacted more than others, particularly the Pet Specialty channel more than the Food, Drug, and Mass channel. And so we'll certainly keep an eye on that. But from what we see now, it hasn't had an impact on our business and of course we're dedicated to -- Blue Buffalo was created with a mission to create the healthiest pet food possible and we'll maintain on that mission.", "And with regard to DCM and any other issues affecting pets, we're in constant communication with the FDA as well as the rest of the pet industry. In terms of our first half versus second half and kind of what we're prioritizing, I guess I would say our goal has been for the last few years and again this year is really stay in the middle of both. And we're increasing our organic sales, but we want to make sure we do that in a way that is disciplined. And I think if you look at our full year, we'll be able to accomplish that and we'll be able to accomplish that by increasing our organic growth rate and we'll accelerate that in the back half of the year as well as raising guidance on our free cash flow conversion and maintaining our guidance on our profitability.", "So if you look at the whole year, I would say that our goal is to increase our organic growth rate but to do so in a way that is as efficient as possible. It is true that in the first half of the year we accelerated our profitability more than we did our organic growth and I think you'll see a little bit of a change to that in the back half of the year as we spend more on brand building and we have confidence in the ideas that we have. We've got really good ideas on really big brands. So whether it's in Snacks with Nature Valley and Fiber One or whether it's in Yoplait Yogurt or whether it's on things like Cheerios or Cinnamon Toast Crunch, we have really good marketing ideas on really big brands and so we're going to -- you'll see us spend behind that in brand building in the back half of the year to accelerate organic sales growth." ] }, { "name": "Faiza Alwy", "speech": [ "Okay. Thank you very much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Nik Modi of RBC Capital Markets. Please proceed." ] }, { "name": "Steven Shemesh", "speech": [ "Good morning. This is actually Steve Shemesh on for Nick. Just another quick one on Pet. As we approach the leadership transition in Blue, just wanted to get a sense of if there have been or will be any significant operational changes? And I guess on that point, will Blue still have a somewhat independent sales force or is that going to be integrated into the broader General Mills sales force? Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, first I would say that our Pet performance seems to be pretty good right now. So, we're going to keep doing what we've been doing and add innovation on top of that. A couple of things I think to remember. The first is that the Bishop family; Billy and Bill Senior and really Chris; they'll still be involved in the business as advisors going forward. And I just had a conversation with Bill yesterday and so they bring a lot of pet expertise and they will continue to bring that expertise. It just won't be in an operational role, it will be in an advisory capacity. The second is that we have a strong leadership team in place that's going to carry over.", "So, we have someone who's been in Blue Buffalo for a long time leading our marketing organization and leading supply chain. We have an HR professional that's been there for a while as well as someone in finance. So, the leadership surrounding Bethany who is going to remain in place and they've been very effective. And then finally, Bethany herself. We have a tremendous amount of confidence in Bethany and she's a great culture builder and has proven she can drive growth as she has in CNF and she's excited to do the same thing in Pet with the team around here. So, we feel good about the leadership transition. Obviously the Bishops are fantastic and we will miss them, but they will remain involved and we have a great deal of confidence in Bethany and the rest of the herd." ] }, { "name": "Steven Shemesh", "speech": [ "Okay. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Robert Moskow of Credit Suisse. Please proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hi, thanks for the question. Two things. In the guidance for the back half, I think consensus is expecting operating profit to be flat to down already. Is that kind of what you're thinking if we had to isolate third quarter in particular because of the comparisons and the $25 million and all of that? I wasn't sure from the script. It sounded like you thought -- it sounded like the opposite, but I couldn't tell. And then secondly, I noticed in the press release that lower consumer promotional expense was one of the drivers of the gross margin being higher. Does that include trade promotion or is it specific consumer promotions that you're talking about and to what extent is that I guess being offset by the higher media expense? And maybe you can give us little more clarity on how much media is going to be up for the year. Lot of questions in there, but yes." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "All right, I'll do my best Rob." ] }, { "name": "Robert Moskow", "speech": [ "Sorry. I tried to be clear if nothing else." ] }, { "name": "Donal L. Mulligan", "speech": [ "So for the second half if you just do a squeeze, we're 7% on operating profit. We're 7% up in the first half, our guidance is 2% to 4% so it squeezes to flat to slightly down in the second half. I mean that's just the math and as we alluded to, there is particularly pressure because of the unwinding of the inventory and the Pet sales timing in Q3. And we'll also see a step-up in our media and in the capability building in Q3 and through the second -- through the fourth quarter. So, you will see those pressures come through probably more acutely in the third quarter than the fourth quarter and the fourth quarter obviously will also benefit from the extra month in Pet and the extra week across the business. That's the phasing. The promotional expenses were not trade, they were actually in we call other consumer so they're in SG&A. And to your point, they were down a touch, but media was up strong mid-single digits in the quarter. And again as we said in the second half, we expect media to be up mid-teens in the balance of the year. So, we continue to invest behind our brands. We're seeing it more directly in our media budget and media spending this year and we expect that to step up in the second half." ] }, { "name": "Robert Moskow", "speech": [ "And Don, can you give us any color on trade spending like there's been a shift in the industry overall toward higher trade spend and lower brand building. Are you saying that your trade spending is going to be about the same and then in addition to that, you're going to increase the direct to consumer as well? How would trade spending be affected by this If at all?" ] }, { "name": "Donal L. Mulligan", "speech": [ "I'd say it's not. The media spend is in addition. I'll let Jon talk a little about the trade in a second, but I'll just go back to the comment I made to Andrew's question is. If you step back and look at the shape of the P&L the way it's coming in this year, you're seeing the benefit of all the work that we're doing in terms of gross margin. Ex the timing and the purchase accounting adjustment from last year, gross margin is expanding about 30 basis points to 40 basis points in the first half and that was in both quarters. Media is up mid-single digits through the first half and again accelerated in the second quarter and our admin expenses have been held in check. And so, we're leveraging those to drive operating margin expansion and that's what we expected to do during the year. As Jeff alluded to, we actually came in a bit more -- with a bit higher profit in the first half than we had originally anticipated and that gives us some flexibility to invest in the back half. That investment is going to be in media, in capabilities, in future growth initiatives such as the Pet innovation not in higher trade. So Jon, if you want to comment a bit about the environment you're seeing." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes. So Robert, our trade spending in the US is relatively stable year-over-year. We're leveraging strategic revenue management to try to get more from those dollars and leveraging that whole toolkit but relatively stable. And we're really excited about the opportunities on the brand building side. I'd tell you that we've got probably more ideas than ever in terms of where we can get behind and there are proven drivers and invest behind big brands like Cheerios with heart health news, we're seeing amazing results. So, we'll be competitive and compete in our categories from a trade standpoint and will build our brands where we have media as well. So, we feel really good about the few we have to drive our business forward." ] }, { "name": "Robert Moskow", "speech": [ "Okay, great. Thank you." ] }, { "name": "Operator", "speech": [ "And our next question comes from the line of Laurent Grandet of Guggenheim Partners. Please proceed." ] }, { "name": "Laurent Grandet", "speech": [ "Yes, hi. Good morning, everyone. And congrats, Don, and welcome, Kofi. Just to follow up on the US share growth category. Could you please update us on how you see the state of the Yogurt business, the recent relaunch of YQ, I mean the launch of Good Valley and Oui by Yoplait that we certainly can't see in Nielsen. And also could you share your aspiration for Oui dairy free that you just announced and how it fits with your overall plan base strategy that most probably include your investment in KKL? Thank you." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Sure, Laurent. This is Jon. So as I mentioned earlier, we were a bit softer in the first half than we'd like on our Yogurt business. And as I mentioned, we feel like we've got drivers in place to improve in the back half. Some of the things you asked about our Good Valley as well as YQ, I would tell you candidly they did not perform as well as we would have hoped through the first half. I would say distribution is a bit below -- lower than what we would have liked, particularly on Good Valley. We've got some real pockets of success and we're drilling in to understand what's working and how we can expand that brand out. As we move to the back half, we are excited about our innovation line up. As you know, plant-based yogurt is growing nicely, it's still relatively small and we think that coming with the repackaging will be a real point of difference and we love the product as well. So, we think that will help us as we move forward and play in a really important part of the category that's growing quickly. So, we'll continue to innovate and iterate in that category. I'll tell you there's probably more innovation in Yogurt than the other 25 categories we compete in in the US and we as a result, recognize that we have to have a strong pipeline and continue to bring ideas as the consumer is continually looking for new things in the category." ] }, { "name": "Laurent Grandet", "speech": [ "Thank you very much. And have you got the time for our second question. So, I'd like to understand I mean the rest organizational change between I mean Dana McNabb moving from Cereals to Europe, I mean any update on that transition? I mean how it is, which would impact I mean European business you think. And also I mean how I mean you would fill here shoes in the US so the business that's working very well for now." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. So, the transition is going smoothly. Dana is being replaced in Cereal by Ricardo Fernandez, who is an exceptional leader with really good knowledge of the Cereal category. So, one of the things I feel great about is that we have a very good team of people Cereal experts here at General Mills. And I would also say Dana has had a great team in Cereal and they're remaining in place. So, we've got good people in marketing and finance and operations and so the rest of that team is remaining in place and they're a very talented group. And so my expectation is that we'll continue to grow Cereal as we have in the US. Dana is a fantastic leader. She knows Europe very well. She spent time with me at CPW so I know Dana well. And so she knows the European market context. She's a very good marketer, she really likes to grow. And so, looking forward to what she can do with that business and continue similar trajectory we've had on Old El Paso and maybe even improve it further and improve what we've done on bars which has been really good and Haagen-Dazs. And then she'll have a chance to make sure we get our Yogurt business in Europe back to growth, which has underperformed along with the rest of the yogurt category. So, she's a terrific leader who understands the market and she'll be starting there in about 10 days." ] }, { "name": "Laurent Grandet", "speech": [ "Okay. Thank you. Thank you very much." ] }, { "name": "Jeff Siemon", "speech": [ "All right. Bridget, I think -- unfortunately I think that's all the time we have. So, thanks everyone for your questions this morning. I know we didn't get to everyone so please feel free to follow-up over the course of the day. And Happy Holidays, everyone. Thanks for listening in this morning." ] }, { "name": "Operator", "speech": [ "And that does conclude today's presentation. We do thank you for your participation and ask that you please disconnect your lines. Have a great rest of the day and Happy Holidays, everyone." ] } ]
GIS	2020-12-17	[ { "description": "Vice President of Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "Group President of North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "JPMorgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Guggenheim -- Analyst", "name": "Laurent Grandet", "position": "Analyst" }, { "description": "Bernstein -- Analyst", "name": "Alexia Howard", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Faiza Alwy", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "DD Research -- Analyst", "name": "David Driscoll", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Rob Dickerson", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the General Mills Quarter Two Fiscal 2021 Earnings Call. [Operator Instructions]", "I would now like to turn the conference over to Jeff Siemon. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thank you, Frank and good morning, everyone. We appreciate you joining us today for our question-and-answer session on our second quarter results. I hope everyone had the time to review our press release, listen to the prepared remarks and view our presentation materials which were made available this morning on our Investor Relations website.", "It's important to note that in our Q&A session, we may make forward-looking statements that are based on management's current views and assumptions, including facts and assumptions related to the potential impact of the COVID-19 pandemic on our results in fiscal '21. Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information which may be discussed on today's call.", "I'm here virtually with Jeff Harmening, our Chairman and CEO; Kofi Bruce, our CFO; and Jon Nudi, Group President of our North America Retail segment. We are in different locations, so we will make sure that technology works well for us and everything goes smoothly.", "And with that let's go ahead and get to the first question. Frank, you can get us started." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Our first question comes from Ken Goldman with JPMorgan. Please proceed." ] }, { "name": "Ken Goldman", "speech": [ "Hi, good morning. Thank you. Two from me if I can. First, quickly the trade load at pet food was this the catch-up from under-shipments in prior quarters or was this in advance -- in advance of what could be maybe an under-shipment next quarter or maybe just heightened demand? I was trying to get a sense of what this means for your third quarter since you didn't call it out as a headwind?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So thanks, Ken. So first, I'll start with saying we had a tremendous quarter in pet food in general and a really good first half of the year. And I think we've proven that despite the fact that we've lapped our food, drug and mass expansion that we can continue to grow this brand. As it relates to the topic of how we shipped relative to demand, I would say in the first quarter of this year, we shipped behind demand and recall our growth -- our reported growth was 6% even though our movement was probably in high single digits. There are little bit of a reverse in the second quarter where our reported net sales growth was 18%, but our movement was probably in the double-digit range.", "How I think about it for the first half of the year, then, our reported net sales are up about 13%. Our movement is probably up about 10%, I would say, maybe 11%, but probably about 10% or 11%. So we have shipped a little bit ahead of movement, as it pertain to this year. I would still expect us to have a strong quarter in the third quarter and our movements remain strong. We'll see what the reported net sales impact is. But I would expect our shipments to be strong and our movement to continue to be strong because what we're seeing in the category right now is mid-single-digit growth really led by premiumization and because Blue Buffalo is the best brand in that -- and the biggest brand in that segment, we're performing well." ] }, { "name": "Ken Goldman", "speech": [ "Thanks. And then my follow-up, you're guiding to a flat EBIT margin year-on-year in the third quarter, but in 3Q '20, you did have a pretty big hit from COVID in China. I think you said at the time that just Haagen-Dazs China alone was 150 basis point headwind to your total operating profit margin in the quarter. Correct me if I'm wrong on that. And you know, you had organic sales growth that quarter of 0%, which was pretty low for you guys. So there was no fixed cost leverage. You turn around a year later, China is doing great. You have all this fixed cost leverage from another 7% organic growth quarter coming. Why shouldn't we be modeling an EBIT margin, maybe a little bit higher than that 16.2%-ish number you did a year ago at this time?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Sure. Ken..." ] }, { "name": "Kofi Bruce", "speech": [ "Ken." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Go ahead, Kofi." ] }, { "name": "Kofi Bruce", "speech": [ "Go ahead. Sorry, sorry, Ken, Kofi here. Thanks for the question. As we mentioned in the prepared remarks, one of the things we're flagging is an expectation that we will see some of the external supply chain costs shift into Q3, which will be an offset to some of the expected leverage benefit, we would expect to see with the volume that we're guiding to for the quarter." ] }, { "name": "Ken Goldman", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Andrew Lazar with Barclays. Please proceed." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning, everybody." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Kofi Bruce", "speech": [ "Good morning, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "Hi, good morning. Jeff in -- in your prepared remarks, you called out, and I think you did last quarter too, but you called out some interesting results in China, where traffic in the Company's retail shops is coming back toward normal levels, but sales of at-home consumption items like Wanchai Ferry still remain quite elevated. So of course, every market is not like-for-like. But do you see the dynamic in markets like China and others, maybe Australia? Was that well ahead of where we're in sort of getting the virus under control, as reasonable indicator or corollaries for some of what perhaps gives you a little more comfort and why there's conviction in some of the at-home items staying elevated even as things kind of normalize here in the US? I'm trying to get a sense of what takeaways you can conclude from some of those markets as it relates to the US." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Andrew, that's a -- it is a very good question, and also a good memory from what we talked about in Q1. I mean, we -- I put this in my prepared remarks because there's a lot of speculation among us as CPG, people and food, as well as investors and analysts about what's going to happen post-pandemic and we're all looking forward to that day. But there are very few data points on what is actually happening, when governments aren't locking down restaurants and bars and things like that.", "And so one of the things we can -- there are a couple of data points, we can point to that don't guarantee what's going to happen afterward, but at least are data points of what's actually happened rather than speculation on what might happen. And one of those places is China, where restrictions have been lifted five months or six months ago, and we're still seeing slight declines in our foodservice business, while our Wanchai Ferry dumplings business, which is a frozen business at-home remains up double digits. And while it's not up as high as it was at the beginning of the pandemic, it's still up -- it's still up double digits and significantly above where it was pre-pandemic.", "And we think that's important, because at the very minimum what it points to is that consumer eating habits, while they -- while they may change from where they are now, once we have a vaccine and once we're post pandemic doesn't necessarily mean they're going to go all the way back to where they were before or in a minimum aren't going to go back as fast. We're seeing a little bit of the same thing in Australia, where our current movement on Australia is not what it was at the beginning of the pandemic, when they were on a lockdown. But we have seen growth in our business in Australia even in the last few months as restrictions have been eased.", "And so we point these things out, and I point these things out because while there is a lot of speculation about what might happen, there are at least a couple of places, where we're watching what is happening, and that would point to continued levels of pretty high demand even once where we have a vaccine and once the lockdown restrictions have been lifted." ] }, { "name": "Andrew Lazar", "speech": [ "Okay. Great. Thanks for that. And then, just quickly, you discussed not yet having had the opportunity to kind of fully replenish retail inventories in a lot of areas, as consumptions remain pretty elevated. We do anticipate more of that retail inventory refill to be able to happen in fiscal second half, such that sales maybe, broadly, you call it in North America Retail could be ahead of in market consumption or are we still at a place, where significant refill of inventories at retail is just tough given where consumption levels remain? Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Andrew, let me start by -- let me start with those questions. I'm going to pass it to Jon Nudi for specifics on North America Retail. I would say in general for this quarter, as I look at our whole enterprise, we really haven't built inventories in the second quarter, but it really does depend on the segment. So for example, we talked a little bit about pet, where we -- where we did ship ahead of demand and rebuild pipeline. In the consumer convenience and foodservice is the opposite, where because of school closings and all the rest, we -- certain distributors aren't carrying as much inventory and we probably are a little bit -- our RNS is behind demand for the quarter.", "And in North America Retail because our movement was about 9%, and our shipments were about 9%, we saw very little movement. But maybe, it would be helpful for Jon Nudi to kind of weigh in on -- on maybe what we saw in Q4 last year on Q1 and 2 and then kind of what the implications are for the rest of the year?" ] }, { "name": "Andrew Lazar", "speech": [ "Great." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah. Thanks, Jeff, and hi, Andrew. In terms of North America Retail, we did ship in Q4 of fiscal '20 about 9 points, shipments lagged consumption by about 9 points. As we move through the first half of fiscal '21, we were able to replenish about 4 points of that gap. So there is still about 5 points to make up. And we do believe by the end of the fiscal year, we'll get there.", "The majority of our categories, we're actually in pretty good shape from a capacity standpoint and service standpoint, we have a few that were still, have some significant issues with, things like soup and dessert mixes, Old El Paso taco shells. We do believe we'll get better through Q3, and by the end of Q4, I think we'll be back to where we want to be from an inventory standpoint." ] }, { "name": "Andrew Lazar", "speech": [ "Thanks, everybody." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Laurent Grandet with Guggenheim. Please proceed." ] }, { "name": "Laurent Grandet", "speech": [ "Hey, good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Laurent Grandet", "speech": [ "Yeah. Good morning. I do have some questions on pet food. So wet pet food was plus 25% in the quarter, treats up plus 40%. With the addition of pet food and wet cat food, I mean, what to expect, I mean, for wet pet food, I mean -- I mean, this coming calendar year. And also I think you said in the past that you would be launching new treats at the beginning of the calendar year. Could you please update us on this initiative a bit? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So Laurent as I think about our pet food business, I mean one of the things I'm most pleased with is that we're growing across our different segment. So if you look at it by a product type, if you got a dog food, whether it's wet dog food or dry dog food or dog treats, we're growing in all those segments. If you look at cat food, whether it's dry or wet or treats, we're growing in all those segments. Then if we look across channels, we're actually growing across all the channels we participate in. We're growing in the food, drug and mass channel. We're growing in -- we actually returned to slight growth in specialty, and we're actually growing quite a bit in e-commerce. And so I think that speaks to the underlying health of our pet food business when we can grow on all the different segments, whether it's consumer segments or whether it's -- and the channels we compete in.", "When it comes to how we're going to grow forward, I mean, certainly the premiumization of pet food and humanization of pet food is a trend we see coming. We're really excited about this tasteful launch. And it's a pet -- cat wet food is a $5 billion segment, and we probably have about a 2% or 2.5% share of that segment, whereas our dog dry is 10% share. So we have a lot of -- we have a lot of ground to make up. And what we're introducing in the marketplace is going to taste great. And we know that pet parents of cats, they want to feed their cats something in wholesome and natural, but they also need it to taste good, because frankly cats are picky eaters and certainly they can be. And so we're excited about that.", "When it comes to treats, we are -- we do have some treat launches lined up here for the third quarter. So we're launching those as well. And we also have some more innovation in our pipeline both on treats, and in -- in the cat food area. And so we're pretty bullish about our ability to continue to compete effectively given what we see in our innovation pipeline. And frankly, the continued premiumization and humanization in the pet food category." ] }, { "name": "Laurent Grandet", "speech": [ "Thanks, Jeff. And if I may, I've got a second question on Europe. Sales are improving in Europe, and you mentioned in your prepared remarks, I mean, Old El Paso and Haagen-Dazs being a major element of that recovery. So now actually, we saw also trends improving in yogurt. Could you please, I mean, provide us, I mean, some more business update about that significant piece of your European business?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. So I'm really pleased with our European results. I mean, we grew share broadly in France, we grew share in Australia, and we held share in the UK. So our European business is doing well. The things that led the growth, as you say are our Haagen-Dazs business and our Old El Paso business, which have good margins, which is why you see our profitability up in the quarter outpacing our sales growth.", "But our -- but our yogurt business, particularly in France, continue to grow. I'm really pleased with the performance of our French yogurt business. We're growing share, but we're also growing in the absolute. We're just not growing as fast as we're in Haagen-Dazs and in Old El Paso. But we're growing our yogurt business, particularly in France. In fact, our yogurt business throughout the world, with the exception of the UK, where we discontinued a sub line in adult yogurt. Outside of the UK, whether it's Canada, whether it's the US, whether it's France, our biggest markets, we're actually growing our market share in yogurt. And so we feel good about our performance there." ] }, { "name": "Laurent Grandet", "speech": [ "Thanks, guys. And happy and safe holidays for you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "Same to you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Alexia Howard with Bernstein. Please proceed." ] }, { "name": "Alexia Howard", "speech": [ "Hello there. Can you hear me, OK?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah." ] }, { "name": "Kofi Bruce", "speech": [ "You're fine." ] }, { "name": "Alexia Howard", "speech": [ "Good morning, everyone. So sticking with the European theme. I can't help, and noticed that in the US retail segment, you've obviously got very robust takeaway and would expect, if the pandemic things are going very strongly there. Europe looks kind of more normal, the sales growth is not so big. I am just wondering structurally what the differences are between these two markets. And why -- would it be safe to think now through the pandemic so differently between these two regions?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. It's a very fair question, Alexia. Let me try to unpack it for you because -- and it's a fair question. When you look at our retail sales in Europe during the quarter, they are up 11%. When you look at our retail sales in the US, they are up 9%. So actually if you look at retail sales of branded products, what we're seeing in Europe is very similar to what we're seeing in the US.", "Now, we have some product portfolio differences like a big yogurt business in Europe and it's smaller in the US, but we're seeing our retail growth about the same. Remember though, that as you look at our results for Europe, our European business also contains a reasonable size Foodservice business, so think about Haagen-Dazs shops and our Foodservice business, which are not contained in our North America Retail businesses.", "Also, we have some -- we have some other businesses that we bought with yogurt and with Dow [Phonetic] and other things, some -- and corn, some private label businesses, which are not also growing not as fast, which obviously we don't have in the US. So if you look at strictly retail to retail, I would say Europe and the US are behaving quite similarly. But we have some other businesses in Europe that would overlap into the Foodservice area and a little bit in private label that drags down the overall sales result, but with still good profitability in Europe." ] }, { "name": "Alexia Howard", "speech": [ "Very helpful. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "Yeah." ] }, { "name": "Alexia Howard", "speech": [ "And then as a follow-up [Technical Issues] back on the early part of the pandemic. Just curious about [Technical Issues] coming back or the retailer is expecting to spend back a little bit more than you normally would do because they want some of that money back that wasn't spent earlier in the year [Technical Issues] talk about those dynamics, and then I'll pass it on? Thank you very much." ] }, { "name": "Jeff Siemon", "speech": [ "So Alexia, this is Jeff Siemon. I think I heard promotional activity and our retailers looking for us to spend back or spend more incrementally. I think it was a bit choppy, but I think that was the question." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. Jon Nudi, you want to -- you want to pickup on that." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah, absolutely. So for the US in particular and Canada as well, we're seeing less promotional activity really through the first half of our year. It's primarily driven by a decrease in depth to promotion. So frequency looks pretty similar across the majority of our categories. But again, promo frequency is down in capacity constraint categories though. So again, it's really a category-by-category dynamic that's going on. Things like soup, we chose to pull a significant amount of merchandising really through our first half to make sure that we have product available, as we get into key season. Desserts, we did the same thing as well.", "So as you move to the back half, we think, the majority of our categories, you're going to see promotional levels normalize versus what we've seen prior to the pandemic. I think we'll still see lower levels of depth of discount in some of the categories that are capacity constrained. And I'll tell you again, it's a balancing act. Obviously, we want to be competitive, our retailers want to be competitive. But I think everyone wants to do it profitably as well. So it's a dynamic discussion that's going on with the retail partners and something we'll continue to assess, as we move through back half of the year." ] }, { "name": "Alexia Howard", "speech": [ "Great. Thank you very much. I'll pass it on." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Robert Moskow with Credit Suisse. Please proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hi. I had a couple of questions. Jeff, the first one was on an e-commerce. I've seen some predictions that e-commerce could be as much as 20% to 25% of the grocery industry over time. And I think that's based on the investments that the retailers are making and the expectation that consumers enjoy getting the convenience during the pandemic. Can you talk a little broadly about how your business model might change if that becomes that big of a penetration or it is not much have to change. We just have to kind of keep up with retailers demand." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So Rob, let me -- I'll provide a little back-to-start [Phonetic] perspective, then we can talk about what happened in the future. I mean, 18 months ago, about 5% of our business globally was through e-commerce and 18 months has now jumped to 10%. So it's doubled over that period of time. So pretty significant change in a short period of time. And that is certainly true of our US business, but it's also true of what we're seeing in China and Korea and Europe as well. So it's a -- it's a fairly global phenomenon.", "As far as where it goes, I mean, I guess, the other historical perspective, I would also provide at this point in time even though 10% of our business is through e-commerce channels at least here in the -- particularly here in the US, our biggest business about 85% of those sales actually go through stores still. And that's important because up until this point in time, we certainly haven't had to change our model very much because most of our e-commerce sales still go through stores, and grocery stores here in the US, our Haagen-Dazs shops in China and so our model hasn't changed much.", "I don't think over the coming couple of years, our model are going to be -- is going to change very much, because the click and collect model, where consumers pick things up themselves, it's so much more profitable for our retail partners. That model, I think is going to be a -- still be a predominant one in the near future. How it looks five years from now? I mean, we'll see. I do think that e-commerce will continue to grow. I think it will continue to evolve. But I would tell you, at least in the near term, I think we're very well positioned. We over-index in our categories, because we've got great brands, and we've got really good capabilities. And the business model for us is not very different than what we've seen before." ] }, { "name": "Robert Moskow", "speech": [ "Okay. Great. And a follow-up for you, different subject. A lot of us were trying to figure out the cost profile of the industry getting into fiscal '22. And I would imagine some costs that you had related to COVID mitigation, that plans will come down. Is there any way to broadly think about your cost profile a year from now and what cost might come out. And maybe even comment on whether efficiency that you're looking at? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Kofi, you want to tackle that one." ] }, { "name": "Kofi Bruce", "speech": [ "Absolutely, and I'll try to steer clear of getting too deep into fiscal '22 given a humble respect for the uncertainty in the environment we've got right in front of us. But I think you have the general structure right. There are certainly costs that we've been bearing as we deal with some of the health and safety protocols to support safe operation in this environment. Some of those could potentially go away. But I think the other and more important is, as you think about the operational costs that we're incurring to service higher levels of demand, the way that we have pursued supplementing our capacity allows us to scale down to the extent that demand comes off its peak even if it remains elevated. So I think we've left ourselves with agility to not build a lot of these costs into our structure. So I think that's the posture we've taken, as we've looked at how to service demand in this environment." ] }, { "name": "Robert Moskow", "speech": [ "Great. Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from Bryan Spillane with Bank of America. Please proceed." ] }, { "name": "Bryan Spillane", "speech": [ "Hey, good morning, everyone. My question is if we're to go into a scenario where demand remains elevated for the next few years, if we look at North American retail and the mix of business now, you know, like meals and baking has really driven a lot of the growth, the actual growth, I should say. Would you expect the mix to change. So if we kind of transition to kind of a newer normal, where there is more flexibility, people working in home, and we're kind of pass the pandemic. I'm just trying to understand whether or not you think the mix of what's driving the growth in North America Retail would change going forward? Or do you think that things like meals and baking would continue to stay at elevated level?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Okay. That's a -- Bryan, that's a -- that's a good question and an important one, and one that -- to be honest, we're trying to -- we're trying to figure out the next quarter and what our mix is going to look like. I will tell you though that what I -- what I do see is that there are certainly a lot more people have been introduced to baking. We know that household penetration has especially increased among young families and especially among Hispanic families.", "And so we know that people have baked more, and they are going to be more confident baking, which would point to perhaps baking remaining elevated. To the extent that people work from home that would speak to the breakfast occasion or lunch occasion, as occasions that will have the opportunity to benefit longer term. And so it is possible that our mix changes. We'll have to see when we get there.", "What I like is that, our meals and baking businesses here in the US are -- the margins are really good on those, as they are in cereal. And so to the extent, the mix changes, I think we would still have an opportunity to grow profitably. And so clearly, we're all -- we're all interested to see what's going to happen in F22 and beyond. It's a little bit early to call. But I am confident that should we see a change in mix that we can navigate in a way that we can produce -- hopefully produce some growth, but also maintain profitability as we do it." ] }, { "name": "Bryan Spillane", "speech": [ "All right. Thanks, guys. Have a great holiday everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "You too." ] }, { "name": "Operator", "speech": [ "Our next question comes from David Palmer with Evercore ISI. Please proceed." ] }, { "name": "David Palmer", "speech": [ "Thanks. Good morning. I wanted to talk about reinvestment in growth. I know it's a broad topic. It could be advertising, it could be other capabilities. But how are you thinking about that obviously, you have opportunity to do that this year even stretching back to fiscal 4Q of last year. But how -- what is the level of that reinvestment in '20 -- in fiscal '21 and what is that supporting? Any color would be helpful? And I have a quick follow-up." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Kofi, you want to take that one." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. Just let me frame out as you look at, in particular, some of the brand building activity that you would look at through media, we're up roughly double -- double digits through the first half in terms of support behind key platforms and key ideas. We do continue to watch with the hawkish eye the return on investment on those brand building activities.", "And I think the capabilities, as you think about those, in particular data and analytics, those are -- those are coming through in our admin line. I would expect those to be investments that have a payoff profile probably over the intermediate term. So this is really about setting up sustainability of some of the growth trends and being able to ensure that we have a good shot at holding on to some of the penetration gains that we're seeing in this environment." ] }, { "name": "David Palmer", "speech": [ "I think the -- there is a -- almost a cynicism or skepticism out there for people watching the food space, they see the food companies and Mills was part of this. They cut back on advertising spending during much of the 2010s, and there is going to be this reinvestment now. But I think the concern or the expectation is that maybe advertising doesn't work for these categories or it didn't -- it doesn't work like it used to. Are you doing things differently in the way that you're reinvesting now that you feel like the ROIs will be better. And any color there would be helpful? Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. David, yeah, I read your report and I don't agree with all of it. But I respect the fact that you put out there what you think. We measure ROIs for a long time, and we think we're pretty good at it. And if you're asking whether advertising has changed over time, the answer is, of course, it has. Because there are no longer free channels in the TV set, where you can advertise on a variety of formats, whether it's through gaming or Instagram or Hulu or what have you. And so of course, advertising has changed in terms of how people consume media.", "What hasn't change though is what drives ROI. What drives ROI is marketing behind big brands on really good ideas that people care about like heart health on Cheerios, like Jennifer Lopez marketing Yoplait and calcium on yogurt in places where people are going to watch it. So we advertise Totino's through gaming because that's where people are -- that's where their eyes are, and that's where they are going on Totino's. Advertising high net [Phonetic] Cheerios Heart Health on gaming probably wouldn't be the best idea.", "And so those are the things that -- the things that I mentioned, big brands, great ideas that people care about, and where you put it, that's actually remain the same. What's changed is that where people go for information. And so we're following that just as everybody else's. What I think is different and probably underappreciated about what we have is, we have a lot of first party data through BettyCrocker.com and Pillsbury.com and Box Tops. And when we combine what we can do with that through data and analytics, along with great brands and really good ideas, we're confident that we can generate good ROIs." ] }, { "name": "David Palmer", "speech": [ "Great. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah." ] }, { "name": "Operator", "speech": [ "Our next question comes from Faiza Alwy with Deutsche Bank. Please proceed." ] }, { "name": "Faiza Alwy", "speech": [ "Yes. Hi, good morning. So a couple of questions around topics that have already been discussed a little bit. The first one is just Kofi around margins. I was hoping that you could help quantify sort of some of the puts and takes on the gross margin line. And I think in 4Q, you had said that you had incurred around $100 million of COVID-related costs, and you talked about those extending into fiscal '21. So I was wondering if we could -- if you could quantify how much of those have extended, and how much of these might stay sort of post-pandemic.", "And maybe there has been some benefit from internal operating leverage, I know, we've talked about lower promotions, maybe there is some positive mix because some of your higher margin categories have been growing faster and raw materials -- seem to have raw material pricing, there has been some favorability there. But I was hoping you could just unpack some of these factors and what you've seen in the first half. And again, how we should think about those factors in a more normalized environment?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure. Sure. Let me just give you a sense here that the kind of the -- in order of magnitude, the way to think about the cost structure on gross margin. We are expecting about 3% input cost inflation and continue to track to roughly that. Our higher operational costs to service demand in this environment, which is one of the categories that we would have flagged as being linked to the pandemic would follow that. And then brand capabilities and investments, and then the health and safety costs also were linked to the pandemic.", "I think candidly, it is getting harder to separate the COVID-related costs. So we have we have not been doing so this year, in part, because COVID, it impacts, it permeates so many areas of our business and there probably is a level of visibility that is hard to get much more granular than we have been. I think you're right in the call about mix of business, certainly leverage, those things certainly help the margin profile, as we're seeing a lot of growth in our highest margin businesses in Pet and North America Retail driving a lot of the Company's growth and that accreting to gross margin mix." ] }, { "name": "Faiza Alwy", "speech": [ "Okay. Okay. Thank you. And then just a follow-up. I think, Jeff, you mentioned in your prepared remarks that you have sort of incremental flexibility around bolt-on M&A and share repurchases at the right time. And I was hoping you could expand on that. So, are you waiting for the pandemic to essentially go away before you take some actions on the M&A front? Are you more active in the M&A market than you were maybe a year ago? I know you had previously talked about some type of portfolio optimization or some divestments. And are there any particular categories where you would maybe like to expand in? So, just more color on those topics." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Sure. Let me answer it kind of top line, and then Kofi, if you want to come in and answer anything in more detail, please feel free to jump in. I would say, as we think about capital allocation, obviously the first call is to the business and we've increased our capital spending this year behind some nice growth projects, especially in cereal and fruit snacks and Mexican food. The second thing we said we would do is once we get our leverage down was to increase our dividend and we've increased our dividend rate by 4% so far this year, so we've done that. And so then a basic question, what it's -- what was going to happen going forward? The first thing I would tell you is that, we would hope to get to a more, what we would consider to be more normal capital allocation process now that our net debt to EBITDA ratio is in about the 2.9 range, so it gives us a lot of flexibility. A lot of different ways that we can create value for shareholders.", "If we see some, we'll continue to reshape our portfolio and that's both on the acquisition front and the divestiture front. And so to the extent we see bolt-on acquisitions that we think will be accretive to our growth and good for shareholders, we now have the flexibility to do that. If on the other hand, there is nothing that we see on the horizon on the M&A front, we now have the flexibility to buy back shares if we need to do that. We don't need to necessarily wait for the end of the pandemic before we do either M&A or share buybacks, but now we have the flexibility on our balance sheet to resume those kind of activities and to create value for shareholders in a variety of ways, which we feel great about. And I think we've proven through our M&A and Blue Buffalo that we can add value through M&A and clearly share buybacks are something that can add value as well. So, that would be the -- that would be the top line. Kofi, anything you want to add to that?" ] }, { "name": "Kofi Bruce", "speech": [ "No, I think, we continue to be very pleased with the progress we're making on debt deleverage and so I think as we look at that as the gate that probably most matters. We are very quickly getting back to a place where our capital structure is in the right long-term target zone. And then I would just also add that we do have an existing share repurchase plan with a fair amount of authorization remaining up and standing. So, there really isn't any additional gates should we decide that share repurchases makes sense." ] }, { "name": "Faiza Alwy", "speech": [ "Perfect, thank you so much." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jason English with Goldman Sachs. Please proceed." ] }, { "name": "Jason English", "speech": [ "Hey, good morning, folks. Congrats on another strong quarter. It's just, I guess, I want to come back to the gross margin question and I apologize I got a little bit distracted by my son in the middle of your answer, so you may have actually commented on this, but I think I heard you in response to maybe Ken Goldman's question in terms of margins going to flat next quarter. You mentioned external cost shifting into next quarter. So, I guess, how do external cost shift? I would think that they're just kind of there, if you're using external providers. And are you effectively then saying, if it's going to be gross margins that stall out the margin progression as we go into next quarter?" ] }, { "name": "Kofi Bruce", "speech": [ "Jason, I totally get the interruption from your son. I've had them even on investor calls. So, I totally get it. Thanks for your question. Yeah. So, as you think about next quarter, the way to think about external supply chain cost shifting is that we were able to service more of our demand through internal capacity in Q2. We didn't need to rely as much on it, but as we go into Q3 with an expectation of demand remaining elevated and recognizing and linking to the fact that we didn't see as much inventory replenishment in North America Retail, we would expect to have to lean more heavily on external supply chain in Q3, as we expect to make some progress against that inventory rebuild. The other component to your point, so most of that would come at gross margin that would be potentially some additional costs that come through at the admin line, as we advance some of the investment and capability." ] }, { "name": "Jason English", "speech": [ "Okay, that's helpful. And one more quick question on pet food, first, congrats on the strong results in Pet. They certainly surprised me. More robust than I was expecting. Can you give me performance by channel? Like how you are doing on e-com versus pet specialty versus what we see in the Nielsen measured channels?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Did you get disconnected as well?" ] }, { "name": "Kofi Bruce", "speech": [ "No." ] }, { "name": "Operator", "speech": [ "Pardon me, we're trying to reach Mr. Siemon back." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Can you hear -- this is Jon Nudi, can you hear me?" ] }, { "name": "Kofi Bruce", "speech": [ "Can you hear me?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Jon, you are there. I think I even heard, Jeff still talking. I think you all are on." ] }, { "name": "Kofi Bruce", "speech": [ "I can't hear Jeff." ] }, { "name": "Operator", "speech": [ "We're trying to reach Jeff back. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Kofi, you want to take a crack at answer." ] }, { "name": "Kofi Bruce", "speech": [ "Yeah, yeah. Sorry, just want to make sure I am still on. So, question was kind of by channel. As we look at our Q2, we saw pet specialty probably lagging the other two channels, e-commerce up double digits, as we look at the shape of our business, that's about a third of our sales in Pet and FDM at almost 40%, as we look at the measured." ] }, { "name": "Jason English", "speech": [ "Got it. It's 40% FDM, got it. Thank you. I appreciate it. I will pass it on. And hopefully, we get Jeff back too." ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. Sorry about that." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "And we're back." ] }, { "name": "Jeff Siemon", "speech": [ "Okay. Frank, we can go ahead with the next question." ] }, { "name": "Operator", "speech": [ "Our next question comes from David Driscoll with DD Research. Please proceed." ] }, { "name": "David Driscoll", "speech": [ "All right, great, thanks a lot. And glad, you guys are back. So, wanted to ask a little bit more about Pet Food. Jeff, when you bought the business, there was guidance from the old team at double-digit top-line growth. When it became part of General Mills, you stuck with that double-digit guidance. But there was just enormous skepticism on the ability of that business as part of General Mills to keep going. I think in your answer to one of the first questions you said, underlying demand is running 10% to 11%. Are we -- are you able to say that Blue has some runway here to continue to see that double-digit growth?", "And then can you just give us -- you've mentioned a bunch of things so far in the script, but can you just kind of hone in on some of the pieces here that would give us that double-digit growth for some time into the future? And what I like about this particular question is I hope this is not a pandemic-related question and that you guys do have some very clear thoughts about it because it says, I think you guys have said yourself, the pets don't eat at restaurants, so hopefully, that makes sense. And then I've got a follow up, please." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. First, let me let me go with what I know and then we can talk about what we think. What I know is that the growth in Blue Buffalo really isn't pandemic related and even though anecdotally, adoptions are up for pets and certainly among millennials that's actually was not driving the growth of the category and is not driving the growth of Blue Buffalo. The category is being driven by the premiumization of Pet Food and we know that because the dollar growth is up mid-single-digits in the category and the pounds are only up low-single digits. So, that delta continues to be important as pet parents switch from whatever they were feeding pets before into more premium pet food. And so that's what we -- that's what we know and we know that Blue Buffalo is a great brand.", "We also thought when we bought Blue Buffalo that we'd be able to execute well with our rollout the food, drug and mass channel because we've done it with Annie's. And we got a lot right. We got a few things wrong, but we learned a lot through Annie's. And so we got to apply that to Blue Buffalo and so now we've got a really good all channels business. And one of the things we learned with Annie's was that great brands travel across channels and that just because you have something in a grocery store doesn't mean that every consumer knows that's it's here yet. It takes a long time to gain awareness. There are some places we've looked, we probably only have 20% awareness in some accounts that Blue Buffalo actually exists at that supermarket chain.", "And so that has given us confidence, not only, we can execute a food, drug and mass roll out, but that Blue Buffalo would be good across channels and that we continue to grow even once we gain full distribution because we've seen this movie before on Annie's and that's what's playing out.", "As to how we grow into the future, I can't promise that we're going to grow double digits in the future. We had a very good quarter this quarter. I think we'll have a good quarter coming up. But what I can tell you is that, I am confident we have the best premium brand in the pet category, I am confident that the premiumization of pet food will continue. So that we're very well positioned. We have a robust pipeline of renovation and new products and that we can continue to grow in food, drug and mass.", "And so all those things lead me to believe that not only has been Blue Buffalo been a good acquisition for General Mills, but that will continue to perform well. And whether that's high single digits or double digits will remain to be seen. But I think that we're all -- we were all confident when we bought Blue Buffalo that we could do a lot of good things with this business. And we're at least as confident now, as we were at the day that we bought it three years ago." ] }, { "name": "David Driscoll", "speech": [ "Well, you certainly get big congratulations from me on the performance here, we've seen other businesses, and other companies struggle. So good job on that one. My follow-up question is on staying with pet is on the marketing model. Blue used to have a really sizable investment in in-store promoters, the so-called pet detectives. And on top of this, the brand had industry leading levels of advertising, how has that changed with the pandemic and the pressures that we've seen on pet specialty stores, is -- fundamentally have you shifted monies from those in-store promoters to the advertising side? Is the total budget down? I just have lost sight of that a little bit and like to understand how you're going to keep kind of your foot on the gas pedal on this business going forward?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. So the pandemic changed a lot of things including the ability of consumers to get into stores. The -- what I'll say is that, what hasn't changed for Blue Buffalo, and what will not change going forward is our commitment to keep educating pet parents on the value of Blue Buffalo. And as you say, there was -- there has been a huge in-store model to that historically. And we wouldn't see get -- necessarily getting away from an in-store model, but we begun to supplement that with -- not only with TV advertising, but also digital advertising and digital marketing.", "And so what I think you'll see is -- what you'll see is our dedication to growing the brand and growing our marketing will continue. How that marketing -- that marketing mix will change over time. And we think that an omnichannel approach to marketing, where you have some in-store presence, but you can also meet pet parents, where they are one-on-one online is going to be an increasingly important -- important part of our business. And we've done a really good job with North America Retail in that regard.", "And we're applying some of what we learned into pet and ploughing some new ground, we'll probably talk about that even more maybe a quarter from now. But it's a really good question. What I can tell you is that the marketing model will continue to evolve, as our ways of reaching pets parents evolve, but our dedication of building the brand will remain unchanged." ] }, { "name": "David Driscoll", "speech": [ "Appreciate the thoughts. I'll pass it along. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Rob Dickerson with Jefferies. Please proceed." ] }, { "name": "Rob Dickerson", "speech": [ "Great. Thank you. Jeff, maybe just a -- kind of a broader question, just around the strength of brands, right. And I guess, more specifically, your brands and the market share you have been able to hold or take within the US really over the past nine months kind of vis-a-vis private label, right. There has been a lot of discussion in why private label has maybe lagged some of these stronger brands or master brands. Upfront, it seems like it may have been supply chain issue. It would seem like the supply chain issue maybe has kind of drifted a little bit speaks more broadly and positively to brands overall.", "But then, at the same time, we hear companies saying, OK, well, if we go into a recession, consumers will continue to look to consume food at home, because it's a less costly option, but also it sounds like you're suggesting, they still won't go to private label. So I'm just trying to kind of right size, how we should be thinking about brands overall with respect to kind of the economic backdrop and then kind of compared to private label. Sorry, there is a lot there, but thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "There is a lot there because there is a lot there. What I would say is that, let me go back to the last Great Recession because I was actually marketing during that. The first thing, I would say is that anytime you see economic turmoil, the first shift that consumers have toward value is actually not the private label. The first shift really is away from -- away from home eating to at-home eating, because the economics of eating at-home are a lot more favorable for consumers, than the economics of eating away from home. So that's the first big shift that takes place. So you see the categories grow.", "Then within that, what we saw within our categories during the -- during the last Great Recession, we actually held share through the Great Recession. Private label actually grew as well. Private label actually grew share. And where we saw -- where we saw the share losses was from middling brands. And so that is -- that's one of the things we saw during the last Great Recession.", "What we've seen now is that in the categories in which we compete not only here in the US, but in Europe and Brazil as well is that we continue to gain market share because we've got a good brand strength, as well as good supply chains. Our retail customers see that we're driving growth in the majority of our categories, and they want to see that growth continue.", "And at least, so far, we've seen private label shares decline, whether it's in pet food or human food or -- or even in Europe. And so what we -- then the question is, what comes forward and we don't see any reason why consumers won't continue to buy big brands. They may -- consumers may decided to shift to more to private label. But if what happens during the last Great Recession happens again in our categories, we'll at least hold share during that period of time. So that's, I mean, I -- I like to try to get back to what has happened because everyone likes to speculate about what will happen, and I do, too. But I think it's instructive always to go back and look to see what has happened." ] }, { "name": "Rob Dickerson", "speech": [ "Okay. Fair enough. And then just kind of a follow-up question that's related. Obviously, really over the past five years, right, there has been incremental push into ongoing SKU optimization, that just kind of -- that's kind of nature of the beast always. It seems like there has been maybe a little bit of an acceleration or kind of pull forward of that just given everything that's been kind of at hand over the past nine months, let's call it.", "Do you kind of feel that when you speak with the retailers that they are really increasingly focused on those high velocity kind of more scale, more profitable items such that kind of those larger brands still kind of have the advantage relative to some smaller brands trying to kind of eke in, right, while -- obviously, there are a lot more moving parts now than there may normally be and that's it. Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Jon, do you want to take this one?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah. Sure, Rob. A couple of things, I mean, I think the variety of SKUs really needs to be looked at category-by-category. So as you know, we discount -- or we put on hold a significant number of soup SKUs, as we went into the pandemic. And what we learned was some of those, we can do without, but some of them are important because variety matters to consumers. You have to start with the consumer and really understand what they are looking for.", "The broader trend that we're seeing though, particularly with retailers, and Jeff mentioned that 85% of e-commerce is click and collect. So those orders are being fulfilled from the shelf. And for the retailers to really be efficient and run the shelf well both for the customers coming in, as well as the customers driving through, they are moving to fewer SKUs on the shelf with higher velocity. And for us, we think that plays well for our brands.", "Our brands tend to be number 1 and number 2 in the category. We've been focused on building our brands. And this is the third or fourth consecutive year in a row in North America Retail, where we've grown share in the majority of our categories. So we think we're set up well for the dynamic that's going to play out in the shelf in the future." ] }, { "name": "Rob Dickerson", "speech": [ "All right. Great. And happy holidays. Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "You too, Rob." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Thanks, Rob." ] }, { "name": "Jeff Siemon", "speech": [ "All right. Frank, I think that's -- unfortunately, I know, we didn't -- we weren't able to get to everybody on the queue. But I think we're going to -- going to wrap it up here, and wish everybody a very safe and healthy holiday. Thanks for spending your time. I appreciate the interest in General Mills, and we'll be in touch soon." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
GIS	2018-03-21	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeff Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Don Mulligan", "position": "Executive" }, { "description": "-- Citi Research -- Analyst", "name": "David Driscoll", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "-- Barclays Capital -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "-- Piper Jaffary -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "-- J.P. Morgan Equity Research", "name": "Ken Goldman", "position": "Other" }, { "description": "Bernstein -- Analyst", "name": "Alexia Howard", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Akshay Jagdale", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Ladies and gentlemen, thank you for standing by. Welcome to the General Mills Third Quarter Fiscal 2018 Earnings Conference Call. During the presentation, all participants will be in a listen only mode. Afterwards, we will conduct a question and answer session. At that time, if you have a question, please press the 1 followed by the 4 on your telephone. If at any time during the conference you need to reach an operator, you may press the * followed by the 0. As a reminder, this conference is being recorded today, Wednesday, March 21, 2018.", "I will now turn the conference over to Jeff Siemon, Vice President, Investor Relations. Please go ahead, sir." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Nelson, and good morning to everyone. I'm here with Jeff Harmening, our Chairman and CEO; and Don Mulligan, our CFO. I'll hand the call over to them in a moment, but before I do, let me cover a few items. Our press release on third quarter results was issued this morning over the wire services, and you can find the release and a copy of the slides that supplement our remarks this morning on our Investor Relations website. I'll remind you that our marks will include forward-looking statements that are based on management's current views and assumptions, and that the second slide in today's presentation lists factors that could cause our future results to be different than our current estimates.", "And with that, I'll turn you over to my colleagues, beginning with Jeff." ] }, { "name": "Jeff Harmening", "speech": [ "Thanks, Jeff, and good morning to everyone. Let's jump right in and cover the key messages for today. Our primary goal entering fiscal 2018 has been to strengthen our topline performers while maintaining our efficiency. We're delivering on the first part of that goal with stronger innovation, more impactful consumer news, and better in store execution, leading to a second consecutive quarter of organic net sales growth. We're also generating significant growth in free cash flow through strong capital discipline. As a result, we're reaffirming our full year organic net sales and free cash flow targets.", "While I feel good about our results on net sales and cash, I'm disappointed in our product performance this quarter. Our third quarter operating performance fell well short of our expectations, and our full year outlook has been impacted by an increase in supply chain costs in a dynamic cost environment. We're moving urgently to address these rising cost pressures. We've taken actions to improve profitability in the near term, and we've launched initiatives that will reduce our long-term cost structure. While these actions will only partially offset the cost headwinds in fiscal 2018, we still expect to deliver profit growth in the fourth quarter, and we're confident these actions will strengthen our bottom-line results beginning in fiscal 2019. Beyond our current results and outlook, we remain confident in our ability to drive long-term value with our consumer first strategy, which will be further strengthened with the addition of Blue Buffalo to our family of brands.", "Before turning it over to Don to cover our financial results, let me share some details on the cost increases driving our revised profit outlook and the steps we're taking to mitigate these increased costs going forward. Between incremental costs we identified as we closed the books on the third quarter and a more unfavorable cost outlook for the remainder of the fiscal year, we now expect our full year fiscal '18 total segment operating profit will be 5 to 6% below year ago levels in constant currency. The key driver of this change is a significant increase in supply chain costs, which falls into two main areas. First, our input costs are rising faster than we had anticipated. In fact, we now estimate our full year fiscal '18 input cost inflation will be 4%, one point higher than our previous estimate.", "We called out increased freight costs at our update at CAGNY, but the cost pressure we're seeing is even higher than we'd thought at the time. We're not having to go out to the spot market for close to 20% of our shipments, versus a historic average of about 5%. And those spot market prices can be 30 to 60% higher than our contracted rates. In fact, North American freight spot prices were near 20-year highs in February. Higher freight costs are impacting our raw material prices as well, as the cost to ship materials from our suppliers to our factories has risen significantly.", "And we've seen higher prices in some key commodities, including grains, fruits, and nuts, further heightening the inflationary dynamic. The second main area of supply chain cost pressure is increased operational costs driven by higher volumes running through our network. We've seen increased volume on some capacity constraint platforms and stronger results for our new products. And while I'm pleased with our increased volume performance, those factors mean we're utilizing more external manufacturing, where conversion costs can be significantly higher than our internal platforms. Additionally, we've seen increased expenses from intra-network shipments between our distribution centers as we move more products to the right locations to satisfy the strong demand.", "We're moving urgently to address this increasingly dynamic cost inflation environment and ensure that negative profit impact is limited to fiscal 2018. Some of the actions we're taking will have an impact already this fiscal year. We're addressing higher freight costs in the near term by qualifying more carriers and utilizing different modes of transportation. We're placing increasingly tight control over all expenses in the balance of this year. We're also taking smart actions to drive positive net price realization in a higher cost environment by pulling various levers within our strategic revenue management toolbox. The specific SRM actions will vary across categories and vary across geographies, but will impact all four operating segments, with benefits starting to hit this fiscal year and more fully impacting 2019.", "We're also moving forward on initiatives to address our structural costs for fiscal 2019 and beyond. We're optimizing our distribution network between the factory and the customer to better align with the manufacturing footprint reorganization we completed over the past three years. We've approved additional cost savings initiatives designed to further optimize our global administrative structure and will continue to drive other savings efforts that will improve our efficiency, including our ongoing holistic margin management program, our global sourcing initiative, and other enterprise process transformation projects.", "In addition to these profit actions, we will maintain our focus on improving our net sales through our compete, accelerate, and reshape priorities, because we know our job is to deliver both the top and the bottom line. Before I turn it over to Don, let assure you that we understand the ramifications of changing current year outlook in such a short period of time, and we are taking steps to ensure this doesn't happen again. Our forecasting process has historically relied on a periodic in-depth analysis at key junctures during the fiscal year. And at more stable times, that cadence served us well in forecasting our cost and margins. In an increasingly dynamic environment, we need to go deeper more frequently. While that would not have reduced the cost, it would have accelerated our mitigation efforts by a quarter or so. So, while we're moving with urgency to address these higher costs, we're moving with equal urgency to adjust our forecasting process at all levels of the organization.", "Now let me turn it over to Don to provide more details on the quarter and our updated outlook." ] }, { "name": "Don Mulligan", "speech": [ "Thanks, Jeff, and good morning, everyone. Slide eight summarizes third quarter fiscal '18 financial results. Net sales totaled $3.9 billion in the quarter, up 2% as reported. Organic net sales increased 1%. Total segment operating profit totaled $628 million, down 6% in constant currency. Net earnings increased 163% to $941 million, and diluted earnings per share increased 166% to $1.62 cents, as reported. These results include one-time in ongoing benefits related to U.S. tax reform. Adjusted diluted EPS, which excludes the one-time impacts related to tax form and other items affecting comparability, was $0.79, up 8% on a constant currency basis, reflecting a lower ongoing tax rate and fewer average diluted shares outstanding.", "Slide nine shows the components of total company net sales growth. Organic net sales increased 1% in the third quarter, driven by organic sales mix and net price realization. Foreign currency translation yielded a two-point benefit to net sales. Divestitures reduced net sales growth by one point, reflecting co-packing sales made in the last year's third quarter related to our Green Giant divestiture.", "Turning to slide ten, third quarter adjusted gross margin decreased 250 basis points, and adjusted operating profit margin was down 120 basis points. As Jeff mentioned, we experienced a significant increase in supply chain cost, including higher freight, commodities, and operational cost. And we now expect our fiscal '18 input cost inflation will be 4%, one point higher than our previous guidance. We also had higher merchandising activity in the quarter, including greater than expected seasonal performance on soup and refrigerated dough, and stronger merch results in cereal and snack bars, which more than offset the benefit of trade expense phasing from the prior year. These margin headwinds were partially offset by lower SG&A expenses, including a 22% reduction in advertising and media expense in the quarter.", "Year-to-date, media expense is down 5%, as we have shifted some dollars to vehicles closer to the point of sale, including customer events, in store theater, loyalty programs, sponsorships, and sampling. Our Million Acts of Good activation with Ellen is a great example of this type of spending. These initiatives get our brand in front of the consumer, usually in the store, that aren't captured in the media line in the P&L. We expect our total consumer-facing spending this year, including media as well as non-media vehicles like the ones I just mentioned, to be roughly in line with prior year levels.", "Slide 11 summarizes our joint venture results in the quarter. CPW net sales increased 2% in constant currency, with growth across all four CPW regions, and strong performance on our granola and muesli product lines. Haagen-Dazs Japan, constant currency net sales were down 3% due to unfavorable net price realization and mix. On a year-to-date basis, constant currency net sales were up 1% for CPW and up 2% for Haagen-Dazs Japan. Combined after tax earnings from joint ventures totaled $17 million, up 30% in constant currency, primarily driven by volume growth at CPW.", "Slide 12 summarizes other noteworthy income statement items in the quarter. We incurred $11 million in restructuring and project-related charges in the quarter, including $3 million recorded in cost of sales. Corporate unallocated expenses, excluding certain items affecting comparability, decreased $4 million from a year ago. Net interest expense was up $13 million, primarily driven by the early repayment of certain medium-term notes, which resulted from the Blue Buffalo acquisition. This one-time item is excluded from adjusted earnings. The effective tax rate for the quarter was impacted by a one-time provisional net benefit of $504 million related to tax reform. Excluding items affecting comparability, the tax rate was 15.2%, compared to 24.7% a year ago, driven by the lower corporate income tax rate resulting from tax reform, partially offset by nonrecurring favorable discrete items in the prior year period. And average diluted shares outstanding declined 1% in the quarter. We continue to expect average diluted shares will be down approximately 2% for the full year.", "Turning to our nine-month financial performance, net sales of $11.85 billion were down 1% on an organic basis. Segment operating profit declined 10% in constant currency. And adjusted diluted EPS were down 2% in constant currency, including the impact of the lower corporate tax rate and the lower average diluted shares outstanding.", "Turning to the balance sheet, slide 14 shows that our core working capital decreased 57% versus the prior year, driven by continued benefits from our term's extension program. For the full year, we continue to expect our core working capital balance will finish well below fiscal '17 levels, driven by significant improvement in accounts payable. Nine-month operating cash flow was $2.1 billion, up 29% over the prior year, driven by our working capital improvements. Year-to-date capital investments totaled $398 million, and through the first nine months of the fiscal year, we returned nearly $1.4 billion to shareholders through dividends and net share repurchases.", "Slide 16 summarizes our fourth quarter outlook, excluding the impact of the proposed Blue Buffalo acquisition. We expect to deliver another quarter of organic net sales growth, driven by positive price mix across all four segments. Remember that our results in Asia and Latin America segment will be negatively impacted by the comparison to last year's fourth quarter that included an extra month of results in Brazil, as we align net markets reporting calendar to our corporate calendar.", "We continue to expect accelerated cost savings in the fourth quarter, driven by benefits from our new global sourcing initiative. That increased cost savings, plus positive price mix, and the initial benefits of the actions Jeff highlighted will help drive constant currency growth in total segment operating profit and adjusted diluted EPS.", "I'll close my portion of our remarks by summarizing our updated fiscal '18 guidance. As I just noted, this outlook does not include any impact from the Blue Buffalo acquisition. We continue to expect organic net sales growth to be flat to last year. As Jeff mentioned upfront, we now expect total segment operating profit growth will be down 5 to 6% on a constant currency basis. Our full year adjusted effective tax rate is now expected to be approximately 26%, or 1% below our most recent guidance. We continue to estimate that tax reform will have a 2-point favorable impact to our fiscal '18 adjusted effective tax rate.", "Our updated full year adjusted diluted EPS outlook is in the range of between flat and up 1% in constant currency. We expect currency translation will add one point of growth to net sales, total segment operating profit, and adjusted diluted EPS in fiscal '18. Finally, we continue to expect full year free cash flow growth of at least 15% this year.", "With that, I'll hand it back to Jeff to cover our segment results." ] }, { "name": "Jeff Harmening", "speech": [ "Thanks, Don. Now, let's look at each of our segment results and talk a little bit about our upcoming news and initiatives. In North America retail, organic net sales were up 1% in the third quarter. U.S. snacks posted 3% net sales growth, driven by Nature Valley, Lara Bar, and fruit snacks. The U.S. meals and baking operating unit generated 2% net sales growth behind a strong baking and soup season. Canada net sales were up 1% in constant currency, led by our natural and organic platform. U.S. net cereal sales were down 1%, reflecting a reduction in customer inventory levels, while cereal retail sales in Nielson measured outlets were up 2% behind innovation and effective messaging across our core brands. U.S. yogurt net sales were down 8%, which represents the third consecutive quarter of improvement as our portfolio benefits from successful innovation and faster growing yogurt segments. Constant currency segment operating profit was flat compared to the year ago period, driven by higher sales offset by higher input costs.", "As I outlined at CAGNY, our type priority for returning to consistent topline growth is to compete effectively on every brand across every geography. Growing with our categories is the first measure of success, and I'm pleased to say that we have accomplished that in the U.S. in the third quarter, with retail sales up 1%, marking the fourth consecutive quarter of sales improvement. And we grew market share in seven of our top nine categories. Our improvement is driven by solid fundamentals. Our baseline sales trends are 500 basis points better than last year and are driving 75% of our retail sales improvement. This is the result of good consumer news and strong messaging through traditional media, like TV and digital advertising on Nature Valley, Pillsbury, and Totino's, as well as the activations that go beyond traditional media, like our Ellen partnership on Cheerios.", "We're also delivering better innovation this year, with our average new product turning nearly 50% better on shelf compared to last year. This includes Chocolate Peanut Butter Cheerios, which is the biggest launch in the cereal category this year, and Oui by Yoplait, which is the largest launch in the yogurt category this year.", "The third leg of our improvement is our in-store executions. We were back in the zone on seasonal merchandising this year, which drove significant improvement in soup and refrigerated dough. And we're winning a higher share of display, the best type of merchandising vehicle, on some of our most productive categories, including cereal and snack bars. These efforts are translating into broad-based improvement in our U.S. retail sales trends, with absolute retail sales growth in seven of our top nine categories in the third quarter.", "In addition to our strong fundamentals, we're maintaining a disciplined approach to our pricing. As you can see in the chart, our baseline and merchandise price points have been higher than last year throughout fiscal '18, including the third quarter. Our average unit price was slightly down in the quarter, as our proportion of merchandising was higher this year. This was really driven by prior year comparison, when our merchandising levels were abnormally low. When you look over a two-year period, our average prices across our portfolio are up 4% and are outpacing our aggregate categories.", "With that as a backdrop, let me share some third quarter highlights from North America retail and talk a little bit about what's to come for the remainder of the year. Our U.S. cereal retail sales were up more than 2% in the third quarter, driven by the same things I mentioned for the segment: better news and messaging, innovation, and execution in-store. There's no shortage of examples of good news and messaging on our cereal business this year. One of the most fun is our marshmallow news on Lucky Charms, which has helped drive double-digit retail sales growth so far this year. And we just announced our most recent initiative, magical unicorn marshmallows, which are in-store now. On Cheerios, our partnership with Ellen and activation across TV, digital, and social media, on-pack, and in-store have helped improve our baseline sales growth nearly 400 basis points since the campaign first launched. On Reese's Pops, we're launching a fourth quarter seasonal bunnies version to help continue the double-digit retail sales growth that brand has enjoyed so far this year.", "And on the innovation front, we've had a stellar year. We launched Chocolate Peanut Butter Cheerios last October, and it was the best-selling new product in the category last quarter. And we'll continue to look to bring fun, limited edition seasonal flavors of Cheerios to the shelf with the launch of a new Peach flavor that's rolling out now.", "On U.S. yogurt, we've improved our retail sales trades by 16 points this year by innovating into faster-growing spaces. Our retail sales were down just 3% in February, and we actually our grew market share in the grocery channel last month. We're pleased with our U.S. yogurt improvement, but we're not yet fully satisfied. We continue to improve by building on regional successes and by launching new category-expanding innovation. For instance, we recently launched two new flavors of Oui by Yoplait and Yoplait Mix-Ins, the top two yogurt launches this fiscal year. And we have another important launch planned for the summer that addresses some of the biggest health and wellness barriers in the yogurt category. You'll hear more about this news in the coming months.", "Shifting to snack bars, Nature Valley has posted double-digit retail sales growth this year and is generating more retail sales dollar growth than any other brand in the category. These results have been driven by innovation. Nut Butter Biscuits and Granola Cups are the top two new products in the category for the last two years. And we're seeing solid results from this year's launches, including new Layer Bars and Filled Soft Bake Bars. U.S. retail sales for Lara Bar are up 30% this year behind our Real Food advertising campaign, and they're up almost 70% in Canada. We're also driving improvement on Fiber One by communicating what consumers value most about the brand, permissible indulgence. Retail sales trends for Fiber One last month were 900 basis points better than our fiscal '17 growth rate, thanks in part to our Brownie and Cookie Bites innovation.", "Our soup and baking businesses rebounded from a challenging fiscal 2017 to grow retail sales and market share during the key season this year. We have great news planned in the fourth quarter on other meals and baking businesses. We just launched Totino's Mini Snack Bites, adding more fun and variety to this business, that grew retail sales 9% in the third quarter. And we'll look to drive more visibility for Old El Paso by securing 4,000 taco truck displays, which will be parked in the front of the stores where Mexican food merchandising performs best.", "Finally, our North American natural and organic portfolio continues to lead our growth, with third quarter net sales up high single digits, including good performance on Annie's, Lara Bar, and Epic.", "In our convenience stores and food service segment, third quarter net sales were up 3%, driven by a low single-digit growth for the Focus 6 platforms and benefits from index pricing on bakery flour. The frozen meals platform continues to perform well, including the new Pillsbury Stuffed Waffle, which is the top-turning breakfast item in C-stores where we have distribution. And our cereal platform delivered mid-single-digit growth this quarter, driven by continued distribution gains. Segment operating profit was down 10% in the quarter, driven by a higher transportation and logistics cost, as well as commodity inflation.", "Turning to Europe and Australia, third quarter organic net sales were down 1%, with strong growth in snack bars offset by declines in other platforms. Constant currency segment operating profit was down 46% versus the last year, driven by significant raw material inflation and a comparison against 39% constant currency growth in last year's third quarter. Through the third quarter, or Europe and Australia segment is growing with its categories. Our snack bars and Haagen-Dazs platforms are performing exceptionally well, with double-digit retail sales growth driving strong market share gains. And on yogurt, although our retail sales in total are down, we are driving growth in many of our core brands, including Panet, Perodelet, Liberte, and Ya.", "The fourth quarter is a key innovation window across all of our priority platforms in Europe and Australia. In yogurt, we will be the first major brand launching into the kids' organic segment with our leading Petite Falu brand. On Old El Paso, we're responding to the increasing number of gluten-avoidant consumers by introducing new gluten-free tortillas and Mexican kits. We're launching new flavors to bring excitement to the freezer on Haagen-Dazs ice cream, and we'll continue to invest in TV and media on Nature Valley Snack Bars to drive increased household penetration. And in Australia in January, we began advertising Fiber One for the first time, which has helped drive 20% retail sales growth for the brand.", "In our Asia and Latin America segment, third quarter organic net sales were in line with last year, with good growth in our Asia markets offset by continued topline challenges in Brazil. While our improvement in Brazil has taken longer than we expected, we're making progress and delivering net sales growth in the quarter on some key businesses, including Yoki Popcorn and Kitano Seasonings. The third quarter is typically this segment's lowest operating profit quarter of the year, which means even smaller absolute dollar changes drive big percentage changes in results. Last year, we earned a $10 million profit in the quarter, and this year, the result was a loss of $2 million. The $2 million change was primarily driven by a lower volume and higher manufacturing and logistics cost in Brazil. We expect this segment will return to profit growth in the fourth quarter behind strengthening topline performance.", "Our snack bars and ice cream platforms led Asia and Latin America in net sales performance in the quarter. Net sales for our snack bar business in India more than doubled in the quarter, driven by continued distribution expansion of our Pillsbury Cookie Cake and the launch of our new Pillsbury Pastry Cake. We're also launching a similar pastry cake to our Middle East markets under the Betty Crocker brand. Haagen-Dazs retail sales increased high single digits the last three months in Asia, driven by our mochi innovation and activation during the holiday season. Looking ahead, our refreshed Haagen-Dazs packaging is rolling out across Asia, and we are supporting this with a campaign to celebrate the extraordinary creations of artisans around the world. We're also launching spring limited edition flower flavors, cherry blossom and lavender blueberry, and will support them with an omnichannel activation, including in our shops.", "At CAGNY, I outlined our compete, accelerate, and reshape framework for restoring consistent topline growth, and I just shared how we're competing more effectively in fiscal '18 across many of our brands and geographies. We've also taken a significant step this year to reshape our portfolio with the acquisition of Blue Buffalo pet products. Before I close, let me refresh you on the details of the transaction and share why we're so excited about adding Blue to our family of brands.", "Last month, we announced our intent to acquire Blue Buffalo for $40.00 per share, representing an enterprise value of roughly $8 billion. Blue Buffalo is a highly attractive asset, playing in the fast-growing wholesome natural pet food category, with $1.3 billion in revenues, 25% EBITDA margins, and a consistent history of double-digit growth on the top and bottom lines. After the deal closes, which we expect will occur before the end of May, Billy Bishop, the current CEO of Blue Buffalo, will lead a new pet operating segment for General Mills. Blue Buffalo is a truly unique asset in an attractive category that is still in the early stages of transformation. At $30 billion in sales in the U.S. pet food market, it is one of the largest in the center store. It has generated consistent growth and strong profitability over many years, with low private label exposure.", "These days, more and more pet owners, especially millennials, see their pets as another member of the family. This humanization of pets, combined with a growing consumer interest in more natural products, has driven a dramatic increase in what we call the wholesome natural pet foods category. And this transformation is still in the early innings, with wholesome natural products still making up only 10% of total category volume, up from 5% five years ago. What's most exciting to us is that Blue Buffalo is leading the category transformation. The Blue brand has the strongest brand equity in the category, with a clear number one position in wholesome natural pet food, as well as the number one overall pet brand in the e-commerce and pet mass channels. And Blue is still in the early stages of expanding into the broader food, drug, and mass, or FDM, channels, which represent fully half of pet food retail sales in the U.S.", "Since the announcement, I've had some analysts and investors ask me, isn't this a new category? And how will General Mills create value in this transaction? I think they've been pleasantly surprised when I explained that in many ways, pet food is not a new category, as some people think. And the value creation playbook will look similar to the one we've used very successfully for the Annie's acquisition over the last three years. Our industry-leading retail sales force, retail partnerships, and sales capabilities will help increase the likelihood of success of Blue's FDM expansion. We will also leverage our technical capabilities in extrusion and thermal processing to drive innovation across dry and wet pet food. We'll utilize our sourcing expertise and distribution network to enhance Blue's supply chain efficiency. We'll look for ways to help the Blue Buffalo team to nurture and grow this modern, authentic 21stcentury brand, and we'll stay out of their way where they don't need us.", "Finally, we'll be selective in where we can drive admin synergies, with a focus on back office and public company costs. We took a very similar approach to Annie's, and it has resulted in net sales doubling in a little over three years since the acquisition. And I can tell you, if we're even half as successful as Blue Buffalo, our shareholder will be very happy with this acquisition.", "Over the past month, key leaders from my team and I have spent time in Wilton, Connecticut with \"the herd,\" as they call themselves, and Billy and his leadership team have visited our marketing, sales, and R&D teams in Minneapolis. The more we get to know each other, the more we see how compatible our cultures are and how synergistic our capabilities are in a variety of function areas, and we cannot wait to get moving on continuing to grow this terrific brand as part of the General Mills portfolio.", "Let me wrap up by summarizing today's comments. We're competing more effectively, and it's translating into good momentum on the topline in fiscal 2018. At the same time, we've been challenged by sharper increases in supply chain costs that have negatively impacted our bottom-line outlook. We're moving with urgency to address these rising costs, with some actions taking effect now and more significant impact expected in fiscal '19. And finally, we're as excited as ever about Blue Buffalo, and we're confident that this transaction will deliver long-term value for our shareholders.", "Now, let's open the call up for questions. Operator, will you please get us started?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. Ladies and gentlemen, if you'd like to register a question, please press the 1 followed by the 4. You will hear a three-tone prompt to acknowledge your request. If a question has been asked by another and you would like to withdraw your registration, please press the 1 followed by the 3. If using a speakerphone, please lift your handset before entering your request. Our first question comes from the line of David Driscoll with Citi. Please proceed." ] }, { "name": "David Driscoll", "speech": [ "Great. Thank you, and good morning." ] }, { "name": "Jeff Siemon", "speech": [ "Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning, David." ] }, { "name": "David Driscoll", "speech": [ "Given the retail environment, I get just a lot of questions about pricing and the ability for manufacturers to realize pricing at retail. So, you have profit challenges that you're talking about because of inflation. And Jeff, I think a lot of people are really gonna wonder, is this because of the inflationary side or is it because you just can't get pricing at retail? And then I think what you were saying on the call is maybe there was a bit of an internal failure to recognize the higher inflation as quickly as you would probably expect your organization to do so. I would really emphasize the fact that investors just worry so much that the retail environment is so difficult that companies can't get pricing, so I'd really appreciate your thoughts on that question and just a little bit more explanation on what happened here and then how it really goes forward if you in fact have the ability to recognize some price increases." ] }, { "name": "Jeff Harmening", "speech": [ "All right, Dave, let me start off by addressing the pricing environment and kind of what we're doing to offset our costs, just in general. Then I'll turn it over to Don if he has any more specifics. In terms of the pricing environment itself, first what I would say is that we will increase our increased costs by a combination of factors, which starts with addressing our cost structure itself. And there are some nearer term things we can do with supply chain. There are some longer things we can do in terms of our logistics network. And we have our ongoing HMM program in addition to what we're doing with ramping up global sourcing. So, kind of the first line of defense against rising costs is to make sure we're managing our costs effectively. And rest assured that we are doing that and moving with an increased sense of urgency since discovering that we'll have higher input costs than we had thought.", "On the net pricing realization side, I can imagine people listening could be nervous because we took pricing a couple years ago, and that didn't exactly go out as planned. What I would tell on that is a couple things. First is that the environment now is very different than two years ago. And the environment two years ago when we took pricing, there was really a deflationary pressure on input costs. And now we see an inflationary pressure. And as I said, we're looking at our input costs going up by 4%, and then a lot of the spot market for commodities are that high or even higher. So, we see a very different environment from that sense. What I will also tell you is that what we see on the logistics side is very real, and our customers face it all the time. And we get a lot of questions from our customers about what we're doing to offset the logistics cost, because they see the same kind of pressures in their business. So, the environment is different.", "The second thing that I would say is a couple of years ago, we took more pricing than clearly we should have. And we took about 5% pricing in fiscal '17. And we don't need that kind of pricing to offset the kind of environment we have right now. Just a little bit of pricing. And our categories are already a 1 to 2% pricing consistently quarter to quarter. Just a little bit of pricing combined with these cost measures will really help alleviate the pressure and input costs. And then finally, I would say that our capability is a lot greater in our strategic revenue management now than it was two years ago. We've hired some people from the outside combined with some internal experts. So, yeah, we can realize prices in a variety of ways. And that includes trade optimization and price pack architecture, in addition to some more of the traditional pricing. And so, we feel as if our capability is a lot greater than it was a year ago.", "In terms of cost and seeing the cost, Don, do you have anything that you want to add to that?" ] }, { "name": "Don Mulligan", "speech": [ "Yeah, let me just finish the point that Jeff talked about on pricing. If you look at our results year-to-date, we are seeing better competitives in the store, but it's also being supported by pricing. Our Q3 organic positive price mix is higher than in the first half, and for three of our segments, it was up low single digits. And where it was flat, as Jeff showed, it was both our base and our merchandise prices were up. So, the flat was more of a product of the mix of those. So, we do believe it's environment, especially with the inflation where you can get price. And Jeff alluded to many of the instruments that we will use.", "The other aspect of your question, David, was visibility to our cost. And again, Jeff touched on it upfront, but I think it's worth going into again. And historically, and this year, we've done deep dive estimates on our cost at regular intervals during the course of the year. And that cadence has typically served us well in managing our costs and our margins. And frankly, if you look back over the years, we've seldom had a profit miss in a year such as this one, when our sales are tracking at our better than planned. But clearly in hindsight, this year was a very dynamic cost environment. The combination of our higher volumes, some constrained platforms, the increasing inflationary environment. We should have gone deeper more frequently. It might not have reduced the cost, but it would have gotten us out ahead of it faster. As I look at it, we need to be just as agile in how we manage our cost structure as we've been this year in meeting consumer demands, and that's what we're focused on doing. The actions that we're taking now are to make sure that we address the cost structure in the marketplace. But we're moving just as urgently to look at our estimating and forecasting process to make sure this doesn't happen again." ] }, { "name": "David Driscoll", "speech": [ "Don, one follow-up. The first half of the year had very sizable trade accrual phasing expense comparison issues. They were negative, and it was supposed to get significantly better here in the back half. Given all that's happened on the cost side, I can't really tell what's occurred on trade phasing. Did the trade accruals perform as you expected? Can you give some color on that?" ] }, { "name": "Don Mulligan", "speech": [ "Yeah, they did, David, thank you. We had a headwind in the first half. We'll have a tailwind in the second half. That's part of the reason that we're confident -- more confident in profit growth in the fourth quarter. In the third quarter, because we've had very strong merchandising take on our seasonal businesses and in some of our other lines here in the U.S., because we had very strong offerings in the store -- again, not lower price, but better off-take from a consumer standpoint. And as I referenced, we are also moving more of our consumer funds to in-store activity. Much of that is recorded as a deduction to sales as opposed to in the advertising or the admin or the SG&A line. And the combination of those things offset the benefit from the tax accrual reversal -- the trade accrual reversal, excuse me -- in the quarter." ] }, { "name": "David Driscoll", "speech": [ "Okay, I'll pass it along. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Robert Moskow with Credit Suisse. Please proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hey, I think I have two questions here. Don, I have to ask again about the presentation at CAGNY and what kind of data you had at hand at the time, because you did lower guidance for higher freight costs at that time, and so you must have had some kind of a roll-up of how much spot activity was going on during the quarter. So, what was wrong with the data? I guess that's the first question. And then second, I guess broader on pricing, you do have on slide 22 a chart that shows that your baseline pricing is still positive, but it keeps decelerating, and it's now at 0.8%. It needs to go the other way to offset all this inflation that you're talking about. And I think you've kind of stopped short today of saying that you're looking at taking list price increases again. It seems like you're talking about revenue management and some other things, but can we see some list price increases coming maybe in the back half? Thanks." ] }, { "name": "Don Mulligan", "speech": [ "I'll take the CAGNY one first. Obviously, when we gave our guidance at CAGNY, that was based on the best information we had at that time. I mentioned the fact that we do periodic cost deep dives. We did one in February at the end of February, and we did it as we closed the books on the quarter in early March. And that is when these costs really came to the fore more clearly, and that's what's prompting the guidance change today. So, as I represented in the answer to David, we have done these at regular intervals. Clearly in today's environment, we have to do them more regularly and be more agile in terms of identifying the cost trends and making sure that they are surfaced and acted upon. And we will do that.", "In terms of pricing, we are gonna use a number of levers in some markets and some businesses, it's going to be list price increases. We talked at CAGNY about our convenience and food service business. We're seeing the same in European business, particularly in response to Brexit that did just have a ripple effect in the UK and certainly in some of our emerging market businesses. So, that is part of the toolkit, but again, the toolkit for our SRM is broader than that. And we're gonna use all the levers as we attack what is clearly a higher inflationary environment." ] }, { "name": "Robert Moskow", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Andrew Lazar with Barclays. Please proceed." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning, everybody." ] }, { "name": "Don Mulligan", "speech": [ "Good morning, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "I know it's obviously too early to talk about specific sort of guidance and such for fiscal '19, but I guess I was hoping maybe, Don, you could go through just a couple of the puts and takes that we should be cognizant of even directionally as we think toward, I guess more specifically how operating profit sort of shapes up for next year. Obviously you've already talked at CAGNY looking to reinvest, and I think it was the majority of the benefit from tax reform. That obviously has an impact around EBIT growth next year. But I was hoping you could -- because there's just so many factors that are playing into this today. Anything you can get into around the puts and takes would be helpful." ] }, { "name": "Don Mulligan", "speech": [ "Andrew, obviously we're not gonna give FY19 guidance today. What I will say is that the actions that Jeff walked us through as part of the prepared remarks will have some benefit in FY '18, they're gonna have more full benefit in FY19 and beyond, frankly. And that will come into play as we think about '19. You did mention the tax reform, and that will give us some potential flexibility to reinvest back in the business. And again, we still have the three planks that we are working to ensure that we drive a more competitive topline. That's compete, accelerate, and reshape. I think you're seeing this year how we're competing better. We've begun to put some money behind our accelerator platforms. We see a little bit of benefit this year, and we'll see more of that benefit as we move into '19." ] }, { "name": "Andrew Lazar", "speech": [ "Okay. And then on the reshape part, obviously you talked about looking to divest a certain portion of the portfolio as well. Is that something that we think plays out over the course of the next, call it year or so? I'm trying to get a better sense of the timeframe on that. And obviously on some of these business, I would anticipate you probably have a fairly low tax basis as well, which I guess could potentially have an impact on EPS as well. I'm trying to get a sense of how to better think about that." ] }, { "name": "Don Mulligan", "speech": [ "Yeah. Our focus right now is obviously closing and transitioning Blue into the family. But we will quickly pivot following that to look at divestitures. Obviously the timing of many divestitures, you have to have a willing buyer to go with a willing seller, and we have to make sure the economics work, to your point about tax rate. So, we will work on that diligently, and I believe just as we've been successful on the acquisition side with identifying and bringing Blue in, we will do the same on the divestiture side." ] }, { "name": "Andrew Lazar", "speech": [ "Okay. Thank you." ] }, { "name": "Jeff Harmening", "speech": [ "And when it comes to divestitures, what I would also add to that is that we don't have to do all the divestitures at the same time. I mean, we can do those at different times. And the second is that we're only gonna do them when they make sense for shareholders, and so when they're accretive to shareholder value. And so, we'll act with a sense of urgency, but we will also act with a sense of our shareholders in mind to make sure that as we go to divest some businesses, that we're doing so with an eye to that." ] }, { "name": "Andrew Lazar", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Michael Lavery with Piper Jaffary. Please proceed." ] }, { "name": "Michael Lavery", "speech": [ "Thank you. Just looking at the fourth quarter, you've had an operating income decline year-to-date around 9 or 10%, even with a little bit of currency. Can you just help us understand how you really get to -- it looks like you need maybe about 10 in the fourth quarter. You've touched on some accelerating savings, but can you just really give us a roadmap for how you execute that sharp an improvement?" ] }, { "name": "Don Mulligan", "speech": [ "Sure. There's a few components to it, Michael, and it starts with another quarter of solid organic sales growth. As we look forward, we expect mix to strengthen in each of the segments. Cereal and snacks will be the driver in OR, and it will also actually benefit a little less from our meals and baking, our seasonal businesses. The Focus 6 businesses in CNF will accelerate in the fourth quarter. Old El Paso, Haagen-Dazs, behind the initiatives that Jeff talked about in EU/AU, and Haagen-Dazs and snacks in Asia with TAM. So, we have good programs behind each of those areas that will continue to drive out topline growth. We'll add some net price realization pricing in Brazil. I mentioned CNF in the UK and then the various SRM initiatives we're executing in the U.S. and elsewhere. And again, we'll have the trade accrual reversal that will benefit the topline and our profit in Q4.", "So, that's really the main driver. And when you translate that into profit, you're going to have the benefit of that mix, the benefit of the trade realization. We'll actually also get the benefit of some volume leverage in Brazil as we improve our volume performance in that important market behind a couple of strong promotions, one around the World Cup. We'll get increased benefit from our global sourcing initiative that will increase our HMM in the quarter. And then again, the other items that Jeff talked about, particular around our freight spending, will begin having some impact, some favorable impact in the fourth quarter. And the combination of those things in relatively equal measure. A little bit more from price mix, but relatively equal measure across will benefit Q4 and help drive a profit growth figure for the quarter." ] }, { "name": "Michael Lavery", "speech": [ "And is it fair to assume that what had initially at the beginning of the year been a headwind from higher incentive comp maybe isn't anymore? And then could you quantify what that might be doing to help?" ] }, { "name": "Don Mulligan", "speech": [ "Yeah. That will be less of a headwind for the year. That is true, and that will benefit the fourth quarter." ] }, { "name": "Michael Lavery", "speech": [ "And just lastly, on the portfolio when you think about the divestitures, you've got at the moment this logistics and freight pressure, but you also have dry, refrigerated, and frozen supply chains. Does reducing that complexity come into your thinking at all in how you evaluate what you may think about divesting?" ] }, { "name": "Don Mulligan", "speech": [ "That's a really good question. It doesn't come into play into what we think about divesting. But as we're thinking about our supply network, we need to think about what we're divesting as we think about retooling that. And so, it's a really good question. And it doesn't impact what we would intend to divest, but it would have an impact on how we think our logistics network ought to be set up going forward. And so, we think about those two things coming together." ] }, { "name": "Michael Lavery", "speech": [ "Okay, thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Ken Goldman with J.P. Morgan. Please proceed." ] }, { "name": "Ken Goldman", "speech": [ "Hi. I just wanted to follow up a little bit on Dave Driscoll's question earlier, because I think the answer focused on now versus two years ago. But if you go back a little longer in time, go back to fiscal 2008, Mills had 7% inflation, yet still beat its earnings target. Fiscal 2009, 9% inflation, gross margin barely changed. I know you guys were in different seats at the time, but something has changed. And again, to Dave Driscoll's question, is it just this much harder to take list pricing no matter what, or is it more a case of, hey, maybe items like freight, items on that sort of perimeter that are not exactly food stuff oriented are harder to pass? I'm just trying to get a sense of really -- and I know you've addressed this to some extent, but Dave is right. This is really the question we're getting a lot, of really what the problem is this time, because the inflation's not nearly as bad as what you experienced ten years ago, yet the results are much worse." ] }, { "name": "Don Mulligan", "speech": [ "So, a couple things. You referenced 2008. And again, I was sitting in the cereal chair in 2008, which is when we did Right Size, Right Price, which is kind of a fancy term for price pack architecture. So, when you think about strategic revenue management, that was kind of the mother of all strategic revenue management initiatives. And so, when I talk about price pack architecture, and crate optimization, and those kind of things, 2008 was a year that we certainly did that in the cereal business and saw great results from that. And so, a lot of positive lessons to be learned from that. I would tell you what's different about now is that the inflation -- as you mentioned, 4% is certainly a point higher in significant inflation about 3, but it is not something that can't be managed. We just have to make sure we see it coming. And now that we know that it's coming, now we feel like we can manage it effectively, because as the input costs, whether they're 4 or 5% is not unprecedented, it's just higher than we had expected. And then we hadn't taken any actions to offset it. Now that we see it, we have a good degree of confidence that with combining our -- what we can save on logistics costs and the way that we can reframe our logistics network, combined with a little bit of net price realization, we can actually combat this. Because as you've said, we've done it before. We just didn't have the line of sight to it until recently that we needed to have to combat it." ] }, { "name": "Ken Goldman", "speech": [ "Okay, and a quick follow-up for me. You're using more co-packers, I think, than you expected, but you're also hopeful that your volumes continue to rise. If this is the case, if your volumes do improve, then you'll need to rely even more on co-packers, which I'm sure you don't want. So, as we think about 2019 and beyond -- again, you're not giving guidance, but is it reasonable for us to expect you'll want to invest in capex a bit? Otherwise I guess that co-packing issue will just accelerate further." ] }, { "name": "Don Mulligan", "speech": [ "Well, Ken, we've always used co-packers, particular for a lot of our new product volume, because there's a lot of times ready capacity and capability, and obviously there's risk mitigation from our standpoint as well. And then what we've seen is as new products become stable in the marketplace that we bring them internally and we see savings, and that's what we put capital against. And we'll take the same approach here. It doesn't necessarily mean that capex will be higher than normal. We just made the skewing more toward bringing this new product volume in house." ] }, { "name": "Ken Goldman", "speech": [ "Okay. Thanks so much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Alexia Howard with Bernstein. Please proceed." ] }, { "name": "Alexia Howard", "speech": [ "Good morning, everyone. Thanks for the question. So, I guess to begin with, it actually looks as though the profit pressure is greater in the international market at the moment. And yet a lot of the conversation today has been about perhaps not realizing the kind of profit growth that you might have expected in North American resale. I'm just wondering if you can just go region by region and talk about what's happening to the pricing profit declines in those international markets. And then secondly, on the Blue Buffalo acquisition, do you have a new updated guide on where the levers might go to in light of the EBIT shortfall this year? Thank you." ] }, { "name": "Don Mulligan", "speech": [ "Alexa, yeah, it tends to hit both regions. In the EU/AU, the year-to-date margins are being impacted primarily by raw material inflation, especially dairy and vanilla, which has spiked significantly this year. And then we have some currency-driven inflation on products imported in the UK, so some transaction effects. And most of those particularly pointed in our EU/AU business this year. As we look at Q4, we expect to see some improvement. We're gonna get some price mix improvement. I mentioned that Old El Paso and Haagen-Dazs will lead the growth, and those are both higher margin lines. We do moderating input costs in EU/AU. A little bit different than here in the U.S. as they lapse, some of the initial spikes in the dairy and vanilla costs from a year ago.", "We're gonna see increased cost savings. I mean, one of the manufacturing consolidation projects that we've had under way was in EU/AU, and we're still in the first year of seeing those savings, so those will increase. And it will be partially offset with some median advertising expense to supported that topline. But we expect to see improvement in the fourth quarter. And as I mentioned that actually frankly, a lot of the same factors in terms of transaction effects as the maybe more unique factors to ASLA because of Brazil is lower volumes as well. And so, as we look at Q4, we're gonna see improvement because we're gonna get better price mixture and we're gonna get better volume performance in Brazil as we come out of an ERP insulation. And the cost headwinds will lessen a bit. So, that's in the quarter, but I think your question's a broader one as well, and I think it is a good one.", "As we look at those two segments, we're very pleased over the long run with our topline. We have been very competitive and actually market-leading in both of those areas over the longer term in our topline growth, and we have been investing in those businesses to maintain that growth or drive that growth. And I think we have the opportunity as we go forward to better balance the topline growth in the margin performance. And so, as we build our FY19 plan and beyond, that will certainly be something that we have in mind in both of those regions." ] }, { "name": "Alexia Howard", "speech": [ "And then on the leverage?" ] }, { "name": "Don Mulligan", "speech": [ "Oh, on the leverage, it may go up a tick because of the lower profit. I think we got it at 4.2, 4.3. If it moves, it'll be by 0.1." ] }, { "name": "Alexia Howard", "speech": [ "Okay, thank you very much. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Akshay Jagdale with Jefferies. Please proceed." ] }, { "name": "Akshay Jagdale", "speech": [ "Good morning. Thanks for the question. I wanted to sort of unpack the profit equation a little bit. And I need help understanding what you think is transitory versus structural, right? So, you've got an issue with the commodity cost spiking. And I think what I see as different from years past is these costs that have gone up aren't hedge-able, right? So, the visibility on them is inherently lower, so the reaction time, I guess, has to be faster. So, in the months to come and the quarters to come, you'll have to show that your brand is strong enough to pass that on, right? So, that will have to play itself out. But what I'm more concerned about and the questions we get is you're having this really nice performance improvement on the sales side. How much visibility do you have on the incremental profitability from these new products and the sales growth that you're seeing? Are these inherently lower profitable products, or how are you thinking about that? Because you've had some issues with visibility. I wonder if this sales growth is coming at any cost, right? Is it a competitive issue? I'm just trying to better understand that because it has major implications going forward. Thank you." ] }, { "name": "Don Mulligan", "speech": [ "Sure. Yeah, we obviously, with all of our new products in terms of their incrementality, both in the top and the bottom line, Oui is a great example where we're generating more on a per cup basis than on a base product, even though the margin percentage themselves is not materially different. But you have a higher price point. Because what we're seeing this year is our new product volume is performing very well, as Jeff showed -- almost 50% better than a year ago. And because We do those externally, because we're seeing also the need to, from a co-packer standpoint and within our logistics network, more miles as we reposition product to meet consumer demand, we're having additional cost accrued to those businesses. It's not necessarily because of the new product economics. That is, we bring those in house as we structurally change our logistics network, the margins on those projects are going to be very competitive with our current business. But it's a major of getting the structure right. And as Jeff alluded to, that's one of the projects that we have under way to enhance our entire cost structure. And that will accrue to the benefit of many of these new products that are driving the higher volume." ] }, { "name": "Jeff Harmening", "speech": [ "And I will put a finer point on that. I think it's a good question, actually. But I want to reiterate, our topline performers, particularly in North America retail, and CNF, and Europe and Australia, and even Asia, I couldn't be more pleased with the way that we have been able to pivot and grow our topline and the economics behind that. And there have been a lot of questions about that and the environment, and did we buy volume. And I just want to unequivocally say I love the way that we're executing. Our sales and our marketing teams are executing well together. Our marketing campaigns are better. Our new products are together. So, I am certainly displeased with our profit performance in the third quarter and the fact that we didn't see some of this coming as much as we should have, but I'm really pleased with what the organization has done about returning to growth.", "You asked about the cost. I would say that I think from a logistics standpoint, I mean, I think it is more structural. We had a tightage in labor supply. We have new regulations that started in December, which will fully become operational in April, and we are hitting a moving target. But I think our logistics costs are structural. I don't think that they're gonna go down. And what we're seeing on the commodities side is certainly going up, and it ebbs and flows over time. I'm not sure that it's structural as much as it is point in time. But I think the logistics costs are, which is one of the reasons why we need to have some net price realization, why we feel like we can, because everyone's feeling it in the industry. Our competitors are feeling it, we're feeling it, our customers are feeling it. And so, as we look for net price realization, I think that part is structural." ] }, { "name": "Akshay Jagdale", "speech": [ "And any implications from anything you're facing in your base business on how you think about integrating Buffalo, Blue Buffalo?" ] }, { "name": "Jeff Harmening", "speech": [ "No, I'm glad you asked about that. First of all, Blue Buffalo, I think of as a transition rather than an integration. I mean, Blue Buffalo is gonna be a separate operating segment. And so, there'll be some integration, and the synergies we have accounted for are actually quite low relative to other deals that we have done. And so, it will operate relatively independently, and we'll help them on the sales side where we can We'll help them on the supply chain costs. But I can tell you, even over the last month since we announced the deal and got to know their leadership team, they've got a very strong leadership team. And I think their strong leadership team, not only Billy Bishop but the rest of the team, combined with our capabilities -- I will tell you that even in the months since we announced the acquisition, we feel more confident than we have even before about our ability to execute against Blue Buffalo well." ] }, { "name": "Akshay Jagdale", "speech": [ "Thank you. I'll pass it on." ] }, { "name": "Jeff Siemon", "speech": [ "All right, unfortunately, I think we're past time. I know there's still a lot of questions out there, so please don't hesitate to give me a call later today. Thanks, everyone, for joining us this morning, and have a good rest of your day." ] }, { "name": "Operator", "speech": [ "Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line." ] }, { "name": "Akshay Jagdale", "speech": [ "More GIS analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
GIS	2022-12-20	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jeff Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Kofi Bruce", "position": "Executive" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Exane BNP Paribas -- Analyst", "name": "Max Gumport", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Group President, North America Retail", "name": "Jon Nudi", "position": "Executive" }, { "description": "Piper Sandler -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Pamela Kaufman", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Cody Ross", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the General Mills second quarter fiscal 2023 earnings Q&A webcast. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. [Operator instructions] As a reminder, this conference is being recorded Tuesday, December 20, 2022.", "I would now like to turn the conference over to Jeff Siemon, VP of investor relations. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Good morning! This is Jeff Siemon, Vice President of Investor Relations. Thank you for listening to General Mills’ prepared remarks for our fiscal 2023 second-quarter earnings. Later this morning we will hold a separate, live question-and-answer session on today’s results, which you can hear via webcast on our investor relations website. Joining me for this morning’s presentation are Jeff Harmening, our Chairman and CEO, and Kofi Bruce, our CFO. Before I hand things over to them, let me first touch on a few items.", "On our website, you will find our press release that posted this morning, along with a copy of the presentation and transcript of these remarks. Please note that today’s remarks will include forward-looking statements that are based on management’s current views and assumptions. The second slide in today’s presentation lists several factors that could cause our future results to be different than our current estimates. And with that, I will turn it over to Jeff." ] }, { "name": "Jeff Harmening", "speech": [ "Thank you, Jeff and good morning, everyone. Let me start by summarizing today’s key messages.", "Building on a good start to the year in Q1, we delivered strong results in our second quarter, including doubledigit growth in organic net sales and adjusted diluted earnings per share. We also delivered a second consecutive quarter of gross margin expansion, representing continued progress toward restoring our prepandemic margin profile.", "The operating environment remains volatile. While we’ve seen some modest improvement in recent months, it is still far from pre-pandemic conditions, particularly at our up-stream suppliers. In this context, our team continues to execute well and we remain focused on advancing our Accelerate strategy and delivering on our fiscal 2023 priorities.", "Given our strong first-half results and positive momentum on our business, we are once again raising our fullyear guidance for organic net sales, adjusted operating profit, and adjusted diluted EPS growth.", "Slide 5 summarizes our financial performance for the second quarter and the first half of fiscal ’23. We drove 11 percent organic net sales growth in the quarter, fueled by strong net price realization in response to significant levels of input cost inflation. Adjusted operating profit was up 7 percent and adjusted diluted EPS was up 12 percent, each in constant currency. Our first-half results were also strong, with double-digit growth in organic net sales and adjusted diluted EPS.", "The operating environment in fiscal 2023 remains challenging and dynamic.On the cost side, we continue to forecast total input cost inflation of approximately 14 to 15 percent for the full year, including double-digit inflation in the second half.Volume elasticities continued to remain below historical levels in the first half, particularly in North America Retail. We are watching these trends closely, but we do not expect a return to pre-pandemic elasticity levels during fiscal 2023.We’ve seen some modest improvement in the supply chain environment in recent months, with logistics challenges continuing to ease and a slight reduction in the level of upstream supply disruptions. As a result, our customer service levels reached the high-80-percent range in U.S. retail by the end of the quarter, up from the mid-80s last quarter, though still well below our normal range of 98 to 99 percent. Despite these improvements, supply disruptions remain well above historical averages, and we aren’t forecasting a return to pre-pandemic levels of supply disruptions or customer service during this fiscal year.Finally, we continue to see the pandemic impacting consumers’ health and mobility around the globe. This has been most acute in China during the first half of this year.", "Overall, while it’s encouraging to see some signs of supply chain improvement recently, we expect the pace of change in the operating environment to remain high for the foreseeable future. As we’ve said in the past, our job is not to predict the future better than our competition, but instead to be better able to adapt to change and deliver winning results regardless of the environment. That has been our recipe for success in recent years, and we’re focusing on continuing that success in fiscal 2023 and beyond.", "We are continuing to drive our Accelerate strategy this year by executing on the three priorities outlined on slide 7:", "We will continue to compete effectively by boldly building our brands, relentlessly innovating, and servicing the business with excellence.We will continue to invest for the future by delivering HMM and SRM to offset inflation, making strategic investments in the business, and continuing to progress against our ESG commitments.And we will continue to reshape our portfolio by ensuring smooth transitions for our announced transactions and assessing the landscape for additional growth- and value-enhancing acquisitions or divestitures.", "I’m pleased to say that we are making progress against each of these priorities through the first half.", "We’re competing effectively once again in fiscal 2023, building on four consecutive years of strong market share performance. We are holding or gaining share in 37 percent of our priority businesses through the first half, but that includes a share decline in Cereal, where we’re comparing against our unusually strong share gains in the U.S. a year ago when a key competitor was dealing with significant service challenges. On a 2-year basis, our market share in Cereal is still up, and after adjusting for that change, we are holding or gaining share in 54 percent of our priority businesses, including a broad array of platforms in the U.S. and internationally.", "In addition to executing for today, we continue to make strategic investments to strengthen our brands and our competitive advantages for the future.", "Our Media investment was up double digits in Q2, and we expect it to be up double digits for the full year behind compelling campaigns that are increasingly leveraging our digital capabilities to reach consumers everywhere they interact with our brands.We’ve invested significantly in recent years to strengthen our capabilities that are critical to our future success, including Digital & Technology, Strategic Revenue Management, E-commerce, Global Impact, and others. Our total capability investments will be up again in Fiscal 2023, led by Digital & Technology. In fact, we’ve increased our investment in this area by more than $100 million dollars over the past few years, and we expect to grow in this area by double digits again this year.Additionally, we plan to increase our investment in growth capital by more than 50 percent in Fiscal ‘23. This includes investments to increase internal manufacturing capacity on key platforms where we see sustained growth into the future, such as pet food, Mexican food, hot snacks, fruit snacks, and cereal.", "Another important way we are investing for the future is through our commitment to Standing for Good. For decades, General Mills has taken action to reduce hunger and food insecurity in our communities through grants, corporate contributions, and food product donations.", "We work with food banks in more than 40 countries to expand food security and build long-term resilience for the future. One example is Feeding America. General Mills was a founding member of this U.S. hunger-relief organization more than 40 years ago. More recently, we supported the creation of Feeding America’s MealConnect, a solution for the nation’s charitable food system that allows member food banks to coordinate and receive donations from their local food businesses and grocers.", "As the only food-rescue technology available nationwide, MealConnect serves more than 12,000 nonprofits and has enabled the recovery of more than 3.5 billion nourishing meals since its launch in 2014. In addition to providing monetary support, General Mills helped co-create MealConnect’s Logistics function, which works to reroute rejected or damaged — but perfectly safe — food products for donation at food banks.", "Standing for good is a critical pillar of our Accelerate strategy and is an important way we are investing for our future — for our company, our planet, and for our communities.", "Switching gears, I’d like to spend a few minutes highlighting several businesses where we are consistently competing effectively and investing for the future, led by North America Retail.", "As we’ve shared in the past, we’ve built a multi-year success story in Cereal behind strong innovation, renovation, and investment in what we believe are the best brands in the category. In fact, annual Nielsenmeasured retail sales for our U.S. cereal business are up 20 percent since fiscal 2018 to more than $3 billion dollars. We’ve gained two-and-a-half share points over that time and solidified our #1 position in the category.", "We’re bringing more compelling news and innovation to the cereal category in fiscal 2023. Cheerios, which is by far the largest brand in the category, continues to keep its heart-health messaging fresh for consumers, while Cinnamon Toast Crunch, the second-largest brand in the category, is engaging new consumers with its crazy squares. In addition, we’ve launched 3 of the top 5 new products in the category so far in fiscal ’23, and we are particularly excited about our second-half innovation plans. Our new Minis platform brings consumers miniature versions of their favorite cereal brands, providing a fun, new way to enjoy the big flavors they love. We’ve seen exceptional retail acceptance for these new products and they’re already among the top turning items in their first few weeks on shelf.", "We’ve grown retail sales for our Pillsbury U.S. Refrigerated Dough business by nearly 50 percent over the past five years, to nearly $2 billion dollars, and we’re working on our 5th consecutive year of market share gains after having added 5 points of share in the past 4 years.", "Pillsbury provides convenience and joy to families — for special occasion and everyday meals. We’re having another strong key baking season this year, and we’re bringing the brand more regularly into consumers’ everyday meal routines.", "Our most recent messaging with consumers highlights the many ways to conveniently “make homemade” using Pillsbury dough products outside the oven. And we are leveraging our data and connected commerce capabilities to personalize our messages. For example, by targeting our “make homemade” messaging to consumers who recently purchased an air fryer, we were able to drive lower cost-per-click and convert a higher share of our new Pillsbury consumers, further building confidence in the value of our first-party data.", "Our Fruit Snacks platform is an underappreciated local gem in our portfolio…like Pillsbury dough, but on a smaller scale. Here, too, we’ve generated tremendous growth in recent years, with our retail sales in U.S. fruit snacks up nearly 70 percent since fiscal 2018 to more than $800 million dollars, and our market share up almost four-and-a-half points to 54 percent of the category.", "We accomplished these results despite being capacity constrained for much of that time. But we completed a $100-million-dollar capacity expansion on fruit snacks in Q1, which has allowed us to execute new channel expansion plans for e-commerce and convenience stores.", "Year-to-date, we’ve driven a 44 percent increase in our e-commerce retail sales on fruit snacks by optimizing our online shelf and consumer experience, leveraging our connected commerce capability. We’ve also expanded our fruit snacks presence in impulse channels, launching new peggable packaging that has helped us drive a 12-point increase in fruit snacks market share in convenience stores.", "With strong momentum, growing consumer demand, and plans for further capacity expansion ahead, we are excited about the continued runway for growth on fruit snacks.", "Another business that has a long runway of growth is Blue Buffalo pet food. The trends toward humanization and premiumization in the pet food category are strong and will continue to grow – in the U.S. and around the world. We are focused on leading and expanding our presence in high-quality, natural feeding and treating for dogs and cats.", "We are led by our purpose to Love them Like Family, Feed them Like Family, which is the reason Blue Buffalo ranks as the #1 brand pet parents are likely to recommend, the top brand pet parents will pay more for, and the most Loved and Trusted Natural Brand in the category. This has helped us drive terrific growth since we acquired the business in 2018, with our Pet net sales up by $1 billion dollars through fiscal 2022.", "While we continue to believe in the long-run growth opportunity for our Pet business, we experienced an unexpected headwind in Q2 in the form of inventory reductions at some key retailers. As a result, while our allchannel retail sales grew at a high-single-digit rate in the quarter, our net sales were essentially flat.", "Beyond the unexpected retail inventory decline, our Pet results in Q2 largely reflected the continued impact of the capacity limitations and resulting customer service challenges that we called out on our first-quarter earnings call. Because of these service challenges, we pulled back on media and in-store support so as not to amplify our issues with on-shelf availability. While these headwinds have been felt across our Pet business, they’ve been particularly acute on our Dry Dog Food and Treats sub-segments.", "As we move into the second half of fiscal 2023, we expect to get back to double-digit net sales growth on Pet, supported by better customer service, stronger product news, increased brand support, and stable retail inventory levels. We expect our customer service will improve because of the external manufacturing capacity we’ve added on dry dog food and treats. To further improve service, we recently added a new distribution center and expanded capacity at our existing warehouses.", "We initially prioritized customer service improvement on Life Protection Formula, which makes up more than half of our dry dog food retail sales, and we’ve seen encouraging volume growth on that business in Nielsenmeasured channels in the past 6 weeks. We’re now expanding our service improvement focus to the rest of our Dry Dog portfolio and to Treats, leveraging our increased capacity.", "Improved customer service will also allow us to step up our media and in-store support, including a strong double-digit increase in media investment on Pet in the back half. And we have an exciting lineup of innovation and renovation launching across dog food, cat food, and treats.", "Our back-half news on Pet starts with significant renovation and innovation on our Wilderness dry dog food line. We’re adding 20 percent more meat to our core Wilderness dry dog food products, and we’re ramping up spending behind this news. We’re also launching Wilderness Premier Blend, a new, super-premium offering that includes kibble, plus a new, proprietary tender meaty piece that dogs love, in a convenient all-in-one solution pet parents will love too.", "On cat food, we’re renovating our core dry portfolio and relaunching it under the Tastefuls equity. This launch builds on the success of the Tastefuls wet cat food line we introduced in 2021. Blue Tastefuls now offers a complete portfolio of feeding options for cats that provides the perfect combination of great taste and healthy ingredients. The new packaging is just starting to hit shelves now, and we’ll support the news with media and in-store activations in the coming months.", "And on Treats, our added capacity will help us drive improved customer service on our Nudges, True Chews, and Top Chews products, which now carry the Blue Buffalo shield. With better on-shelf availability, we’ll be able to turn on national media support and in-store merchandising, leveraging the Blue Buffalo master brand, which will help amplify awareness of these highly differentiated products.", "We remain bullish about the growth prospects for our Pet business. With a retailer inventory reduction and the worst of our capacity and service challenges behind us, and with exciting innovation and brand-building investment behind the strongest natural brand in the category, we’re poised to continue Pet’s track record of outstanding growth — in fiscal 2023, and over the long term.", "Taking a step back, I continue to be pleased with how we’re executing our Accelerate strategy to drive profitable growth on our core while continuing to reshape our portfolio.", "Now let me turn it over to Kofi to provide more details on our second-quarter results and our increased guidance." ] }, { "name": "Kofi Bruce", "speech": [ "Thanks, Jeff. And hello everyone.", "Our second-quarter financial results are summarized on slide 18. Note that there were a handful of events that impacted our year-over-year comparisons this quarter. These included the acquisition of TNT Crust, as well as the divestures of our European yogurt business, our international dough businesses, and the Helper and Suddenly Salad business in North America. We also had an impact from the international Häagen-Dazs ice cream recall that we announced last quarter. We do not expect any further material impact from the recall in the remainder of the year.", "Now let’s move on to our Q2 results. Reported net sales of $5.2 billion dollars were up 4 percent, and organic net sales grew 11 percent in the quarter, reflecting continued positive price/mix in response to significant input cost inflation, partially offset by lower volume.", "Adjusted operating profit of $880 million dollars was up 7 percent in constant currency, with benefits from positive price/mix partially offset by higher input costs, lower volume, and higher SG&A expenses, including a double-digit increase in media investment. Adjusted diluted earnings per share totaled $1.10 in the quarter and were up 12 percent in constant currency.", "Slide 19 summarizes the components of our net sales growth in the quarter. Organic net sales were up 11 percent, reflecting 17 points of positive organic price/mix, partially offset by a 6 percent decline in organic pound volume. Foreign exchange reduced net sales by 1 point, and the net impact of acquisitions and divestitures was a 5-point headwind to second-quarter net sales.", "Now let’s turn to our segment results, beginning with North America Retail on slide 20.", "NAR continues to perform exceptionally well, with our brands delivering for consumers and the business executing successfully amid ongoing volatility in the operating environment. Organic net sales grew 13 percent in the quarter, driven by positive price/mix, partially offset by lower volume. Despite elevated levels of inflation-driven pricing, elasticities continue to remain below historical benchmarks.", "Growth in NAR this quarter was broad based, with double-digit net sales growth in U.S. Snacks, U.S. Meals and Baking Solutions, and U.S. Morning Foods, and mid-single-digit net sales growth in Canada in constant currency. We continue to compete effectively, with 67 percent of our North America Retail priority businesses holding or growing share so far this fiscal year, when adjusting for Cereal on a two-year basis.", "Second-quarter constant-currency segment operating profit increased 24 percent, driven by positive price/mix and HMM cost savings, partially offset by high input cost inflation, lower volume, and higher SG&A expenses.", "Slide 21 summarizes our Pet segment results. As Jeff mentioned, Pet net sales in Q2 were negatively impacted by a reduction in retailer inventory. All-channel retail sales were up high-single digits in the quarter.", "We expect Pet net sales growth to accelerate in the second half behind increased capacity, improved customer service, strong innovation and renovation news, and increased brand-building investment. Additionally, we expect retailer inventory levels to remain stable in the back half of the year.", "On the bottom line, second-quarter segment operating profit totaled $87 million dollars compared to $132 million a year ago, driven primarily by high-teens input cost inflation, a significant increase in costs related to capacity expansion and supply chain disruptions, and lower volume, including the impact of the retailer inventory reduction. These headwinds were partially offset by positive price/mix. We expect to deliver profit growth on Pet in the back half with stronger volume performance, less headwind from capacity and supply disruption costs, and better alignment between price/mix and inflation.", "Moving on to our North America Foodservice segment results on slide 22, organic net sales grew 17 percent in the quarter. As we expected, this quarter’s performance included greater price/mix benefit on our non-flour business compared to Q1, and less benefit from market index pricing on bakery flour, which is dollar profit neutral.", "Segment operating profit for the quarter was up 20 percent, driven by positive price/mix, partially offset by higher input costs and higher SG&A expenses.", "Second-quarter International segment results are summarized on slide 23. Organic net sales were up 5 percent this quarter, driven by good growth in Brazil, our Distributor markets, and Europe & Australia, partially offset by a decline in China due to continued consumer mobility restrictions due to zero COVID policy as well as the impact of the international ice cream recall.", "Second-quarter segment operating profit totaled $18 million dollars compared to $59 million a year ago, driven by higher input costs and lower volume, including the impact of divestitures and the ice cream recall, partially offset by positive price/mix and lower SG&A expenses. With comparisons against the Yogurt divestiture and the Ice Cream recall now behind us, we expect to generate profit growth in International in the back half of F23.", "Slide 24 summarizes our joint venture results in the second quarter. Cereal Partners Worldwide net sales were up 2 percent in constant currency, driven by favorable price/mix, partially offset by lower volume. HäagenDazs Japan net sales were down 10 percent in constant currency as the business lapped strong new product performance last year.", "Second-quarter combined after-tax earnings from joint ventures totaled $25 million dollars compared to $33 million dollars a year ago, primarily driven by unfavorable foreign currency exchange as well as lower constant currency profit at HDJ, partially offset by favorable CPW price/mix.", "Turning to total company margin results on slide 25, our second-quarter adjusted gross margin increased 100 basis points versus last year to 33.2 percent, driven by positive price/mix and HMM cost savings, partially offset by mid-teens input cost inflation, higher other cost of goods sold, and supply chain deleverage. While this is our second quarter of gross margin improvement, our adjusted gross margin is still below pre-pandemic levels, and we have more work to do to restore our historical margin profile.", "Adjusted operating profit margin increased 60 basis points in the quarter to 16.9 percent, driven by higher adjusted gross margin, partially offset by higher SG&A expenses.", "Slide 26 summarizes other noteworthy Q2 income statement items:", "Adjusted unallocated corporate expenses increased $30 million dollars in the quarter, primarily reflecting increased capability investments this year and certain discrete favorable items a year ago.Net interest expense decreased $1 million dollars, driven by lower average long-term debt balances, partially offset by higher rates.The adjusted effective tax rate for the quarter was 21.1 percent compared to 22.3 percent a year ago, driven by certain discrete tax benefits this year.And average diluted shares outstanding in the quarter were down 2 percent to 602 million, reflecting our net share repurchase activity.", "Our first-half F23 results are summarized on Slide 27. Net sales of $9.9 billion dollars were up 4 percent, including a 5-point headwind from net divestiture and acquisition activity and 1 point of unfavorable foreign currency exchange. Organic net sales increased 11 percent, driven by positive organic price/mix, partially offset by lower organic pound volume. Year-to-date adjusted operating profit of $1.8 billion dollars increased 8 percent in constant currency. And adjusted diluted earnings per share of $2.21 were up 13 percent in constant currency.", "Turning to the balance sheet and cash flow on slide 28.", "While we drove strong growth in adjusted net earnings in the first half, our operating cash flow was down from $1.5 billion dollars a year ago to $1.2 billion in the first half of fiscal ’23, driven primarily by an increase in inventory and higher cash tax payments.Year-to-date capital investments in the quarter totaled $227 million dollars. We remain on track for capital investment to total roughly 4 percent of net sales for the full year.And we returned $1.4 billion dollars in cash to shareholders in the first six months of the year through dividends and net share repurchases.", "On slide 29, you can see our increased guidance for fiscal 2023. We now expect organic net sales to increase 8 to 9 percent, reflecting better volume performance and improved price/mix relative to our prior outlook. We continue to expect elasticities will remain below historical levels over the remainder of this fiscal year.", "We now expect adjusted operating profit to increase 3 to 5 percent in constant currency, reflecting stronger topline performance. We continue to expect total input cost inflation of 14 to 15 percent of total cost of goods sold, HMM cost savings of 3 to 4 percent of COGS, moderately lower supply chain disruptions versus last year, and increased investment in brand building and other growth-driving activities.", "Constant-currency adjusted diluted earnings per share are now expected to increase 4 to 6 percent. This updated outlook reflects stronger profit growth and higher net interest expense, which is now expected to total more than $400 million dollars for the full year, reflecting rising interest rates. Our guidance for both adjusted operating profit and adjusted diluted EPS both include a 3-point net headwind from divestitures and acquisitions and an estimated 1-point headwind from the ice cream recall.", "Finally, we continue to expect free cash flow conversion will be at least 90 percent of adjusted after-tax earnings.", "Let me now turn it back to Jeff for some closing remarks…" ] }, { "name": "Jeff Harmening", "speech": [ "Thanks, Kofi. Let me close with a few thoughts.", "I continue to be pleased with how we’re executing our Accelerate strategy and driving profitable growth, including delivering strong results again in Q2. We’re competing effectively, building on four consecutive years of positive market share performance, and we continue to invest for the future. While we have work to do to overcome some short-term headwinds in Pet and International, we’ve taken actions to drive stronger results in those segments in the second half of this year.", "I’m also pleased that we are once again raising our guidance for the full year, building on our strong first-half results and compelling plans for the back half.", "Thank you for your time this morning. This concludes our prepared remarks. I invite you to listen to our live question-and-answer webcast, which will begin at 8:00 a.m. Central time this morning and will be available for replay on our Investor Relations page at GeneralMills.com." ] } ]	[ { "name": "Jeff Siemon", "speech": [ "Thank you, Kelly, and good morning, everyone. Thanks for joining us today for the Q&A session on our Q2 fiscal 23 results. I hope you all had a time to review the press release, listen to our prepared remarks, and view the presentation materials, which were made available this morning on our IR website. Please do note that in our Q&A session, we may make forward-looking statements that are based on our current views and assumptions.", "Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliation of non-GAAP information, which will be discussed on today's call. I'm here with Jeff Harmening, our chairman and CEO; Kofi Bruce, our CFO; and Jon Nudi, group president of our North America retail segment. Let's get to the first question, Kelly. So, please get us started.", "Thanks." ] }, { "name": "Operator", "speech": [ "Thank you, sir. [Operator instructions] Our first question comes from Andrew Lazar with Barclays. You may proceed with your question." ] }, { "name": "Andrew Lazar", "speech": [ "Thank you. Good morning, everybody, and happy holidays." ] }, { "name": "Jeff Harmening", "speech": [ "Happy holidays, Andrew." ] }, { "name": "Kofi Bruce", "speech": [ "Hey, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "I think just to kick it off, I guess, I appreciate that capacity constraints can often lead to a gap between shipments and retail takeaway, but obviously, the differential in pet was far greater than anticipated. So, I'm trying to get a sense of why would retailers pull back on orders when capacity is constrained, and demand remains so strong. And does this pose any risk ultimately to the demand side of the equation? And then I've just got a quick follow-up." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. Sure, Andrew. Thanks for the question. I would say, ironically, in the second quarter, a lot of what occurred, in fact, we anticipated, including retail sales and the fact that we were capacity constrained.", "And as we look ahead, we guided to double-digit growth for the second half of the year, by which I mean starting in Q3, given the strong level of innovation we have and the fact capacity is online, and we've got really good advertising and marketing support. The one thing that was different than we expected was a drawdown in retail inventory you pointed out to. But we don't -- first of all, most importantly, we don't think that this is a long-term trend. We think it is something to happen this quarter.", "In terms of the rationale why, I would say, in general, the retailers have carried a little bit less inventory across the board during this time only because with inflation, what you don't want to do is carry a lot of working capital. And so -- but certainly not 8 points worth of differential. The other reason I would say is that because we lack capacity, there are a lot of categories like treats, for example, where normally we would merchandise a lot during this time of year, but we couldn't do that. And so not only do we not -- were we not able to service demand, but we had to pull back on merchandising.", "And a lot of times, retailers carry more inventory when they're going to merchandise. And so, you really see that in our treats business. And then the third reason is we had a couple of big retail customers and we have a more mass merch orientation that didn't take inventory coming into the season because they had warehouses full of other things. It's a little bit different customer set than our North America retail business, for example.", "And so that's why we don't see it on the North America retail side. So, those are really the laundry list, if you will, of reasons why inventory was less. But as you can imagine, we've done a very deep dive on inventory levels by customers. And I can tell you, we don't think there's going to be a repeat performance of that nature in the third quarter.", "In fact, that's why we're comfortable guiding up double-digit sales growth again." ] }, { "name": "Andrew Lazar", "speech": [ "Thank you for that clarity. And then, I think you were looking for flattish gross margins or so for the full year if we were thinking about last quarter's conference call, obviously, with the upside to gross margins in this quarter despite the pet constraints on profitability. Could we see gross margins likely up year over year for the full year at this stage? Thanks so much." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. Andrew, this is Kofi. Thanks for the question. Certainly, as we look at our revised guidance, that's within the range of possibilities.", "And while we're not giving specific guidance on gross margin, we're very comfortable we're making good progress against our long-term goal of getting our margin back to pre-pandemic levels. We're still about 150 basis points back there. So, we're going to continue to drive at the things that will help us improve the margin profile as we go forward." ] }, { "name": "Andrew Lazar", "speech": [ "Thanks. Have a great holiday." ] }, { "name": "Jeff Harmening", "speech": [ "Thank you, Andrew." ] }, { "name": "Operator", "speech": [ "Our next question comes from Ken Goldman with J.P. Morgan. You may proceed." ] }, { "name": "Ken Goldman", "speech": [ "Hi. Good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning, Ken." ] }, { "name": "Ken Goldman", "speech": [ "Hi. I wanted to just ask, you seem confident, understandably why, why the deload won't happen again, and thank you for the clear explanation, Jeff, on what the drivers were. I'm just curious, as you progress into your third quarter, it might be a little early to ask because we're still not at Christmas. But are you seeing any refilling of inventory levels by retailers? If you addressed this already, forgive me, but just trying to get a sense of sort of more real-time data as to what's going on." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. I think a couple of points, Ken. Yeah, we are early in the quarter. Having said that, there are a couple of things that give us confidence in our forecast for the third quarter.", "The first I would start with Life Protection Formula, which is our biggest dry business. And we've seen -- over the last six weeks, we've seen demand really rebound quickly. And that's important because that's the first business that we could bring back up to appropriate service levels. And so, that gives us confidence.", "In addition to that, we -- I did tell you we were going to grow double digits in the third quarter. And I can report that we're only about three weeks into December. So, it's -- but three weeks is not nothing, and I can tell you, we're on track to deliver what we said we're going to do in the third quarter, which again gives us more confidence that we're going to be able to do what we say we're going to do and that we've seen the pipeline of inventory start to refill itself because we're able to service the business better, and it's especially true on treats." ] }, { "name": "Jeff Siemon", "speech": [ "And Ken, I'd add just to put some numbers on it, this is Jeff Siemon. For Life Protection Formula, the movement in Nielsen-measured channels in the last month is up almost 20% and volume has been positive and accelerating recently now that we've gotten service back in the 90s. So, just to put some dimensions on it, it's been encouraging to see that business grow basically in line with or even ahead of where the category is growing overall." ] }, { "name": "Ken Goldman", "speech": [ "Thank you. And then a quick follow-up. Just how do we think about the impact of adding more production from co-manufacturers and maybe restepping on the marketing pedal for your pet food business in the third and fourth quarters, obviously, hopefully, there will be a better volume turnaround, and that will help as well? I'm just trying to get a general sense of, I guess, how to model those margins given all the puts and takes." ] }, { "name": "Jeff Harmening", "speech": [ "So, let me start and then Kofi can give you some more thoughts on the margin. I would say how to think about the whole basket. I would say, clearly, we anticipate our reported net sales to improve to double digits in the second half of the year behind all of the activity we talked about. Given that we went -- we've gone externally both in treats and more importantly, in dry dog food to get capacity sooner, that obviously helps our service levels.", "External capacity doesn't tend to be as profitable. So, I wouldn't anticipate our gross margins to rise as proportionately as our sales would rise. But the benefit is that we're getting back, and we're satisfying pet parents sooner. The other thing I would say is that to the extent that we increase advertising in the third quarter, and I think we have some really nice advertising.", "We're going to increase that double digits in the third quarter. I wouldn't expect our operating profit margin to rise as fast -- it should get better, a lot better, but it probably won't rise as fast as the sales growth in the near term, but that's a choice that we're making. And our choice is to get back to growth first and making sure we can get that flywheel going again. So, Kofi, you want to add any color to that?" ] }, { "name": "Kofi Bruce", "speech": [ "Yeah. And that said, we do expect profit growth in our pet business in the back half of fiscal '23. Some of the key things you'll see is we'll expect price/mix to catch up with inflation. We've got another effectively round of pricing coming through at the beginning of calendar year '23.", "We don't expect the pressure on supply chain to be as acute. So, we won't see as much sort of drag from other cost of goods sold. And of course, we're not expecting the inventory depletion and the pressure that and deleverage that comes with that headwind. So as a result, we would expect our second half top-line growth should give us still a solid profit growth even if it's slightly behind the top-line growth." ] }, { "name": "Ken Goldman", "speech": [ "Thanks so much. Happy holidays." ] }, { "name": "Jeff Harmening", "speech": [ "Thank you." ] }, { "name": "Kofi Bruce", "speech": [ "You, too." ] }, { "name": "Operator", "speech": [ "Our next question comes from Max Gumport with BNP Paribas. You may proceed." ] }, { "name": "Max Gumport", "speech": [ "Hey, thanks for the question, and happy holidays. And going -- sticking with pet, you just mentioned another round of pricing you expect to come online in CY '23, I believe, and there's a narrative that the pet food industry in the U.S. could be on the horizon of getting more competitive due to potential supply/demand imbalances. I'm wondering if you can provide any color on what you're seeing on that front." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah, Max, thanks for the question. As we -- when you say more competitive, first of all, I would say that category is always competitive. There are a lot of great competitors in the category. Having said that, I suppose the question comes down to, you're talking about price competitive or something like that.", "What I would say is that we continue to see the premium end of the category grow. And we see Blue Buffalo's present life protection formula, again, continue to accelerate once we get supply back online. And in general, we see the premium part of the category doing quite well. And it's a category that really lends itself is a fairly inelastic category.", "And that's because pet parents really, really care about what they feed their pets. And so, I don't anticipate between the nature of the category and the fact that we're still seeing inflation. Our inflation for the company in the back half of the year will be up double digits. And so, it's not as if we're answering into a deflationary environment.", "We're all still making -- we're all still kind of recovering service levels. So, the supply chain -- we're not in an overcapacity situation. Supply chains still have some catching up to do. So, because we see inflation, because of the nature of the consumer, because of the nature of the supply chain, even though it's always a competitive category, I wouldn't see it getting more competitive in terms of pricing in the near term only because of all of those factors." ] }, { "name": "Max Gumport", "speech": [ "Great. Thanks very much. And one follow-up. So, you mentioned that you expect the price elasticities to remain below historical levels during the remainder of FY '23 and also that they're particularly benign in North America retail.", "I'm wondering what you're seeing on this front in your international businesses, particularly European cereal as we've heard some commentary of a return to normal levels of elasticities in those markets from other industry participants. Thanks very much." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. I guess I would say, in general, not commenting on cereal specifically, I guess, but in general in Europe. First of all, we say the economic situation in Europe is more challenging than it is here, particularly driven by energy prices and unemployment, that's a little bit higher than it is in the U.S. So, I would start with that.", "The second, I would say, is that elasticities in Europe tend to be a little bit higher than they are in the U.S. normally, and we're seeing that in this environment as well. And that kind of plays itself out across categories. And so, whether it's cereal or bars or ice cream.", "So, we -- so, I would say the situation in Europe is a little more challenging than it is here, but it really has to do with a combination of macroeconomic backdrop, combined with elasticities in general, tend to be a little higher. But I would say directionally, we're seeing the same kinds of things there that we see here." ] }, { "name": "Max Gumport", "speech": [ "Great. Thanks very much and happy holidays." ] }, { "name": "Jeff Harmening", "speech": [ "Yup. Thank you. Happy holidays." ] }, { "name": "Operator", "speech": [ "Our next question comes from Robert Moskow with Credit Suisse. You may proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hey, good morning. [Inaudible]" ] }, { "name": "Jeff Harmening", "speech": [ "Hi, Rob.", "Hi. You mentioned some new pricing actions in pet. Do you expect to take more pricing actions in North America retail as well? The public comments from the grocers sound increasingly concerned about higher pricing and the impact on their consumers. So, I wanted to know if there's any blowback on that.", "And then also, in the past, there's been unusual deloading in January by some retailers to protect balance sheets. I think you mentioned it here today. Do you see any risk of that happening as well?", "So, Rob, I would say as it relates to pricing, I mean, we've announced some pricing on pet. We've announced that to our retail customers already to take effect, I think, February 1. So, we've announced that already. In terms of -- but I will also remind you that when we started the year, we said that for most of this fiscal year, we've taken most of the pricing that we need to take in the market already for this fiscal year.", "So that also remains true. But I will also say in the back half of the year, we're expecting double-digit inflation. So, it's not as -- it may decelerate from where it is now, but then decelerating to double digits is not exactly zero. And even as we look across a longer horizon, I don't want to play Nostradamus with inflation rates.", "What I will say, though, is even looking out past six months, it's pretty clear to us that we'll still see an inflationary environment. It may or may not be as robust as it is now, but it will still be an inflationary environment, driven quite a bit by wage increases. So, it's hard for us to see an environment where we don't see inflation. Even if that inflation -- those inflationary levels may not be exactly what we've experienced over the last six months.", "And so, as we look at our business, we'll continue to look at pricing. But the key is that the pricing has to be justified. And this has always been the case. But it has to be justified based on the cost that we're seeing.", "And we find with our retail customers if we can justify the cost that we're seeing and that they know that we're investing in the growth of our categories, which we are through double-digit consumer spending increases, launches like minis and cereal and like the innovation we have in Pillsbury and in Blue Buffalo, then the conversations are a lot more productive than otherwise. So that's, I guess, what it was a long-winded answer to a fairly straightforward question on pricing. With regard to retailer inventories, I would say we have seen a little bit less retail inventory because of this inflationary environment. But I would say as we look forward, we've probably seen -- I don't think that's a risk to our go forward either on Blue Buffalo or our business in general.", "So that's kind of some generalities. Jon Nudi, anything you want to add to that?" ] }, { "name": "Jon Nudi", "speech": [ "No, I think you hit it. I would just say that our SRM capability is something I'd point to is much more sophisticated than it was a few years ago. So, as inflation continues to come, we'll leverage the entire toolbox. So, it's not just list pricing, it's promotional optimization and mix and pack price architecture.", "And by leveraging all those tools, we believe that we'll be able to combat inflation as we move forward as well. And in terms of retailers, as Jeff mentioned, I mean, is pricing has never been easy. And even over the last couple of years that we've seen significant inflation. But if we can bring in a strong market basket story, we have had success moving pricing through the market." ] }, { "name": "Robert Moskow", "speech": [ "Can I ask a follow-up? In the past, have you been able to go to retailers and show labor inflation internally and use that as a rationale for raising price? It seems like that's something new." ] }, { "name": "Jon Nudi", "speech": [ "Yeah, Rob, I think the scale of the inflation is different today, right? So, we're seeing a double-digit inflation. And historically, over the last decade or so, we haven't seen a lot of inflation. It's been low single digits. So, it really hasn't been a conversation because there really hasn't been enough inflation to take significant action.", "I think with the scale of the inflation we're seeing today and the sophistication, as I mentioned as well, we're able to really break down where we're seeing inflation and some things are starting to moderate. But at the same time, you're seeing things like labor, certainly, sprout remains sticky, and it's in the equation. And we've gotten more sophisticated but our retailers have as well. So again, I think we have really good constructive conversations that are really based on facts at this point." ] }, { "name": "Jeff Siemon", "speech": [ "Rob, where we see that impacting us is not so much our own labor, but it's the labor at our suppliers, which translates through their pricing to us. So, yes, there's labor inflation in our own facilities, etc., but the much bigger aspect of labor is upstream at the supplier base." ] }, { "name": "Robert Moskow", "speech": [ "Got it. Makes sense. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from Michael Lavery with Piper Sandler. You may proceed." ] }, { "name": "Michael Lavery", "speech": [ "Good morning. Thank you." ] }, { "name": "Jeff Harmening", "speech": [ "Good morning." ] }, { "name": "Michael Lavery", "speech": [ "I just wanted to come back to the elasticities and maybe understand a couple of things better. You say you don't expect to sort of revert to more normal levels over the second half. I guess -- or at least over the year. And is that just because half the year is done? Or what are you seeing something different maybe structurally? What's driving that expectation? And what would you consider a more normal level to be?" ] }, { "name": "Jeff Harmening", "speech": [ "I think what drives our assumption, Michael, and frankly, it is an assumption, is that we still see the conditions for an elasticity -- relative inelasticity, not complete inelasticity, but relative inelasticity in the marketplace. And those conditions are a continuation of inflation. And even if they're not what we experienced in the first half, they're still double digit. The second is the supply chain, still having supply chain disruptions.", "Again, our service level is in the high 80s. So, that's certainly a lot better than they were a year ago, which was where they were in the 70s, but it's certainly not at 98% either. So, a continuation of supply chain challenges. And also, consumers to be under pressure.", "In fact, it's highly possible consumers will be under more pressure over the next six months. And when that happens, consumers tend to eat at home more rather than eat out more. And so, it's very possible we'll see -- continue to see trading into food eaten at home. So, those are the factors that we see and drive our assumptions that there won't be a significant change in elasticities over the next six months.", "But look, those are the assumptions based on what we see right now." ] }, { "name": "Michael Lavery", "speech": [ "OK. Great. That's helpful. And I know China is fairly small, but just would love to get an update on maybe what you're seeing there.", "Obviously, in the second quarter, there were some of the lockdown, I guess, pressure or the -- certainly, food service challenges from those restrictions. As it's kind of evolving there, any update on the latest of what you're seeing in China and how we should think about that?" ] }, { "name": "Jeff Harmening", "speech": [ "Well, there's been a fairly significant policy change by the Chinese government on COVID and zero COVID. And it's going to be a ride, I think, for the next few months because we've had a population that's gone from relatively no COVID to quite a bit of COVID in the marketplace. And so that now people don't lock down as much. But I think when you have as much COVID as they have, we'll see not as many people venturing out, which is very good for our Wanchai Ferry dumpling business, which is half of our business and not as good for our Haagen-Dazs business.", "And so, I want to think about that business over the next few months, I think it's going to be a wild ride. But I would think that our dumpling business will do quite well. And our Haagen-Dazs business will maybe be a little bit more challenging over the next few months, but they're about equal in size." ] }, { "name": "Michael Lavery", "speech": [ "Since they pivoted on policy, they've conveniently stopped giving information on case counts. But so, I guess, yeah, is it pretty chaotic there? I mean, I guess we're just in for a few months of some uncertainty, but it sounds like you're positioned on either side of that pretty well." ] }, { "name": "Jeff Harmening", "speech": [ "I think so. I think in the grand scheme, it won't be material for General Mills, the shift from one to another. It may be a little more material for our Chinese market, but it won't be for the company in aggregate. In terms of the case counts, I don't know, but they're clearly going up, and they're going up, they're going up rapidly for the moment." ] }, { "name": "Michael Lavery", "speech": [ "OK. Thanks so much." ] }, { "name": "Operator", "speech": [ "Our next question comes from Pamela Kaufman with Morgan Stanley. You may proceed." ] }, { "name": "Pamela Kaufman", "speech": [ "Hi. Good morning. I wanted to come back to the pet segment. And just to revisit what gives you confidence that you can return to double-digit growth in pet in the second half of the year.", "And can you decompose how you're thinking about the drivers of that growth? I mean, can you grow volumes with the capacity that you've secured? Or do you expect volumes to continue to decline with the growth driven predominantly by the pricing?" ] }, { "name": "Jeff Harmening", "speech": [ "So, Pam, what gives me confidence are a combination of factors. And I think the key -- the first key factor is the restoration of our supply chain and of our capacity. And this particularly important in our treats area, and -- but it's also important for dry dog food and cat food as well. But I would start with treats and then go to dry dog and cat food.", "So, the first piece of confidence is that we have gained enough capacity to actually be able to grow volumes in the second half of the year on both of those platforms. And so that's the first piece. The second, though, then it has to be backed up by good marketing. I feel really good about our innovation, really good about what we're doing on the Wilderness brand, I feel good about our change to Tastefuls and cat dry food.", "I feel very good about our partnerships with our retail customers to get our treats business kick-started again. We have great products on treats. We've rebranded a lot of what we had bought from Tyson to Blue Buffalo. And so, the branding is really good.", "We've got good programs with our retail customers. So, I feel good about our ability to drive our treats business. And then we're going to increase our brand building by double digits. And we've actually already seen a return to volume growth on Life Protection Formula, and we didn't have innovation on that.", "We didn't have advertising increases on that. All we had is supply. So, I feel like the key is supply and then building on top of that really good innovation, strong in-store execution on treats, and good advertising at good levels on top of that, that gives me quite a bit of confidence that we'll be able to turn around the Blue Buffalo business in short order. And as we've seen through this whole time, even though our second quarter was not what we wanted and not what you all expected, the brand remains really good.", "And we've done a lot of brand testing. The brand remains really good. The trends toward humanization are really good. So, the tailwinds in the category are still there for us behind a good brand and increased supply and marketing." ] }, { "name": "Pamela Kaufman", "speech": [ "OK. That's helpful. And you pointed to a lot of innovation that's coming within the pet segment. Is there anything in particular that prompted your plans to step up innovation or were these initiatives already in the works? And how should we think about the margin impact of the innovation? You mentioned you're adding more meat to Wilderness.", "How are you planning to offset these costs? And what is the margin profile versus the existing portfolio?" ] }, { "name": "Jeff Harmening", "speech": [ "Well, I would say on the innovation front, we've had innovation that we've been willing to put in the marketplace for some time. But obviously, we haven't been able to supply the base business where we wanted to. So, adding innovation on top of that is probably not a good idea. In fact, I think the people listening should take a sign of confidence that we can supply our business better because we're bringing this innovation to the marketplace.", "And we certainly wouldn't do that if we didn't think we could supply it. That would be my first point of innovation. So, we've had this plan for a while. When it comes to the product renovations themselves, I mean, Wilderness is a high-priced, high-margin business.", "And so, to the extent that the pet parents want more meat in the product, which they do, and we're giving that to them. That should do wonders for our margin profile. In fact, I would tell you that the most important thing that we can do to enhance our margins in pet is to grow pounds. And so, to the extent that we have the supply and the news on a high-price, high-margin brand, that should be just what the doctor ordered for the margins for the pet business." ] }, { "name": "Pamela Kaufman", "speech": [ "Great. Thank you." ] }, { "name": "Jeff Harmening", "speech": [ "Yup." ] }, { "name": "Operator", "speech": [ "Our next question comes from Chris Growe with Stifel. You may proceed with your question." ] }, { "name": "Chris Growe", "speech": [ "Hi, good morning." ] }, { "name": "Jeff Harmening", "speech": [ "Hi, Chris." ] }, { "name": "Chris Growe", "speech": [ "Hi. I want to start first, if I could, with a question on the gross margin, perhaps for Kofi, but just to understand, the sequential change in the gross margin from 1Q. And again, your gross margin was up nicely year over year, and that's been quite unique in the industry. I just want to get a sense of any factors that are worth considering that occurred sequentially.", "And obviously, the one that stands out, I think, would be around pet. Was that one of the sequential drivers of the softer gross margin absolute performance or any other factors that are worth noting there, if you could, please?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure, Chris. You have the plot. Certainly, pet is a contributing factor, but there are also some other structural things around mix of our business as we move from Q1 to Q2. We have a lot more volume from businesses such as soup and baking products, which is, as you know, are heavily merchandised in that seasonal window, so those tend to drive us to a structural step-down in margin as we move from Q1 to Q2.", "And the other factor, as you rightfully noted, was the acute pressure on pet margins in this quarter." ] }, { "name": "Chris Growe", "speech": [ "OK. Thank you for that. And I just had one more follow-up on the pet profit. And you had indicated that the second quarter would be a little softer.", "You had some costs related to getting third parties and co-manufacturing ready, some inventory, and warehousing costs. I guess I just want to get a sense of this second quarter pet profit performance was unique. You'd planned on some of that occurring. So, are a lot of those costs then sort of embedded in the business? Do you have any ongoing costs related to the co-manufacturing outside just that's a lower margin way to supply your business?" ] }, { "name": "Kofi Bruce", "speech": [ "Sure. So, I would expect some of those costs to be structural for sure as we go forward. We'll have external supply chain costs related to the step-up in volume that we're getting. But not all of those costs will carry forward.", "Some of these costs were related to disruption and enrollment of additional warehousing capacity in that window. So, we would expect, in aggregate, that the drag from those costs will reduce as we step into Q3 and Q4 for this year, which is part of the reason why we also expect profit growth and profit margin improvement as we step into those quarters." ] }, { "name": "Chris Growe", "speech": [ "OK. Thank you for the color." ] }, { "name": "Kofi Bruce", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Our next question comes from David Palmer with Evercore ISI. You may proceed." ] }, { "name": "David Palmer", "speech": [ "Thanks. Just another angle on that gross margin question. If we look at this quarter, your gross margin is still down maybe 80, 100 basis points from pre-COVID levels, tons of cross-currents there, but I'm wondering how you're thinking about that gap and your ability to get back to pre-COVID levels on gross margin. And the things I'm thinking about are you mentioned the supply chain friction costs, but there's going to be maybe some categories out there where you're going to be pricing to protect profit dollars.", "And so, there's some math going against you. So, I'm wondering if you'll need to see some easing in some key commodities in certain categories. But the other thing I'm also thinking about is you've had some very strong growth in some of your highest-margin categories. So, I could imagine a scenario that you'd be -- particularly as you're doing as well as you're doing with dough that you could be above past peak as you get past some of these friction costs.", "So, any commentary there would be helpful." ] }, { "name": "Kofi Bruce", "speech": [ "Sure, sure. I'll try to do justice to your question. So, as you think about the path forward, obviously, you hit on the first thing and sort of one of the precedent conditions will be a return to something that is a much more stable and closer to historical level of supply chain disruptions. We're still probably running about two times our historic levels well off of the peak of six to seven times where we were last year, but still enough to be meaningful and significant.", "And we would also expect that once we get out of a short-supply environment, it will be easier to get at HMM and more fully utilize that lever. And that we would expect some of the pandemic-era costs related to servicing the business in a more stable environment will become easier and lower. So structurally, we view our job to kind of claw back about 150 basis points of margin versus our sort of pre-pandemic level. I think the stable environment from a supply chain standpoint will be one of the first and the most important things.", "And then second, it will be probably a return to more historic levels of inflation, moderation of inflation, which -- who knows when that's coming. But we're certainly positioning our business to make sure that we're taking the cost out as we have the opportunity to do so." ] }, { "name": "David Palmer", "speech": [ "And just a separate follow-up. You talked about investments in your prepared remarks in digital and other capabilities. Could you just give us a sense about what you think the benefits will be from those investments and when and where we'll see that? Thanks." ] }, { "name": "Kofi Bruce", "speech": [ "Sure. So, a lot of the focus of our investments in digital and technology to enable our marketing activity and as well our supply chain efficiency. So, we'll see benefits both in gross margins, and we would expect to see that deliver on growth. And then, I'll ask Jon if he wants to weigh in since we're seeing a lot of investment in our North America retail business." ] }, { "name": "Jon Nudi", "speech": [ "Yeah, absolutely. So as Kofi mentioned, supply chain is a big focus and there's a lot of opportunity for efficiency there. Now, the marketing side is really something we call connected commerce, and it's really the funnel -- the top of the funnel is how we generate demand. And in a digital world, more and more of our marketing is becoming digital marketing, performance-based marketing.", "So, we've invested heavily to acquire first-party data and really make sure that we have a strong marketing engagement platform that we can then serve up relevant messaging at scale and really customized for our consumers. We're seeing really incredible returns from that. Further down the funnel, at the bottom, was actually the transaction that we're kind of ambivalent whether it's in-store or online. The margins are the same.", "We actually overindex from a share standpoint online. But we've developed quite a few digital tools to really understand the digital shelf. We grew up in a world that -- a bricks-and-mortar world that we understand Nielsen and the drivers of our business, digital is different, right? So, we had to develop the dashboards for our teams to really look at the metrics that matter, make sure the digital shelf is correct, make sure that our search metric is where they needed to be. And a lot of that is now digitized.", "It's on our leaders' computers every day in a dashboard form, and they're making real-time adjustments to the business. So, I think you're seeing it actually translate into strong performance in the market today, and will continue to become even more sophisticated as we move forward and continue to invest in this capability." ] }, { "name": "David Palmer", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Cody Ross with UBS. You may proceed." ] }, { "name": "Cody Ross", "speech": [ "Good morning. Thank you for taking our questions. Can you just clarify or quantify how much the retailer inventory reduction was in pet this quarter? And then also, I apologize if I missed it, which channels or retailers was the inventory reduction in?" ] }, { "name": "Jeff Harmening", "speech": [ "I'll answer the first part of that question for you. The second one, I'll take a polite pass. On the first part, our retail sales, Cody, were about -- up about 8% during the quarter, and our reported net sales were flat. And so, the difference between that 8 percentage points was a reduction in retailer inventory for the variety of reasons that I stated earlier.", "In terms of which customers and retail, I'm not going to get into a customer-by-customer kind of dissection of that." ] }, { "name": "Cody Ross", "speech": [ "Understood. Thank you for that. And then you mentioned in your prepared remarks adding capacity in fruit snacks and in pet treats and dog food. Can you just discuss holistically across your business how much capacity you are adding? And can you walk us through the planning and analysis that is done to determine which categories that you choose to add more capacity in? Thank you." ] }, { "name": "Jeff Harmening", "speech": [ "Yeah. From a high level, I mean the -- what I would tell you, the best returns that we can generate as a company are adding capacity on platforms that we already know and that are already growing. And the litmus test for me is that if they're growing before the pandemic and they're growing during the pandemic, the chances they grow after a pandemic are quite a bit higher. And you see that in our pet food business, you see that in fruit snacks, you see that in Totino's, you see that in Old El Paso.", "And so, we have a variety of businesses. You've seen that in our cereal business. And so, we have a variety of businesses that we've seen continued growth, and we've run out of capacity. And frankly, as soon as we've generated capacity, I think fruit snacks is a good example.", "We've added capacity and you will probably need more given the high level of demand. So that's kind of how we look at it. We make sure that all of these growth investments are value enhancing for our shareholders. But to the extent they're growth businesses and are good margin businesses and all of the above are -- meet that criteria, then we're more than happy to invest in our own internal capacity." ] }, { "name": "Cody Ross", "speech": [ "Thank you very much for that. I'll pass it on." ] }, { "name": "Jeff Harmening", "speech": [ "Thank you." ] }, { "name": "Jeff Siemon", "speech": [ "OK. I think that's all the time we have for this morning. So, Kelly, I think we can go ahead and wrap up. Thanks, everyone, for the time and the good questions, and happy holidays to everyone." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
GIS	2019-09-18	[ { "description": "Vice President, Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Donal L. Mulligan", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Wells Fargo -- Analyst", "name": "John Baumgartner", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "David Palmer", "position": "Analyst" }, { "description": "Guggenheim -- Analyst", "name": "Laurent Grandet", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "Piper Jaffray -- Analyst", "name": "Michael Lavery", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" }, { "description": "Bernstein -- Analyst", "name": "Alexia Howard", "position": "Analyst" }, { "description": "Bank of Montreal -- Analyst", "name": "Ken Zaslow", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Bryan Spillane", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Steve Strycula", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the First Quarter Fiscal 2020 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded Wednesday, September 18, 2019.", "I would now like to turn the conference over to Jeff Siemon, Vice President of Investor Relations. Please go ahead." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Melissa, and good morning everyone. Thanks for joining us for the General Mills first quarter earnings call. I'm here with Jeff Harmening, our Chairman and CEO; Don Mulligan, our CFO; and Jon Nudi, who leads our North America Retail segment who is here for the Q&A portion of the call. Before I turn it over to them. Let me cover a few housekeeping items.", "A press release on our Q1 results this morning was issued over the wire services, and you can find the release and a copy of the slides that supplement our remarks this morning on our Investor Relations website. Please note that our remarks this morning will include forward-looking statements that are based on management's current views and assumptions. The second slide in today's presentation was factors that could cause our future results to be different than our current estimates.", "And with that, let me turn it over to my colleagues beginning with Jeff." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you, Jeff and good morning everyone. Our first quarter net sales performance included encouraging improvement in North America Retail and strong growth in our Pet segment driven by good innovation and effective brand building investment. We got off to a slower start in our other segments and we expect top line improvement in those segments and for the company starting in the second quarter.", "On the bottom line, we delivered profit and earnings growth ahead of our expectations while continuing to invest in our brands and our capabilities. We remain on track to deliver our fiscal 2020 goals, including accelerating our organic sales growth, maintaining our strong margins, and reducing our leverage.", "Slide 5 summarizes our first quarter financial results. Net sales totaled $4 billion, down 2%. Organic net sales declined 1% with lower volume, partially offset by a positive price mix across all operating segments. Adjusted operating profit grew 7% in constant currency driven by a one-time purchase accounting adjustment in the Pet segment in last year's first quarter. Adjusted diluted earnings per share totaled $0.79 and grew 13% in constant currency driven by higher profit and below the line favorability.", "As a reminder, we outlined three key fiscal 2020 priorities on our Q4 earnings call. First, we'll accelerate our organic sales growth. We're working to improve growth in North America retail by maintaining momentum on Cereal and U.S. Yogurt and U.S. Snacks. We're also focused on driving another year of strong growth on Blue Buffalo. We delivered solid results for these segments in the first quarter. The results in our remaining three segments were below our expectations. In a few moments, I'll share how will step up the company's organic growth rate starting in Q2.", "Our second priority is to maintain our strong margins, and we delivered positive results here in Q1. And our final priority for 2020 is to maintain a disciplined focus on cash to achieve our fiscal 20 leverage target and we had a good start to the year on this measure as well. With these priorities in mind, I'll cover our Q1 segment results in detail. With a particular focus on the top line before turning it over to Don to review our performance on margins and cash flow.", "Turning to the components of net sales growth on Slide 7, organic net sales were down 1% from a year ago, driven by a lower volume, partially offset by a positive price mix across all five segments. Foreign exchange was a one point drag in the quarter. First quarter organic sales for North America Retail were flat compared to the prior year which was a two point improvement on our fourth quarter trend. And we delivered net sales improvement across most of our operating units. In U.S. Cereal, we maintain our positive momentum with net sales up 1%. We saw early traction in U.S. snacks with net sales down 1% compared to a 4% decline in fiscal 2019.", "U.S. Yogurt net sales were flat to last year and I'm happy to say that our strategic revenue management actions drove one point of positive price mix. Constant currency segment operating profit increased 2% in the first quarter driven by benefits from HMM cost savings and positive price mix, partially offset by input cost inflation and higher brand-building investments. Our end market performance in North America -- North America Retail also stepped up in Q1.", "As you can see on Slide 9, we've driven a steady improvement in our two year retail sales trends since fiscal '17. In the first quarter, our U.S. Nielsen-measured retail sales were flat versus a year ago and we held our -- held or grew share in 5 of our 10 largest categories including Cereal, Refrigerated Dough and soup. We know we still have room to improve, including some key categories like yogurt and snacks and we'll continue to focus there to strengthen our overall growth profile.", "Let's dive into a bit deeper into our first quarter performance in North America Retail starting with Cereal. We grew U.S. Yogurt retail sales in fiscal '18 and '19 and a result accelerated in the first quarter with retail sales up 1%. We outpaced the category, expanding our share leadership position through increased investment behind compelling consumer ideas such as our cereal heart health campaign and strong in-store execution and events. We also had another impressive quarter on innovation, with the top five new products in the category, including Blueberry Cheerios and Cinnamon Toast Crunch Churros. I am very pleased by our performance in U.S. cereal, and I'm excited about the plans we have for the rest of the year to continue our momentum. We're executing well on the fundamentals of innovation and brand building, and we'll continue to drive the levers in the rest of the year.", "Last year, we improved U.S. Yogurt retail sales behind our strategy to expand in the faster growing segments of the category and to support our core with brand building investment and on-trend equity News. In fiscal '20, we'll continue to improve U.S. Yogurt with a strong lineup of innovation, brand building and product news. Through the first three months of the year. Yogurt retail sales were down 2% we drove retail sales growth on the core with Original Style Yoplait flat to last year and Go-GURT up 13% due to increased distribution on Go-GURT dunkers and Go-GURT simply as well as strong back-to-school merchandising.", "This simply better segment, which now represents 12% of the category continues to be an attractive growth space. We drove 8% retail sales growth on our products in this segment behind our better tasting YQ product reformulation, which now prominently features the protein benefit on the updated packaging. And we launched into the growing beverage segment with our new Yoplait smoothies. In total, we like the news and innovation we're bringing to the U.S. Yogurt category this year to drive further improvement in our retail sales trends.", "Turning to U.S. snacks. We have a long track record of growth on this business. However fiscal '19 was certainly a more challenging year. In fiscal 20, we're focused on improving our performance behind innovation, renovation brand building support, and in-store execution. In the first quarter retail sales were down 2% cutting our fourth quarter declines in half. Retail sales trends for Nature Valley improved each month during Q1 driven by positive results of our wafer bar innovation and a stronger back-to-school merchandising season.", "Retail sales for Fiber One have also improved each month since we reformulated the product line could be more relevant for modern weight managers. While we are still have distribution losses from earlier this calendar year. Our grocery turns per point of distribution have stepped up in recent months. For the remainder of the year, we'll continue to execute our F20 plans on bars and we expect to see continued retail sales improvement. We're focused on competing effectively everywhere we play, including our profitable $4 billion U.S. Meals & Baking operating unit. First quarter retail sales for Old El Paso grew 5% due to increased distribution, consumer news and merchandising, as well as price realization across channels. We returned soup to both retail sales and share growth in the first quarter. We drove retail sales up 2% due to broad-based strength in the soup portfolio, and we have solid plans in place for the upcoming soup season. We had a great year on refrigerated dough in fiscal '19 and that performance has continued into this year. First quarter retail sales were up 2% and market share increased by a four point driven by distribution gains and in-store execution behind innovation.", "In total, we're off to a good start on these businesses and we think -- we will think it was step up to have a successful year on U.S. Meals & Baking. Overall, we're encouraged by our first quarter results in North America Retail and we're focused on the right priorities to improve organic sales growth in fiscal 2020. Shifting gears to Pet, I am pleased to say that we had a great first quarter, with net sales up 7%. This includes lapping an extra week of reported results in last year's first quarter. Excluding this timing difference, net sales were up in the mid teens. Our growth was led by our expansion into the food, drug and mass channel and we generated seven points of positive price mix in the quarter. Looking at end market performance we drove all channel retail sales up low double-digits and we grew share again in the quarter. First quarter segment operating profit totaled $81 million compared to $14 million a year ago, driven by the $53 million purchase accounting adjustment in last year's Q1, as well as higher net sales this quarter.", "On Slide 15 you can see how the key components of our double-digit retail sales growth and breakout by channel. Retail sales were up more than 100% in the food, drug and mass channel as we benefited from our expansion to new customers and the launch of Wilderness and food, drug and mass on last year's fourth quarter. Importantly retail sales for food, drug and mass customers who have carried Blue more than 12 months were up 50% versus last year. As we expected retail sales in Pet Specialty continue to decline by double digits. This is an important channel for Blue and we continue to support the channel, through unique programs and innovation.", "For example, we're launching Carnivora, a new super premium offering for pets exclusively into the Pet Specialty channel. We also have plans to execute exclusive programs in this channel later this year, including our new baby Blue program which will tell you more about next quarter. And Blue continues to win in the rapidly evolving e-commerce channel with retail sales up 20% in the quarter, resulting in further market share gains. We remain on track to deliver 8% to 10% like-for-like growth for our Pet segment this year. We're also focused on successful leadership transition as Billy Bishop moves into a Founder and Brand Adviser role in January and Bethany Quam currently, President of our Europe and Australia segment assumes day-to-day management of the Pet segment.", "We remain confident in this business and are excited about the growth prospects ahead. In the Convenience & Foodservice segment, organic sales were down 4% in the quarter, primarily driven by lower bakery flour volume and the negative impact of flour index pricing, both of which resulted from a decline and underlying week process -- prices during the quarter. Despite near-term pressure from flour, we continue to drive good growth on our higher margin Focus 6 platforms. Net sales for these platforms were up 2% in the first quarter, driven by strong performance in the K-12 schools including our new two ounce equivalent grain cereals and our book Yoplait yogurt.", "Segment operating profit in Q1 declined 6% from year ago levels that were up 14%. In Europe and Australia, organic sales declined 5% due primarily to a challenging retail environment in France impacting yogurt and ice cream. Where we were unable to secure agreements with some key accounts on inflation driven price advances resulting in lost distribution. Additionally, we had a headwind in the UK and France, driven by changes in merchandising timing. On a positive note, we drove good retail sales growth on Snack Bars and Old El Paso behind innovation and consumer news. First quarter segment operating profit decreased 15% in constant currency driven primarily by the timing of brand building expense and lower volume, partially offset by positive price mix.", "In Asia and Latin America, organic sales declined 3%. Sales in our three key emerging markets, Brazil, India and China fell short of our expectations in the quarter. In Brazil, we saw retailers draw down inventories early in the quarter. In India, we changed our route to market to focus on more strategic and profitable distribution and in China, we saw lower volumes on Haagen-Dazs due to slower consumer traffic and shops and our Wanchai Ferry due to pricing actions we implemented to cover significant pork inflation.", "First quarter segment operating profit in Asia and Latin America totaled $10 million down $2 million versus a year ago, primarily due to lower net sales. Looking ahead, we expect to drive improved organic sales trends for the company beginning in Q2. Slide 19 summarizes our key focus areas by segment, in North America Retail we'll continue to focus on maintaining momentum in U.S. cereal while improving U.S. yogurt and snacks. In Pet, we'll continue to drive strong retail sales growth in the food, drug and mass and e-commerce channels and we'll execute exclusive innovation and programs in Pet Specialty.", "In the remaining three segments we'll see acceleration in our organic sales growth starting in Q2. In Convenience & Foodservice improvement will be led by our Focus 6 platforms we will -- where we'll benefit from strong innovation in schools and Convenience Stores. We also expect bakery flour volume will improve, that we continue to expect index pricing on flour, which is profit neutral to be a drag on net sales. In Europe and Australia were benefit from increased merchandising and we'll continue to drive strong performance on Snack Bars and Old El Paso. We'll also lapped the impact of our distribution loss on Haagen-Dazs in the second half of the year.", "In Asia and Latin America, the retail inventory in Brazil and distribution headwinds in India that we experienced in Q1 are largely behind us. And we expect to see improvement in the second quarter driven by new strategic revenue management actions and increased levels of innovation from Haagen-Dazs cones in Asia, Betty Crocker ready snacks in the Middle East and new spicy dumplings in China.", "With that, I'll turn it over to Don to review our Q1 performance on margins and cash flow. Don?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Thanks, Jeff, and good morning everyone. Let me begin on Slide 21 by summarizing our joint venture results in the quarter. CPW posted top line growth for the fourth consecutive quarter with constant currency net sales up 2%. CPW's growth was broad based with continued momentum in the UK, Australia and the Asia, Middle East and Africa regions. As well as a return to growth in Latin America. Haagen-Dazs Japan net sales grew 6% in constant currency driven primarily by the growth in core Minicups in a comparison to a double-digit decline in last year's Q1. First quarter combined after-tax earnings from joint ventures, totaled $22 million compared to $18 million a year ago driven by lower restructuring charges at CPW and higher net sales, partially offset by higher brand building expenses.", "Turning to total company margins on Slide 22. First quarter adjusted gross margin and adjusted operating profit margin were up 160 basis points and a 130 basis points respectively. Driven by benefits from positive price mix in all segments and last year's $53 million purchase accounting inventory adjustment in the Pet segment. Input cost inflation and Holistic Margin Management cost savings were largely offsetting in Q1. And for the full year, we continue to expect input cost inflation in HMM to be 4% of cost of goods.", "Slide 23 summarizes other noteworthy Q1 income statement items. Corporate unallocated expenses, excluding certain items affecting comparability increased by $22 million in the quarter. Net interest expense decreased $15 million driven by a lower average debt balances and lower interest rates. The adjusted effective tax rate for the quarter was 20.9% compared to 22.7% a year ago driven by international discrete tax benefits in fiscal '20. In Q1, average diluted shares outstanding were up 1%.", "Slide 24 provides our balance sheet and cash flow highlights in the quarter. Our core working capital totaled $624 million, down 7% versus last year's first quarter, driven by continued improvements in accounts payable. First quarter cash flow from operations was $572 million, down 6% from last year, driven largely by slower core working capital reduction versus last year's Q1, partially offset by higher net earnings. Capital investments totaled $70 million and we paid $298 million in dividends in the quarter.", "As detailed on Slide 25. We remain on track to deliver our fiscal '20 guidance. We expect organic net sales to increase 1% to 2% with an updated view on foreign currency, we now expect the combination of currency translation. The impact of divestitures executed in fiscal '19 and contributions from the 53rd week in fiscal 20 to increase reported net sales by approximately 1%.", "Constant currency adjusted operating profit is expected to increase to 2% to 4%. Constant currency adjusted diluted EPS is expected to increase 3% to 5% from the base of 322 earned in fiscal '19. We currently estimate this foreign currency will be immaterial to adjusted operating profit and adjusted diluted EPS. We continue to target free cash flow conversion of at least 95% of adjusted after-tax earnings and we remain on track to achieve our leverage goal of 3.5 times net debt-to-adjusted EBITDA by the end of the fiscal year.", "Now, I'll turn it back over to Jeff for some closing comments." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thanks Don, and before we close, let me add a little bit of more color on our Q1 results relative to our expectations. We feel very good about our performance in North America, Retail and in Pet. Where our Q1 organic sales results were modestly ahead of our expectations. Our other three segments, we expected coming into the year that Q1 will be the slowest quarter of growth driven in part by the fact that we were lapping our strongest quarter of growth for each of these segments last year.", "Our Q1 results in these segments were a bit below our expectations, largely driven by the shortfall and flour and Convenience & Foodservice and the retail inventory reduction in Brazil. We had expected and continue to expect to see growth ramp up in these segments starting in Q2 driven by the factors I mentioned a moment ago. On the bottom line, our Q1 profit and earnings per share results were ahead of our expectations and based on those Q1 results and our plans for the remainder of the year, I am pleased to say that we remain on track to deliver our full-year fiscal 2020 goals.", "With that, let me open up the line for questions. Operator, can you please get us started." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Our first question comes from the line of Andrew Lazar with Barclays. Your line is open. Please proceed." ] }, { "name": "Andrew Lazar", "speech": [ "Hi, good morning, everybody." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Andrew." ] }, { "name": "Andrew Lazar", "speech": [ "I guess first half with organic sales in fiscal 1Q, particularly in the three segments, you talked about a bit below expectations. I guess in order to get back to your own sort of original internal plan for the year. Would you expect that to come from really more a recovery in the international and CS&F segments? Or anticipating North America Retail and Pet need to maybe bear a little bit more of the weight around accelerating than initially planned?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "So, Andrew, the first thing I would say is that we -- we did reiterate guidance for the full year of 1% to 2% growth, and we feel good about that, because as I said, primarily the two things that we're different than what we expected. We're flour index pricing on the flour and retail inventory in Brazil and the retail inventory in Brazil, we think we'll correct itself starting in the second quarter, which leaves the retail flour piece the index pricing on flour really the biggest difference versus expectations.", "As we head into the rest of the year, we fully expect without giving guidance on each and every segment, we fully expect that the segments that were below our expectations we'll improve significantly in the second quarter and I would say we've got good momentum on pet and we've got good momentum on North America Retail, which are our most profitable businesses and I don't see any reason why that momentum shouldn't continue into the second quarter as well." ] }, { "name": "Andrew Lazar", "speech": [ "Got it. And that's helpful. I appreciate it. And then just lastly would be, I think in fiscal '19, you had mentioned that about in North America, Retail and maybe this is best for Jon, I think 7 of 10 categories held or gained share. I think this quarter it was 5 of 10. I know that can move around, probably quarter-by-quarter, but anything to read into that, that we need to think about as we go forward through the year? Thanks so much." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, hi, Andrew, I guess, overall, I'd say the short answer is no. We feel really good about the trajectory of our business. At Investor Day, we said we wanted to do three things, one is continue our momentum on the Cereal and we did that in Q1, up 1% we feel really good about that. And then we wanted to improve our performance in Snack Bars and Yogurt, and we were able to accomplish that as well. So again, we feel very much like we are on track again quarter-to-quarter, you have some levels and share, but overall, we feel like we're performing well and are on track for what we expect for the year." ] }, { "name": "Andrew Lazar", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of John Baumgartner with Wells Fargo. The line is open. Please proceed." ] }, { "name": "John Baumgartner", "speech": [ "Good morning, thanks for the question. Jon, just looking at the narrowed gap between shipments and takeaway in North America in the quarter. I think the outlook for fiscal '20 was that you continue to see retailer destocking. So, are you seeing anything there improving a bit sooner than expected? Or are there any discrete benefits in terms of Q1 shipments that may be reverse or moderate going forward." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes. So. Hi, John. As we mentioned in fiscal '19, we sell about a point gap between R&S and Nielsen really driven by retailers focusing on reducing the working capital and inventories. We expect that to continue it's not readily apparent, but due to rounding we still sell about a half-point gap in Q1 between R&S and movement and we do expect to see a gap throughout the year and again, we'll have to see how much of that is with the year plays out." ] }, { "name": "John Baumgartner", "speech": [ "Okay. And then just a follow-up on U.S. Yogurt. One pillar to that strategy is stabilizing Yoplait Light. I mean you're still cycling through some pretty big year-on-year distribution losses there. It's been flat sequentially, I guess since January, I'm curious looking at the recovery in Go-Gurt, which also went through distribution losses grew back to mid single digit growth there. Do you have a sense of confidence that maybe once you get into the back half of fiscal '20 Yoplait Light does begin to at least stabilize back to the dollar growth overall? I mean is that kind of finding the bottom for distribution at this point." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Again, this one is -- I think is, yes. And as we look at our business -- our biggest businesses at Original Style Yoplait the red cup and that was flat actually grew slightly in Q1 and then Go-GURT is a really important Kid business for us as well. So we'd say that's the core. The tail is really Light and Greek. And Greek, for all intents and purposes, has very little comp left there. And then Light we do believe a stabilizing, and we've got some marketing that we're going to be rolling out throughout the year that we think can improve that. But if you look at other business. I would ask you to focus on again Original Style Yoplait and Go-GURT and then the simply better segment, which is where we think the category is going 12% of the category today, things like Oui and YQ, it's growing double digit, and where the share leader. We continue to introduce new products into that segment as well. So we feel good about our plans for yogurt. Again, coming out of Investor Day, we said we wanted to improve half of that down two in fiscal '19, we were able to do that in Q1. I feel like we have good plans in place to move forward." ] }, { "name": "John Baumgartner", "speech": [ "Great. Thank you for your time." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Ken Goldman with JPMorgan. The line is open. Please proceed." ] }, { "name": "Ken Goldman", "speech": [ "Hi, good morning and thank you. I wanted to ask two questions, number one. In terms of organic volume, I know you don't want to be too specific on quarters, but you did talk about the second quarter, getting a little bit better. You do have an easier comparison, there are some better factors as you mentioned in terms of Brazil and so forth. Is it reasonable for us to model in at least flat organic volume as you see it in the second quarter now or as it -- is it been a little bit optimistic?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, I think that we're certainly going to get better on organic volume and I see, you'll see the biggest change in that and actually and Convenience & Foodservice because we have flour is pretty heavy and we lost a lot of volume and Convenience & Foodservice. And so as we get our pricing back in line. And we see our innovation kicking in Convenience & Foodservice as you'll see a pretty good volume gain there because we won't have as much of a negative drag from flour and we've got some good innovation in K-12 schools." ] }, { "name": "Ken Goldman", "speech": [ "Okay. Thank you for that. And then I wanted to ask Jeff and Jon, you did talk about snacks, getting a little bit better from a percent basis, but if you look at the comparison, look at the two year, it did actually worsen, a little bit from the fourth quarter of '19. I'm just curious when can we think about a real turnaround in snacking when the absolute dollars start to rise and we start seeing legitimate improvement there because it feels like the improvement this quarter, perhaps was just on an easier comparison a little bit." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, so, Ken, this is Jon. If you look at our snack business only three key businesses, the first is Snack Bars and I want to dig into that in a little bit more detail. The second one is fruit snacks and the third is salty and then fruit salty, had a good Q1 combined in a group. Year-over-year we need to make sure that we continue that as we move forward, if you remember, we had capacity constraints on food in fiscal '19. We now have capacity, so we feel like we're going to accelerate on food as we move throughout the year. So we feel good about those businesses.", "I think the story is going to really be about Snack Bars and as we've talked, it's really about Nature Valley and Fiber One. On a Nature Valley in fiscal '19 our innovation wasn't where we needed to be and we missed the key back-to-school merchandising window. As you look at Q1 on Nature Valley we had a very good back-to-school in fact incremental and displays were up double digits in the month of August and our innovation is Krispy Kreme wafer bars and stuff so really good start. So you saw sequential improvement month-by-month on Nature Valley and we expect that to continue. And Fiber One that's been again a challenging business for us over the last three to four years with significant declines we renovated the product in the spring and are seeing some really encouraging results. So if you remember, we want to 70 calories on Fiber One Brownies, five grams net carbs, two grams of sugar and really get back in line with modern weight managers going from five Weight Watchers points to two. And the early results are quite encouraging. In fact, we've seen our turns per point of distribution of double digits having our distribution is down year-over-year. So that will be a bit of a drag. I think the inflection point from a distribution standpoint, we're really be the turn of the calendar year, as we lap some significant distribution declines in both Nature Valley and Fiber One. So we are encouraged, we believe that we're very much on or maybe slightly ahead of where we expected to be at this point on snacking and feel like we'll improve as we move throughout the year." ] }, { "name": "Ken Goldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of David Palmer with Evercore ISI. Please proceed." ] }, { "name": "David Palmer", "speech": [ "Thanks. Good morning. Just a question on Pet. Just looking at the numbers that we see in scanner data and also looking at those statistics you had on the other channels and wondering what you think we will be seeing in the coming quarters. We're seeing that SKU count going up a lot ACV is going up a lot. And then you mentioned specialty is down double-digits, but you have some new offerings going there and then e-commerce. So could you give us a sense of what we're going to see throughout this fiscal year by channel, and maybe the complexion of the growth. Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, David, you know I think you will see us continue to grow in the food, drug and mass channel especially through the second and the third quarter, behind distribution build that we have on life protection formula so increased distribution there as well as the rollout of wilderness across previously existing customers. And we're really pleased to see it in the food, drug and mass channel we have year-over-year growth, which I think is really important. So not only we gained distribution, but as consumers are starting to find more on that channel, they're really going to Blue Buffalo. So we like the growth we see in food, drug and mass and certainly over the next couple of quarters, we see continued growth in that channel. In the Pet Specialty channel as you noted, we had a double-digit declines in the first quarter we were certainly -- we certainly think that we'll probably still decline in those channels over the coming quarters, we will hope we'll get a little bit better as you can see we've got some innovation and things like Carnivora and like Baby Blue.", "We're still debt lapping some distribution losses, but we're starting to see some traction on some of our innovation in some of our marketing ideas and so as we go throughout the year, we would certainly expect for that channel, we get a little bit better. And then with e-commerce we feel good about what we're doing in eCommerce, I think, I mentioned at the end of last year that the e-commerce channel for Pet has slowed a little bit, but we would see an increase in this coming year, we thought, and that's exactly what we're seeing in our performance is good in e-commerce we have a high degree of confidence that will continue to grow and be the market leader in the e-commerce channel.", "And we have the only thing that I would add to that as you recall at our Investor Day, we talked about the calendar differences in Pet this year, so we had a one-week drag in the first quarter the Jeff alluded to in our comments. And then we'll have a one-month addition in the fourth quarter will also then be lapping the rollout to Walmart, in the beginning of the Wilderness expansion. So as we said at Investor Day, we expect Q2 and Q3 to be our strongest organic growth quarters ex the calendar changes." ] }, { "name": "David Palmer", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Laurent Grandet with Guggenheim. The line is open. Please proceed." ] }, { "name": "Laurent Grandet", "speech": [ "Hey, good morning, Jeff and Don, and thanks for the opportunity. So let me first focus on the other segments. In your remark [Phonetic], you mentioned you were off a slower staff, and that you were taking action to drive top line improvement in second quarter. I know you alluded to some of those, I mean in your comments, but could you please elaborate a bit more on those three different sub-segments and I have a second question, please." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Let's -- so go around, in Europe and Australia, what will improve in the second quarter, is that we will return to our increased merchandising levels because we really have lower merchandising level in the first quarter vis-a-vis a year ago. And so we had our strongest quarter of the year last year and Europe, Australia, and it was driven by two things, it's a strong ice cream season and higher merchandising levels will return to higher merchandising levels in the second quarter. So we have a high degree of confidence that in the UK and France to our biggest markets our performance is going to improve. We'll still be lapping some distribution losses on Haagen-Dazs. So it won't get all the way to bright, but it will improve significantly. In Asia & Latin America, the biggest thing that will change is going to be the trajectory in Brazil. We thought going into the year that are -- the retailer inventories will climb in the first quarter because last year we had a truckers' strike, as you may or may not recall. And while that is utilizing is materializing later than we had anticipated, and will see that pick up in the second quarter of this year, in fact, we have already started this year. And so Brazil will be the biggest change. The other, we mentioned India, that in India we pulled back on some distribution in the first quarter, we are planning on doing that, we pulled back faster than we thought. And what we see in the first quarter, it makes it for a tough first quarter it should make our second quarter better because we have already taken that distribution out.", "And then and Convenience & Foodservice, we certainly have a lot of confidence in that business and we've been growing that business over the last year or two will pick back up in the second quarter. It really is a matter, you can see our Focus 6 grew 2% that becomes a bigger part of our portfolio as kids go back to school and our K-12 business is strong and we've got great innovation there. And we've adjusted our flour pricing, so that will be less of a drag. And so we have a high degree of confidence that we'll return to momentum in our Convenience & Foodservice business." ] }, { "name": "Laurent Grandet", "speech": [ "Thanks, Jeff, very helpful. Second question is -- I'm done no disrespect to your retirement announcement, but one of the major events during the quarter was the announcement of Billy Bishop moving to an advisory role." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "No offense taken Laurent." ] }, { "name": "Laurent Grandet", "speech": [ "That's OK. Lot's of question about these from investors, I mean could you give us a bit more comfort that this transition would be as smooth as it can be? And explain a bit further the role of advisor that Billy will take." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. So that not -- it's a fair question you know Don commentary on Don not included, I think on -- for Billy, Billy I've been talking about this for quite a while this transition. So this is not a surprise transition for us, we had talked about the timing many months ago. And you know, one of the -- first I'll tell you, one of the things that allow us to do is to get what I consider to be a great backfill in for Billy and Bethany Quam, it was a terrific brand builder and knows a sales channel on marketing and really helped us get back on track and see that a few years ago. And so it allows, but who I think is a, some of the great back in place.", "The other thing I would tell you it's interesting when we decided to buy Blue Buffalo, when I first met Billy almost two years ago there are few things that made this -- seem like attractive opportunity, one was just the gross base of Pet and the growth of natural and organic, but beyond that, when Billy and I talked, it was interesting how similar the cultures of Blue Buffalo were to General Mills, and also how their strategy for growth paralleled our strategy for growth and how they think about brand building is very similar to ours. And so the underpinning of that hasn't changed with a new leader coming in and you know the growth strategy that Billy has outlined is one that we very much believe and we believe them of before we bought Blue Buffalo and so and the way they build the Blue Buffalo brand and you think about that brand is the same way we think about building our brands and the kind of leadership that billy provided we think that Bethany will provide", "In terms of advisor -- in terms of advisor, I'm excited to have Billy to come on -- to come on board as well as -- as well as the Dad goes senior as well as the brother, Chris. And so the business will still be an advisory capacity and -- provide a lot of Pet experience, lot of marketing experience, lot of new product experience. And this advisory role is nothing new for us. Gene Kahn stayed on for an advisor for many years on the Cascadian Farms in lower America and LARABAR. And so this role of advisor, especially a founder's is really important, they provide a lot of legacy knowledge about the business and we're thrilled that Billy and his dad and brother are going to stay on in that capacity." ] }, { "name": "Laurent Grandet", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Jason English with Goldman Sachs. The line is open. Please proceed." ] }, { "name": "Jason English", "speech": [ "Hey, good morning folks, and thank you for the question. So I want to dive into Pet a little bit more. We've heard that the Carnivora launches and recently well received by Petco and PetSmart, and it sounds like you're going to get around four feet of space. A couple of questions on that. A, is -- is that kind of consistent with your expectations. B, when will hit and you mentioned sort of a low double-digit retail sales off take versus a mid-single digit underlying shipment, was some of that delta that spread the result of early shipments sort of pipeline fill ahead of that. And if you are giving for fee, how -- can you give us some sort of context of proportionate to what you have now like how much incremental all in space do you expect to that channel?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "All right. So let me -- let me take those series of questions, Jason, and I'll try to hit all of them. In terms of Carnivora we're excited about the launch. Most importantly, it really start shipping in August and that's important because August in the Blue Buffalo calendar actually falls in Q2. So none of the Pet Specialty results that we just talked about for Q1 include Carnivora being in the marketplace. And so that's why, as we think about Pet Specialty -- we our initiatives you know improve the growth in that channel really starting in Q2 and Carnivora is a piece of that. The growth expectations you talked about certainly be consistent with what we would have in mind. We think it will be incremental. It is certainly accretive from a price per pound perspective because it is really premium priced even to wilderness. So to the extent that there is, steel from other product lines, I mean, it will certainly be price accretive for General Mills. And there's one more question you had that I -- but I [Multiple Speakers]. The difference in shipments really and consumption is that it's really the extra week is -- so it's not necessarily inventory build is really the extra week because our cover like-for-like sales were mid teens in terms of growth. And so the difference between that and retail and what we reported was really one extra week in our shipments lined up pretty well with our external take away." ] }, { "name": "Jason English", "speech": [ "Got it. Okay. I'm tracking. That makes sense to me. And in terms of the margin profile for the business relatively healthy even absent the step-up, the lumpiness of the inventory step-up cost. Do you still -- is that business, the profitability, still being burdened by the plant start-up expense? And could you remind us sort of the cadence to that start up and what sort of margin acceleration, we should see as you ramp capacity in this new facility?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Yes, we've largely through Q1 now digested the plant start-up costs. So the benefit of the new plant will begin coming through as you alluded to, we're pleased with the Q1 margin performance beyond just the step-up, just the increase of the lapping the inventory step-up charge from last year, we had nice flow through on the incremental sales that we saw on a like-for-like basis. We expect that to continue for the year. We expect this business -- and while we're talking, our business, to be -- going to be actually most profitable segments. And I think you'll see that is the year unfolds." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "(Multiple Speakers) I think to build on -- to build on Don's comment I think the other reason we saw good profitability in the first quarter was because of our pricing. I know there's been a lot of discussion on pricing and Pet, but we saw seven points of price mix and we saw all -- kind of all sizes of our Pet products improve in pricing in the first quarter. And while we sold 85% more of the small bag. We sold 220% more of the larger bags and so the, as we look at it. Our price per unit was up I think 15% or something like that. So in addition to what Don talked about in terms of the plan start-up. We also saw good pricing in the first quarter." ] }, { "name": "Jason English", "speech": [ "Got it. Thank you very much guys. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Michael Lavery with Piper Jaffray. The line is open. Please proceed." ] }, { "name": "Michael Lavery", "speech": [ "Good morning. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Michael." ] }, { "name": "Donal L. Mulligan", "speech": [ "Good morning." ] }, { "name": "Michael Lavery", "speech": [ "Could you just dissect price mix a little bit further, obviously there is a bit of a lift from just better momentum on Blue Buffalo and some of what you just referenced, within that segment as well, but are there any trade promotion timing shifts or anything we should watch out for. In terms of pacing. And then a separate from that. Can you just dissect a little bit what the drivers -- is it some of the more weight outs or list pricing, what are some of the mechanics of how you're building the good momentum you're getting there?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, I would say. Let me start with an answer. I mean pricing in Pet is probably the most complicated ventures because there are so many different sizes and formats available. And so if I go too far on the weeds, I'm afraid we may lose everybody. But what I say is that as we look at, we did take list pricing last January. So we did see some list pricing, we also saw some positive mix by bringing wilderness in. And the other thing I mentioned our small sizes less than five pounds we actually, increased the price of that over the quarter by 15% and the price per pound is pretty high, and the small bags. And we sold a lot more of the larger bags the 10 pounds to 20 pounds and we increased the dollar sales a load by 220%, And the pricing of that was up 9%.", "And so, and there are a whole lot of things going on. But I think that's why I read it back up to -- we get seven points of price mix and total and some of it was less pricing and some of it is mix and we think we'll continue to see some pricing into the next quarter on less pricing and we'll see some more on the, mix as well." ] }, { "name": "Michael Lavery", "speech": [ "And I apologize. That's very helpful color. I -- maybe I've worded it poorly. But I meant total company, with that being a piece. Can you just touch on some of the broader levers, just as far as the rest of portfolio?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Yes, Michael. This is Don. We continue to expect their price mix is going to be a positive contributor all year. Each of our segments have plans in place to drive price mix some through price, some through mix, some through a combination. I think if you look quarter-to-quarter, Jeff touched on some of the dynamics, you'll see in Pet. One of the things I would highlight is the other thing that we touched on was the shift in timing of our promotional [Phonetic] activity in EU, particularly in the U.K. and France, which is going to shift more into Q2 and Q1 on a year-over-year basis, that would be the other thing that I would point to.", "We also do not expect weak prices to rebound. So the drag that we saw for weak prices in the first quarter in C&F will continue to expect volume to improve at our flour, but not necessarily the pricing component. Some of the main other that I think you're going to see fairly consistent and positive pricing through the year, not certainly at the level of the Plus 3 we saw in the first quarter, but the full year we still expect it to be positive." ] }, { "name": "Michael Lavery", "speech": [ "Okay. Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Robert Moskow with Credit Suisse. The line is open. Please proceed." ] }, { "name": "Robert Moskow", "speech": [ "Hi, good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Robert." ] }, { "name": "Robert Moskow", "speech": [ "Hi, there. I've just two questions, one is your share gains in breakfast cereal have been really impressive, the execution has been great. Should we expect tougher comparisons for the rest of the year in terms of market share gains for breakfast cereal just because you're lapping some launches or do you think that you can continue that momentum. And then second question is on Convenience & Foodservice you know I get the impact of the flower, but your profits are down to in the quarter. And I was just wondering, I thought I remembered last year that you had taken pricing maybe ahead of inflation in your convenience store part of the business, and I thought that there was kind of a risk that. Okay. At some point that pricing would have to come back down. Am I misinterpreting that? Or should we assume that your pricing in convenience & Foodservice ex flour is still in line with inflation. Thanks." ] }, { "name": "Jonathon J. Nudi", "speech": [ "HI. Rob. This is Jon. I'll take the U.S. cereal question first. I would say we feel really, really good about our Cereal business in the U.S. we grew an absolute terms for the third consecutive quarter we've actually grown share for seven of the last eight quarters, and it's really behind very strong fundamentals starting with brand building, I tell you that we're more clear than ever on who are. Core consumers are for each of our brands, whether that be your boomers for having that cereals where we're serving up cholesterol messaging and heart health; whether it's being on Reese's Puffs, collaborating with Travis Scott; or finally, on Wheaties, doing things like partnering with Serena Williams and the U.S. women's national soccer team. I think our marketing is as strong as it's been for quite some time, and that's really driving our baselines.", "And then Jeff touched on the upfront remarks on innovation. We had five of the top six products in the category in fiscal 2019. And our innovation in fiscal '20 is off to a good start with Blueberry Cheerios and Peanut Butter Chex. So we would expect to continue to perform well and we fully intend to continue to hold and grow our share leadership in the category." ] }, { "name": "Robert Moskow", "speech": [ "Got you." ] }, { "name": "Donal L. Mulligan", "speech": [ "And Rob, on C&F, your recollection is correct. We did -- we start taking pricing at the end of our F '18, we saw the benefit of that in our Q1 of F '19 that's one of the contributors to the fact that we grew profit 14% last year, it would be top line 4% and the bottom line is 14%. And set pricing -- the pricing has held we are lapping it though. But we did have positive two points of price mix in Q1, which is a reflection of the fact that pricing has held, and we continue to expect with food service to have positive price mix for the full year." ] }, { "name": "Robert Moskow", "speech": [ "Okay. So we shouldn't expect kind of a give back on profits as a result of that. It's like you've taken the pricing you've held it and you're now in line with your inflation?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah, that's correct. We just in Q1, it was just lapping the initial -- initial in case of the price increase." ] }, { "name": "Robert Moskow", "speech": [ "Got it. Okay. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Alexia Howard with Bernstein. The line is open. Please proceed." ] }, { "name": "Alexia Howard", "speech": [ "Good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Alexia Howard", "speech": [ "All right. So just a couple of quick questions here, firstly on pets. I think one of the larger players, talked about increasing competitive -- increasingly competitive pricing in the Pet Specialty channel, particularly around trial-sized bags. Is that something that you saw? Or is it really just not something that particularly directly in competition with you clearly you've managed to take pricing and mixed up kind of across the board. But I'm just curious about those competitive dynamics in there. And then sticking with pet are you able to make any preparations for the likely increase in meat prices next year because of African swine fever? Or do you believed that your mix of meat is likely to mean that you're really not that exposed to that potential increase in input costs? Thank you very much and I'll pass it on." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. So, Alexia, on the pricing, first, I would say from a macro perspective, kind of starting with consumer, you don't win in the Pet segment by taking prices down. You win in the Pet segment by delivering what parents are looking for, which is one of the reasons why private label is so low in Pet. People are looking to feed their pets, the best quality product and we think in many cases that's Blue Buffalo. So that's kind of our starting philosophy. In terms of the small sizes, I can understand the commentary because our small sizes were -- by maybe one of our competitors, because our small size, growth was up 85% in the food, drug and mass channel. But our growth overall was up 137%. And the -- our small sizes are still in many cases are 100% premium to our largest competitor, so they're still premium priced.", "And the prices in the first quarter on the small sizes were actually up double digits on a price per pound basis. So when I look at it. Yes, we have more small sizes, but that's because we were growing more quickly in a new channel. It is certainly not our intention and it didn't manifest itself in the first quarter that we're going to be more competitive on price. And I think that's why I spent some time also referencing the price mix for us was up 7%. So in terms of being more competitive. I suppose, if you consider that we entered pretty, pretty forcefully into a new channel. Yes, it's more competitive in that sense, but on a pricing sense actually no." ] }, { "name": "Alexia Howard", "speech": [ "Great. And on the African swine fever?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Yes. To the extent that -- we're not going to give a forecast for next year's inflation. We'll take that into consideration as we're building the plan for next year. To the extent that we see inflation, we would have cost actions are pricing actions to offset it." ] }, { "name": "Alexia Howard", "speech": [ "Okay. Great. Thank you very much. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Ken Zaslow with Bank of Montreal. The line is open. Please proceed." ] }, { "name": "Ken Zaslow", "speech": [ "Hey, good morning everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning." ] }, { "name": "Ken Zaslow", "speech": [ "Are there any more initiatives? Or what's the runway on HMM? You don't talk as much about that as you used to, so I'm just trying to figure out, I know it's a consistent cost savings opportunity, but is there incremental opportunity. Is it still going at the same pace? Can you just give a little bit of parameters around that? And how much cost opportunities it will be, not just for this year, but going forward?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Yes. Ken, thanks for raising it. HMM is certainly one of our, I think, our key capabilities, and one that sometimes we take for granted. So I appreciate you raising it, because it is a strong contributor to our profit picture again it will be roughly 4% of our COGS this year, fully offsetting what is a bit of an elevated inflation period. As you will know the kind of most recent new capability or aspect of global sourcing of HMM that we implemented was our global sourcing. That continues to pay dividend, not only in our savings, but you saw it in our working capital as well with continued extension on our terms and accounts payable, so it has a double benefit for us.", "And we continue to add new capabilities. And as those manifest themselves and we have line of sight to the incremental savings that are available, we will certainly be vocal about that externally. As you look today, we are very comfortable with 4% of sales or 4% of COGS excuse me, as a solid runway for our HMM initiatives." ] }, { "name": "Ken Zaslow", "speech": [ "And then just my follow up is, can you talk a little bit about e-commerce? I didn't hear any details on that. I'm assuming it's still growing, but any sort of commentary on that would be helpful as well. I'll leave it there." ] }, { "name": "Jonathon J. Nudi", "speech": [ "So, Ken. This is Jon. Maybe I'll talk about North America Retail. We continue to see nice momentum in e-commerce it was up about 50% in Q1. In North America, we continue to over index online versus bricks and mortar as our capabilities are strong and again we're working hard to make sure we are top of the basket. And we feel like we've got great capabilities that are again helping us to be advanced in this space. Continues to grow nicely. We think we're well positioned." ] }, { "name": "Ken Zaslow", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Bryan Spillane with Bank of America. The line is open. Please proceed." ] }, { "name": "Bryan Spillane", "speech": [ "Hi, good morning everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Bryan, good morning." ] }, { "name": "Bryan Spillane", "speech": [ "Just one question from me I think at the top you talked a bit about just how in the first quarter, sales were a little below expectations for the reasons you cited in the places where you did, but actually profits running ahead of plan. So I guess could you talk a little bit about what's driving that. But I guess, more importantly, as we look through the rest of the year to the extent that profitability is running ahead of plan, would the bias be to spend that back especially given the success that you're having continuing the improvement especially in North American Retail? Is it just provide more flexibility in case stuff goes wrong? But just trying to get a sense of how we should interpret that?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Sure, Bryan. I'll do the full year first. And you think about the year, as we talked about in July, we expect our strong margins to be stable for the full year. There's a couple of factors to take into account. One is the purchase accounting adjustment, that was a Q1 plus. I talked about positive price/mix which will be a benefit all year. HMM and inflation will be largely offsetting through the year and our brand-building investment was up in Q1 and that will actually increase during the course of the year. So our strongest margins will be in Q1, largely because of the lapping the purchase accounting, but also because the brand building, while it was up, will increase during the course of the year. So that's why I think about the year how the margins are going to unfold." ] }, { "name": "Bryan Spillane", "speech": [ "Okay. Great. Thanks. And if I could just follow up, just in China. I think you made the mention about maybe slower traffic in the shops for I guess Haagen-Dazs in China. Just is there anything that we should be thinking about there in terms of just the macro environment getting slower, I think before you started the year you talked about maybe poor cost being up for Wanchai Ferry just a little bit more color on what's happening in China and just how we should think about that would be helpful. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Sure. Yes, in China, the growth did slow in our shops in the first quarter and that's not -- that was not unexpected because we have seen the economy slowing there. It's still growing. So when we say the growth has slowed it has slown but it is still growing, which I think is important. And we've adjusted some of our tactics for our Haagen-Dazs shops to drive more traffic starting in starting in the second quarter. And then on Wanchai Ferry we took prices at the end of last year because we saw the African swine fever and the pork prices go up. So we took some pricing, and we did so a little bit ahead of our competition. We've seen them starting to take pricing there.", "So as we head into the second quarter we see improvement in our Wanchai Ferry business. And so in China, we saw our business in China decline a little bit, but not really a lot behind our expectations because we saw these macro forces at play. And so our ability to get our China business back to growth really doesn't depend on a change in the macro environment. It really realize on tactics we've taken to drive more consumers in store and on our competition catching up with us on pricing on Wanchai Ferry, which is why we have confidence that we can improve that business heading into the second quarter." ] }, { "name": "Bryan Spillane", "speech": [ "Great. Thanks, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "It's time for one more." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Steve Strycula with UBS. Your line is open. Please proceed." ] }, { "name": "Steve Strycula", "speech": [ "Hi, good morning, everybody." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Hi, Steve. Good morning." ] }, { "name": "Steve Strycula", "speech": [ "So one quick question for Don. And then, and then a follow-up. So on the gross margin piece Don if we strip out the Blue Buffalo contribution is it right to think that gross margins were up roughly about 30 basis points in the first quarter on a like-for-like basis. And given the brand building that you're doing. Can you speak to what specifically it is throughout the balance of the year? And why that steps up? And should that mean that maybe the run rate for the balance of the year is closer to like flattish. And then I have a follow-up. Thanks." ] }, { "name": "Donal L. Mulligan", "speech": [ "That's the math is right on Q1. So the $53 million step-up in inventory rolling over is about 130 basis points, so it does account for most of the gross margin improvement. As the year unfolds we're going to -- we're seeing a slight step up in our media, that will increase, we're also keen to build capabilities around data and analytics to get deeper in that area. I think we talked about that a little bit in July, we've built e-commerce capabilities, we continue to invest there. We can do invest in our strategic revenue management all around how we manage and drive decisions through data, and you'll continue to see those capabilities being invested behind as the year unfolds." ] }, { "name": "Steve Strycula", "speech": [ "Okay. And my follow-up for Jeff. So do we see that incremental spend for brand building and data analytics. Is that going to be more SG&A? Or is that still, for accounting purpose, roll through COGS? And then a strategic question is, the inventory drawdown that we're seeing in the U.S. is that at all tied to the evolution of click and collect, meaning how retailers are merchandising in their stores and inventorying them or just carrying fewer days on hand because of how click and collect impacts the business. Could you comment there. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes. So on the brand-building side, I would say without getting into specific on where it goes on the line of the", "P&L, what we're talking about on brand building is not increase -- is not increased price promotion, it really is brand building and whether we do that through our customers or whether we do that through some sort of a mass media as Jon Nudi highlighted, I think our North America Retail Marketing is really good right now, especially in Cereal, but even for some of our other businesses and on Pet. And so to the extent that we see an opportunity to improve our brand building behind things like Pet or Old El Paso or Cereal we'll continue to do that because we're seeing some pretty good returns and we like what we're doing. So I'm not going to get go line-by-line, but that's what we see. The -- and then your second question --" ] }, { "name": "Steve Strycula", "speech": [ "Inventory." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "On inventory. You want to talk about that?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yeah, sure. So Steve, I'd say the inventory reduction is probably less tied to click and collect, but related to data analytics and just technology. I think our retailers have better tools now, it's really I understand how much the inventory, they need to have in the warehouse, as well as on the shelf, and they're leveraging that technology to bring down their inventories and still have good in-stock position. So again, I think it's technology and data analytics, not necessarily click-and-collect.." ] }, { "name": "Steve Strycula", "speech": [ "All right. Thank you." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Okay. I think that gets us to full time. Thanks everyone for your engagement and will be available throughout the rest of the day for any follow-ups. Have a great day. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
GIS	2019-06-26	[ { "description": "Vice President-Investor Relations", "name": "Jeff Siemon", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Jeffrey L. Harmening", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Donal L. Mulligan", "position": "Executive" }, { "description": "Group President, North America Retail", "name": "Jonathon J. Nudi", "position": "Executive" }, { "description": "JPMorgan -- Analyst", "name": "Ken Goldman", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Rob Dickerson", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Andrew Lazar", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Bryan Douglass Spillane", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Jason English", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Chris Growe", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "David Driscoll", "position": "Analyst" }, { "description": "Bernstein -- Analyst", "name": "Alexia Howard", "position": "Analyst" }, { "description": "Bank of Montreal -- Analyst", "name": "Ken Zaslow", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Robert Moskow", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the Fourth Quarter Fiscal 2019 Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded Wednesday, June 26, 2019. It is now my pleasure to turn the call over to Jeff Siemon, VP, Investor Relations. Please go ahead, sir." ] }, { "name": "Jeff Siemon", "speech": [ "Thanks, Tanya, and on behalf of General Mills, thanks everyone for joining us this morning. I'm here with Jeff Harmening, our Chairman and CEO and Don Mulligan, our CFO. In addition, Jon Nudi, who leads our North America retail segment is joining us for the Q&A portion of the call. I'll hand the call over to them in a moment but before I do, let me cover a few different housekeeping items.", "A press release on our Q4 and full year fiscal 2019 results was issued over the wire services earlier this morning. And you can find the release and a copy of the slides that supplement this morning's remarks on our Investor Relations website. I'll remind you that our remarks this morning will include forward-looking statements that are based on management's current views and assumptions.", "The second slide in today's presentation was factors that could cause our future results to be different than our current estimates. And with that, I'll turn you over to my colleagues beginning with Jeff." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you, Jeff, and good morning everyone. In fiscal 2019, we executed well, successfully transitioned Blue Buffalo into our portfolio and delivered on our financial commitments. We met our sales growth guidance and we exceeded our guidance for profit, for earnings per share and for cash flow. We also delivered double-digit top line and bottom line growth for Blue Buffalo, as we said we would at the beginning of the year. And while we're pleased with these results, we know that there is still room for improvement .", "Turning to fiscal 2020, we'll continue to pursue our Consumer First Strategy and our compete, accelerate and reshape growth framework. We'll drive innovation and invest in our brands and capabilities to accelerate organic sales growth. We'll continue to execute our HMM and strategic revenue management or SRM programs and maintain our strong margins and we'll continue our cash discipline to reduce our leverage.", "On Slide 5, you can see the key financial performance metrics for our fourth quarter and the full fiscal year. For the fourth quarter, net sales totaled $4.2 billion, up 9% in constant currency; organic net sales declined 1% driven by lower volume. Adjusted operating profit grew 5% in constant currency, driven by the addition of Blue Buffalo and strong HMM savings, partially offset by higher inflation and other supply chain costs. It should be noted that this profit performance compared against by far our strongest quarter of growth last year when adjusted operating profit was up double digits.", "Adjusted diluted earnings per share totaled $0.83 and grew 6% in constant currency. For the full year, net sales totaled $16.9 billion, up 9% in constant currency; organic net sales were in line with year ago levels, with growth in our Asia and Latin America and Convenience Stores and Foodservice segments offsetting declines in North America retail and Europe and Australia.", "Adjusted operating profit for the year totaled $2.9 billion, up 10% in constant currency, due to the addition of Blue Buffalo. Full year adjusted diluted EPS totaled $3.22, an increase of 4% in constant currency. A year ago, we laid out three key priorities for fiscal 2019, grow the core, transition Blue Buffalo and deliver our financial commitments.", "Let me spend a few minutes summarizing our performance against each of these priorities over the past year. We outlined five keys to grow in the core in 2019, including improving our US Yogurt and emerging market businesses, strengthening our innovation, stabilizing distribution in the US and increasing benefits from price mix. I'm pleased to say that we made measurable progress against each of these areas. At the same time, we experienced challenges in a few other areas, most notably US Snacks, which held us back from fully realizing our top line ambitions.", "We have plans in place to improve our organic sales growth in fiscal 2020 and you'll hear quite a bit more about those plans at our Investor Day in two weeks. We competed more effectively in fiscal 2019 as measured by our market share performance. We held or grew share in 7 of our Top 10 US categories, which represent roughly 85% of our Nielsen measured sales, thanks to solid innovation and brand building, proactive execution of our SRM initiatives and improved distribution trends. This included encouraging share gains in some of our largest categories including cereal, yogurt and refrigerated dough. Of the three categories where we lost share, soup was down just 10 basis points after a year where we delivered strong share gains.", "On fruit snacks, we were capacity constrained in a growing category in fiscal 2019. We have capacity coming online in early fiscal '20 that will unlock growth for our brands in that segment. And our biggest opportunity is clearly in US Snack bars. At Investor Day, Jon Nudi will go into more depth on our plans to improve Nature Valley and Fiber One performance in fiscal 2020.", "With that as a background, let me spend a bit of time summarizing our grow the core performance in fiscal '19 on our large global platform starting with cereal. We are encouraged by our continued positive momentum in cereal across US retail, convenience stores and foodservice and our Cereal Partners Worldwide joint venture. In US retail, the cereal category has sequentially improved for eight consecutive quarters. We grew our retail sales for the second year in a row and we extended our leading market share position through good brand building and very good innovation. On Lucky Charms, compelling consumer news and refreshed advertising helped drive a second consecutive year of retail sales growth, and we had a great year on innovation led by Cheerios Oat Crunch, Cinnamon Toast Crunch Churros and Fruity Lucky Charms. In fact, 5 of the 7 largest new products in the category in fiscal '19 were Big G cereals.", "We're encouraged by early results of our April launch of Blueberry Cheerios and look forward to another strong year of innovation and brand building in fiscal 2020. Beyond US retail, we drove strong performance in our cereal platform in the convenience stores and foodservice segment in 2019, with net sales up low single-digits. We saw good results on Bowlpak cereals in K-12 schools and bulk cereal in colleges and universities.", "In our CPW joint venture, constant currency net sales increased low single-digits for the year, with broad growth in Asia, the Middle East, Continental Europe, the UK and Australia. I'm also pleased with the improvements we made in our US Yogurt business in fiscal '19. As you can see on Slide 10, we've improved our trends significantly over the past two years. We also grew share for the full year, our first since fiscal 2015.", "We improved our core yogurt business, which represents more than 50% of our retail sales and includes brands such as Go-GURT and Original Style Yoplait, all-family messaging on equity flavors such as Sour Patch Kids drove mid single-digit retail sales growth on Go-GURT and Original Style Yoplait stabilized behind more real fruit news. We continue to post impressive retail sales growth in the Simply Better yogurt segment, including a 48% increase on Oui and contributions from YQ.", "In fiscal '20, we expect further improvements in US Yogurt as our strong consumer marketing plans and innovation continue to drive growth while the declines in our Greek and light product lines are less a drag on our results.", "Shifting to our accelerate platforms, Haagen-Dazs, Old El Paso snack bars and Natural & Organic, we grew retail sales on three of the four platforms in 2019. Haagen-Dazs retail sales were up double digits as we broadened distribution of minicups and stickbars across Europe and Asia and launched compelling innovation including our new Barista line of coffee-inspired flavors, as well as peanut butter pints and stickbars. Old El Paso retail sales grew low single-digits, led by strong performance in North America,", "Our US retail sales were up 6% behind our Anything Goes campaign as well as in-store taco stand displays, we showcase a variety of offerings to make taco night easy. Retail sales results continue to vary across geographies for snack bars, fiscal '19 results in the US underperformed our expectations with retail sales down mid-single digits. Fiber One declined significantly in fiscal '19 as we fell out of step with modern weight managers and on Nature Valley, our innovation and in-store execution did not meet our objectives.", "On a positive note, EPIC and Larabar continued to increase availability and retail sales for our treat bar product line were up 50% as we expanded into more stores and offered incremental pack sizes. Importantly, we continue to drive strong performance on snack bars outside of North America with retail sales up 30%. In Europe and Australia, we posted 26% retail sales growth and even more impressive, we posted retail sales and share growth across all markets.", "Retail sales for bars in our Asia and Latin America segment were up 47%. Asia drove outsized growth behind distribution gains and portfolio expansion on Nature Valley and Sweet Treat snack bars. On our Natural & Organic platform, retail sales were up low single-digits in F '19 as decline from our exit of some tail offerings and channel specific product lines were more than made up for by strong growth on our core products, including Annie's Mac & Cheese, Bunny Grahams, Muir Glen tomatoes and EPIC meat bars.", "We continue to invest to accelerate growth across these four platforms in fiscal '20 and you'll hear more about from our segment leaders about those plans at our investment day in two weeks. Our second growth priority was to successfully transition Blue Buffalo while maintaining momentum on the business. I think we can confidently say that we delivered against this priority.", "We delivered our F '19 pro forma growth guidance with an 11% increase in the top and bottom line versus the prior year adjusted for purchase accounting. We continue the momentum on BLUE with retail sales up high single-digits, led by the food, drug and mass or FDM channel and strong growth in e-commerce. And we significantly expanded distribution in FDM reaching 65% ACV for the final month of the fiscal year.", "Aggregate year-to-date retail sales for BLUE were up high single-digits, and we've continued to gain market share in the category. Looking at results by channel, BLUE retail sales and FDM were up triple digits and we continue to grow and gain share across customers in this channel. Perhaps most importantly, for customers where BLUE has been in distribution for at least 12 months, retail sales grew nearly 30% in the fourth quarter versus last year. In the month of April, BLUE is the market share leader in a number of FDM accounts and held double-digit market share at three large customers.", "In pet specialty, retail sales for BLUE declined double-digits in F '19 consistent with our expectations. This channel remains important for BLUE and we'll continue to partner with specialty customers to bring product variety, unique innovation and education to serve pet parents in the channel. For example, we're launching CARNIVORA, a new super premium product line under the BLUE banner in the pet specialty channel later this summer.", "In e-commerce, which makes up roughly a quarter of Blue Buffalo net sales, we saw category retail trends slow in the back half of the year. Still BLUE's retail sales continue to outpace the category and we extended our market share leadership in this channel. E-commerce sales -- retail sales for BLUE were up 21% in fiscal '19 and we see more growth ahead as pet parents increasingly look for pet food online where BLUE is the number one brand.", "Overall, we're happy with Blue Buffalo's performance in year one, and we see a long runway of growth ahead for this important business. For our third fiscal 2019 priority delivering on our financial commitments, I am proud to say that we did just that. We exceeded our guidance for operating profit, for earnings per share and free cash flow conversion in F '19. We generated 2 points of positive organic price mix by leveraging our enhanced SRM capability, including positive price mix in each of our segments. We've also delivered record levels of HMM and our strong cash flow focus allowed us to pay down $1.3 billion in debt, helping reduce our net debt to adjusted EBITDA ratio to 3.9x. This was ahead of our initial F '19 goal and bolsters our confidence that we can reach our target of 3.5x by the end of F '20.", "With a clear understanding of what worked in fiscal '19 and where we can still improve, we've outlined three priorities for fiscal '20, which can be found on Slide 15. Our first priority is to accelerate our organic net sales growth. We'll improve growth in North America retail by maintaining momentum on cereal, continuing to improve US Yogurt and improving US Snacks through sharpened execution, strengthened innovation and increased capacity on platforms where we were constrained a year ago. We'll also see accelerated sales growth as we bring Blue Buffalo into our organic sales base, and we continue to drive strong growth for that business in F '20. Blue Buffalo will shift to a May year-end to align with our corporate calendar, which will add an extra month of results in F '20.", "On a like-for-like basis, we expect Blue Buffalo net sales to increase 8% to 10% in F '20 and we're targeting double-digit growth on a reported basis. Our second priority is to maintain our strong margins, benefits from our long-running HMM cost savings program and contributions from our SRM actions will continue to provide fuel to invest in brand building on our highest priority and highest return categories, including cereal, pet, our accelerate platforms and US Yogurt. In addition, we'll invest to drive deeper data and analytics to support our e-commerce and SRM capabilities.", "And our final priority for F '20 is to maintain a disciplined focus on cash to achieve our fiscal '20 leverage target. With these in priorities in mind, we expect to deliver on the fiscal 2020 guidance laid out on Slide 16, namely, we expect organic net sales to increase 1% to 2%. We're targeting adjusted operating profit growth of 2% to 4% in constant currency. We expect constant currency adjusted diluted earnings per share to increase 3% to 5% and we're targeting free cash flow conversion of at least 95% of adjusted after-tax earnings.", "I am confident in our strategies and our plans for F '20. With that, I'll turn it over to Don to review our F '19 financial results and the 2020 financial outlook in more detail." ] }, { "name": "Donal L. Mulligan", "speech": [ "Thanks, Jeff, and good morning everyone. Jeff provided a high level summary of our fiscal 2019 financial results. I'll share a few additional details, starting with the components of net sales growth on Slide 18. Organic net sales were down 1% in the fourth quarter, driven by lower contribution from pound volume. Organic net price realization and mix was flat in the fourth quarter compared to 3 points of positive price mix in the same period last year.", "Foreign currency translation was a 2 point headwind to net sales and the net impact of acquisitions and divestitures added 10 points to net sales in the quarter, primarily driven by Blue Buffalo. As Jeff mentioned, full-year organic net sales were flat to last year with volume down 2%, offset by 2 points of positive price mix. And on a two-year basis, we saw both organic volume and price mix improve sequentially from the first half to the second half of fiscal '19.", "Turning to our segment results on Slide 19, full year North America retail organic net sales were down 1% and lagged Nielsen-measured retail sales growth by about 1 point, which was in line with the expectations we outlined at the beginning of the year. Our SRM actions drove 1 point of positive organic price mix for the full year, which was 2 points ahead of last year's results.", "Fourth quarter organic net sales rounded down to a 2% decline, driven primarily by declines in US Snacks in Canada. We saw unfavorable price mix in the quarter driven by higher promotional expense as we returned to normal merchandising levels this quarter after having relatively little in-store activity in last year's Q4.", "Second half price mix was favorable by 1 point in line with the full-year result. And fourth quarter retail sales trends were slightly positive in US Nielsen-measured outlets with market share gains in a majority of our top US categories.", "Full year segment operating profit increased 3% in constant currency, primarily due to benefits from cost savings initiatives and lower SG&A expenses, partially offset by lower net sales and higher product cost, primarily driven by input cost inflation. Fourth quarter segment operating profit decreased 2% in constant currency compared against high single-digit growth last year. In convenience stores and foodservice, organic net sales were up 2% for the full year, led by mid single-digit growth on our Focus 6 platforms. In fact, each of our Focus 6 platforms grew net sales in fiscal '19, including strong performance on frozen pouch breakfast and Bowlpak cereal in K-12 schools, Pillsbury Stuffed Waffle and Chex Mix snacks in convenience stores and Cinnamon rolls and other frozen baked goods in foodservice channels.", "Organic net sales were also up 2% in the fourth quarter, driven by continued growth on all Focus 6 platforms. Segment operating profit increased 7% for the full year, primarily due to benefits from cost savings initiatives and positive net price realization and mix, partially offset by higher product cost, again primarily driven by input cost inflation. Fourth quarter segment operating profit was down 1% compared against double-digit growth last year.", "In our Europe and Australia segment, organic net sales were down 1% for the full year. Declines on yogurt and the negative impact of a continued challenging retail environment in France were partially offset by growth on snack bars and ice cream. Nature Valley and Fiber One snacks delivered strong double-digit retail sales growth in fiscal '19 as we secured distribution gains and brought successful innovation to market. Haagen-Dazs retail sales also grew double-digits as we expanded distribution on minicup, stickbar and pint innovations.", "Fourth quarter organic net sales were down 3%, for the prior year period that grew mid single-digits. Segment operating profit decreased $19 million for the full year, driven primarily by higher input cost including significant commodities inflation and currency driven inflation on products imported into the UK, partially offset by lower SG&A expenses. The bulk of that full year decline $15 million was in Q4, reflecting a difficult comparison against 55% profit growth a year ago.", "Our Asia and Latin America segment delivered broad-based sales growth in fiscal '19, including increases in China, Brazil and India, the segment's three largest markets.", "Full-year organic net sales increased 6% driven by growth on Nature Valley and Betty Crocker snacks in the Middle East, India and Latin America as well as strong performance on Haagen-Dazs across Asia and Wanchai Ferry in China. These results exclude the impact of the sale of La Saltena in Latin America and the sale of our yogurt business in China to a new Yoplait franchisee. Fourth quarter organic net sales increased 1% over the prior-year period that saw a double-digit like-for-like growth after adjusting for the calendar reporting change in Brazil.", "Segment operating profit increased $33 million for the full year, driven by organic volume growth, positive net price realization and mix and lower SG&A expenses, partially offset by higher input costs. Fourth quarter segment operating profit increased $13 million. Slide 23 covers our Pet segment results. As Jeff mentioned, we achieved our full year targets of double-digit top and bottom line growth for Blue Buffalo, excluding purchase accounting charges. Fourth quarter net sales increased 38% on a pro forma basis, driven by significant distribution expansion in the FDM channel and the difference in shipping days from the month of acquisition.", "Fourth quarter segment operating profit increased 82% on a pro forma basis and grew 88% excluding purchase accounting charges, driven primarily by robust volume growth and benefits from SRM actions that we implemented earlier in the year.", "Slide 24 summarizes our fiscal 2019 margin results. As we anticipated, our fourth quarter margins were down compared to significant margin expansion a year ago. For the full-year, adjusted gross margin decreased 10 basis points and we delivered 30 basis points of adjusted operating profit margin expansion, driven primarily by record levels of COGS, HMM savings, strong cost control in SG&A and the addition of the higher margin Blue Buffalo business, partially offset by input cost inflation and higher product costs.", "Slide 25 summarizes our joint venture results in fiscal 2019. CPW delivered its third consecutive quarter of top line growth and finished fiscal '19 with constant currency net sales growth of 1%. Full year Haagen-Dazs Japan net sales were down 7% in constant currency, driven primarily by seasonal innovation timing and declines in minicups and crispy sandwich varieties.", "Combined after-tax earnings from joint ventures totaled $72 million in fiscal '19 compared to $85 million a year ago. The decline was driven primarily by our $11 million after-tax share of CPW restructuring charges as well as the lower sales in Haagen-Dazs Japan.", "Slide 26 covers other noteworthy income statement items in the quarter. Corporate unallocated expenses, excluding certain items affecting comparability increased $62 million in the quarter, driven primarily by higher incentive expense and favorable one-time items in the same period last year. Net interest expense was $12 million below last year's fourth quarter that included a $34 million expense related to the bridge term loan financing for the Blue Buffalo acquisition. That expense is excluded from our adjusted earnings.", "Full year net interest expense was modestly better than our expectations as strong cash flow allowed for accelerated debt reduction. The adjusted effective tax rate for the quarter was 20.6% compared to 26.7% a year ago, primarily driven by the net benefits related to US tax reform. Our full year adjusted effective tax rate came in just below the low end of our guidance range, primarily due to earnings mix and average diluted shares outstanding were up 3% in the quarter.", "Slide 27 captures our balance sheet and cash flow highlights for fiscal '19. Our year-end core working capital balance totaled $385 million, down 34% versus last year, driven primarily by continued benefits from our terms extension program and a bit from lower inventory balances. Full year operating cash flow totaled $2.8 billion and capital investments were $538 million, resulting in free cash flow of $2.3 billion or 115% of our adjusted after-tax earnings. And our strong cash discipline enabled us to pay $1.2 billion in dividends, while reducing more than $1.3 billion in debt this year.", "Shifting to fiscal '20, Slide 28 captures our key financial assumptions for the year. Our fiscal 2020 results will include a 53rd week in the fourth quarter. Contributions from the 53rd week, the impact of divestitures executed in fiscal '19 and currency translation are collectively expected to result in reported net sales growth finishing 1 to 2 percentage points above our organic sales growth guidance. Blue Buffalo will shift to a May year-end in fiscal '20 and therefore will include an extra month of results, which will impact our fourth quarter. As we've done with previous calendar alignments, we will include this adjustment in our fiscal '20 organic net sales results.", "We're planning for growth investments in brand building and global capabilities like e-commerce and SRM to drive improvements in our organic growth profile in fiscal '20 and beyond. We expect holistic margin management savings and input cost inflation to each total roughly 4% of cost of goods sold. We're roughly 50% covered on our global commodity positions at this point in the year. Below the operating profit line, we estimate benefit plan income for the non-service components of our plans will total approximately $120 million, up roughly $30 million from fiscal '19 due to lower interest expense, and higher recent asset returns.", "We expect net interest expense to total approximately $500 million and we're planning for the adjusted effective tax rate in fiscal '20 to be in line with fiscal '19 rate and we anticipate average diluted shares to increase approximately 1%.", "Based on these assumptions, Slide 29 summarizes our fiscal '20 outlook for our key financial metrics. Organic net sales are expected to increase 1% to 2%, driven by improved growth in North America retail, 8% to 10% like-for-like growth for Blue Buffalo and double-digit growth including the extra reporting month and growth consistent with F '19 for our convenience stores and foodservice, Europe and Australia and Asia LatAm segments. We estimate constant currency adjusted operating profit will increase 2% to 4% from the base of $2.9 billion reported in fiscal 2019. Constant currency adjusted diluted EPS is expected to increase 3% to 5% from the base of $3.22 earned in fiscal '19. We're targeting free cash flow conversion of at least 95% of adjusted after-tax earnings and we do not expect currency translation to have a material impact on fiscal '20 adjusted operating profit or adjusted diluted EPS.", "With that, let me turn it back over to Jeff for some closing remarks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you, Don. And as we look at next year, what I would like to say is that I'm pleased with the way we executed this year. I'm pleased that we transitioned Blue Buffalo effectively into the General Mills family and especially pleased that we delivered on our financial commitments. And we have strong plans in place for fiscal '20 to drive improved organic sales, while maintaining our strong margins, I remain confident in our strategies and look forward to taking another step forward in fiscal '20 on our path toward sustainable long-term growth.", "With that, I think we'll open up the line for questions. Operator, can you get us started?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. (Operator Instructions) Our first question comes from the line of Ken Goldman with JPMorgan. Please proceed with your question." ] }, { "name": "Ken Goldman", "speech": [ "Hi. Good morning, everybody. I wanted to ask a quick question about the 13th month for Buff this coming year. Without going into the nitty-gritty, my math is that the extra month adds maybe 70 to 90 basis points to your expected organic top line growth rate. I just wanted to make sure that's correct or at least reasonably correct and is it also safe to assume that the extra month will entirely benefit 4Q '20?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Yes, Ken, on your last question, yes. They will all -- the extra month will all come in Q4, as far as the contributions to the organic growth, there is really three components and we said that CNF, Europe, Australia and Asia LatAm will grow at the same rate -- grow but at the same rate as this year. So the increase for next year is really we're seeing it step up from a combination of BLUE's like-for-like growth, that 8% to 10% we talked about, the extra month and the base business. And frankly they are all about equally weighted. So you're probably a little high in what you're guessing for -- what you're estimating for the month and you should look for all three of those to have roughly equal weighting in that improvement from this year." ] }, { "name": "Ken Goldman", "speech": [ "Okay, that's helpful. And then a quick follow-up on, Jon, I know Jon is going to discuss snacks at the Investor Day. But it really seems to be worsening at least from what we're seeing in Nielsen right for a while. It was really Fiber One, then Nature Valley started getting worse, and now even Larabar in measured channels is trending negatively. I know we don't see everything in these -- in Nielsen and IRI, but is there a structural issue you think that's causing really most of your major brands to sort of decline at once here?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, Ken. Thanks for the question. I think the short answer is, it's probably not, in fact, Larabar grew 11% for the year. I think there were some comps as we got into Q4 and Larabar, a big portion of that business is actually in non-measured channels, where we continue to do quite well. And we are very focused and frankly not satisfied with our performance on both Nature Valley and Fiber One and that's really what we need to turn around in the coming year. Nature Valley is really about getting back with meaningful innovation. We just launched the Krispy Kreme wafer bar that we're excited about and it's very early days, but the early returns are good. And frankly, we didn't execute very well. We missed some key windows from a merchandising standpoint, back to school on Nature Valley. We feel like we've got good plans in place to get after in this year.", "Fiber One has been a structural issue over the last few years. Consumers, weight managers have really changed in terms of what they're looking for in terms of the macros of a product. So we just reformulated that product, it's flowing into market now, again, early days but encouraging signs there as well. So what I would tell you, we like Larabar, we don't believe there is a structural issue there. We love EPIC, that continues to grow, nearly 50% this past year. It's really Nature Valley and Fiber One that we're focused on as we move into fiscal '20." ] }, { "name": "Ken Goldman", "speech": [ "Thanks, Jon." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "I agree with Jon's perspective that it's not structural, it's some of our innovation and execution. And in fact to that end, we're confident we'll sequentially improve in the first quarter in the first half of next year on snacks and that will accelerate even further in the back half of the year." ] }, { "name": "Ken Goldman", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Rob Dickerson with Deutsche Bank. Please proceed with your question." ] }, { "name": "Rob Dickerson", "speech": [ "Great. Thank you very much. A sort of a question just around expectation on brand support in fiscal '20. It seems like what's implied, obviously, in the guidance is for essentially operating margin thought to be flat year-over-year, at the same time you do have your diluted (ph) margin mix benefit should be coming from at least from Blue Buffalo. I'm just curious to hear as you think about total company vis-a-vis kind of the Blue Buffalo benefit hopefully, it would imply that maybe there is still some margin contraction potential in other parts of the portfolio and I'm not sure if that given increased brand support levels or if there is maybe just flex in the overall P&L as we think about next fiscal year. Thanks." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, there are two questions in there, one is about brand building support and the other about margins. Let me take the first and I'll push it over to Don for the second. In terms of brand building support, what you will see is us increase our investment behind our brands, especially our priority brands and businesses as we look at next year. And so I made some remarks when you think about cereal, what we like, we like what we see in cereal, obviously, US Yogurt is improving and we want to keep that trend up. We need to get snacks back on track. You'll see us invest behind some really good ideas on bars and on snacks and then our accelerator platform. So the things that are the biggest priority for us, you'll see us improve our brand building, not only because they are priority but because we get good returns and we got some really good marketing on a lot of those businesses. So from a brand building perspective.", "And then the same would be true for Blue Buffalo and Blue Buffalo, we're really encouraged by the trends we see in food, drug and mass. And we've got great marketing on Blue Buffalo, so you'll see us invest behind all of those businesses as well as capabilities to drive growth. We talk about SRM and we're pleased with what we've done. But there is more we can do and with e-commerce, whether it's on Blue Buffalo or whether it's on our core business, we think that there's more we can do to invest in those capabilities." ] }, { "name": "Donal L. Mulligan", "speech": [ "Yeah, I don't have a lot to add, Jeff touched on where the investment is going to go to drive the top line and as you alluded to and as Jeff commented in his opening remarks, our focus is maintaining our strong margins, and that's what the plan is geared to do." ] }, { "name": "Rob Dickerson", "speech": [ "Okay, super. Thanks so much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Andrew Lazar with Barclays. Please proceed with your question." ] }, { "name": "Andrew Lazar", "speech": [ "Good morning, everybody. I guess with Blue Buffalo entering the base in fiscal '20 and including the calendar shift, it would seem that maybe that could drive about, call it, 1 point of organic growth in fiscal '20. And I guess that suggests the legacy can be anywhere from flat to up 1 to hit your targeted organic sales growth range next year. I think organic was flat in fiscal 2019, and you've, obviously, got another year of significant reinvestment on tap this coming year. So I guess my question is what would potentially hold back organic, if you will, on the legacy portfolio potentially to just flat again? Is it not knowing maybe how quickly snacks and yogurt responds or any additional sort of competitive concerns out there that are worth mentioning? Or is it really just again trying to be prudent and conservative in the way you're thinking about how organic growth sort of builds on the legacy? Thanks so much." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, so I mean, two questions, two responses, Andrew. One is on how we guide in the second is about kind of what our expectations are on how we guide. I mean, there is a natural tension there because on the one hand, it occurs to us that doing what you said you're going to do is pretty important. And so we set our guidance accordingly. On the other hand, nobody really likes a sandbagger, either in business or in golf. And so we don't -- we're not trying to be too conservative either. We want to set targets we think are going to be realistic that are going to drive value for shareholders, but that we're going to hit. So just -- that's the way we think about it. In terms of our organic sales growth next year, really Blue Buffalo is going to make a big contribution. But we think that North -- we've got great plans for North America retail. That's where we can see improvement behind and maintaining momentum on cereal, which we feel good about, improving our yogurt business and improving US Snacks. And so with those three things improving to the extent that we can hold with growth on convenience and foodservice, hold our business in EU/AU where it is on growth and continued mid single-digit growth on Asia and Latin America, that would -- that tells me that growing Blue Buffalo and improving our top line sales are two areas we can look forward for growth." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Okay, thanks for that. And then just a quick one. I realize portfolio mix in North America retail can swing the pricing number around from quarter to quarter quite a bit. If we're thinking about fiscal '20, maybe we could talk a bit about just how you see the contribution from volume and price playing out in North America retail?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Let me take it to a company standpoint and then I'll pass it to Jon for North America retail. From a company standpoint, first, I would take you back to fiscal 2019. At the very beginning of that year, we said we're going to see about 4% inflation and we -- but we needed some pricing and I think it's fair to say there was some skepticism as to whether we could do that or not broadly. And we're pleased that we were able to do that and we said, look, a little pricing goes a long way and it was about 2% versus 1% the year before.", "I would say that, and we're not going to give how much pricing we're going to get next year, but what I will say is that we would expect to get a little bit of pricing next year starting in the first quarter and we see a little bit of inflation. So for the Company as a whole, we see a return -- we see some inflation in the coming year as Don indicated, and we think that we will get some pricing as well.", "So with regard to North America, Jon, you might want to comment a little bit on this year and kind of what you expect." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, sure. So Andrew, you're right in the fact that there are some fluctuations between quarters for the back half of fiscal '19, where we drove about a point of price mix and that was the same as for the year as well. So we feel really good about our ability to leverage our SRM toolkit and really drive some pricing in the market and we have good confidence as we move into fiscal '20 that we'll continue that through Q1 and really through fiscal '20 as well." ] }, { "name": "Andrew Lazar", "speech": [ "Great. Thanks, everyone." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Bryan Spillane with Bank of America. Please proceed with your question." ] }, { "name": "Bryan Douglass Spillane", "speech": [ "Hey, good morning, everyone. I guess just two quick ones from me. Maybe just following on Andrew's question, if we kind of take a little bit of pricing and what you're expecting in terms of HMM savings, whether it's safe to say that the expectation around gross margins are kind of flattish as we're looking at 2020?", "And then the second question I had was just simply, I don't know if you gave it before, but just what you're expecting for CapEx for 2020?" ] }, { "name": "Donal L. Mulligan", "speech": [ "We didn't give guidance on the latter. But it's sitting at about 3.5%, so pretty much in line as a percent of sales of this from this year. As far as the construct of the P&L, you'll actually see some gross margin expansion. The key contributors, you mentioned about the price, the positive price mix that we expect to get that Jeff alluded to. We also, obviously, have the one-time benefit of rolling over the inventory step up charge that was in F '19. So we will see gross margin expansion. The investments that Jeff talked about in our brands and our capabilities will be SG&A investments. So you'll see SG&A go up as a percent of sales. Again, as I answered an earlier question, leading to stable operating margins." ] }, { "name": "Bryan Douglass Spillane", "speech": [ "And just fair to say that for '20, there is less of a, I guess, a need for pricing to sort of drive the gross margin relative to the position that you were in a year ago?" ] }, { "name": "Donal L. Mulligan", "speech": [ "A little less. Our HMM and inflation projections for '19 are a little more in balance than when we came in -- for '20, excuse me, are a little more in balance than we came in for '19, yes." ] }, { "name": "Bryan Douglass Spillane", "speech": [ "Okay, great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Jason English with Goldman Sachs. Please proceed with your question." ] }, { "name": "Jason English", "speech": [ "Hey, good morning folks. Thank you for slotting me in. I have a couple of questions on Buff. First, real quick housekeeping, sorry, maybe I am just a little bit dense this morning, but I was having a hard time following the puts and takes on your growth expectations for Buff. Could you just give me a number of what you expect that business to grow at in 2020?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, on a like-for-like basis. 8% to 10%." ] }, { "name": "Jason English", "speech": [ "And what is it like-for-like, does that exclude just the extra month?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Correct." ] }, { "name": "Jason English", "speech": [ "Got it, OK. And on the online component, you guys showed the 21% growth this year, which is, obviously, quite strong, but it was a pretty big deceleration from the 30% growth in the first half, it kind of suggests that you're probably tracking sort of low double-digits. And I guess my question is what's driving that? Is that the whole channel has slowed or has your market share started to drift lower? And regardless of kind of what the driver is, if you could give us maybe your thoughts and the explanation of what's causing that?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yeah. So in the fourth quarter, our sales in e-commerce were about 14% and the category itself grew less than that. So it really was a -- which is about 10% or 11%. So we gained share and gained share commensurate with what we've seen throughout the year. So it was really not a -- it's not a slowdown and our competitive positioning within the category, feel great about that. The channel itself slowed. And I think there are probably a couple components of that. The first is that there are players in that channel who were trying to take more profit in the category and then their sales slowed. I'll also say, if you look at Nielsen, you can see that not only did Blue Buffalo pick up in the last quarter of the year, but the FDM channel picked up significantly in the last quarter of the year behind I would say Blue Buffalo's launch.", "And so that is certainly another component. What I expect going forward -- we'll talk about more on Investor Day, pet food is really something that's built for e-commerce and whether that e-commerce takes place with pure players or whether it takes place with our traditional retail customers. I would expect at some point what we're going to see is that the e-commerce channel itself will start to reaccelerate and that we'll accelerate with it. But it's not -- to answer your question, it's not Blue Buffalo getting less competitive, we feel great about our position related to the category itself." ] }, { "name": "Jason English", "speech": [ "That's really helpful. Thank you. And last quick question. I'll pass it on I promise. You delivered phenomenal margins on Buff in the fourth quarter. I know there was probably some leverage with a bit of the pipeline sale that may be not -- won't sustain, but at the same time you've got new capacity coming online next year, you've got a fall away of some of the start-up costs. How should we think about the sustainable profitability of that business in context to what we saw in the fourth quarter?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Well, you're right Jason. We had some secular (ph) benefits in the fourth quarter from building the inventory in the pipeline as we launched in FDM. That was simply beneficial from a profit standpoint and grew at 27% margins in the fourth quarter. We would expect margin expansion from full year F '19 going into full year F '20 and primarily driven by the fact that we are going to have the inventory step up in the numbers. So we expect BLUE to be driving very solid margins and certainly be as margin accretive as we expected when we purchased the business a year ago." ] }, { "name": "Jason English", "speech": [ "Okay. Thanks a lot, guys." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Chris Growe with Stifel. Please proceed with your question." ] }, { "name": "Chris Growe", "speech": [ "Hi, good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Chris." ] }, { "name": "Chris Growe", "speech": [ "Good morning. I have a couple of follow-ups, if I could, please. Just to follow-on Jason's question, we talked about e-com there for pet. Where are you sourcing the market -- where is FDM, if you will, sourcing a lot of the market share gain for Blue Buffalo? Is that -- and we saw, of course, that your pet specialty sales were down as well. Is that the main area where it's coming from? I guess you also would associate with e-commerce as well given that slowed in the second half of the year." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, we're seeing -- thanks for the question, Chris, what we are seeing is that the growth in our FDM channel is highly incremental and it looks to us about 70% incremental to everywhere else. And what I will also say is that our household penetration continues to rise and that is the highest predictor of future success is your growth in household penetration. And so as we look at the FDM channel, our volume is really being sourced from other brands within the FDM channel. And you can see that the FDM channel itself is growing in terms of dollars. And so as we've expanded into the FDM channel, one of the things we're most pleased with is that our business is not being sourced from the other members of the wholesome natural segment as much as it is brands in the middle. And so the whole segment is rising, the whole natural segment is rising. And that tells us, there is great demand for these kind of products and Blue Buffalo is the market leader and that's kind of what we expected with our launch in FDM and we're really pleased that it's working out that way." ] }, { "name": "Chris Growe", "speech": [ "Okay. Yes, thank you for that. And then just one other question, I think for Jon Nudi. Just so I have it straight, you have cost inflation broadly offset by HMM in the year, but you also do expect SRM to be a positive contributor. I think you said pricing to be up around 1%. So that's, obviously, one question or just one clarification. But related to that, I also want to better understand the shift in price mix from Q3 to Q4 just the implication for fiscal /20. There is a bit of a comp issue in there I think with the prior year, but it is a pretty big move from positive pricing in the mix to negative pricing in the mix in Q4. Sort of to understand the basis of why that changed so much?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, absolutely Chris. You're absolutely right, we had some fluctuations between quarters. Again, importantly to remember, for the year we drove a point of price mix and for the back half we drove a point. There were certainly differences between Q3 and Q4 and the biggest driver of that was trade timing and really the comp to last year. Last April and May, we had very little merchandising in some of our major businesses. We got back to just normal levels of merchandising this year and that drove some trade expense. So, again, we are very confident in our ability to take pricing and really leverage our SRM toolkit and we expect that to continue as we move into fiscal '20 as well." ] }, { "name": "Chris Growe", "speech": [ "Those trade timing issues should be settled out now, is that right for fiscal '20?" ] }, { "name": "Jonathon J. Nudi", "speech": [ "Yes, that's right, again, and we were just getting back to normalized levels, our comps last year, again, we didn't have a lot of merchandising particularly in the months of April and May." ] }, { "name": "Chris Growe", "speech": [ "Okay. Thanks so much." ] }, { "name": "Jonathon J. Nudi", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of David Driscoll with Citi. Please proceed with your question." ] }, { "name": "David Driscoll", "speech": [ "Great. Thank you and good morning." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, David." ] }, { "name": "David Driscoll", "speech": [ "Wanted to ask a few Blue Buffalo questions. Could you talk about the pacing of sales in 2020? Obviously, in '19, there was a lot of distribution gains, but I'd just like to hear your thoughts on how this lays out in '20 in even just a rough form, so we have a good way to track. And I assume that there are additional points of distribution that you still expect to gain like everything wasn't being just in the fourth quarter, so if we could start there?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, David, thanks for the question and I'll take this one. As far as the phasing, we probably see the strongest growth in BLUE in the middle part of the year Q3 -- Q2 and Q3. Q1 will be hampered a little by the fact that we had an extra week in our fiscal '19 Q1. And, obviously, in Q4, we lapped the launch in Walmart and the expansion of Wilderness. The other factor in Q4 is that we're going to get the benefit of the extra month, which, as I mentioned in an earlier question, that all falls in Q4. So on the like-for-like basis, that 8% to 10% we talked about, strongest in Q3 -- Q2 and Q3, a little less in Q1 and Q4 for the reasons I mentioned and then the full benefit of the calendar changing in Q4. I hope that helps.", "To your other point, we do expect to continue to see distribution gains clearly not at the rate we saw this year given the fact that we made the big launch in Walmart, but you'll continue to see us -- a matter of fact, if you look at the latest Nielsen, we're already up versus the 65 that we had at the end of April. So we're in the low 70s already. So we expect to continue to expand that as F '20 unfolds." ] }, { "name": "David Driscoll", "speech": [ "Thank you. Then following on BLUE, can you talk about the growth in wet and treats? One of the benefits that we expected was to see wet and treats grow significantly as you enter into the food and mass channels because of the frequency of shopping. Are you seeing the traction there that you wanted to see and what are your expectations in F '20?" ] }, { "name": "Donal L. Mulligan", "speech": [ "Yes, we are seeing the traction we wanted to see as we launched into the FDM channel. In fact, our proportion of wet and treats is higher in FDM than it is in pet specialty and that's what we thought we would see as we entered the channel. Again, it gives us confidence that we understand the business and how it's going to evolve. What I would tell you is that we also think there's a big opportunity to innovate in the wet and treats area and you won't see that as much -- especially in the first half of F '20, it'd really be on continued distribution in the growth in wet and treats in the distribution. But we think there's a second act for that and that second act really is around innovation in both of those important segments.", "I would also say -- it wasn't asked, but as we look at the expansion in food, drug, and mass, we expanded distribution in America, but we also launched in Wilderness and we're really pleased with both of those expansions. They are right on track and they're growing well and so we see continued growth from those." ] }, { "name": "David Driscoll", "speech": [ "Last question from me on BLUE. We have this African swine fever that's expected to impact protein prices. Protein, I think, is the largest piece of the cost of goods for your Blue Buffalo business. Can you talk about how that would be expected to impact? Are you able to hedge? Do you think you have to take pricing? Just trying to gauge where the level of concern is on this or if there is almost any concern?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "David, yes, we're not concerned about that when it comes to Blue Buffalo. While there is some pressure on protein, it's less on chicken, which is the major protein in BLUE's portfolio. Now, African swine fever is impacting our pork prices and we are seeing that in our Asian business and our China business, but less so with our BLUE business." ] }, { "name": "David Driscoll", "speech": [ "Okay, guys. Thank you. I'll pass it along." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Alexia Howard with Bernstein. Please proceed with your question." ] }, { "name": "Alexia Howard", "speech": [ "Good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Alexia." ] }, { "name": "Alexia Howard", "speech": [ "So can I stick with the pricing and inventory question on North American retail? I'm really just curious about why in measured channels on average across your US portfolio, the pricing was fairly flat. Obviously, you said that because of comparables your net price mix was down 2%. But I'm just kind of curious about why that pricing being down for you wasn't passed on to the consumer?", "And then just on the inventory front, it looks as though the flat sales in cereals and yogurt was below the kind of trends of 3.5% sales growth, 1.5% sales growth that we saw in measured channels. Was that to do with pricing dynamics, non-measured channels or maybe retailer inventory reductions? Thank you and I'll pass it on." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Sure, Alexia. So as we look at the quarter, Q4 came in for North America retail very much as we expected. It was actually our strongest quarter of the year from a Nielsen standpoint. So we feel good about the momentum that we're driving in the market. We had about a point and a half gap between Nielsen movement and what we reported in net sales. And about a point of that was an inventory drag that we've seen all year as retailers are working on reducing their working capital and pulling inventories down. There was about a half point related to merchandising timing and, again, this is expense that was in Q4 as we got back to normalized levels of merchandising. So that was really the one thing in Q4 that really affected both price mix as well as our reported net sales. Again, as we look at our momentum in the market, we look at our share position, we feel really good about the momentum that we have as we move into the coming year and feel good about our plans as well." ] }, { "name": "Jeff Siemon", "speech": [ "Alexia, this is Jeff Siemon. I'd just add that, if you look at the full year, North America retail, Nielsen's versus shipments was directly in line with what we said at the beginning of the year, which is we'd lag by about a point and that's what we saw for the full year." ] }, { "name": "Alexia Howard", "speech": [ "Do you expect those retailer inventory reductions to continue if they've been fairly consistent through the course of fiscal '19?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "We do. I mean, again, we definitely see our retail partners focus on working capital and we think they'll continue to make -- take, I mean, put initiatives in place to reduce inventories over time. Will be at the same -- to the same extent as this year? I don't know, but we expect it to continue." ] }, { "name": "Alexia Howard", "speech": [ "Great. Thank you very much. I'll pass it on." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Ken Zaslow with Bank of Montreal. Please proceed with your question." ] }, { "name": "Ken Zaslow", "speech": [ "Hey, good morning, everyone." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Good morning, Ken." ] }, { "name": "Ken Zaslow", "speech": [ "I just have a big overall question. Your long-term growth algorithm is mid single-digit operating profit. You had a year that you kind of consolidated and figured out a lot of the issues, you moved past so many things and then in 2020, you're still looking for 2% to 4% operating profit growth. What do you -- can you kind of compare and contrast why there is a difference between your long-term and when you'll return to that and why not in 2020?" ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, I think the way I look, Ken -- this is Jeff. The way I look at it is that we keep making improvements toward our long-term algorithm and I think we took a step this year when we acquired Blue Buffalo and we'll take another step forward in fiscal '20. And I think the most important part of getting to mid single-digit operating profit really is to drive organic sales. And between Blue Buffalo and what we expect with NAR next year, we think we'll take another step forward with driving our organic sales to 1% to 2%, which is higher than what we've done in the past few years. And we're disciplined as we look at cost of doing it. And then we'll look to take another step the following year and so for me, the steady progression is the key and it really starts actually with organic sales." ] }, { "name": "Ken Zaslow", "speech": [ "So you -- I know this is way out there and you just gave 2020, but you would expect though outside any exogenous factors that 2021, would it be at least back into that range? I know that's a little far out, but I'm just trying to figure out like when the long-term growth rate we could start to assume that that is a viable place to start. Is that a fair way of looking at it? I'm not trying to box you in. I'm just trying to think about it." ] }, { "name": "Donal L. Mulligan", "speech": [ "Hey, Ken, this is Don. We just gave two fiscal '20 guidance, so we're going to hold off on talking anything beyond fiscal 2020 at this --" ] }, { "name": "Ken Zaslow", "speech": [ "Okay. Great. I appreciate it. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Robert Moskow with Credit Suisse. Please proceed with your question." ] }, { "name": "Robert Moskow", "speech": [ "Hi, thanks. Most of my questions have been asked. But I guess I'll ask a follow-up to Ken Zaslow's question. I mean, you have now operating margins in the low 20% range for BLUE, North American Retail and Convenience Stores and Foodservice. It just feels like these margins don't have much room to go higher and you have reinvestment needs that seem to be kind of ongoing. Retailers have invested a lot in data analytics and it seems like there is a data war that you will need to keep putting money into. Maybe give me an update in the data war may be. Are you getting closer to investing in SRM at the appropriate level? And then just bigger picture, is it possible that if sales growth stays in the low single-digit range, maybe it just is going to be a lot harder from an algorithm standpoint to see mid single-digit operating profit growth. Thanks." ] }, { "name": "Donal L. Mulligan", "speech": [ "Rob, I'll start with the larger picture and comment on data analytics, and I'll let Jeff go into a little bit more about how we are thinking about that. But in terms of the margins, just pulling up Jeff's answer to Ken's question is, it really is going to be triggered off, continue to accelerate our organic growth. Your comments on NAR, CNF and Blue Buffalo's strong margins is well taken. It's not those businesses don't have opportunity, but they are already very healthy and frankly driving growth in those businesses, top line growth is a very attractive proposition even at the current strong margins.", "As we look longer though, we do know we have opportunity internationally and as we think about margin expansion beyond fiscal '20, we need the internationals where the percentage margin benefit can come from. As far as the data analytics, our investments, we will continue to invest in our brands and in our capabilities. We're targeting now, continue to build out what we are doing with e-commerce and SRM by getting deeper into the data analytics, it's something that has served us well and we will continue to invest and actually we think it's a key driver of our ability to drive that and accelerate that top line growth." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Yes, I'll build on what Don said. I mean, it's interesting you characterize the data as a war and I'm not really sure I view it that same way. I mean, I think that our ability to use data to drive our Consumer First strategy is actually a potential for high competitive advantage because it requires scale. And we have proprietary data through our three big websites. We think we'll have proprietary data through Box Tops for Education; we'll talk about -- a little bit about that in the coming weeks. And data analytics is something where scale matters and not only for a retailer, but for us. And we think that the fact that some of our retailers are getting more sophisticated with data actually helps us because we think that we'll be able to utilize that better than some of the other players especially some of the smaller players in the market. And so I understand that it makes people nervous when we start talking about data and when our retailer starts talking about that, but I don't view it as a war. Actually, I think it's a net opportunity for us." ] }, { "name": "Robert Moskow", "speech": [ "Okay. Well, maybe you're winning the war, Jeff. Thanks a lot. Got it." ] }, { "name": "Jeffrey L. Harmening", "speech": [ "Okay. I think we've hit the bottom of the hour. So I know we didn't get quite to everyone, but we appreciate the time that you all spent this morning. We are around all day for follow-up questions for those of you that we didn't get to. Thanks again for the interest in General Mills and hope everyone has a wonderful day. Thanks, Tanya." ] }, { "name": "Operator", "speech": [ "That does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines." ] } ]
ECL	2021-10-26	[ { "description": "Senior Vice President External Relations", "name": "Michael Monahan", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "William Blair & Co. LLC -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays Capital, Inc. -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Deutsche Bank Securities, Inc. -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "BMO Capital Markets Corp. -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Mizuho Securities USA LLC -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "UBS Securities LLC -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "Morgan Stanley & Co. LLC -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Jefferies LLC -- Analyst", "name": "Dan Rizzo", "position": "Analyst" }, { "description": "Citigroup Global Markets, Inc. -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "Vertical Research Partners LLC -- Analyst", "name": "Kevin McCarthy", "position": "Analyst" }, { "description": "Gabelli & Company, Inc. -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Oppenheimer & Co., Inc. -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Stifel, Nicolaus & Co., Inc. -- Analyst", "name": "Shlomo Rosenbaum", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings. And welcome to the Ecolab Third Quarter 2021 Earnings Release Conference Call. [Operator instructions] As a reminder, this conference is being recorded.", "It is now my pleasure to introduce your host, Mike Monahan, Senior VP, External Relations for Ecolab. Thank you, Mr. Monahan, you may begin." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's Third Quarter Conference Call. With me today are Christophe Beck, Ecolab's CEO; and Dan Schmechel, our CFO. The discussion of our results, along with our earnings release, and the slides referencing the quarter's results are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected.", "Factors that could cause actual results to differ are described under the risk factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release. Starting with a brief overview, strong third quarter results were driven by robust new business wins and accelerating pricing, which along with the continued recovery in the U.S. and improving European markets more than offset significantly increased delivered product and other costs. Looking ahead to the fourth quarter, we expect both accelerating sales volume and pricing momentum to leverage an expected continuing though uneven global recovery.", "We expect these drivers to result in the fourth quarter showing better year-on-year sales growth than the third quarter. We have also experienced continued substantial delivered product and other cost inflation that we believe will increase fourth quarter costs by nearly $0.20 per share. As a result, we expect fourth quarter earnings to grow double-digits though not as strong as the third quarter. We expect to once again successfully manage the current inflation challenges and uneven global economic recovery to deliver very strong sales and earnings growth in 2021, as the strong volume and pricing gains, along with productivity and cost reduction actions, enable us to offset the higher costs and yield double-digit earnings growth.", "Recent programs, including Ecolab Science Certified and Net Zero, have further differentiated Ecolab's value proposition, and enabled us to help create better customer outcomes and reduced environmental impact while simultaneously reducing their costs. Our new business wins and innovative pipelines are at record levels. New market focus areas are positioned well to drive growth, and our leading digital capabilities continue to add competitive advantage. Our strong business momentum, along with enhanced value proposition and favorable macro trends, position us well to leverage the post-COVID environment and deliver further superior shareholder returns next year and for the future.", "And now here's Christophe Beck with his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Mike, and good afternoon, everyone. Great to be together with you today. So Q3 has been another very good quarter for Ecolab, demonstrating once again that Ecolab is in great shape, with strong top-line momentum and a proven ability to effectively mitigate the adverse effect of inflation and the so-called supply shortages. Now the underlying sales trends were strong across-the-board. In a complex environment, we delivered 10% reported and 8% fixed currency organic sales growth, driven first and foremost by continued strong momentum in Institutional and Specialty that delivered 17% sales growth in the quarter and 24% from the Institutional division. We also saw accelerated momentum in Industrial sales with 7% growth and 13% in other segments driven by sustained high-performance in Pest Elimination.", "Healthcare & Life Sciences posted negative sales growth year-on-year as they compared to exceptional growth during the pandemic as we know; however, the respective underlying sales growth stayed on a healthy mid-single and double-digit trajectory. This top-line momentum combined with accelerating pricing and structured productivity that's benefiting from our state-of-the-art digital automation drove the strong adjusted EPS delivery, more than offsetting short-term impact from Hurricane Ida and the rapid acceleration of global cost inflation.", "The team did an exceptional job minimizing the impact of Hurricane Ida, which we were able to successfully manage to be a much lower impact than initially expected at only $0.03 in the quarter. Most importantly, the team mitigated the impact of additional significant supply shortages to ensure exceptional service to customers while driving continued new business wins and strong price increases, contributing to 31% increase in free cash flow. Current sales momentum is strong, and we expect it to accelerate. Stronger business and breakthrough innovation are expected to continue to drive top-line growth. Also, pricing will keep accelerating toward 4%.", "The strong volume and price momentum is expected to result in Q4 showing better year-over-year sales growth than what we've seen in Q3. At the same time, delivered product cost will keep increasing rapidly, which we'll continue to mitigate with great pricing; however, as we know with our model, this takes time to do well, in a way that's sustainable long-term, and aligned with the incremental value we create for customers. We therefore estimate that the time lag between pricing and cost inflation will impact the fourth quarter EPS by approximately $0.20 versus what we expected just a few months ago, but that too we'll address over the next few quarters.", "Next, we expect Q4 EPS to continue to grow double-digits though not as strong as in Q3, which will help us exceed the year with great momentum, with strong volume growth, continued pricing and delivered product cost hopefully nearing its peak, we then enter 2022 in great position to deliver another great year for Ecolab. This strong fundamental business momentum combined with continued market recovery provides us with great confidence in the future and especially for 2022. In a world full of uncertainties, we keep driving strong business wins in a competitive differentiation.", "In a world where customers struggle to find reliable partners for innovation, especially product supply and expertise to help them run their operations efficiently and serve their customers safely, we have substantially strengthened our position as their clear, innovative and reliable global partner. In a world where our Institutional Specialty customers and consumers especially are concerned about the increased risks of infection, Ecolab Science Certified has become the reference that provides guests with the assurance they're looking for.", "And in a world where environmental impact has become front-and-center, our Net Zero offering is providing Industrial segment customers especially leading and innovative ways to deliver on their commitments when improving their own financial returns. All this provides us with confidence that '22 will be another strong year for Ecolab with sales and earnings growth above our long-term trends.", "So with that, I look forward to your questions." ] }, { "name": "Michael Monahan", "speech": [ "Operator, please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Thank you. Our first question is from Tim Mulrooney from William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Christophe, good morning." ] }, { "name": "Christophe Beck", "speech": [ "Hi. Good morning, Tim." ] }, { "name": "Tim Mulrooney", "speech": [ "Thanks for taking my question. So my first one is on the guide. It sounds like you expect organic revenue growth to accelerate in the fourth quarter off an already strong result here in the third quarter. I know that some of that should come from better pricing but are there other areas of the business that you expect to accelerate in the fourth quarter as well? And could you talk about what some of those might be?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Thanks for the question, Tim. So you mentioned the pricing. We keep accelerating in Q4. We have to, and we can, as well so the value that we're creating for our customers. So that will help drive organic growth, obviously. Volume growth will keep accelerating as well in most businesses, Industrial being one good example. And Institutional is going to keep doing really well as it recovers, and you will have as well so Healthcare & Life Science that are going to compare so to easier comps last year than we had in Q3, and all that brought together so will bring us to a better place for Q4, probably nearing the double-digit level." ] }, { "name": "Tim Mulrooney", "speech": [ "Oh, OK. That's even more than I was thinking. Thank you. And then quickly on margins. I saw Industrial margin took another step back this quarter, but I know you guys have talked about maintaining these margins and building upon the gains you made in 2020. So my question is, is the step back primarily related to the raw material cost pressure? In other words, would you still be on track to hold the margin gains you achieved last year if not for those raw material cost pressures? I'm just trying to understand what a normalized operating margin should look like for that business." ] }, { "name": "Christophe Beck", "speech": [ "Yeah, that's a good way to look at it. Normalized, the margins would keep improving, actually, so if we think mid to long-term, the margin trajectory for Industrials will become even healthier going forward, because when we talk about give back, we're not giving back anything. Pricing is going up quarter-over-quarter in Industrial, like in other businesses, by the way, as well. Volume is going up as well, so it's kind of this short-term inflationary pressure which is quite strong, which is growing quicker than the way we price, for all good reasons since we want to make sure that we keep all customers while we do that, and that we drive also the value we create as well ultimately so when delivered product cost curve is going to ease, margin is going to improve again as you've seen last year, by the way, which was the end of another cycle as well in Industrial." ] }, { "name": "Tim Mulrooney", "speech": [ "Very clear. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim." ] }, { "name": "Operator", "speech": [ "Our next question is from Manav Patnaik from Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Yeah, thank you. I was just hoping you could give us an update competitively in terms of I'm guessing everyone's raising prices and so customers are aware of that, but has the share gains moved one way or the other? Just curious if there's any update there to provide." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Hi, Manav. So, I wish that most competitors would be driving as much pricing as we do. It's unfortunately not exactly the case, which thank God we drive pricing based on the value we create, so we have a good discussion so our customers saying we have opportunities to add value in your own productivity and we will get part of that as well, so going forward. If I look at most of the competitors in most of the businesses, they're all behind us in terms of price evolution, so we see ourselves as being the leader in most of those industries as well, so we need to show the way as well. So part of the reason but ultimately I wish that there would be a bit stronger as well in terms of price evolution." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. And then just regionally, in Europe, because you have a bigger competitor there, or any update to how your recovery in Europe is progressing?" ] }, { "name": "Christophe Beck", "speech": [ "It's generally quite good. The recovery was a little bit steeper in Europe than in the U.S. because as you know, so they went from kind of totally locked down, so to almost totally opening it up, which was different in the U.S. And then you have a bit of the bumps in the UK or in Germany because cases numbers are going up, but generally the trends are quite positive and our international business, Manav, is growing positively as well. And keep in mind that last year we were flat as well, so we were not declining in international, so having a positive growth this year is a good indication that things are recovering quite nicely." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Manav." ] }, { "name": "Operator", "speech": [ "Our next question is from David Begleiter from Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Good afternoon. Christophe, just on price versus raws, when do you expect to fully catch up to these high raw material costs?" ] }, { "name": "Christophe Beck", "speech": [ "So, David, if you just take the dollar value, year-to-date, we are ahead already, which is really in the Ecolab model. So it's not within the quarter but if I take year-to-date, pricing is ahead of the delivered product cost dollar pressure, and for the most part, we will remain ahead. It's not a perfect science but it comes in lockstep. To me, the main objective is making sure that we can drive margin in percent and that takes more time obviously to get there because of inflationary pressures grows faster than our pricing capability." ] }, { "name": "David Begleiter", "speech": [ "Very good. I know it's early for next year, but as we approach November, do you have sort of early thoughts on how to think about the earnings, the progression for next year?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, it's very early, as you say, David. I think so first, on the inflation side, I believe it's going to be very similar to the pressure that we have or that we are experiencing in 2021 and that's why the pricing evolution that we have this year, roughly 2%, we're expecting to get toward 4% next year, will be a good equation at least over time. And generally, so for the trends for 2022, when I just step back a bit, I think that it's going to be fairly consistent with what we've seen in the second half of the year, so overall, it's going to be probably better than what we've seen pre-COVID, if I may say, so kind of good top-line momentum with good leverage with it." ] }, { "name": "David Begleiter", "speech": [ "Very good. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, David." ] }, { "name": "Operator", "speech": [ "Our next question is from John McNulty from BMO Capital Markets. Please proceed with your question." ] }, { "name": "John McNulty", "speech": [ "Yeah. Thanks for taking my question. Just on the topic of the Institutional business, can you speak to where you are from a volume perspective relative to 2019 for your third quarter?" ] }, { "name": "Christophe Beck", "speech": [ "It's a good question, I'll need some help with that so for that we are recovering very nicely in Institutional, so in general, maybe just to give you an idea of the trajectory. We expect to be ahead of 2019 kind of early '22. I don't know which months that's exactly going to be. That's depending on a bunch of things but generally we see that in the next three to six months it's going to happen so for sure. So right now we are kind of roughly in Q3, so 11% down in volume and we will be expecting to be close to 19% so early '22." ] }, { "name": "John McNulty", "speech": [ "Got it. Okay. So you've come back a good bit of the way. I guess as a follow-up, you mentioned a bunch of labor issues for a handful of your kind of general customer bases. Can you speak to how much of an issue that is for them? How does it impact the overall growth for that business to recover? And then also, maybe some of the solutions that you can provide some of these customers that help them with their labor issues?" ] }, { "name": "Christophe Beck", "speech": [ "It's a great question, because it's a real challenge for the industry. Not just for our end customers, and really specific to Institutional here, so the whole distribution channel is also struggling with that. So getting trucks unloaded from our plant at the distribution center and then afterwards getting the picking right as well so for our customers it's an interesting world out there. What I'd like to say as well, what's really important, is that most, if not all of our customers, including the distributors, are clearly underlining our service quality. We've done huge efforts to make sure that we can deliver to our distributors and to our customers, which is first and foremost what needs to happen, especially we saw Hurricane Ida that didn't help but I think that we've ended up in a very good place in terms of service level.", "Now to your question on the staffing, if you just look at the numbers, Institutional business up 24% saw very good progression. We are almost at the same level as 2019 in terms of customers that we're serving as well. We have our restaurant sales that are not even 10% down so versus last year when the dining foot traffic is down over 20%, so generally, we're doing very well versus the market. But at the same time, when you go to restaurants, you see that they can't serve all the tables or they can't be open every single day of the week as well. So it's basically showing an indication that we could be even better or will be better the moment that they get the staffing right.", "And last but not least, to your point on how we help them get there. Obviously the service that we provide, so on a regular basis, going there is very helpful for them, because if the kitchens, if the housekeeping, if the washing is not done properly, well it's even worse because they usually don't have people who can truly do the work since they're all new, changing so often as well, that's problematic. And we provide a lot of products as well that need much less labor as well at the same time. You think about the disinfectants we talked about against COVID. Well, you don't need to rinse, for instance as well, so you save a lot of time doing the same work that other companies offer, so that's helping as well with the labor shortage." ] }, { "name": "John McNulty", "speech": [ "Got it. Thanks very much for the color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Chris Parkinson with Mizuho. Please proceed with your question." ] }, { "name": "Christopher Parkinson", "speech": [ "Great. Thank you very much. You're clearly not only enthusiastic on but you are executing on the share gain front, which seems to be across the portfolio, but what's the primary driver here? Is it enterprise selling as you've spoken in the past, new platforms like Science Certified, digitization, new customers desire to go with a brand name? If you could just briefly dissect the recent success and what underscores your multiyear confidence it would be greatly appreciated. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "You're welcome, Chris. So there are a few drivers. The main one we have is really the new business generation. It's not new, you're familiar with that, we have close to 1,000 people managing, so corporate accounts as we call them, and we're very proud of that team. And net new business generation is at an all-time high, which is good, because it's the pipeline of new business as well for the future, and it's driven by two main drivers, if I may say. One you mentioned.", "It's the Ecolab Science Certified, especially on the Institutional side, so customers are looking for ways to provide the right confidence for their own customers, their guests as they call them, and Science Certified requires the full Ecolab program to be certified, while that means higher penetration of most of the solutions. And so we get more units and more solutions so within the existing units in order for those customers to get to the certification. One of the latest, as I mentioned on the Investor Day, is McDonald's which has been a great story with them endorsing Science Certified.", "On the Industrial side is our Net Zero program is getting some very interesting traction because many of our customers, if not most, have made a lot of sustainability commitments out there that some of them have a hard time, so to reach or get closer to, to stay on track for that, so they need our help even more in order to get to their own commitment. That's helping generating as well new business. And last but not least, new engines like data centers and high-tech are extraordinary growth drivers, really addressing new needs that existed pre-pandemic but the pandemic has given a huge boost to cloud computing, as we all know since we're all using this virtual technologies, well that's driving our own business as well at the same time." ] }, { "name": "Christopher Parkinson", "speech": [ "That's very helpful. And just as a very quick corollary of that, just turning to European Institutional, recently it was a little bit sluggish versus its regional peers, but it seems to be edging in the right direction. Can you just briefly comment on what trends you're seeing there across the region, share gain opportunity and just your ability to further drive margins higher across the region? Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Yeah, good question, Chris. We've done the last 10 years and you've been following us for a long time, a lot of fundamental work in Europe for all our businesses. When you think about it 10 years-ish ago, we were making no money as a company in Europe. Now, we're in the low-teen, 13%, 14%, in that region. That's been a remarkable profitability improvement. Interestingly enough, Institutional has not made as much progress as all the other businesses in Europe because there was so much fundamental work that had to be done in terms of organization, in terms of systems, in terms of leadership, in terms of innovation.", "While it's taken us more time, but I would say the pandemic has helped us in a way, its hurt us short-term obviously when everything was shut down, but ultimately our customers have seen that they needed a partner that could help them provide the assurance to their guests which was new, that was not exactly the focus that we're having pre-pandemic. And now, so we're getting the fruit of all the work we've done over the past few years where customers are recognizing that we're adding value that other suppliers can't provide." ] }, { "name": "Christopher Parkinson", "speech": [ "Great. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. Just a little clarification on the labor comment, customer labor comments that you made earlier. Do you have any lost revenues because the customers don't, just don't have enough staff to do all the cleaning that they would prefer to do?" ] }, { "name": "Christophe Beck", "speech": [ "Absolutely. When restaurants are open, John, three days a week instead of seven or whatever the schedule is, well this is lost revenue for them, and this is lost revenue for us. But the good news is that they're going to open up at some point as they did pre-pandemic as well. That's going to help us as well." ] }, { "name": "John Roberts", "speech": [ "No, I meant just they're opened, but they're short staffed while they're open and so cleaning is getting deprioritized." ] }, { "name": "Christophe Beck", "speech": [ "It was the case, John, early on. It's evolving quite nicely because you and I being guests in hotels and restaurants, while we had some understanding for the lower cleaning standards during the pandemic. We're paying the same price at the end for a room or for a meal. So we expect as well so similar quality of service and of cleanliness as well. So this is something that's coming back progressively, but the labor shortage is hurting that. So the trends are good, it just takes time to get back to the right place." ] }, { "name": "John Roberts", "speech": [ "I don't think Healthcare & Life Science is very seasonal, so could you talk a little about the sequential change on a sequential basis? I assume hand sanitizer, we're still down sequentially. I don't know when that bottoms and you get up comps and what was offsetting that?" ] }, { "name": "Christophe Beck", "speech": [ "So a few things here. You're right. It's not really a seasonal business. That's not the way we look at it, for sure not. But last year was an exceptional year because of demand, and because of a lot of government-driven demand for hand care, hand care sanitizers and all those products ultimately, so exceptionally high back then. If you just look at the Q3 sales of 17% down versus last year, but they were up 8% versus 2019, if you just do the math.", "And in terms of mix and not so much seasonality, what's driving profitability in Healthcare is mostly the surgical part and COVID, as you know, has shifted away the elective surgeries, which has shifted our business as well toward a lower profitability-type of business but this is short-term. It's driven by COVID. The moment that surgeries are coming back ultimately, we'll have the double combination first on seeing growth because we will be comparing against a more normal period and second profitability is going to come very naturally back, because surgical is going to come back as well." ] }, { "name": "John Roberts", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "You're welcome, John." ] }, { "name": "Operator", "speech": [ "Our next question is from Gary Bisbee with Bank of America. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey, guys. Good afternoon. So I wanted to go back to Institutional for a minute. I think versus 2019, pre-pandemic, if you adjust for currencies in the last two years, the business, Institutional segment, remains 8% below pre-pandemic revenue levels in the quarter. And you commented you thought volumes in the next three to six months would get back to pre-pandemic levels.", "Does that equate to that revenue gap getting back to pre-pandemic levels or are there other puts and takes that could lead revenue to take longer? And as part of that, I guess I also wondered what sort of unit level customer level do you think you'll be at when revenue gets to pre-pandemic levels? And I ask that from the perspective of you talked about more products per unit, particularly for those clients that are using Ecolab Science Certified. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. So, Gary, big picture as mentioned earlier, Institutional expected so early 2022 so to get back to 2019 levels, at the top line level. I don't know exactly which months that's going to be, but within the next six months it's going to be the case, which is a very steady and healthy recovery. With that, the fact that we had very good new business, well that's going to be installed as well in the months to come. So if today we have almost the same number of units and the same number of solutions within units out there, well it's going to compound.", "Then afterwards once we get more units, more days that are going to be open, more staffing in the restaurants as mentioned as well before, so all those elements ultimately are going to help Institutional accelerate versus what we saw in 2019 pre-pandemic as well. On top of it, you have pricing that's also evolving in the right direction as in every business that we have in the company, that's going to add to it as well. And last but not least, from an earnings perspective as well, Institutional has done remarkable work in terms of field organization, system implementation, that really help as well drive an even better leverage in that business, so overall trending in the right direction. It's going to take a few quarters in order to get there but I feel confident that we're really on a good path." ] }, { "name": "Gary Bisbee", "speech": [ "Okay, great. And then you've talked a lot about your own pricing and how you're handling the raw material pressures. If we just think of supply chain in general, not so much the cost and pricing angle, but are you seeing any volume issues of your own or do you feel like any of your customers in any of the segments are really being impacted in the volumes they're using based on the widespread supply chain challenges that are going on globally? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "To a certain extent, yes. So there's the labor shortage, as we mentioned before, but that's not the one that you're talking about obviously here. But take the example of the car industry, autos. The chip shortage that's happening out there has nothing to do with our own operation but it's reducing the demands just because they are less cars being produced because they can't produce them because of the chips ultimately out there, so that's one. So that's something we can't control, obviously.", "What we can control, though, is making sure that we can supply our customers in a way that doesn't stop or impact their own operations. And in this crazy world of shortages and hurricane and Texas freeze and you name it ultimately, not one customer had to stop ultimately because of what we're not able to supply. I've met a bunch of CEO's over the past few months as well and all have been very complimentary as well in our ability to serve them in a difficult environment. So net-net, yes, it's not helping growth. If there were no shortage we would be probably growing faster, but I don't think that it's a major impact on us." ] }, { "name": "Gary Bisbee", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you and good afternoon, everyone. A bit of a follow-up on the supply dynamics. When you speak to your suppliers these days, how much of the issue at this point and as we look into 2022 is still that they're struggling to get their plants back up and running at a full run rate versus just that the broader customer base very much wants to rebuild inventory and is also probably seeing very good demand? And so how much of a risk do you see that either. A, there's another run-up in raw material costs even as supply normalizes just because people want to rebuild inventory or B, just that the raws stay stickier at these higher-levels well into or through next year?" ] }, { "name": "Christophe Beck", "speech": [ "Well, the short answer is that I think it's going to last 12-plus months, what we're experiencing now, and that's the way we organized it. That's the way we're addressing it. That's the way we're planning for it as well. Supply shortages are going to be here so for a while. You're familiar with the China U.S. transport issues that are existing as well. There are many suppliers as well in the U.S. who have gone through force majeures as well over the past few months, sometimes for great reasons and sometimes not so much, just to get some more margins as well, with costs going up as well.", "So the way we're thinking through that is that as mentioned earlier, I expect the inflationary pressure in dollars in 2022 to be very similar to the one in 2021, with kind of easing, plateauing during the second half of next year, which is why on one hand, thank God we've gotten very well-organized in order to become more resilient, in order to make sure we can supply our customers. And second, that we're doubling our pricing, so from 2% to 4%, 2021 versus 2022 in order to address that, and if the world gets better earlier, well, we're all going to be happier." ] }, { "name": "Vincent Andrews", "speech": [ "Okay. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "You're welcome, Vincent." ] }, { "name": "Operator", "speech": [ "Our next question is from Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Dan Rizzo", "speech": [ "Good morning, or good afternoon, guys. Dan Rizzo on for Laurence. Just in terms of the pricing that we've talked about a lot, is there situations where there's pricing rebate or pricing give-backs if things were to ease dramatically? I mean obviously that's not expected, but if the world changes in, I don't know, six months, nine months, would you give pricing concessions?" ] }, { "name": "Christophe Beck", "speech": [ "Overall, we don't, Dan. We're serving 3 million customers in the world, so I won't say that it's the case for 100% of all those locations that we're serving. But generally, if you look at just the last 10 years, Ecolab never went backwards in pricing. You have years with higher pricing and some with lower pricing and in average you get to 1%-plus, something like that, which is a good indication of the fact that pricing is something that we hold going forward. And why that is, because we always linked the pricing that we're asking with the value that we're creating so for our customers.", "How much dollar value we've helped them create by reducing the usage of natural resources, their improved productivity, reduced waste and so on, ultimately. That doesn't go away when the raw materials go down ultimately, which is on one hand the reason why pricing is always going to go up and second, that the margins ultimately for the company gets better because you get lower input costs for a price that keeps going up as well. And last point is innovation as well, which is always brought in the market with higher margin. That helps as well improving the leverage in a much more natural way." ] }, { "name": "Dan Rizzo", "speech": [ "That's really helpful. And then just one clarification on something you said before. Did you say that you expect the raw material or the inflationary environment to last for all of 2022 or most of 2022? Did I catch that right?" ] }, { "name": "Christophe Beck", "speech": [ "I wish I could know exactly but I'm saying the next 12 months it's going to be the case. And that's the way we're planning. That's the way we're getting organized. So I think it's going to ease the second half of next year. When is it going to start? How much is it going to be? I don't know. We're planning with the fact that it's going to be a tough year next year in terms of inflation. And if it gets better, then OK. It's going to make everything easier." ] }, { "name": "Dan Rizzo", "speech": [ "Okay. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "You're welcome." ] }, { "name": "Operator", "speech": [ "Our next question is from Eric Petrie with Citigroup. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "Hi. Thank you and good afternoon, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Eric." ] }, { "name": "Eric Petrie", "speech": [ "Which segments of Industrial have you seen the greatest initial interest in your Net Zero program?" ] }, { "name": "Christophe Beck", "speech": [ "That's a great question. It depends when, Eric. The ones over the last few years have been the Food & Beverage customers. Those are the consumer goods brands that are the most on the leading-edge because their own consumers are asking them to behave the right way in terms of Environmental Protection and natural resources usage. But then the ones that are the most forward-looking, interestingly enough, are the high-tech companies like Microsoft, who have put the most ambitious commitments by 2030, right.", "So they want to be so carbon-positive and water-positive as well, which means so kind of giving back all their views since the beginning being in operations, whenever that was, early 90s as Microsoft. So there we use a lot of new technology for that. And the last one I'll just mention, Eric, which is becoming very interested that was not interested six months ago, interestingly enough, is downstream in Oil & Gas because while investors and consumers are truly asking them to shift. And those ones are coming to us, and they did not 12 months ago. So very different types of industries but the trends is clearly going all in the same direction." ] }, { "name": "Eric Petrie", "speech": [ "Thank you. And then a question on Ecolab Science Certified. I think that program was launched sometime in third quarter of 2020. When do you think you'll reach a point of market saturation or where the program doesn't add to top line?" ] }, { "name": "Christophe Beck", "speech": [ "That's a great question. I hope never, but well there's 100% somewhere obviously. But interestingly enough, so we have today 33,000 locations that are Ecolab Science Certified in the U.S. and we're serving close to 200,000 locations, so there's a lot of runway. And that's just in the U.S. We're expanding in Canada, in the UK right now it's easier because it's the same language so for the most part as well. And then we have the rest of the world, but we're careful in expanding internationally, because since it's a new program, as you mentioned, so launched mid last year, really want to understand how it works, how it's perceived, what's right, what's not right, as well.", "So I think that the runway is quite long and it's been much more successful than I thought it would be initially, I thought it would be just COVID-related, well this is not the case. Interestingly enough, lodging customers, hotel, are becoming increasingly interested in that program because guests want to have that feeling of wellbeing when they go to a hotel. The same for offices as well, so those are new opportunities that we didn't think about early on. That adds ultimately to the accessible market that we have in front of us." ] }, { "name": "Eric Petrie", "speech": [ "Thank you, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Kevin McCarthy with Vertical Research Partners. Please proceed with your question." ] }, { "name": "Kevin McCarthy", "speech": [ "Yes. Good afternoon. Christophe, I was wondering if you could talk through the hurricane impacts. It looks as though the impact is expected to be half of what you thought it might have been on September 13, and your prepared remarks suggest you attacked that through pricing and productivity. So I was wondering if you could address each of those things and provide some more color as to how you went about mitigating that?" ] }, { "name": "Christophe Beck", "speech": [ "Great question, Kevin. Well, our practice is when we see something happening that was not planned. We always get to you as quickly as we can to be transparent with what we see at that moment. So the downside of that practice is obviously a week or two later if things have changed for the better, in that case, well the forecast is a bit different as such. To give you some color on the Hurricane Ida, we have systems showing where the hurricanes are going to go through, what's the path of the hurricane. And we initially thought that it would really avoid one of the large plants that we have in Louisiana, in Garyville. Well, unfortunately, a few hours before it changed and it shift to exactly one of our main plants in the U.S.", "And with the damage we had there, we thought the plant would be closed for three months. And our supply chain team that, fortunately or unfortunately depending on how you want to look at it, has had a lot of practice this year with natural catastrophes as such, has brought all the teams we had so from other plants as well in order to help them rebuild part of the production line that had been damaged, because you couldn't find contractors in the area either for all the reasons we know. Well that has helped us reduce the three month stop to three weeks ultimately. Well that has been great for our customers first and foremost. And second, it's allowed us to reduce the impact quite dramatically. So that's an additional point to the ones you mentioned." ] }, { "name": "Kevin McCarthy", "speech": [ "I see. Then as a brief follow-up, have you implemented incremental price increases over the last few months? And I guess regardless of the answer, how would you expect price contributions to trend in 4Q versus 3Q?" ] }, { "name": "Christophe Beck", "speech": [ "So the short answer is that we've gone to many customers three times this year. Usually in normal times, whatever that truly means, we do that once a year. And it's a very natural practice that the company has, where we discuss the plan for next year, how much value we're creating for the customer, what's going to be our share of that. In other words, the price that we're going to get for it as well and making sure that the returns for customers are improved. That's normal practice, once a year.", "We did three times in average this year, so very unusual. I assume it's going to be similar next year, so between one and three times. It's going to be more than one, that I'm sure, so we go for a bunch of pricing rounds. Now to your question, Q4 versus Q3, we're heading toward 4% to enter 2022, so is it going to be the full quarter in Q4? I'm not totally sure yet. It's going to happen sometime during the fourth quarter, so depending on when we get it done, it will be for the full quarter or it's going to be as we enter 2022. But I have a high confidence level that we're going to get the pricing that we're looking for." ] }, { "name": "Kevin McCarthy", "speech": [ "Very helpful. Thanks so much." ] }, { "name": "Christophe Beck", "speech": [ "You're welcome." ] }, { "name": "Operator", "speech": [ "Our next question is from Rosemarie Morbelli with Gabelli & Company. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone." ] }, { "name": "Christophe Beck", "speech": [ "Bon jour, Rosemarie." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Christophe, looking at the price of oil having reached $80 a barrel or thereabout, is that, do you see that already beginning to help your downstream business? And still on the downstream side, how is your Net Zero category going to help them? Which areas are you focusing on?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Great questions. The high price of oil makes some people happy in our organization. That's the downstream team. And most of the rest of the company, a bit less happy because it's an input cost that's going up, but net-net, OK it's OK. We know how to manage that generally. So you've seen downstream, so we're not, so in Q3 so 2%, so we cross the board of the zero which is good, so we see really good evolution in downstream. So yes, the price of oil is helping on the demand.", "They've done some very good work as well in our downstream team in terms of new business. This is helping and not directly related to the price of oil for sure. And when you talk about the Net Zero, it's very interesting early discussions as such, but to take one example of one European company actually with whom we are working on that Net Zero program, they're basically saying you need to help us improve the environmental footprint of our old energy which is the refining part, before we can focus on the new energy, the renewables as such.", "So we've really helped them understand that by reducing the water consumption in a refinery, which by the way is the number one natural resource that's being used in a refinery, well you reduce the energy usage as well, electricity, so for the most part as well. So they reduce their water consumption, they reduce their carbon footprint by doing it and they reduce their costs as well. So interestingly enough, it's an industry that was not so much interested in even having that discussion. That has changed dramatically and that's helping create new demand for us." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay. And then -- thanks. That is helpful. And then looking at Europe, which you know very well since you ran it for a while, if my memory serves me right." ] }, { "name": "Christophe Beck", "speech": [ "That's right." ] }, { "name": "Rosemarie Morbelli", "speech": [ "What is, well I understand that you will never get the Institutional business to reach the level of the Institutional high end under normal circumstances in North America, so what is the difference other than the fact that you have a multitude of countries and different advertisements and so on? Is the competitive arena also very different? What is your new management there doing to offset some of that?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, so you said it the right way. So we will not reach the profitability level of the U.S., because it's not one country and the complexities is bigger as you mentioned so the languages, logistics, regulatory and so on. That's a cost of doing business that's higher than in the U.S. That's true for most companies, obviously, but that's not the reason why we shouldn't get close to it. But we had to really do some fundamental work over there in getting our structure right, getting our talent right, getting our logistics right.", "And most importantly, we can't forget that 10-plus years ago, Institutional in Europe was a product business. We were selling products versus programs and outcomes in the U.S., because it was a joint venture, with our consumer goods company 10-plus years ago, that we had over there. Well, that's a major culture shift as well so for our team that needed to happen, so we are a patient company. You know that we've been working in businesses so for years, take Pest Elimination took us 10 years to bring it profitable and now it's one of our most profitable businesses globally that we have. I feel confident that in Europe we will get to a very healthy place, even if it's not at the level of the U.S. It's going to be a very solid business down the road but it's still going to take some time." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay. Merci. Bon chance." ] }, { "name": "Christophe Beck", "speech": [ "Merci bien, Rosemarie. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much. Good afternoon. Christophe, just kind of taking a question off something you just mentioned. The other segment, the margin really rebounding strongly and it's now above the 2019 level. Despite commentary end markets have not fully recovered. So I'm just curious if you could delve in a little bit to what is driving the margin in Other? And where that possibly could go since we're now above 2019? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "So, you know that we have in our Other segment you have a combination of different businesses obviously, so Pest Elimination being the bigger and best one. You have Textile Care that's in there, and you have CTG, our Colloidal Technology Group. Very different businesses obviously so it's hard to talk about an average as such. The main driver is Pest Elimination, that has done a remarkable work during the pandemic, by the way, so they recovered very quickly during 2020 and kept growing as well in 2021 and at the same time have managed as well to improve the profitability versus 2019, 3.5 percentage points as such. So large business, growing very nicely, profitable and getting more profitable, obviously you get a lot of leverage and, Scott, that drives the good results that you've seen in our so-called Other segments." ] }, { "name": "Scott Schneeberger", "speech": [ "Excellent. Thanks. Appreciate that. And my follow-up, want to kind of delve into in the supplemental discussion in the summary section, there's commentary expecting to enter 2022 solid momentum, driving strong top, bottom line through product and service innovation, digital solution, new markets and appropriate pricing. Just curious, Christophe, is at this point, can you elaborate on new markets in that sentence? Specifically, what you had in mind? If not I'll have a follow-up but just want to delve on that. Thanks." ] }, { "name": "Christophe Beck", "speech": [ "Yeah, so it's kind of all of the above, starting first with new business. It always feels a bit mundane, but we have this mantra in the company that in doubt, go and sell something. And it's really having everyone trying to sell new customers, new solutions to existing customer. This is job one. And we want to make sure that we don't lose, obviously. So that art. And interestingly enough when you do more pricing that has an impact as well on how much new business, when you do more pricing that has an impact as well on how much new business. So it's not a perfect science, but we manage that reasonably well, or very well, if I may say.", "In terms of new markets, I'll mention a few. So the one I expressed before, our Data Center business, which is driven by the whole boom of cloud computing. We have created that high-tech division, which is really dedicated to those companies with their own needs, up-time, quality, cybersecurity, and all that, which is growing extremely fast. So that's one of the new markets. Animal Health is another one which has been hit a bit by the pandemic and some difficulties in some countries but ultimately that's also one that's going to grow very fast in the years to come.", "And most importantly you have Life Science, which is a business that we created five years ago. It's a 300 million business growing double-digit with extremely high profitability as well. This one is just at the beginning of its growth story and as you know, Life Science is serving mostly the pharma industry, which is a $1 trillion industry growing double-digit. And for me, we have so much to offer to that industry. I think that's going to be the number one new market, to use your term, that's going to help us grow well next year and the years to come." ] }, { "name": "Scott Schneeberger", "speech": [ "Excellent. Sounds good. And that's what I expected to hear. Just wanted to make sure there wasn't anything geographical perhaps expanding. But I'll turn it over. Thanks so much, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "You're welcome." ] }, { "name": "Operator", "speech": [ "Our next question is from Shlomo Rosenbaum from Stifel. Please proceed with your question." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Hey, Christophe. Couple of quick questions. Just maybe some of the growth in Water and Paper particularly strong. Can you dissect how much would you say is coming from easier comps and how much is really an accelerated cadence of those businesses that we should be thinking about just on a more regular basis?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah. So first on water, it's been a steady business so for many, many years because of all the right reasons. Is that water scarcity becomes a bigger issue and by reducing the water usage you'll reduce energy usage, you'll reduce your carbon footprint. So it fits really well with the Net Zero idea. So the Water business, which is a very large business, while the company has been successful for years, and we'll keep going well, because customers need it even more, because of this Net Zero approach as such. Now, on Paper, it's been an unbelievable year, in Q3, so growing 19%. You have kind of a third of it is pricing, two-thirds is volume, some is comp but a lot of new business as well has been generated in our Paper division. So it's not going to stay at that high level as such, because the comp are going to normalize going forward, but it's going to remain a healthy business going forward with very nice profitable margin as well." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay, great. And what's the interest internally at Ecolab to pursue M&A within the Pest business? There's been more consolidation outside with other players who have bought small businesses. Is that something that you guys would be interested in going, in doing more activity over there? Or alternatively, if someone approached you about your business, would you be interested doing a deal with someone else?" ] }, { "name": "Christophe Beck", "speech": [ "So hard for me to comment on M&A, as you know, Shlomo, but it's a great business for us. So it's definitely not excluded from what we're looking at out there. We've done a lot of acquisitions, that's the way it's grown to a certain extent as well. We started with an acquisition in North Dakota so a few decades ago as well, so we know how to do it. It works really well. We do not exclude it. Is it number one priority in terms of M&A? No. I've always mentioned it's Life Science, Water, healthcare, And digital are the big ones out there. But, Shlomo, we will not have strategy getting in the way of making money, so if there's a good opportunity out there, we'll consider it as we've always done." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay, great. Thank you." ] }, { "name": "Operator", "speech": [ "Mr. Monahan, there are no questions at this time. I would like to turn the floor back over to you for closing remarks." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. That wraps up our third quarter conference call. This conference call and the associated discussion slides will be available for replay on our website. Thank you for your time and participation and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2022-04-26	[ { "description": "Senior Vice President, External Relations", "name": "Mike Monahan", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Barclays Capital -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Steve Byrne", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Ashish Sabadra", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Chris Parkinson", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Josh Spector", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Chief Financial Officer", "name": "Scott Kirkland", "position": "Executive" }, { "description": "Oppenheimer and Company -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Vertical Research Partners -- Analyst", "name": "Kevin McCarthy", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Shlomo Rosenbaum", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Mike Harrison", "position": "Analyst" }, { "description": "Gabelli and Company -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Robert W. Baird and Company -- Analyst", "name": "Andy Wittmann", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Kevin McVeigh", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to Ecolab's first quarter 2022 earnings release conference call. At this time, all participants are in a listen-only mode. During the question-and-answer session, we'll follow the formal presentation. [Operator instructions] As a reminder, this conference is being recorded.", "At this time, it is now my pleasure to introduce your host, Mike Monahan, senior vice president, external relations. Mr. Monahan, you may begin." ] }, { "name": "Mike Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's first quarter conference call. With me today are Christophe Beck, Ecolab's CEO; and Scott Kirkland, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's results are available on Ecolab's website at ecolab.com/investor.", "Please take a moment to read the cautionary statements in these materials which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview, continued strong double-digit sales growth driven by accelerating pricing and further new business wins overcame substantially increased delivered product cost inflation and unfavorable currency translation to deliver the adjusted diluted earnings per share gain. Sales were led by double-digit gains in our institutional & specialty, industrial, and other segments with attractive growth in all geographic regions. We drove the strong sales performance in a rapidly changing environment where the rise in new COVID infections early in the first quarter slowed the global recovery and further disrupted supply chains while the war in Eastern Europe later in the quarter exacerbated the supply chain costs and geopolitical uncertainty. Our delivered product cost inflation soared an estimated 25% in the first quarter versus last year and added an estimated $0.55 per share of incremental costs to the first quarter alone.", "We reacted aggressively and continued accelerating our pricing, which reached 5% in the quarter, up from 3% in the fourth quarter. We now look for a structural pricing to increase 6% to 7% for the balance of the year. And when adding in our previously announced energy surcharge of up to 12%, we expect very strong pricing to overcome the substantial delivered product cost inflation. Along with our new business wins, strengthened business portfolio, and improved productivity, we look to realize continued strong top-line momentum for the full year.", "We expect accelerating earnings growth through the second half and expect to deliver low teens growth in adjusted diluted earnings per share for the full year 2022 understanding there's uncertainty in the timing of the surcharge realization, which will become more clear as we exit the second quarter. This strong business momentum, along with our enhanced value proposition and favorable long-term macro trends, positions us well to leverage the post-COVID environment and deliver further superior long-term shareholder returns. And now here's Christophe Beck with his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Mike, and good afternoon, everyone. I'm very pleased with how the team continued to execute in Q1. In a rapidly changing environment, we remain focused on what we could control, like new business, pricing, innovation, and exceptional customer service, while we continue to manage extremely well but we could not totally control, like obviously inflation, COVID restrictions, and now the war in Eastern Europe. We started '22, actually, with strong momentum as our fundamental business drivers continue to improve, which is most important to me.", "Fixed currency organic sales growth accelerated to 12% with 7% of that led by volume gains from strong demand and new business generation. Institutional & specialty, as you just heard, led the quarter with 19% organic growth, continuing its strong recovery while industrial further strengthened its already healthy momentum by delivering 12% organic growth, which is even better than what they delivered in Q4. Our margins were also trending very well for most of the first quarter, even ahead of our own expectations as we were on a path to nicely overcome the significant delivered product cost inflation until the war in Eastern Europe started. As we all know, this had a major impact also on global energy costs, which impacted the last few weeks of the quarter.", "This spike in costs added an unexpected incremental $0.04 a share in the last months alone, resulting in a total unfavorable impact from delivered product cost inflation of $0.55 per share in the first quarter close to 70% of our ultimate Q1 earnings. Importantly, we overcame the significant headwind, thanks to accelerated pricing, which rose from 3% in the fourth quarter to 5% in the first quarter. And most importantly, we did all this while maintaining strong momentum in demand, new business, pricing, and productivity, the fundamentals of Ecolab. So based on what we see today and the actions we have already taken, I remain really confident in our ability to continue to deliver strong top-line growth and accelerated pricing in '22 to get ahead of this new energy cost and to see our margins turn positive during the second half to deliver a strong full year 2022.", "Even if the path to get there has now changed quite a bit once again, the unexpected rapid rise of oil and gas costs during the last month of the first quarter will now impact three full months of the second. We, therefore, had to react boldly and we did. We decided to implement a global energy surcharge very first for Ecolab, which will now come on top of our increasing long-term structural pricing. And once fully implemented, the surcharge will then behave as an offset to what we expect to be short-term but incremental energy cost inflation.", "Now we started the second quarter and actually with 100% of the incremental energy cost, but 0% of the energy surcharge as its implementation started on April 1. Because of this, we now expect the second quarter to see the most acute squeeze in the year between price and delivered product cost inflation. Occurring at the same time, the surcharge is being implemented with customers around the world, but early progress is very encouraging. As the energy surcharge progressively rolls out, we should see the bulk of the surcharge primarily impact the second half of the year and somewhat the second quarter.", "And accordingly, this initial benefit from the surcharge along with accelerating structural pricing, strong volume growth, and productivity gains should help us drive our second quarter delivery with earnings that approach last year's $122 million. And finally, as it's been demonstrated over and over again at Ecolab, when challenging times strike, we make absolutely sure we protect what matters, our people, our customers, and our company. Over the past few years, when we could have reduced our workforce to manage short-term costs, we protected our global team, one of the key reasons why today our customer retention remains so high. We also protect our customers with major breakthrough innovation like Ecolab Science Certified, one of the key reasons why today our new business generation remains so strong.", "And we protected our company by investing in digital technology, one of the key reasons where today our productivity keeps improving. This approach has also demonstrated over and over again that our model starts generating significant margin leverage when cost inflation stabilizes and structured pricing sticks. So with continuing strong demand for our unique solutions that prevent infection and protect natural resources when customers need them the most, we expect organic sales growth to remain in double-digit territory for the rest of the year. With structural pricing rising between 6% to 7% for the balance of the year and an energy surcharge that will progressively act as an offset for the spike in energy costs, we expect operating margin comparison to turn positive sometime during the second half of the year.", "This should then support our early expectations to deliver full year earnings growth that reaches the low teens, understanding, as you've heard that there is uncertainty in the timing of the realization of the surcharge and naturally the pace of inflation, but this will become more clear as we exit the second quarter. And also, let's not forget that our full year delivery includes $0.26 of Purolite amortization of 5% of EPS. And as that momentum extends beyond '22, we expect to show Ecolab's hallmark of consistent superior earnings growth for the many years to come. I look forward to your questions." ] }, { "name": "Mike Monahan", "speech": [ "Thanks, Christophe. That concludes our formal remarks. As a final note before we start Q&A, we plan to hold our annual tour of our booth at the National Restaurant Association show in Chicago on Monday, May 23. If you have any questions, please contact our office.", "Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. We will now be conducting the question-and-answer session. We ask you to please limit yourself to one question and one big follow-up question for caller so that others will have a chance to participate. [Operator instructions] One moment, please, while we poll for questions.", "Thank you. Our first question is from Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Yes. Good morning. Just one question from me today, Christophe, on the delivered product costs. I know you said they were up 25% in the first quarter.", "Can you just talk about how inflation trended through the first quarter and through April and then how you're thinking about that progression through the second quarter?" ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim. Great question. Actually, we've become experts at this, unfortunately, if I may say so. And it's important to step back, probably because when we look at 2021, sorry, so last year, well, the first half of the year, there was almost no inflation.", "It was close to 1%. And then the third quarter, as we remember, so move to 10% for us of this delivered product costs, which represents 25% of our sales, as you know. And then in Q4, so it doubled to 20% and the full year saw 10% of inflation for Ecolab for 2021. And also to your point, in Q1 2022, we're expecting kind of the same as in Q4, so the 20%, well, it moved to 25% because of the war in Eastern Europe that started at the end of February.", "And we're expecting initially Q2 to be the same as Q1 or Q4, so 20%, 20%, 20%, and ultimately, we ended up with 20% in Q4, 25% in Q1, 30% expected in Q2. So when you're talking about April, so it's trending toward this full second quarter of 30% which we expect that for the full year we should end up with 25% inflation for DPC. When we were thinking initially that it would be 15%. And to put it in perspective, Tim, just to conclude here that will represent roughly $1 billion over 18 months that we will have to overcome, which we have overcome.", "So the part of '21 last year and delivering EPS growth, the same in Q2 as well and we'll do the same as well for the quarters to come in 2022." ] }, { "name": "Tim Mulrooney", "speech": [ "OK. That's very helpful. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim." ] }, { "name": "Operator", "speech": [ "Your next question comes from David Begleiter with Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Christophe, looking at Q2 guidance, if we look at the various puts and takes on volume and pricing, etc. Can you discuss why we only approached last year's [Inaudible]? And secondly, what drives a strong earnings growth in the back half of the year?" ] }, { "name": "Christophe Beck", "speech": [ "That's a big question, David. But let me take them one by one. So first, Q2, if I may. Well, the situation changed.", "Obviously, so when the war started at the end of February because the first half of the first two months of Q1, we had a great start. We were trending really well, both in terms of top-line momentum. You've heard this 12% organic growth, driven by 7% volume and 5% price. Well, at the end of February, things changed.", "So we were ahead of our expectations. We were getting ahead of DPC inflation, and we're expecting to deliver a strong Q1 and really get in a very good position for a strong Q2 delivery. That was before the war started at the end of February. So when the war started, we obviously saw a good impact on the energy cost, which triggered that surcharge that we've talked about, where we had just a few days basically to decide that globally, all businesses, all countries will move together in order to compensate for this additional energy cost.", "As you've heard before, so this month of March added $0.04 to our delivery. And for the second quarter, well, you get three months of that obviously, and trending up, unfortunately. So it will all depend now, as I mentioned in my opening remarks, on the speed at which we can deliver the surcharge, which is going well, but it's a complicated exercise. It's a 40 end markets, it's 170 countries around the world, we want to make sure that all customers are aligned with it as well in order to have the right, obviously, revenue recognition.", "We're going to make sure we don't have collection issues as well. So it's hard to know exactly how the timing is going to be. So I'm having Q2, basically with 100% of the headwind and a surcharge that's progressing during the quarter. How to know exactly where we're going to end at the end of the quarter.", "But I think we're going to get down close to where we were last year. And honestly, if get to 95% of where I was last year, I'd be happy with it, but we will do our utmost obviously, to get as close as we can. That's the first part of your question. The second for the full year with our ambition to get toward the low teens, which obviously requires a strong second half.", "Well, think about it. So we have strong momentum, which always helps, obviously, 12% driven by high demand. The price is really good. So we have 5% that's been accelerating during the first quarter, moving toward 6% to 7% without losses of customers or major losses always onesie-twosies, but nothing major as well.", "We have productivity that keeps getting better as well. You've seen that in our results for Q1 over 100 basis points of improvement. So we have fundamentals that are in very good shape. Then we have the surcharge that's coming almost 100% for the second half.", "So if you get the fundamentals plus the surcharge realization, and also expecting that inflation will plateau and ease at some point as well during the second half, well, we should end up in a very good place from a margin leverage perspective. But that all depends on the timing, first, on the execution of the surcharge, which is hard to totally predict, and second, how inflation is going to evolve. But if things happen well, we'll end up in the right place with a very strong second half, that I'm sure about it where we end up for the full year exactly that's harder to tell, but it's just a matter of one month or two, plus or minus, at the end of the year that's going to bring us to the final result. But at the end of the day, David, what I'm really trying to drive here is to have the right fundamentals that ultimately, in '23, we end up in a place where we get the high margin leverage that we're all looking for starting in the second half and then getting even better for 2023.", "So the two parts of your questions here. Hopefully, I could address them." ] }, { "name": "David Begleiter", "speech": [ "Very good. Just quickly on the surcharge, how quickly is the design to roll off if and when oil prices do ease off as well?" ] }, { "name": "Christophe Beck", "speech": [ "It's a good question. That's something that we will have to discuss with customers. I don't think that it's going to happen overnight. But it's taking a few months to implement.", "It's probably going to take a few months to roll off as well whenever that's going to happen." ] }, { "name": "David Begleiter", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, David." ] }, { "name": "Operator", "speech": [ "Your next question comes from Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. Good afternoon. Christophe, I just had a big picture question for you in terms of outside of obviously, the inflationary pressures you talked about, just curious if you're starting to see any macro pressures, maybe specifically in Europe, given all the press around it." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Good question, Manav. So generally, so far, so good, but we're all reading the newspaper and looking at the news, obviously. So when I think in terms of demand for what we do, it's very strong.", "All companies have made sustainability commitments, as you know, and they need always more of our services in order ultimately to deliver on the sustainability commitment. On the other hand, as well from an infection prevention as well, food safety, COVID, or whatever else that can be as well, our customers ask always more from what we're doing. So we don't have a demand issue. We're really on strong trends, which is really good.", "So far, we haven't seen or perceived any slowdown with two exceptions. The first one is institutional, the restaurants and the hotels, but especially the restaurants. So we thought that it would open up quicker during the first quarter and continue on that trend during the second quarter. Well, it's been slower from a market perspective than what we were expecting.", "So is that as an outcome as well of the economic pressure at the beginning of the year, it was related to Omicron obviously. But now is it because of interest rate and price of oil and so on, we'll see that. So that's one small indication. The second one is China because of the lockdowns over there that are more extreme than everyone was expecting.", "It's 4% of our company. So anyway, it's a good news, bad news. Sometimes I would wish it would be much bigger. Today, I'm happy it's only 4%, but that's probably there that we might have as well so some darkening clouds, hopefully not, but that could happen.", "Otherwise, so far, so good. The last thing I would mention, Manav, is probably currency. As you know, the dollar is strengthening. We're expecting kind of roughly $0.10 for the full year and it's doubled as we speak right now.", "So I would imagine that, that's going to strengthen as well, so it might become as well a further headwind." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. And maybe just asked another way, like maybe near term, medium term, longer term, like if demand is not an issue, like do you plan on changing your sales force growth strategy at all?" ] }, { "name": "Christophe Beck", "speech": [ "I want to make sure I understand right, what you're saying. When you say sales force growth --" ] }, { "name": "Manav Patnaik", "speech": [ "Would you be hiring more people -- like would your pace of hiring increase given all this demand out there?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, great question. OK. Got it, Manav. So yes and no.", "In the past, I would say, pre-digital times, our growth was almost directly correlated to our growth of our field salesforce. That's changing now over time. It will still keep growing, but not at the same pace as it used to over the last 98 years of the 99 years that we've been in business because digital automation is obviously helping us automate a lot of transactional work that our team is doing today, like driving a bunch of stuff you can do. So with remote monitoring, preparation as well of sales calls, you can do much more so on the computers now, and we've implemented all that over the past few years as you know that requires less homework as well to get ready for customers, fixing equipment as well, we can do that remotely.", "So there's a bunch of stuff that we can automate through digital technology, which will disconnect to a certain extent the growth of other company and the growth of the field force, which drives as well to SG&A productivity." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Steve Byrne with Bank of America. Please proceed with your question." ] }, { "name": "Steve Byrne", "speech": [ "Yes. Thank you. I'd like to better understand this energy surcharge, is it defined by oil, natural gas, or electricity? Or does that depend on your customer? And just want to make sure I understood you correctly about the inflation you're expecting in the second quarter. If I understood you correctly, you're looking at a 30% inflation, maybe 20% from raw materials and 10% from energy that I hear you right.", "And if so, are you getting any pushback on this energy surcharge given it's roughly twice the magnitude of your structural price increases?" ] }, { "name": "Christophe Beck", "speech": [ "So good question, Steve. Two parts. The first one, we've announced that to customers around the world, it's a global surcharge for the whole company, all customers, all industries, all countries around the world. It gets implemented slightly differently business by business then afterwards.", "Think about pest elimination is very different than a heavy industrial business like paper, for instance. But the general principle is, yes, it's related to the price of oil. And what we've said is that the surcharge will be between 8% and 12%, it can go higher than 12% if the oil price gets higher. But 8%, 10%, and 12% are related to oil pegs that we've defined as well with customers.", "So if the oil price goes further up, the energy surcharge will go further up. We wanted to have it temporary, mechanical, formulaic as well that customers know how it works, when they get it, how much it is, when it gets off as well. That's the theory. The practice is obviously a little bit different as mentioned before.", "So pest elimination might be different than a heavy industrial business. But generally, we discuss with all customers to get it right, making sure that it's an offset to the energy increase or energy cost increase that we have in our P&L. And so far, it's gone quite well with customers around the world. It's early.", "We've been three weeks at that. So it started April 1. But so far, so good. It's going to take a few months to finalize as well.", "So I'm quite happy with the progress we're making right now, but there is still some work that remains in order to get to the right place. I might pause here just to make sure that I'm addressing your question." ] }, { "name": "Steve Byrne", "speech": [ "No, no, that was helpful. I wanted to also ask you about the Purolite acquisition. You got four months under your belt now. Is anything surprising you? Anything going slower than you expected or anything that's a positive surprise?" ] }, { "name": "Christophe Beck", "speech": [ "Well, all of the above. It's progressing well with all the usual challenges of M&A of integration. It was a family company. I would call it a big start-up as well.", "So then suddenly, you end up in a larger corporation with processes, with practices, with organization, and all that. Obviously, there is some fraction that needs to be aligned, but we're in a very good place. In terms of team, you probably know that our leader for Purolite is a general manager who comes from Ecolab since the two brothers retired. They were all 80 years old or quite.", "So that was very natural. So we have a team combined from former Ecolab -- former Purolite people and people coming from Ecolab as well. From a performance perspective, you know that business was growing double digit as we took it over in '21. It will be growing double digit in '22.", "What's important to keep in mind is that the first half of the year, we are capacity constrained. So the demand is higher than the supply we can provide, which is the reason why we are building a new plant in Pennsylvania and extending another one in the U.K. as well, and that's going to come online in the second half of the year. So we're going to have kind of this pattern of double-digit last year, kind of slower growth in the first half this year, much higher growth in the second half of this year.", "And then after races by '23 since capacity has been such a big driver that we had to open in order to grow further. But last but not least, the more we look at it, the more we like it. It's an unbelievable industry, biopharma. It's huge.", "It's growing really fast. It's something we can address. There's very few competitors that can do what we can do as well. We have really saw a technology that no one else has in some cases as well.", "And what I like the most is that we can build a lot of things around it to really build that growth platform like we did years 20 ago with pest elimination and all the businesses that we have in the company than 10 years ago, water that came as well, around food safety and hygiene at Ecolab and now we have Purolite that can serve the life science business, but also the industrial businesses to which we can add as well some M&A down the road, which makes it even more interesting. So all in all, I would do it again." ] }, { "name": "Steve Byrne", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Ashish Sabadra with RBC Capital Markets. Please proceed with your question." ] }, { "name": "Ashish Sabadra", "speech": [ "Thanks for taking my question. I just wanted to focus on the industrial segment. We saw some pretty broad-based acceleration there across water, food, and beverage, and downstream. I was wondering if you could talk about what kind of momentum do you see going forward? And how much of it was volume versus pricing driven? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "Great. Thank you, Ashish. Industrial is in a great shape. It's half our company, as you know.", "They've been growing 12% organic in the first quarter of this year versus 7% in Q4; by the way, 5% was volume, 7% was price. And what I like the most is that we have acceleration on all fronts. Water moved from Q4 to Q1, 8% accelerated to 11%. F&B was at 4%, is now at 10%.", "Paper was at 15%, remained strong at 16%. And Downstream, which has been stuck for two years, ended up the year at 8% and 16% in this first quarter as well. And what's really interesting is that there are some new engines as well in there, as we call them, like global high-tech with data centers growing fast as well; chemical industry as well, which is a new business that we've created; and animal health as well, which are kind of those future growth businesses that are adding to the momentum of that group, which is doing really well. Broad-based, all businesses, most countries around the world; in China, a little bit more tricky for the reasons I mentioned as well before, but otherwise, in a very good shape.", "And just end up on margins as well for that in industrial, which is always a question. While margins were down 10% in Q1, but it's important to keep in mind, they were up 19% versus 2019. So before COVID struck as well, where industrial has really shown ultimately how do they behave during inflationary times that was pre, obviously, this cycle, that was '17-'18 cycle, ended up great margin improvement in 2020, and that cycle with very good pricing as well. We'll end up into margin leverage down the road, as well as it did in the past, and gets up in terms of margin ratio, as well as we go through each of those cycles." ] }, { "name": "Ashish Sabadra", "speech": [ "That's very helpful color. And maybe if I can just ask a question at the high level on the volume side. Obviously, very strong momentum in volume. But as we go through the rest of the year, the comps get a bit tougher maybe on the Institutional side, easier on the healthcare side.", "But you should start to see some of the benefit from -- better benefit from reopening. So how should we think about the volume trend at a high level across the company? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "Overall, roughly the same for the reasons you mentioned, Ashish. Some are going to turn more positive and some are going to slow down for comp question as you mentioned. But generally, so top line is going to remain in double-digit territory, and the volumes kind of remain, for the most part, similar. That's assuming there's no recession or big, obviously, events happening out there.", "But otherwise, I think it's a pretty steady momentum that we have across the company." ] }, { "name": "Ashish Sabadra", "speech": [ "That's very helpful, Chris. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Ashish." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Chris Parkinson with Mizuho. Please proceed with your question." ] }, { "name": "Chris Parkinson", "speech": [ "Great. Thank you so much. Christophe, would you just take a step back over the last few years. Obviously, there have been a lot of ebbs and flows during the COVID situation or whatever you want to call it.", "You have launched a bunch of new, I would say, products but more likely programs in food safety, sanitization, among many other verticals. You know, when you sit back and think with the management team about share gain potential, kind of where you are and where you could be, just is there any difference in how you would peg your growth algo for the institutional portfolio or pieces of industrial versus the market versus -- and peers versus, let's say, a few years ago? Just how has that thought process evolved? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Great question, Chris. Well, generally, we're definitely gaining shares -- if we compare, obviously, always our growth with competitions growth. And I guess you do the same.", "So we're way ahead of most of them. We have some weaknesses sometimes that we recognize and deal with obviously. But I feel good in terms of shares that we're gaining across the key businesses across the key countries. If you take institutional, as you mentioned, for instance, as well, it's interesting to take one fact since you know Institution in the U.S.", "is so big. We'll take our restaurant business in institutional. Sales in Q1 are at the same level as they were in 2019, so pre-COVID. While the dine-in traffic in restaurants is 35% down versus 2019 for all the reasons we know our staffing and all the staff that are bugging restaurants ultimately.", "But back to '19 when the traffic in restaurants is a third down versus '19, well, that's showing so how much share we've gained as well in that specific example of institutional, and I could cover other businesses as well." ] }, { "name": "Chris Parkinson", "speech": [ "Got it. And just a very quick follow-up on healthcare. You mentioned the supplemental some momentum with elective surgeries in the U.S., offset by a slower recovery in Europe. But the competitive dynamic kind of evolved there also during the COVID situation.", "Some of the HPCs got a little bit more aggressive. Can you just talk about your strategy there a little bit more, once again, where you stand today and what you -- how you believe you're positioned for growth and just comment on where -- how the Street should be thinking about modeling that over the next, let's say, two years? Thank you so much." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thank you, Chris. Well, interestingly enough, before COVID, the major convergence of focus in healthcare was toward surgical. So operating rooms, central sterile, patient room, so really that's centered around the operating room, which I believe was a very small strategy, and it didn't come from me.", "So I take no credit about this one. But I think the company did it really well. Except that during COVID, well, surgeries got shut down, postponed and it happens a lot of times, on and off, which drove everybody nuts, obviously, in the industry. And that happened again over the last six months with Omicron.", "So it's the right long-term strategy, Chris. I have zero doubt about that because it's ultimately making sure you protect patient from hospital-acquired infection, which is good for patients. It's good for the hospital because they reduce their total cost and they can operate as well more often, which helps because they don't need to repeat operations that they've done as well in the past. So strategy was right.", "It's still right for the future. It just got a lot of stops and go over the last two years, which was related to those elective surgeries that have been kind of shut down and restarted." ] }, { "name": "Chris Parkinson", "speech": [ "Thank you, as always." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Chris." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Josh Spector with UBS. Please proceed with your question." ] }, { "name": "Josh Spector", "speech": [ "Yeah, thanks for taking my question. I just wanted to follow up on the volume outlook kind of for the rest of this year and specifically in institutional. I just wanted to think about if business travel improvement is something that becomes a meaningful kind of flex point for your outlook. So lodging room sold has recovered but arguably that's more leisure versus business travel.", "I think your exposure hotel and regional-wise would be more skewed to the business side. So do you think that improves? And is that baked into the second half outlook at all? Or is that a source of upside versus your current thinking?" ] }, { "name": "Christophe Beck", "speech": [ "So business travel is a small part of our business. But it's impacting, obviously, so our lodging business, which is roughly 6% of our company, as you probably know. But we're taking, obviously, any help in the market out there. I think it's -- for the full year, we're going to have a lot of puts and takes.", "There's going to be some upside with travel. As you mentioned, leisure is getting better. We feel it in our end market. Business travel is going to ramp up as well in the months to come.", "But on the other hand, I think that there will be some economic pressure as well on most people in the U.S. and in Europe as well, driven by the price of oil, interest rate, subsidies, you name it, obviously, that we had during COVID that is going to go away as well. And we can feel as well or the industry can feel already that there's some pressure there. So there is going to be some good news and some less good news, but we'll see what's really going to happen over the next few months.", "That I can't influence. The only thing I can influence is new business. And new business in institutional has been doing extremely well actually during the pandemic and is continuing to do it right now as well on top of the pricing that they're getting, which is driving shares, I was mentioning to Chris as well before. So ultimately, I think that institutional is going to be in a good place.", "One might say we could have grown even faster if everything would have been unleashed at the same time as well, well, that's not the way things work. So generally, the industry might slow down a little bit, and we might not grow as fast as we would have wished, but we will still remain in double-digit territory in '22, which I believe is a pretty good performance." ] }, { "name": "Josh Spector", "speech": [ "OK. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Josh." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you and good afternoon, everyone. A couple of quick ones for me. The release mentioned in food retail, I guess, because of staffing issues at some of the cleaning intensity had declined. Can you just clarify that staffing issue? Is that because in the quarter, there was kind of COVID-related outages when Omicron was surging? Or is that because customers are struggling.", "I'm just trying to understand how transitory the issue is." ] }, { "name": "Christophe Beck", "speech": [ "Yeah, it's an interesting one, Vincent, because, for the most part, the retail industry is doing quite well, especially the large customers, the large retailers serving around the country and around the world. The trick is that they are all struggling with how much people they get, obviously, in their stores, so they need to choose where the people are going ultimately. They go and serve customers or do they do, as well as much as they should. So on the cleaning side as well, I want to be careful how I'm saying that, obviously, because we make sure that our customers are doing things the right way.", "But in normal times, they would do much more than what they're doing today. And it's all related to the staffing that the shifting are from one part of the store toward the commercial one, which is driving their stays as well." ] }, { "name": "Vincent Andrews", "speech": [ "OK. And just as a follow-up, Scott, if I could ask you about sort of how you expect working capital trend through the year. Obviously, in an inflationary environment, you're going to need more of it. But looked like a pretty good build in the quarter and you finished the quarter with a low cash balance.", "So just how should we be thinking about working capital and free cash flow for the year?" ] }, { "name": "Scott Kirkland", "speech": [ "Yeah. Thanks, Vincent. As you mentioned in the quarter, there was a bit of a build, as you'd expect. So free cash flows were in line with what we expected for the first quarter and really just below last year because we built working capital and capex, which you would expect as sales are growing, especially this strong.", "And so as we look for the year on a free cash flow basis, expect that for the full year, we would have free cash flow, it's really in line with free cash flow conversion, historical levels, which means that our working capital will sort of trend in line with the business growth." ] }, { "name": "Vincent Andrews", "speech": [ "OK. Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much. Good afternoon. Christophe, following up on the industrial segment. Just curious, in the press release, it cited unfavorable mix as a headwind.", "Could you elaborate a little bit on that, please, and just discuss where that's going? And then a follow-up in there is to a discussion earlier on industrial about segment margin. A few years ago, it was in -- pre-pandemic, in the mid-teens. How quickly could the margin get back to that level based on what you're seeing? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Thank you, Scott. So, two parts, a few questions, obviously. So margins and mix.", "So if I talk about overall margins, usually, it takes two years to kind of get through the margin cycle. So our inflation goes up, and we get the pricing, we get the dollars back to the first year and the second year, we get the margins back and more, and that's how we've grown our margins in industrial, so at every cycle. And it's going to be the same in this one with one big difference is that usually, the inflationary cycle will last much less time this time, well, we're already planning for two years, last year and this year. So the cycle is going to be a little bit longer but a very strong price muscle in industrial for a few reasons, first, because our premium products are competitive versus competition in terms of what they can deliver.", "Customers are interested in paying more to get more as well out of it. And second, we have a pricing approach, which is driven by EROI, as you probably know, which is basically getting a share of the savings that we are generating for our customers as well. So it's kind of a very natural organic type pricing as well. So the underlying pricing, and then you have the inflation pricing that comes on top of it.", "So bottom line should be toward '23, I think that assuming that inflation obviously peaks now and eases in the quarters to come in '23. So we should really see so that rebuild and step up in margins in industrial. That was your second question. The first one was the mix.", "There's three things. One is business mix. If you have paper, for instance, so growing faster than like Water -- Paper is at lower margin than like Water. Well, that has an impact in the mix of businesses.", "Within a business, you can take downstream, for instance, we have an important offering, which is called additives that energy companies are using usually when the prices of oil are rather high because they can afford it. Well, those ones are growing really fast right now. They have lower margin than the chemical offering that we're providing to those customers. And the last one is the country mix as well.", "So depending on where you grow, that has an impact as well on the overall margin of industrial. So those are the three big drivers of this margin mix." ] }, { "name": "Scott Schneeberger", "speech": [ "That's great color. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Scott." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Kevin McCarthy with Vertical Research Partners. Please proceed with your question." ] }, { "name": "Kevin McCarthy", "speech": [ "Yes, good afternoon. Christophe, coming back to the surcharges that you're implementing as of April 1. How much might you actually expect to realize in the June quarter? The reason I ask is, I think your press release on March 15 indicated a range of 8% to 12%. And I imagine, in some cases, you get the high end immediately.", "In other cases, maybe the low and still other cases, perhaps you have some contractual limitations. So perhaps you can talk about the flow-through as you begin to implement that program in the second quarter and also into the third quarter." ] }, { "name": "Christophe Beck", "speech": [ "Yes. So two things, Kevin. And I can explain it in a complicated way and a very simple way. I'll take the simple one, and we can get obviously some more in detail if you wish so.", "But the way, we agree and align with customers in such a short period of time is really to make sure that the surcharge is an upset to the increase of commodity costs related to energy cost. So you get a net zero ultimately on our EPS delivery. But if we don't get the surcharge, obviously, we have a negative EPS delivery because we get the inflation and we don't get the surcharge. So that's the way we think about it, really that the surcharge is a natural offset for the increase related to the energy costs.", "So that's the first one. And the second, and I'll pause after that, just to make sure that I addressed your question here. The second quarter ending June, as you say, well, it's a transition quarter because obviously, we start from zero on April 1 and we hope to be as close to kind of -- in cruising speeds in June or July, which is why I'm not perfectly accurate on where we're going to be at the end of June because there's a lot of realization that needs to happen for those thousands of customers, millions of locations around the world in 170 countries. This is real work.", "It's evolving very nicely, very well. I like the progress that we're making, but it's an imperfect journey. Obviously, since we've never done it as well. So that's the way we think about it in terms of net impact, an offset and second for the second quarter, well, it's not going to be a straight line to heaven, but it's going to end up in a good place sometime this summer.", "I don't know if it's going to be exactly at the end of June when the quarter ends." ] }, { "name": "Kevin McCarthy", "speech": [ "OK. Thank you for that. And then secondly, I wanted to ask you about your institutional earnings results in the first quarter, came in a little bit better than we had anticipated. I guess my question is, did it come in better than you thought internally? And if so, what drove the positive variance in that piece of the portfolio?" ] }, { "name": "Christophe Beck", "speech": [ "So just to make sure I get you right, you're talking about -- you want me to talk about sales or margin or both?" ] }, { "name": "Kevin McCarthy", "speech": [ "Sorry, I was referring to your operating earnings in global institutional & specialty." ] }, { "name": "Christophe Beck", "speech": [ "OK. Got it. Well, actually, sales were really good. They could have been even better if omicron wouldn't have hit to the first part of the quarter.", "And the earnings were good, but they're still not as high as they could or should be because they've been impacted as well so by the delivered product cost inflation. So good growth, good productivity work, you maybe remember that we've implemented in 2020, a global field system as well that is really automating a big chunk of the transactional work that our field force is doing around the world. That's driving better productivity. Innovation is adding to margin as well.", "We mentioned Ecolab Science Certified disinfection programs as well related to COVID and post COVID as well. That all helping on the margin. But the truth it's going to happen in the quarters to come and probably as well in the years to come because when all that comes together, that the pricing gets ahead as well of inflation. I firmly believe that the institutional margins will be even better after that cycle than it was pre-COVID whenever the past is going to be or the future is going to be.", "But let's assume it's going to be '23. But institutional on a very good path, both on top line and bottom line as well. And the best is to come." ] }, { "name": "Kevin McCarthy", "speech": [ "Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Eric Petrie with Citi. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "Hi. Good afternoon, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Eric." ] }, { "name": "Eric Petrie", "speech": [ "How are underlying sanitizing sales normalizing compared to the 2019 levels?" ] }, { "name": "Christophe Beck", "speech": [ "So that's an imperfect science, obviously. So it was -- when we look at all the sanitizing sales that we have in the company, it grew over 50% during the COVID times. And the way it looks like right now is that it should remain at roughly 20% above where it was pre-COVID, let's call it, 2019." ] }, { "name": "Eric Petrie", "speech": [ "Helpful. Thank you. And then typically, your institutional margins over history are higher than industrial. How do you see that as you were talking about mix and so forth, 2023 and beyond? And some of the growth verticals that you have in industrial, as well as net-zero?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. As mentioned before, so Institution is going to be better after that cycle concludes, let's assume, so '23, COVID inflation and all that. It's not all going to happen on January 1, obviously. But post this cycle, the business performance, the P&L of institutional is going to be better than it was in 2019 of pre-COVID.", "That's the first one for all the reasons I mentioned on the prior question. On industrial, we've had a very good journey of margin improvement over the years. And interestingly enough, also happening during those inflationary cycles, we had the previous one. You maybe remember the margin improvement we had in 2020, was growing north of 20% in terms of operating margin and ended up in a very good place, which is why I just mentioned before as well earlier on the call, even the margins are down 10% in Q1; they're higher at 19% than they were in 2019 as well due to the pricing mix work that the team has been doing.", "So that's going to continue going forward. What you mentioned as well on net-zero is obviously something that was much less relevant a few years ago, but that's becoming very relevant right now and going forward because many of our customers have made commitments on the sustainability objectives. Many of them are not progressing as fast as they were hoping for a bunch of good and less good reasons sometimes. This is obviously driving very good demand.", "So for us, we've created a dedicated net zero division, now within industrial in order to serve those customers as well that are the most advanced. And those customers tend to be higher margin as well at the same time, which will help contribute as well to better margins for industrial, which down the road, I expect industrial to reach the same level of margin than institutional and potentially even better." ] }, { "name": "Eric Petrie", "speech": [ "Great. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question is coming from the line of Shlomo Rosenbaum with Stifel. Please proceed with your question." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Hey, Christophe. Good afternoon. Quick question. We had a lot of talk about pricing.", "I want to go back a little bit more to volumes. And just to ask, where are we on the overall company volumes like-for-like vis-a-vis 2019? In other words, how much is left in terms of return to normal play in terms of revenue potential? Like you talked about institutional being back to where it was, but with in-person dining just down a significant amount. So if you were to put it like-to-like, what would you say the upside is or potential for revenue with just kind of normalization, say, coming if you were to assume that would come in 2023." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. So I had to get to some numbers in order to get that. I want to make sure I get the right one. So from top-line perspective, we're way ahead of 2019 already, obviously, but you asked the right question, in terms of volume.", "So if you look at Q1 '22, we have businesses that are already ahead of 2019. Industrial is ahead, healthcare and life science is ahead, our other segment is ahead as well. And the only one that's below 2019, roughly 10% in terms of volume is institutional & specialty and is expected to cross that line during the second half of the year, where we're going to be in a place where all businesses, I mean, all major businesses will be ahead of 2019 in terms of volume during the second half of the year." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "OK. So when I'm thinking about the recovery, you have -- you still have -- that should be largely a second half '22 and first half of '23, kind of improvement potential over there. Is that the right way to think of it?" ] }, { "name": "Christophe Beck", "speech": [ "Absolutely, especially in institutional & specialty, no doubt about that. That's why we're saying it's going to take -- it's kind of a two-, three-year cycle where demand is going to be higher just because the industry is recovering from a demand perspective and staffing, as we talked about before, as well as you get more staffing in hotels, for instance, you've probably been in hotels lately. So the service is a little bit different than it used to be even though you're paying the same prices for your rooms, well, it's not because hotels won't have it that way, they don't have staffing to do it. That's going to add as well.", "So to the demand for us because those people are using our product. That's going to be a good thing. And that's going to help us drive demand in '22 and in '23. When it's going to stop? I don't know, but I think we have one or two years ahead of us of recovery, which is really good for that business." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "OK. Great. And just for the follow-up question. Is one quarter really enough time to get energy surcharge across the expanse of the customers that you guys have.", "It just seems like it's -- you're trying to hit everybody. At the same time, people also wanted to make new sales. Is there a focus being taken off of new sales in order to be able to do this? How should we think about it?" ] }, { "name": "Christophe Beck", "speech": [ "Great question. So, so first, getting it all done in one quarter, the short answer is no. And that's why I'm saying that in theory, if everything were done in the second quarter in a perfect way, we would be growing our earnings very nicely. Well, it's not going to happen because we started zero on April 1.", "And at the end of June, we won't be 100% done either for all the reasons that you're mentioning. And that's why it's hard to know exactly where we're going to be. But I know that this summer, let's put it that way, we will be in a very good place because all businesses, everyone around the world so needs to get this one done at the right way. So exactly for the reasons that we mentioned before.", "And the second point on the prioritization of new business versus pricing, we've been reasonably good at that. But I want to be perfectly honest with you. When we focus on pricing, let alone a surcharge, which is something totally new since we've never done that globally. Well, you get your eyes off the ball of new business.", "So I expect plan to slow down a little bit to get the pricing right, but that's why we want to get pricing done as quickly as we can to make sure that new business maintains momentum as well down the road, it's hard to do both at the same time." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Great. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Mike Harrison with Seaport Research Partners. Please proceed with your question." ] }, { "name": "Mike Harrison", "speech": [ "Hi. Good afternoon." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Mike." ] }, { "name": "Mike Harrison", "speech": [ "If I could -- sorry, I wanted to see if I could attack this question around underlying market demand a little bit differently. You've talked about business travel. You talked about maybe some macro concerns in Europe. I was just hoping to get some color more broadly on what you're seeing in terms of consumer behavior in an inflationary environment? Are there any signs at this point that inflation is starting to drag on consumer spending, I guess that would show up maybe in restaurant foot traffic? But most of us were not covering this space the last time inflation was this strong.", "So, I guess any historical perspective you can provide would be very helpful?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, a few things. First, that kind of inflation, none of us has really experienced that. I guess our parents did. I was not in business.", "So last time, it truly happened here so 30 or 40 years ago. So it's totally extreme, totally unusual as we all know. So a few things here. First, we don't see a slowdown of demand yet.", "So that's a good news. But if we look at restaurants, especially in the U.S., if I look at the data that we get from the industry, you clearly see a slowdown of demand, which is most probably related to inflationary pressure because of oil, because of COVID, because of mortgages, you name it. But that's very early. So those are indications that are probably so important to follow.", "The third thing and last thing that I'd say as well here is that when we move through slower times or more extreme recessionary times, which we don't assume it's going to happen in '22, could happen in '23, who knows, obviously, that we've gone through many times as a company. And the good thing with the Ecolab model is that, yes, the growth slows down, but we are still ahead of the market growth because we gained market share because we've all been discussed before in terms of new business, innovation, expansion of offering and so on there. So that helps us grow faster than the overall market and kind of dampen the recession that we might have on our top line. And most importantly, in more difficult times for our customers, they need us more.", "Because our value proposition, as you know, is helping customers get better results at a lower total cost. That's been true for 99 years as a company. So in more difficult times, potentially recessionary times, customers need even more what we're doing, which have been so reasons why Ecolab has been doing so quite well during slower or recessionary times." ] }, { "name": "Mike Harrison", "speech": [ "All right. Thanks very much for that. And then second question on the high-tech opportunity. I believe that's mostly centered around water and going into semiconductor fabs, as well as data centers.", "Can you talk a little bit about your market position there particularly now that you've combined with Purolite? And are you in a position to win more than your fair share of opportunities as we feed some of this fab capacity expansion? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Absolutely. It's a fascinating business, which used to be part of Light Industries, our Water business that was serving hotels, like manufacturing and so on. And now we've created a dedicated division that combines data centers and microelectronics. Obviously, they're related, but different.", "The main driver for data centers is to help those high-tech companies reach their net-zero ambition. And I mean you know all of them, they've all made bold commitments that by 2030, for most of them, they want to be zero or positive carbon and the same for water as well. We're the only company that can provide that to them that's. So that's obviously something we had to get organized in order to get there.", "And we're making very nice progress by working with those large companies. This is Ecolab at its best because we serve enterprise customers for a very long time, forever, actually. And we have them understand where are they today, how much water do they use, what's the objective to get to zero? What's the road map to get there and drive execution as well toward that. While we make sure that we maintain a 99.9% uptime, so for all data centers then microelectronics, just to conclude on that, is different but related.", "We wanted to have the same people because it's the same type of expertise that we need in the field. Well, it's a production of microprocessors and that requires high purity, high-quality water, which to a certain extent, we were doing in the past, Ecolab, but we could not do the highest quality of water that's being used in the production process of microprocessors. This is something that we can do now with Purolite which is the new offering that no one else can offer as well, which is helping not only Purolite, but our global high-tech business. So kind of the beginning of the journey.", "But so far, a very good story, where I think that we're in a position that we could truly own that market." ] }, { "name": "Mike Harrison", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Rosemarie Morbelli with Gabelli Funds. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. So, just to sort of -- I was wondering if you could touch on the progress you are making on life sciences. I believe we did not really touch on that particular part of your business during the call?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Great question. So life sciences has been a great business that we started, I think, five years ago, 2016. But Doug, who we did that.", "So again, I'm not going to take any credit for that. It's been a great business that's been growing to almost $300 million today, growing double digit, some of the highest margins that we have in the company. And it's a business that's doing well, is having hard comps versus '21 and '20 because it was such a crazy high growth that, that business went through related to COVID demand. But the underlying growth of that business is double digit and will emerge double digits in Q2 or Q3, I don't remember exactly, and we'll continue very nicely, as well as the business.", "On top of it, because Life Science, former Ecolab, if I may say, was really providing solutions to make sure that production lines, clean rooms, factories were safe and protected from any infection risk. Now we add Purolite, obviously, to it, which is purifying the product that's being produced in those production lines. So it creates a one plus one equals three type of proposition like water and food safety when we acquired Nalco as well. So it's going to help life sciences grow even faster.", "Today, together, so it's kind of $700 million, $800 million, growing double digit. We are constrained by capacity right now, as mentioned earlier on the call of the first year first half of this year roughly. But the demand is just getting higher. Two businesses doing really well.", "Getting together, the offering is even more interesting. We just need to be able to produce what we're selling. That's going to happen during the second half of this year." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Are you signing up large pharma facilities?" ] }, { "name": "Christophe Beck", "speech": [ "We do. That's where we focus on life science, Rosemarie, is 80% plus pharma and the balance is cosmetics, the traditional brands. But life science for the most part is pharma with now a renewed focus on biopharma on mRNA and monoclonal antibodies, which is really the industry within pharma that's growing the fastest and expected to be the overall pharma market by 2026 or 2027, in the next few years are really interesting." ] }, { "name": "Rosemarie Morbelli", "speech": [ "OK. Thanks. And then I was wondering, given the stock price decline which continued today, are you considering accelerating repurchases?" ] }, { "name": "Christophe Beck", "speech": [ "Well, it's what we've announced a few weeks ago or a month ago, I don't remember exactly the timing. I might ask maybe, Scott, if you want to give some perspective as well on that." ] }, { "name": "Scott Kirkland", "speech": [ "Sure, Rosemarie. As we announced in March that we are repurchasing $500 million of shares during the year. And through Q1, as you might have seen, that we repurchased a little more than half of that. And we'll continue to pace that repurchase program, depending upon market conditions, but also while maintaining our commitment to return to A range credit metrics by the end of next year." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Any way -- should nothing improve any way, you can expand that $500 million? Or do you need -- do we need to wait until next year before you have -- you take another look at it?" ] }, { "name": "Scott Kirkland", "speech": [ "I think we'll keep pace on that $500 million this year. Again, as I mentioned, we want to make sure that we're committed to returning to these A-range level metrics by the end of 2023." ] }, { "name": "Rosemarie Morbelli", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Andy Wittmann with Robert W. Baird. Please proceed with your question." ] }, { "name": "Andy Wittmann", "speech": [ "Great. Thanks for taking my questions. I guess I just wanted to follow up on the earlier question around free cash flow. I think that question was centered more around working capital, and you said it'd be kind of like historical levels.", "But Scott, it looks like if you back into your EPS guidance into net income, that kind of walks back up to around $1.5 billion of adjusted net income. Historically, I guess you guys have said about 95% is a good way of thinking about kind of free cash flow for Ecolab. So is that applicable for this year with higher-than-average growth rates and inflation. I guess that's the other way of kind of asking that question.", "But this basically then that backs you into about $1.4 billion of free cash flow, is that the right kind of order of magnitude? And can you just comment again, if you could, on the capex budget for the year as well?" ] }, { "name": "Scott Kirkland", "speech": [ "Yeah. Just on your first question, yes, your math is about right in that mid sort of 90% range, which is our historical cash conversion. So that would be where we would expect the year on free cash flows to be. And then as we think about capex, talked a little bit about this after the fourth quarter, and we'll expect capex to return to sort of our historical levels, which is like 5.5% to 6%.", "And as you're probably aware, about half of that capex that we do is merchandising equipment, which is at customer locations. And so that will grow as the sales grow and as new business grows." ] }, { "name": "Andy Wittmann", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our final question is from the line of Kevin McVeigh with Credit Suisse. Please proceed with your question." ] }, { "name": "Kevin McVeigh", "speech": [ "Great. Thanks so much. Hey, Christophe, I wonder any just client reaction to the price increases? I know you were thoughtful through COVID. So are they more accepted given how thoughtful you were through the COVID process? Or just any puts and takes? I mean obviously, everyone is seeing a lot of inflationary pressure, but just any thoughts from a client perspective?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah. I'm really pleased with what we've done in pricing. So let's keep in mind, we have to overcome $1 billion over $1 billion over 18 months, so starting some mid last year toward the end of this year. So 18 months is a very short period of time as well.", "And we want to make sure that we do that in achieving two things. The first one is that we stay or get ahead of the inflationary curve. We've done it last year. We'll do it as well so this year, as mentioned.", "We were on a path to be now basically ahead of the inflationary curve in 2022 that was prewar in Eastern Europe. Now it's postponed a few months, but we add the energy surcharge to that, and we'll get to the right place as well. So it's on one hand, making sure we cover inflation and at the same time that we do it in a way that we grow our margins as well down the road. Second objective we have is to make sure we're not losing customers.", "While we do that, it's not a 100% play, obviously, but that we can maintain 90% plus of our customers, which we're doing. We haven't lost any major customers why we were doing that because we need to keep in mind that we're a growth company. I want to make sure we keep our organic momentum, which is extremely strong right now while we get the pricing right, while we keep the customers because down the road, that's the beauty of the Ecolab model when your fundamentals are right of new business of innovation, of pricing, of customer retention and that inflation eases, you get very significant windfall in margin, which we know always happens. The question is, when is it exactly going to happen.", "But so far, so good. I'm very pleased with what the team has been doing in terms of pricing, while keeping the customers and driving growth at the same time." ] }, { "name": "Kevin McVeigh", "speech": [ "Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Kevin." ] }, { "name": "Operator", "speech": [ "Thank you. At this time, we've reached of our question-and-answer session. I'll now turn the floor back to Mike Monahan for closing remarks." ] }, { "name": "Mike Monahan", "speech": [ "Thanks, Rob. That wraps up our first quarter conference call. This call and the associated discussion and slides have been available for replay on our website. Thank you for your time and participation, and our best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
ECL	2021-02-16	[ { "description": "Senior Vice President, External Relations", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "G Research -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Chris Parkinson", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Robert W. Baird -- Analyst", "name": "Justin Hawk", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "P.J. Juvekar", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Michael Harrison", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Adam Parrington", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the Ecolab Fourth Quarter 2020 Earnings Release Conference Call. [Operator Instructions] As a reminder, this conference is being recorded.", "It is now my pleasure to introduce your host, Mike Monahan, Senior Vice President, External Relations. Mr. Monahan, you may begin." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's fourth quarter conference call. With me today are Christophe Beck, Ecolab's CEO; and Dan Schmechel, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's result are available on Ecolab's website at ecolab.com/investor.", "Please take a moment to read the cautionary statements in these materials, which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our Form 10-Q for the period ended September 30, 2020, and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview; fourth quarter earnings continue to show sequential improvement despite the negative impact of a greater than expected second COVID way. As earnings per share decline narrowed once again, as we leveraged our new business wins, increased customer penetration and digital technology along with lower cost to show the sequentially better result. As before, roughly 80% of our aggregated business have showed good sales and strong income growth. Our Institutional division, which is roughly 20% of our current sales remain the most impacted, reflecting the effects of COVID-driven restrictions on global restaurants and hotels. But we also note that Institutional is the business that could benefit the most over the coming years, as long-term hygiene standards continue to rise.", "In 2020, we took a number of actions and made targeted investments for post COVID success. We believe we emerged from 2020 better positioned, as our business wins, new product development, digital platform and our improved field sales force effectiveness should lead to a more effective and profitable Ecolab business. Looking ahead, we expect global efforts to reduce COVID spread and the expanded roll out of vaccine will lead to further global economic improvement in 2021. We believe our strengthened business will deliver full year 2021 earnings above 2019 results from continuing operations for the first quarter year-on-year percentage decline showing modest sequential improvement from the fourth quarter, and the remaining quarters of 2021 showing strong year-on-year growth.", "In a world challenged by COVID, we saw the value of Ecolab's premium product and service expertise was once again underscored through strong new business growth as well as our strengthened existing customer relationships despite the difficult market conditions. Our position as a leader in food safety, clean water and healthy environments has become even more important. We believe that this position along with our long-term growth opportunities remain robust, driven by our huge remaining market opportunity, our leading global market position, our focus on providing a strong customer base with improved results, while lowering the water, energy and other operating costs, and our strong financial position with resilient free cash flow. We believe these sustainable long-term business drivers will continue to lead superior long-term performance for Ecolab and our investors.", "And now here's Christophe Beck with his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Mike, and good afternoon, everyone. It's a pleasure for me to lead my first quarterly conference call as CEO, to share with you our results and our expectations for the future. It's no understatement to say that these are exciting times to lead this great company, when what we do, and most importantly, the way we do it matters more than ever. Ecolab is an exceptional company built on solid foundations and strong values [Indecipherable] to be part of shaping where we are today,and where we're going tomorrow. So do not expect any sharp turns, as I will keep building on what made us strong resilient, predictable and successful. The challenges the world faces today are ultimately also long-term opportunities for Ecolab, and I believe that the best is still yet to come. So I look forward to sharing with you our progress and ambition in this and other forums.", "Now onto our results. Our performance continued to improve in the fourth quarter in spite of the short-term reversal of global market trends and like what we and most actually thought coming out of the thought quarter earnings call. COVID cases went up, lookdowns extended, and restrictions good tighter in most places. For instance, right after our Q3 call, Germany moved from 40% of restaurants being closed to 100%, a third of the U.S. state tightened restrictions. Nonetheless, our adjusted EPS continued to improve and narrow decline, decreasing 15% in Q4 versus the minus 24 in Q3.", "We could have easily delivered more in Q4, but we decided instead to keep increasing our growth investments in innovation, digital technology, sales capabilities and backbone infrastructure in the quarter, to be ready for the rebound and the opportunities post COVID. Our consolidated sales trend has stabled versus the third quarter, which is a good indication as well that our investment strategy is working. And importantly, our cash flow remained strong and fourth quarter free cash flow improved versus the prior year.", "Excluding the Institutional division, 80% of our aggregated business grew, say 2%, and operating income increased a strong 17% Healthcare and Life Sciences posted 22% top line growth, and a very strong 65% operating income growth. And our largest segment, Industrial delivered a robust 18% operating income growth, with a modest sales decline of 3%. So while we will keep improving the performance of all our businesses, Institutional will remain our primary near-term focus, and here too progress is being made.", "While temporary closures and on-premise traffic both got worse in the fourth quarter versus the third quarter in the U.S., our institution sales trends remain unchanged, and our margins continued to recover. In 2020, as COVID hit, I believe we responded really well to unique situation in a global restaurants and hotel industry that historically been highly consistent and predictable. We protected our teams and our business to make sure we were ready to capture the growth when the market reopens. We took great care of our key customers and enjoyed one of our strongest years of both retention and new business wins. We immediately provided all of our customers with world-class scientific expertise and comprehensive programs, like the new [Indecipherable] range of premium sanitizers. It's a program that kills the COVID-19 virus in 15 seconds, we believe faster than anything else in the world. And we had our customers protect their business, while we are assuring their guests with Ecolab Science Certified, a new program that has quickly established itself as a leading certification program in the U.S.", "We've also accelerated the work started a few years ago to continuously augment our critical field sales and service capabilities. We used 2020 to accelerate the implementation of our latest digital field technology, and we expect this technology to further improve our field service effectiveness, customer experience and operational performance. At the same time, we finalized the fine tuning of our field sales organization started 18 months ago, so pre-COVID, and we expect this to further increase sales firepower and drive units and penetration share gains as we've mentioned over the past few calls.", "With all of this, I believe Institutional is well positioned to benefit from the markets reopening and from the rise of global hygiene standards. Now more broadly, we entered '21 in a position of real strength. While we expect COVID-19 will continue to have a significant effect on the economy and our end markets, especially in the early part of the year, we expect to see the beginning of the COVID-19 recovery for our global market to start in the second quarter. It will then take a few quarters to fully realize the new normal. However, we believe that our strong new business wins, product and service innovation, investments in new hygiene and digital technologies and successful sales and profit initiatives will deliver full year 2021 earnings above 2019 results from continuing operations.", "We expect the first quarter to show a modest improvement in year-on-year percentage decline versus the fourth quarter. While the remaining quarters of 2021, we feel very strong year-on-year. In other words, 2021 should be a strong rebound for Ecolab. With hygiene standards that are rising fast, we are ready to respond to these new trends with breakthrough solutions and a brand that inspires trust. With water and climate challenges that have just gotten tougher, we're uniquely positioned to help our customers with the sustainability ambition at a high financial return, and with an unbeatable global team supported by state-of-the-art digital technology, we're looking to the future with a great deal of confidence.", "I look forward to your question. Mike, the floor is back to you." ] }, { "name": "Michael J. Monahan", "speech": [ "Thanks, Christophe. That concludes our formal remarks. Operator, would you please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And our first question will be becoming from the line of Tim Mulrooney with William Blair. Please proceed with your questions." ] }, { "name": "Tim Mulrooney", "speech": [ "Good afternoon, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Tim." ] }, { "name": "Tim Mulrooney", "speech": [ "I really only have one question, one thing I want to talk about, which is this. You mentioned improvements in your field services organization implemented over the last 18 months. I think that's part of your Institutional Advancement program. And I'm not asking you to give away any competitive secrets here, but can you talk about what those improvements were, specifically I think you mentioned improving sales firepower, which should drive both new unit sales and market share gains? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "We'd love to, thank you, Tim. Great question. So as you mentioned and as mentioned in my intro as well, those are developments that we had started a few years ago and we've made those developments as well by working together with our field team and our technology partners as well. We tested that as well at numerous occasions, really making sure that everything is working really well, because it's so important for our team. And we were really aiming at two objectives, that we've accelerated during the past few quarters because we had a unique opportunity during COVID to get it done faster. We could train our people as well during the times that they had as well available.", "And the two things are. First, it's really to help the service delivery. What does that mean for our teams is ultimately that digital tools are helping them get the daily program that's being optimized by the system. If they get an emergency call as well as that's coming within the daily program, well it's rerouted and making sure they can do that with the minimum time and the minimum mileage as well to get there. They get all the customer information in real-time when they go and visit as well the customer. They get tools as well to sell better any new solution, and they have training tools as well that they can share with the customers in order to make sure that those programs are being used really the best way. So the first objective is really about improving the customer experience. It's improving the work performance of our team and ultimately for then heading more time so to spend with the customer.", "The second objective and I conclude on that is really on the sales side of our team. It's to help them sell more. We've shared many times our ambition to increase penetration. While those systems are helping do that, because they give you a real-time customer information. Our teams know how the customer is performing, the products they're using, the new products that we could be adding as well to them, and they can merchandise as well the results that have been accomplished. So at the end of the day, it's easier for our team, it's better for the customer, and it goes flat as a whole as well for the company." ] }, { "name": "Tim Mulrooney", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. I had a question on, its around breakout areas. So you know how Life Science, it has become a very nice growth there for you guys. I think at your last Investor Day you talked about several new ones. And I was just wondering if you could give us some color there? And has anything else has popped up during the past year clearly?" ] }, { "name": "Christophe Beck", "speech": [ "Hey, thank you, Manav. While expanding our time has always been so part of the Ecolab strategy, for finding new growth avenues, new growth markets, and lining up resources behind them have been part of the way the company has been growing. You're mentioning Life Science. We started this business a few years ago. It's turned into an exceptional performance. It's been obviously helped by COVID as well at the same time, because the need of our former customers has grown so much, it's driven as well great innovation as well as for them in order to make sure they could produce vaccines, for instance, in the safest and most profitable way at the same time. But interestingly enough, that way of approaching things, Manav has helped us as well, opening new markets like data centers. We've started that two years ago, when saw that companies were ultimately outsourcing all their IT to larger companies like Amazon, Microsoft, Google and so on. And we were dealing with them, providing them with them some solutions, because those computer generate a lot of energy and need to be cooled down, while we were providing solutions for them as many other customers. And ultimately we've said, well that's a critical market for the future, its going to keep growing. We're going to create the division as well behind it, which is exactly what we did. That was the before COVID. Then COVID happened. Everyone used the cloud, and it's a market that's been booming as well since then, there's been a good play.", "And the last one I'll mention, Manav here is animal health, where we knew as well that antibiotics, it's something that consumers, that even I don't want to have in our food ultimately. So how do we help animals staying healthy in the food chain at the very beginning. And that's how we've created as well as division. We've made a big acquisition as well early last year [Indecipherable] which is creating that critical mass with that new market opportunity, and which is leading to double-digit growth since we've done that as well. So just a few examples, like that." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. That's helpful. And I was hoping you could just help us with the cadence of cost and many margins for the first part of the year, at least with respect to the rising cost of your raw materials, please?" ] }, { "name": "Christophe Beck", "speech": [ "And, Manav, Just to make sure that I understand that, what you mean '21 year or 2020." ] }, { "name": "Manav Patnaik", "speech": [ "No. '21, just with the recent increase in all raws and how should we think about how that flows through your numbers?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. So margins have been improving over time in our businesses for a very long time. That was the case as well in 2020 since the low in Q2. Obviously, we see that continuing in the quarters to come in '21, keeping really in mind that we see the year '21 and two parts. There will be the first quarter, which will be very similar to what we've experienced in Q4, and then there will be the reopening of the end markets in Q2, and then the clear ramp ups in Q3 and Q4. So it's kind of slightly better in Q2 -- in Q1, sorry. And as of Q2, you will see a rebound as well there. We have good pricing power, which is good. We have raw materials that are expected to be benign right now, but the indications that we see in the last few days/weeks, ultimately it's all going up in terms of raw materials. So we'll have to mitigate that. But this is something that we've been doing very well for many, many situations similar that we've experienced in the past few years." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thanks, and congrats on ranking near the top of the Barron's sustainability list last weekend." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "John Roberts", "speech": [ "A few vacation locations have actually seen pretty solid hotel occupancy in restaurant traffic, not a lot, but some have. And do you have any data to show in those specific areas that the overall cleaning product revenue per room, the revenue per diner has structurally increased since the pre-pandemic levels?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, I don't have detail numbers to share with you, but it very clear, got into the places where it's reopened, the one you mentioned, for instance. We've had those customer with more solutions in order to prevent the risk of infection, that leads to better sales than what we had before. But to your point as well. So those are individual areas like vacation groups that you described. Unfortunately, so those also, just selected ones. But those are good indication at the moment that the overall market is going to reopen and sets, hopefully, or that's the way we expected during the second quarter. It will compound, obviously, to our growth opportunities in those units that we either used to have or did have yet, but we'll have more solutions as well to them." ] }, { "name": "John Roberts", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is coming from the line of David Begleiter with Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you, Christophe, industrial had a very strong quarter and full year. So looking at Industrial in 2021, can that segment expand margins? And how much of a headwind will be discretionary costs be as they come back into the numbers in 2021?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, so Industrial will keep developing its margins. It's been the case that you've noted in 2020. In '21, we're expecting as well pricing to remain kind of at the similar level than what we've seen. The raw materials are going to be probably a bigger headwind than what we had in 2020. So net-net margins will be similar, but operating income will keep growing." ] }, { "name": "David Begleiter", "speech": [ "Great. And then just on the cash flow. Any thoughts or comments on working capital and capex in '21?" ] }, { "name": "Christophe Beck", "speech": [ "Dan, you want to answer this one." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Chris, thank you. Well, maybe to ground us in the very strong performance that we had in 2020. First of all, working capital was a net contributor to strong cash flow, because although we saw a little deterioration in collections and an increase in inventory on hand from a day's perspective, the very favorable to cash flow at least impact of declining volumes made working capital and net contributor. So 2021 will be somewhat the opposite of that. Meaning, as the business continues to rebound, we will invest more in receivables and inventory. So not significantly, but we will invest in working capital in 2021.", "Having said that, we'll remain very focused on collections. And I've said before, in earlier calls, we are very determined and have been sure to be paid for the value that we're creating for customers. And frankly on the inventory side, just a personal comment almost. My expectation, and I know Christophe shares this sort of vibrantly, is that our goal on inventory in 2021 is to make sure that we're building the right stuff for the right customers and expectation of the rebound, and so the favorable inventory in '20 will reverse in 2021, but it won't be a big drag on overall cash flow performance." ] }, { "name": "David Begleiter", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Gary Bisbee with Bank of America. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey guys, good afternoon. I guess, the first question, just going back to the Institutional initiatives here, can you provide a little more detail, because what I'm really trying to get at is, how much of it is about rightsizing costs versus other changes that would promote growth? Certainly your prepared remarks talk about spend to deliver this and cost savings after the fact. So part of it clearly is cost driven, but what you discussed earlier was much more I think on the growth, positioning for growth end of it, just a little more color? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Thank you, Gary. It's not cost driven. What we're doing in Institutional is part of what we've been doing for years. It's driven by two things, as I mentioned earlier. The first one is really sought to increase our sales firepower. We always want to have more dedicated people toward selling new customers, selling new solutions to existing customers. We've shared earlier as well our ambitions to increase penetration by 20% as well all the time. Well, we need to increase as well. I would say it's bio power, which means, people on [Indecipherable] behind that in order to delivery it. Technology is obviously helping as well for that.", "On the other side, on the service, it's to improve the customer experience, that when one of our service rep is going to one of the customers, while she or he or she doesn't spend a lot of time collecting data or getting papers together, now she or he can really get in and has all the information, can really work immediately with the customer or the customer issues that they might have as well. And as mentioned before, if they are -- day is organized better, if we can really route them in a way that minimize hours and mileage, at the end of the day, they can service more customers, spending more time with the customer instead of internal administrative staff or fixing equipment that we have. And if that works, well it's good for the customers and it's good for us. That, in other words, we have more sales firepower. We have improved operational efficiency in service, which nets to an improvement of cost structure as well at the same time." ] }, { "name": "Gary Bisbee", "speech": [ "Okay, that's helpful. And then the follow-up. Can you help us to think or discuss how you're sort of thinking through volumes you've earned in areas that have benefited from the pandemic? So whether that's sanitizers or disinfectants or other, how those could persist versus maybe moderate at some point in the future? And I guess, as part of it, are you signing new long-term contract for these things with the volume expectations? Or is there the risk that a lot of the incremental revenue could go away at some point in the future when the pandemic is in the rearview mirror? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Long term, we always have contracts with the vast, if not all of our customers around the world. That's part of our business model and it will remain as such as well going forward. And we have plans, obviously to increase as well the demand with all of them. That's why we invest as well behind all those customers. So, to Mike's point before [Indecipherable] So 80% of our aggregated business has been growing in 2020. Well, those businesses will keep growing as well in 2021. When you think about it, 80% have been growing, so 5% top line in 2020% and 14% operating income. While they're going to keep growing as well in 21. The mix is going to be a little bit different, as mentioned, in Life Science, the demand was higher for natural reasons. In Healthcare, we got those national government deals as well. But underneath, you still have the 5%, 6% growth, which is good. Industrial is going to move toward positive growth as well. And sanitizing products, they're going to stay at a fairly high rate of growth. So it's not going to be the same as in 2020 because I don't expect people to 20 sanitize their hands the same way as they did during COVID, would be too nice, but it's going to be more than what they did before COVID peaking in 2019.", "So overall, I think that the trend are going to be similar or better for most of those products." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Rosemarie Morbelli with G Research. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Rosemarie." ] }, { "name": "Rosemarie Morbelli", "speech": [ "So just going back to the demand -- the high demand in Life Science and Healthcare, do you have the feeling that there may be some inventory build in some of the channels, and actually you could see a decline in revenue for full-year 2021?" ] }, { "name": "Christophe Beck", "speech": [ "I don't think so, Rosemarie. So life Sciences is kind of a direct business. So there is no in-between distribution, and it's mostly bulk products as well that you can't release store as such. So inventory is quite [Indecipherable] just in time in Life Science, and it's been growing strong in 2020. It's been growing strong before that as well, and we are planning for great growth as well in '21 So Life Science is going to be the continuation of a great story. But we need to keep in mind as well that, well, they had an exceptional year in 2020. So the comparisons that we will make in '21 will look a little bit softer. That's why it's going to be important to look at the underlying growth, which is the way we run the business, anyway. And it's even more true for healthcare, because the growth of 20% plus that we had in the last quarter was partly driven as well by those national deals that we've made for some of the government in order to fight COVID. Underlining, it's going to be 5% to 6%, that's the way we measure rate. So when you do the comparison, Rosemarie, '21 versus '20, it will look like a much lower growth, but it's just because the comparison, it's kind of unfair. But we will look at the underlying growth, which is ultimately what's going to be long-term, and we expect it to be within the range of 5%, 6% for Healthcare." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay, thanks. That's helpful. And then, Christophe, if we look at 2021, you expect that your results will approach those of 2019. So, do you expect this to be the case for all segments, and both for revenues and operating income?" ] }, { "name": "Christophe Beck", "speech": [ "So, the 80% that we've talked about with Healthcare, Life Science, Industrial, well they're going to be ahead of '19, because they've been ahead in '20 versus '19, and they're going to be ahead of '20 in 2021, so they're going to keep improving obviously. Whereas Institutional is the one that needs to grow from a much lower level, started in Q2 in 2020. You've seen in Q3 an improvement. Q4, not so much. Q1 is going to be the same, and Q2 is going to continue afterwards. But at the same time, we need to keep in mind as well that we have investment in the business that we're going to make in '21 as we did in 2020 and I'm going to keep increasing those investments as well. The mix is going to be unfavorable in '21 versus '19 just because Institution is going to be lower, because it's going to be recovering toward the end of the year. And the last point is that we have some cost we bid, people are going to start traveling, and entertaining, again, will have merit as well, so coming in there. So it's going to be a different story in most businesses that ultimately we feel confident that '21 can deliver earnings that are adjusted ahead of '19." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Chris Parkinson with Credit Suisse. Please proceed with your question." ] }, { "name": "Chris Parkinson", "speech": [ "Great. Thank you. Despite a fairly choppy 4Q, 1Q, which seriously overwhelmingly expected, there were signs of life which you highlighted across your supplemental. When speaking to your teams, can you speak to maybe two or three end markets for which you're now incrementally more confidence or constructed just given pent up demand once the world truly opens back up? If you can hit on that, then just any potential comments on preliminary share gains would be greatly appreciated? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "So just to make sure, Chris, that I understood the question right. So, the end markets that we would estimate would be rebounding during 2021?" ] }, { "name": "Chris Parkinson", "speech": [ "Yes. And any comments around market share. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Okay. So, the biggest one is obviously Institutional, restaurants and hotels. And the way we measure performance in the down market today is how many units do we have compared to the low point in Q2, and how many solutions that we sell to existing units as well, is really to make sure that we improve our base the moment it reopens that we can accelerate. And in Institutional, we have more units, much more than we had in the second quarter last year. We have a much more solutions as well. So, the moment the demand is coming back, that's going to compound, which is really good news. And we expect that not to happen in the first quarter, but it's going to happen sometime in the second quarter.", "Another one is downstream, which is related to the oil and gas demand. When cars are going to be used more, when planes are going to be flying more, when boats are going to be more traveling as well, like cruise ships obviously, so that the demand for oil and gas is going to accelerate. So, our objective here is the same as what we did in Institutional, more refineries and more solutions to those refineries and that looks quite good as we speak right now. So, those are two big ones that are expected to rebound in the second quarter. All the other businesses, major businesses, Chris, are ultimately on a good path, no matter what." ] }, { "name": "Operator", "speech": [ "Thank you. Next question is from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you, and good afternoon, everyone. I wanted just to follow up on the new business wins, maybe in particular in Institutional, but you could touch on other segments as well. And I guess what I'm wondering is that there was a clear opportunity as COVID hit to go get new business, and I'm just wondering if there is sort of a second phase of new business opportunities that it will be unique to COVID, but it will come more during the reopening as maybe customers make it -- come to a realization that they want to change providers or trade up or what -- how do you see that playing out?" ] }, { "name": "Christophe Beck", "speech": [ "That's a great question. Well, starting first with the net new business in 2020 has been quite ahead of 2019, which honestly personally I didn't expect that we would be that good, but we've managed in 2020 to sell more new business than we sold in 2019. And to your point in Institutional, that's been the best new business generation that we've had across the Company. So Institutional has done an exceptional job in terms of new business for two reasons mainly. One is, obviously, the focus of our team on new business during that time. But the second is the one that you touched just before, that during those difficult times of COVID, customers were looking for expertise, for scientific expertise, they didn't know what COVID was to begin with. How to address that issue? How to get ready for the reopening? How to get ready for the future as well? And we are the unique company that could provide that supports to them in the US like anywhere as well around the world. So, many came to us as well during that time.", "And the last point I mentioned is also our capability to supply as well. So, especially in sanitizing product, growth has been outstripping the supply quite a bit. We've built a lot of capacity as well during that time, while this is capacity that customers have been asking and that we've been able, as well, to sell to them. So, good new business in most -- in all businesses, actually for the whole company, especially, in Institutional, and I think that that's going to be even more true in '21, because we've demonstrated to our customers that we're here for them when they truly need us." ] }, { "name": "Vincent Andrews", "speech": [ "Okay. And, Dan, if I could ask you a quick question on the balance sheet. Just seeing that the post-retirement healthcare pension benefits was up, looks like, $140 million year-over-year, is that a function of discount rate assumptions or return on planned assets or what happened there?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah. Really, the year-on-year change is discount rate driven, OK. Likewise, to this other income line that you see down below operating income, so rates have such a big impact both on the liability and on the accrued expenses, OK." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of John McNulty with BMO Capital Markets. Please proceed with your question." ] }, { "name": "John McNulty", "speech": [ "Yeah. Thanks for taking my question. So, the push on the ESG front, especially from industrial customers and players out there, it seems bigger than I think most of us would have thought a few years ago. And I guess with that in mind, like, when you think about the water platform that you have and especially on the industrial side, can you speak to the level of engagements that you're having? And is it higher than what you would have thought, say, a couple of years ago when you guys gave the longer-term outlook for the business of 6% to 8%? Like, I guess, have we reached a tipping point where we may see multiple years where that business accelerates at a level that is maybe faster than what we've seen or what you may have expected, how should we be thinking about that?" ] }, { "name": "Christophe Beck", "speech": [ "It's definitely bigger than what we thought. And honestly, I thought, during COVID that would really take a backseat. And none of that happened, thankfully, actually, for the world in general and especially for our business as well. We've had always more customers coming to us for two reasons interestingly enough. On one hand saying, well, can you help us get toward our ambition in terms of ESG, in terms of water usage, in terms of climate, CO2 emissions, waste that we generate as well. And there was the second dimension, which is an interesting new one for us. Many customers coming to us and saying, well, you guys as the company have done so well from an ESG perspective. Is there something we can learn from you that we could implement as well within our own company.", "And I can give you two examples in here. On one hand, the larger consumer good company out of Europe with whom we've been working for a few years, toward the end of last year, they said we need you to help us build a plan to become water positive by 2030. While those are new questions, which we know how to answer that, no one else can. And on the other hand, you've seen Microsoft as well announcing their ambition to be water positive by 2030. We've done that plan together with them. We are helping them getting there as well. So, those are examples that two of many of those companies are coming to us. So, yes, there is an inflection point that's turning bigger, better than what I would have thought." ] }, { "name": "John McNulty", "speech": [ "Got it. Thanks very much for the color." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Justin Hawk with Robert W. Baird. Please proceed with your question." ] }, { "name": "Justin Hawk", "speech": [ "Hi. Thank you. So, I just wanted to ask some questions on the restructuring program, just because it's changed a couple of times and it's somewhat difficult to track where you are. Relative to the $355 million of total spend that you're talking about now through 2023, what's been spends under those programs as of the end of 2020? And then, similarly, for the benefits, the $365 million of annual savings that you're looking for in 2024, what's the current run rate that's in the 2020 base just so we can kind of think about how that builds?" ] }, { "name": "Christophe Beck", "speech": [ "I think, I'll let you, Dan, maybe you got the answer, and I build, if anything." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Sure, of course. So, just to make sure that we are talking the same numbers here, right. I think that we've disclosed an actual cost associated with the $365 million of anticipated savings of $335 million, of which at the end of 2020, $275 million has been accrued, OK. So, a very good start across all of these programs. And from a run rate perspective, as of the end of 2020, we've recognized about $200 million of total savings. So, expect significant pick up in 2021 as you might guess and going to look kind of more or less stabilized or bleed out over 2022 to 2024." ] }, { "name": "Justin Hawk", "speech": [ "Thanks. That's helpful. And then my second one was just to make sure that we're all level set. When you talk about '21 adjusted earnings being in excess of the comparable 2019 level, I think you disclosed the pro forma number that excludes ChampionX, it was $5.20. So, is that the number that we should baseline your comments on?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah. The number that we would steer you toward is the continuing ops number, which is $5.12 from 2019, OK." ] }, { "name": "Operator", "speech": [ "Thank you. The next question comes from the line of P.J. Juvekar with Citigroup. Please proceed with your question." ] }, { "name": "P.J. Juvekar", "speech": [ "Yes. Hi. Good afternoon, Christophe, and welcome." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, P. J." ] }, { "name": "P.J. Juvekar", "speech": [ "Yes. In your Institutional Advancement program, whether you're investing in field reps and digital technology, is that all for gaining share? Are your customers demanding this? And then, how do you charge for it, or is it also market share gains? And also, lastly there, where do you think is your competition in regards to this? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Great question. Thank you, P. J. Obviously, when we think about share this is self-serving. This is not the way we think about it. It's much more what's right for the customer. And if there's one thing that we've learned during COVID, especially in Institutional, is that customers need comprehensive solutions. When you think about an infection risk, while it's not just about sanitizing your hands, it's making sure that the tables are being sanitized, the floors, the drains, the water, the food is safe, that you don't have any pest in there. It's really -- infection is related to the weakest point that you would have in that unit. And seen from the customer side is basically who is the partner that can help me protect everything I have in my unit. And the only one that can do that today, at least, is Ecolab as such. So that's the way the customer is looking at us. So, it's really making sure that we offer programs that answer that, and the Ecolab Science Certified as well is ultimately bringing it altogether. If a unit has all the programs is as safe as it can be. Will they get the seal and we promote that as well. So it's good for the customer. It's higher demand for us. So it's good for us as well at the same time. So the whole organizational development that we making is ultimately helping to address that customer need." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Mike Harrison with Seaport Global Securities. Please proceed with your question." ] }, { "name": "Michael Harrison", "speech": [ "Hi, good afternoon." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Mike." ] }, { "name": "Michael Harrison", "speech": [ "I want to ask about your competitor diversity. They recently entered into a partnership with a water treatment provider to really go after the food and beverage market a little more aggressively. Do you think that could lead to some changes in the competitive dynamics that you're seeing in food and beverage or in water going forward?" ] }, { "name": "Christophe Beck", "speech": [ "Well, two things here, Mike. First, we know that water and hygiene together is a winning proposition. We've demonstrated that for years. But we know that partnership do not work. It's the second time that they are trying that. By the way, the first time was with Nalco many years ago, and it didn't work. So, it's hard enough within the company to get all the businesses working together toward one customer need, doing that with partnerships is really hard. This is interesting to see. Theoretically, it's a good idea. In practice, well, I wish them luck." ] }, { "name": "Michael Harrison", "speech": [ "All right. Thanks. And then on the downstream portion of the business, obviously, that's under some pressure because of driving activity. But I wanted to ask the trend in refineries as toward larger and more complex integrated refineries that have petrochemical production as well. Can you talk about the relative opportunity for Ecolab at one of these larger more complex refineries versus, say, a handful of less complex refineries that have equal capacity?" ] }, { "name": "Christophe Beck", "speech": [ "The petrochemical sites are definitely the sweet spot of our business in downstream. That's where we sell most of the solutions. That's where there is most demand from customers. That's where the margins are the highest and where the outcome is the best as well. And many of those companies to the EST point that was made before as well are interested in driving as well a better outcome from an impact on the environment as well at the same time. So this is the sweet spot. This is our primary focus as well going forward.", "We trying to get organized as we're behind petrochemical in a very dedicated way, but that's a little bit more for the future as such, whereas the traditional all the type of refineries are less of a priority for us. So, you're exactly right, and that's what we're going after and that's the way we're getting organized to really capture that growth and the margin. And I'll just conclude on one point. It's basically that petrochemical in 2020 has been growing as well in a difficult environment, which is a proof of that approach working so really well." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Adam Parrington with Stifel. Please proceed with your question." ] }, { "name": "Adam Parrington", "speech": [ "Hi. It's Adam on for Shlomo Rosenbaum. I was curious if you could talk a little bit about what contribute to the margin level in the Healthcare business this quarter, and what the interplay was between delivered product costs, mix, etc.?" ] }, { "name": "Christophe Beck", "speech": [ "So, Healthcare in 2020, in general, have had very nice margin development. You've seen as well as the comparison versus 2019. So a nice improvement. It was better in Q3 versus Q4 because the volume was higher because those one-time deals with government were still impacting the business fairly heavily, so you've got much more leverage as such. But that being said, the drive of program selling in Healthcare, the focus on infection prevention, the digital technology, the pricing, the work on margin improvement, well, has contributed to the margin improvement in 2020 and is going to stick as an improvement as well in '21. So, I feel good about the margin development in Healthcare when I think '21 and beyond." ] }, { "name": "Adam Parrington", "speech": [ "Okay. And in terms of the earnings for 2021 versus 2019, I wanted you touch on the earlier question, can you please give more detail what needs to happen there, and how much of that improvement -- expected improvement will be explicitly from, like, cost savings?" ] }, { "name": "Christophe Beck", "speech": [ "So, in order to get there, which we feel very confident to deliver an EPS in '21 that's ahead of the $5.12 in 2019, as Dan mentioned, is basically driven by three or four things. The first one is 80% of our business, Industrial, Healthcare, Life Science growing, growing operating income in 2020, it's going to keep doing that obviously in '21. So, those ones need to keep moving, and they will. They have good momentum. They have good new business and they have propositions that customers are asking for, which is really good. Same time, you need to have Institutional that turns the corner. As mentioned, it's not going to be in Q1. It's going to be very similar than what we had in Q4, but it's going to be some time in Q2. That's going to catch up as well. So Q2, Q3, Q4 where Institutional get back toward where it used to be, as well, pre-COVID. So that's going to drive as well toward that outcome.", "And the third point is, as you mentioned, we have got savings initiatives that Dan has been presented as well that are helping, but it's important to keep in mind that we will keep investing in the business. People are going to start traveling as well more. We are going to give them merit as well as we do every year as well. So, when you bring it altogether 80% of the business needs to keep humming, and it is and it will. Institutional needs to recover as of Q2 and the quarters to come and we need to make sure that both of the cost savings and investment we balance that in a smart way and we will get to the right place in 2021." ] }, { "name": "Operator", "speech": [ "Thank you. At this time, we reached the end of our question-and-answer session. I'll hand the floor back to Mr. Mike Monahan for closing comments." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our fourth quarter conference call. This conference call and the associated discussion and slides will be available for replay on our website. Thank you for your time and participation today, and our best wishes for the rest of the day. [Operator Closing Remarks]" ] } ]
ECL	2022-02-15	[ { "description": "", "name": "Mike Monahan", "position": "Other" }, { "description": "Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Chris Parkinson", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Ashish Sabadra", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "Oppenheimer and Company -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Chief Financial Officer", "name": "Scott Kirkland", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Steve Byrne", "position": "Analyst" }, { "description": "Baird -- Analyst", "name": "Andrew Wittmann", "position": "Analyst" }, { "description": "Gabelli and Company -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Jeff Zekauskas", "position": "Analyst" }, { "description": "Vertical Research Partners -- Analyst", "name": "Kevin McCarthy", "position": "Analyst" }, { "description": "Seaport Research Partners -- Analyst", "name": "Mike Harrison", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Kevin McVeigh", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the Ecolab fourth quarter 2021 earnings release conference call. [Operator instructions]. As a reminder, this conference is being recorded. At this time, it is now my pleasure to introduce Mike Monahan, senior vice president, external relations.", "Mr. Monahan, you may now begin." ] }, { "name": "Mike Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's fourth quarter conference call. With me today are Christophe Beck, Ecolab's CEO; and Scott Kirkland, our new CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's results are available on Ecolab's website at ecolab.com/investor.", "Please take a moment to read the cautionary statements in these materials, which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the risk factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview, the strong fourth quarter sales were driven by accelerated pricing, business wins, and product innovation with double-digit gains in our institutional and specialty and other segments as well as continued strong growth in the industrial segment. These were partially offset by negative COVID-related effects on business activity and an unprecedented estimated 20% increase in year on year delivered product cost and supply constraints in the quarter. We closed out a challenging year in 2021 in which we invested in key business drivers and aggressively drove pricing, innovation and productivity. We also successfully managed through substantial supply constraints and cost increases to deliver the strong full year earnings increase.", "Looking ahead, recent programs, including Ecolab Science Certified and net zero have further differentiated Ecolab's value proposition and enable us to create better customer outcomes and reduced environmental impact, all while simultaneously reducing their costs. Our new business wins and innovation pipelines are at record levels and new market focus areas are well positioned to drive growth and our leading digital capabilities continue to add competitive advantage. We expect to leverage these drivers to once again drive strong sales volume and pricing gains and along with productivity and cost reduction actions more than offset the higher cost to yield another year of double-digit earnings growth. Our strong business momentum, along with our enhanced value proposition and favorable macro trends position us well to leverage the post-COVID environment and deliver further superior long-term shareholder returns.", "And now here's Christophe Beck with his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Mike, and good afternoon, everyone. The fourth quarter showed once again that the global environment remains very dynamic, presenting new challenges that we've learned to turn into long-term opportunities. Our top line momentum reached 10% or 9% organic in a constrained environment. Institutional and specialty grew 19%; pest elimination 10%; and industrial remained strong, growing 8% in the quarter, and our new business and innovation pipelines remain really strong.", "At the same time, COVID came back during the fall, especially in North America and in Europe. As we all know, inflation kept rising substantially and still, top line gain momentum, including pricing, which accelerated to 4% as we exited the quarter. This was required to compensate for significant incremental costs from supply constraints and much high inflation pressure on our raw material and freight costs, discussed by close to 20% in the fourth quarter, nearly double the rate we saw in the third. And just being close to a total of $1 per share unfavorable impact for the full year with almost half of that in Q4 alone.", "So once again, our team demonstrated our commitment to protect our customers' operations at all time and in any condition to ensure food, power, water, and healthcare supply are protected while we also keep enhancing our margins for the long run. We now enter 2022 with confidence and well aware that the environment might change, but we will keep doing our very best to stay ahead. We expect the global economy to remain strong even if not as a perfect straight line. The exact timing for the end of COVID impact remains hard to predict, but we expect it to be mostly behind us by the middle of this year.", "We also expect inflation to remain at a high level, at least for the first half of the year, while we expect it to ease during the second half, and we're getting ready for this, too. We will keep driving growth by fueling the institutional recovery, which is going really well by generating strong new business by investing in our new growth engines like life sciences, data centers, or microelectronics. And by making sure we remain one of the very best places to work for the most promising and diverse global talent. We'll keep addressing inflation by further enhancing our productivity through digital automation as we've done over the past few years by leveraging high-margin innovation and naturally by accelerating our value pricing.", "For the full year '22, we expect raw materials and freight costs to further increase with inflation remaining high before it eased during the second half of the year. Our full year pricing expectation for '22 is expected to be in the 5 to 6% range, which combined with our steady productivity work is expected to get ahead of inflation dollar in the first half and enhanced margins in the second half of the year and certainly beyond as the Ecolab model has proven many times. All these actions should lead to a strong '22 with strong top line and adjusted earnings growth in the low teens for the full year and a first quarter with very healthy sales growth and a flattish EPS as pricing keeps building fast. Finally, as we've done throughout the pandemic and against major market disruptions, we will remain focused on the future.", "For us, it's all about delivering long-term value to our customers and to our shareholders, while managing the short term. Our mission of protecting people and the resources better to life is as important as it's ever been. Our opportunity has never been larger as we chase a global market that's today greater than $150 billion and growing fast. We have the confidence that we will look back on this period and truly feel we did the right things the right way by protecting our teams and our customers when they needed us the most and by protecting our company in ways that made Ecolab even stronger and more relevant.", "As the infection prevention company, helping customers protect their customers and their businesses with Ecolab Science Certified. And as the sustainability company, helping our customers progress on the net zero journey, all of which leading to strong top line and consistent, reliable double-digit EPS growth. And ultimately, getting us back on our pre-COVID earnings trajectory. I look forward to your questions." ] }, { "name": "Mike Monahan", "speech": [ "Thanks, Christophe. That concludes our formal remarks. As a final note, before we begin Q&A, we plan to hold our annual tour of our booth at the National Restaurant Association show in Chicago on Monday, May 23. If you have any questions, please contact my office.", "Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions]. Our first question today is from the line of Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Yes. Good morning. Thanks for taking my question. I just have two, not surprisingly on raw materials.", "So the first one is now that the year is complete, I was hoping we could get some numbers around raw material cost inflation. Can you tell us how much was raw material inflation in 2021? And then what is the expectation for raw material inflation in '22 that's built into your guide?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Great question. Thank you, Tim. So that's the core topic, obviously, for all of us.", "For us, it's raw materials and freight, as you know, that we combine as well. And if we look at 2021, it was roughly 10%, the increase we saw in the past year, which spiked in Q4, as you've heard and read as well to 20%. So 10% for the full year in '21. We expect to stay pretty high for the first half of '22 at the same level similar to what we've seen in Q4.", "And then to ease during the second half of the year, which leads to a roughly sort of 15%. So 10% in '21, roughly 15% in '22. And since raw materials and freight represent one-fourth of our sales roughly, our pricing plan is well aligned with that and should allow us during the first half to get the heads of the dollars that we get in terms of inflation and then improving the margin during the second half, assuming that the resumptions happen as planned." ] }, { "name": "Tim Mulrooney", "speech": [ "Yes. OK. You kind of started to address my second question, but I'm going to ask it anyway in case you have anything else. So just following up on that, assuming oil prices stay about where they are today, would you expect all else equal to see gross margin expansion after '22? The reason I ask, I mean, if we kind of step back and we look at your gross margin, it was 44%.", "We've seen it go from 44 down to 41 over the last few years. And I'm wondering if this is kind of the new normal, this 41, 42-ish percent or if you do expect to see normalization back to that historical average of closer to 44% over time? And how you plan to get there?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, we absolutely expect to get back over time to where we were pre-inflation start or pre-COVID wherever is the start, obviously. When you look back as well, taking Industrial, for instance, in the past years, look at operating income performance, the margin performance they had in 2020, which was north of 20%. And that was really as an outcome of all the work they did in pricing and a raw material market that trended toward lower level as such. So very good performance in 2020.", "That's a perfect example of what's going to happen in the future. Exactly when? I don't know, Tim, but we expect improvement in the second half of '22 and definitely over time to get back to where we were and go beyond that as well." ] }, { "name": "Tim Mulrooney", "speech": [ "That's helpful. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Manav Patnaik with Barclays." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. Christophe, I was just hoping just thinking a little bit more toward the longer-term growth trajectory like ex reopening. The whole hygiene and sanitization theme, which is supposed to be elevated, and that's why you have the Ecolab Science Certified. Maybe could you give us some numbers around what that looked like in 2021? And will it be elevated pre-pandemic now or how do you guys think about that?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Good question, Manav. It's going to be higher than 2019, which means pre-COVID, but it's going to be lower than during COVID for sure. In 2021, sanitizing sales were close to the double-digit increase versus 2019\\.", "And I think it's going to remain at that elevated level for the foreseeable future and especially with our Ecolab Science Certified program, which is going really, really well. Customers will use higher level of hygiene going forward, especially because their guests and customers are expecting more of it as well. Some of the ease that we've seen in '21, was also related to the fact that restaurants and hotel had limited staffing as well as to do all the cleaning and sanitization, which probably has pressured a little bit the sanitizing sales. But still quite happy versus 2019, as mentioned, so close to double digit and expect it to continue on that trend in the years to come." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. Appreciate that. And you guys have obviously done a relatively good job here in managing all the cost inflation. I suspect a lot of your competitors might be struggling more.", "And my question is more, does that mean you have a greater potential M&A pipeline that you could be executing on or are you not looking at it that way?" ] }, { "name": "Christophe Beck", "speech": [ "Well, we usually focus in terms of M&A, Manav, on very good strong companies. So we're not looking, first and foremost, at companies that are not doing that great, but I would not exclude that. But you're right that we are in a very good position. You've seen our pricing evolution, so exiting Q4 with 4% and confident in 2022 so to get to 5%, 6% as well.", "That's demonstrating the value that we can create. And if we do that over time as we always do it, Manav, in our company, it's to make sure that we can keep those customers and keep those customers for the long term as well, which is going to improve as well our competitive situation." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. Thank you, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Manav." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Chris Parkinson with Mizuho." ] }, { "name": "Chris Parkinson", "speech": [ "Great. Thank you so much. Just as difficult as it is to discuss anything normalized these days, just how should investors be conceptualizing your true earnings power in terms of, let's say, the eventual raw material moderation put together with, I'd say, continuing pricing momentum, transportation, logistics, and labor? Just all in the context of, let's say, end markets rebounding in '22 and '23 and market share gains. You've already spoken about geo normality, but just how should we think about this in terms of earnings power for '23, '24? And are there any extra considerations I didn't mention? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thanks for your question, Chris. Yes, long term, I feel quite confident that we're going to get back to this pre-COVID earnings trajectory for a few reasons. Here, the first one, institutional is going to keep recovering and it's one of our highest margin businesses.", "So just from a business mix perspective, so things are going to improve, obviously, as well. Then we have industrial that's going to keep growing fast, and that's creating leverage as well in terms of absorption that we have. And you mentioned, obviously, the price versus inflation, we've demonstrated that over and over our history as a company that during those inflationary period, well, we end up with a gross margin that's higher than where it was prior to that cycle as well. Then you add businesses like Purolite, which are very high margin and growing very fast as well.", "And last but not least, all the work that we've done in terms of digital productivity, automation, of transactional work that's going to help our SG&A improvement as well in the years to come. So you bring all that together, those are all positive drivers for our margin improvement." ] }, { "name": "Chris Parkinson", "speech": [ "That's helpful. And just as a quick follow-up, the last several earnings releases even through the typical times of COVID, you've been mentioning market share gains fairly consistently. As we stand here today at the beginning of 2022, can you just give us a quick update on the market share gains where you've been pleasantly surprised even perhaps disappointed based on your perceived opportunities. And just how you'd expect your new baseline to generate incremental earnings power over the next few years? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yes. So the question on market share is always a good one, so different by business. But if you think about it's a growing 10% in the fourth quarter, that's faster than the general economic environment. So just macro, it's indicating that we're gaining shares in average.", "But if you take Institutional, for instance, and taking the big example of restaurants in the U.S. In Q4, our business was 9% down or 91% of 2019, when the traffic in dining rooms, which is the most important for us was down 33% versus 2019\\. So that's obviously showing so how much market share we've gained. In industrial, the 7, 8% growth that we have -- well, it's a combination of very different businesses, where you have paper, 15-plus percent that's definitely a place where we gain a lot of share.", "You take data centers as well where we're growing extremely fast as well with the objective to be really the best player in that market as well long term. Life sciences, especially as well, so with Purolite where we're growing faster than most of our competitors out there, always difficult to compare. So you look at it macro, Chris, with the 10% faster than general economic growth, that leads to good share increases and examples like the one I just mentioned, are good indications as well that our position is improving over time." ] }, { "name": "Chris Parkinson", "speech": [ "Thank you, as always." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Chris." ] }, { "name": "Operator", "speech": [ "Next question come from the line of John McNulty with BMO Capital Markets." ] }, { "name": "John McNulty", "speech": [ "Yes. Thanks for taking my question. Can you speak to how you're dealing with wage inflation? It seems like there's kind of two different angles to it. One that it's nicking your customers where maybe you can be helpful and come up with incremental solutions for them.", "But I would think given the number of feet on the street that you have as well, it's something you have to deal with internally. Can you kind of speak to the pressure that you're going to face and how maybe you can offset that with revenue coming in by helping out your customers?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. As you mentioned, John. So we look at it in both ways. First, how do we help our customers who do not only have wage inflation issue, but have a hard time to find people, as we know, so in restaurants and in hotels.", "So less people, more expensive. So our solutions that are automating a lot of the cleaning work, sanitation work, that they need to do is helping, obviously, customers. And that's one of the reasons why we're growing nicely in those markets. Now back to our own wages.", "The way I look at it is in a reasonable way. So for '22, we're trying to stay competitive with the rest of the market. Our retention of our talent in the company has been very strong over the last two years when many have been struggling as well. That's indicating that we're doing more right than not in terms of how we're managing as well wages.", "And last but not least, we always make sure that we focus on our key talent and those ones we support very specifically and making sure that they stay happy and stay longer in our company. And the last point, just to get back to your question is what on productivity. The whole digital work that we've done over the last many years is really paying off. You see it in our SG&A improvement that's improving year in and year out.", "that's going to help mitigate as well the wage inflation that we will face as well. But net-net, a good story." ] }, { "name": "John McNulty", "speech": [ "Got it. Got it. No, that's helpful. And then maybe just a little bit more color on the raw material side.", "It sounds like you think raw materials and freight are going to come off in the back half of the year. I guess can you give us a little bit more granularity or quantify how much you think it -- or how much of a decline you kind of modeled in when you're looking for these low teens EPS growth for 2022?" ] }, { "name": "Christophe Beck", "speech": [ "The best way to look at it is basically that the first half should be very similar to what we've seen in the fourth quarter. So the 20% that we've talked about is roughly what we're expecting as well. So for the first half of '22\\. And we expect that the rate of growth for the second half of the year to be, I don't know, half of that.", "But you compare to a high base, obviously. So it's not going positive in terms of dollars. It's just the rate of growth is getting lower. We know it's going to go down, John, at some point.", "The only question is when. And the good news with Ecolab is that the moment that inflation eases and goes down, that's where we create the best margin enhancement as we've demonstrated in industrial in 2020." ] }, { "name": "John McNulty", "speech": [ "Got it. So just to be clear, the cost you're assuming, they don't go down in the back half of the year? You're assuming the trajectory slows. Am I understanding that right?" ] }, { "name": "Christophe Beck", "speech": [ "Exactly, yes, John. And as mentioned on early answer with Tim, it's expecting so kind of 10% we had last year raws and freight cost inflation, and we expect to go up to 15% for the full year in '22. So that's the way we assume it right now." ] }, { "name": "John McNulty", "speech": [ "Got it. Thank you very much for the color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Vincent Andrews with Morgan Stanley." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you. Could you maybe just expand on the raws and freight a little bit just in terms of what the breakdown is in terms of the increase you were seeing in the fourth quarter and continuing into this year? How much of it is incremental on the raw side versus the freight and logistics and COVID disruption and also maybe speak to if there's any change in the mix of raws that are giving you problems." ] }, { "name": "Christophe Beck", "speech": [ "It's not giving us problems. It was -- in 2021, Vincent, three quarter roughly of the inflation pressure was in industrial. That's evolving as well because it's not always the same raw materials that are increasing across our businesses and in various geographies as well at the same time. So in a way, this is a good thing.", "So it's becoming more spread out across the businesses and geographies, not just industrial, especially North America. But freight is becoming the new drivers of our cost inflation as everybody knows out there. This is not specific to us as well. So that's the new one that we need to deal with.", "The very good news on this one is, on one hand, we're well organized on the logistics side. We have a lot of former Amazon people as well as leading our logistics, that helps. And we've engaged as well over the last 12 months and even more in '22 as well new logistics policies, surcharges making sure that we not only optimize our logistics but get paid as well for any increase that we might have." ] }, { "name": "Vincent Andrews", "speech": [ "OK. And could you maybe just give us your outlook for this year in healthcare and life sciences?" ] }, { "name": "Christophe Beck", "speech": [ "You mean, Vincent, our outlook in terms of what?" ] }, { "name": "Vincent Andrews", "speech": [ "Just in terms of how you expect the business to perform as we move through the year?" ] }, { "name": "Christophe Beck", "speech": [ "Like that. OK. Well, as we've shared, generally, we're entering '22 in a very good position in terms of business momentum. The 10% that we've delivered in the fourth quarter is something that we expect to kind of stay quite steady over '22, the mix between volume and pricing.", "Obviously, it's going to involve since we're going to move pricing closer to 5, 6% as mentioned as well. So kind of a steady, good momentum. And for the EPS growth, as mentioned, we expect it to be in the low teens for the full year. The first half is going to be more on the lower side and the second half is going to be on the higher side of the 10% because of the margin improvement driven by pricing going steadily up and inflation easing, as I just mentioned before with John." ] }, { "name": "Vincent Andrews", "speech": [ "OK. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Vincent." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of John Roberts with UBS." ] }, { "name": "John Roberts", "speech": [ "Welcome, Scott. And congratulations, Christophe, on the Barron's 100 sustainability ranking." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "John Roberts", "speech": [ "Are you still adding new sign-ups for Ecolab Science Certified, or are you just enjoying the benefits of everybody who signed up early on? I don't know if there's fatigue out there as this goes on, that there's less interest in signing up for new programs?" ] }, { "name": "Christophe Beck", "speech": [ "No, we don't really see any slowdown on that front, which is a good sign. It's even taken time, interestingly enough for many customers to kind of get on board, really understanding what it would mean for their own brand. McDonald's has been a perfect example as well. Wanted to make sure that it was right for them, it was supporting their brand the right way that it was well perceived with their guests as well.", "So they came fairly late in the COVID journey, if I may say. So if anything, it's more interest, not less interest, which is encouraging because, to your point, John, we thought that it would be mostly COVID related. And now it's becoming more interesting so for restaurants, hotels, offices to make sure that the places where the welcome people are safe and healthy." ] }, { "name": "John Roberts", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Ashish Sabadra with RBC." ] }, { "name": "Ashish Sabadra", "speech": [ "Thanks for taking my question. I just wanted to focus on water, which continues to show really strong momentum, delivering another solid 8% growth in the fourth quarter. How should we think about that momentum going into '22? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "Well, I'm a bit passionate about water. I've been leading the business for quite a while, Ashish. So this is something that I believe we are uniquely positioned here to keep growing for two reasons. On one hand -- well, three reasons.", "On one hand, water scarcity becomes a bigger issue because we're not going to get more water on earth, but we're going to use more water as well going forward. So that's the first point. Second, you have always more companies committing to net zero carbon and water by 2050, getting half there, so by 2030 or whatever the commitment that they have. Not only because it's good for water, but if you save water, you save energy as well at the same time.", "And always more companies are realizing that they can get, well, both benefit. Getting less issues from a water perspective and reducing the carbon footprint at the same time. So the only one who can really help companies get to the net zero, which is kind of a new trend, which is great for us. And the last point I'd mention is that well, we're probably the only company that can do it at a very high margin as well at the same time because we bring so much science, expertise, and digital technology as well in there.", "So bringing all three together, water scarcity, need for net zero and the fact that we can do it at high margin makes me really bullish about that business going forward." ] }, { "name": "Ashish Sabadra", "speech": [ "That's very helpful color. And maybe if I can just ask a quick follow-up on the commercial pest elimination business. Again, a small business, but has been a strong growth engine for you. And with one -- particularly one of the large players in commercial pest control getting acquired, how do you think about the competitive environment changing going forward? And separately, would you also consider potential M&As to expand your position in the commercial pest control? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "So maybe to your point of a fairly small business, it's almost $1 billion for us. So it's quite significant. It's extremely profitable, and it's growing really fast in due 10% during the fourth quarter, and it's been growing during COVID as well. So just to show the resilience, the strength of that business.", "And the other thing I really like with pest is that it's a perfect complement to everything else that we do. In a hospital when you think about infection prevention, while you need to eliminate pest. In a food and beverage plant, you need to bring pest elimination as well, so to make sure that you do not create food safety issue. The same in a hotel, the same in a restaurant.", "So it's a perfect fit to our value proposition as a company. And to your point, in terms of M&A, well one of our competitors are getting into a big M&A now means a lot of distractions for them, a company that we respect a lot, by the way. But when they're busy doing integration, those are the best times for us ultimately to gain share. And in terms of us doing M&A in the pest elimination field, we don't comment in details, but we definitely open to consider as well as we have in the past, we will, in the future as well in businesses that are so valuable for us." ] }, { "name": "Ashish Sabadra", "speech": [ "That's very helpful color. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Ashish." ] }, { "name": "Operator", "speech": [ "Next question is from the line of Laurence Alexander with Jefferies." ] }, { "name": "Laurence Alexander", "speech": [ "Good morning. I guess two questions about sort of lag effects. The first is with all the volatility that you -- that we've seen in the last couple of years and how Ecolab has improved their portfolio, should your pace of share gains pick up over the next couple of years as customers recalibrate and sort of are able to -- in a more stable environment, sort of reassess kind of your relative position versus peers? And secondly, from the sounds of it, if you factor in the water and the productivity and the digitalization and some of the other initiatives you've mentioned, should your top line growth be faster than in the last say, 10, 15-year period? And can the pace of productivity gains improve compared to the last decade or so?" ] }, { "name": "Christophe Beck", "speech": [ "Great question. So I see three big questions, all related obviously, here. So I'll try to be as extent as I can on that. So first, in terms of share, as mentioned before, the fact that we're growing fast in most of our businesses.", "So it's not just one business that's growing and all the other ones are going slow, is a good indication that we're gaining share. And obviously, once the whole craziness of the world is behind us, that's going to pay dividend as well because we're going to be in an even stronger position afterwards. So it's always been the focus for us. We have this mantra in the company: in doubt, go and sell something, which is pretty useful in those unpredictable times.", "Well, that's going to pay dividend for the future. So I feel good about that, which leads me to your second question in terms of top line momentum. Yes, I firmly believe that the growth that we will see in the years to come is going to be ahead of the growth that we see in pre-COVID, if there is any such thing as well. And in terms of productivity with all the investments that we've made in ERP technology, in field technology, in remote monitoring for our customers, in AI.", "All that is not only pay dividend right now, as you can see as well over the past few years, our SG&A productivity has improved, but I believe it's going to improve even better in the future as well. When you bring all three together, I think it should lead to a performance that's ahead of what we've seen pre-COVID." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question is from the line of Scott Schneeberger with Oppenheimer." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much. I think I'll bring Scott in on the first one. Capex increased as a percent of revenue in 2021, probably pretty logical given the environment. But it's still below the 6% levels pre-pandemic.", "Where do you see capex in 2022 and perhaps beyond in some major categories of spend going forward? Thanks." ] }, { "name": "Scott Kirkland", "speech": [ "Scott, thanks for the question. Yes, it certainly was lower. And as you know, of our historical range, we've been around 6% of sales on capex. And during -- as sales have been lower relative to '19, there's a big portion of our capex that's in merchandising equipment with customers.", "So as the customer rebounds come back, expect that capex to be similar to those historical trends around 6%." ] }, { "name": "Scott Schneeberger", "speech": [ "Great. And then, Christophe, just a high level or perhaps both of you. It's been a while since there's been discussion of the efficiency initiatives and kind of the overriding long-term theme of cost savings. And it's been a torrentuous time period.", "But just curious, how are you progressing on that? How should we be looking at that as we approach the end of '22 and '23?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Let me make a quick comment on this one, and I'll pass it back to Scott, who was the details here. The efficiency initiatives that we've had over the past few years have progressed really well. And let's keep in mind that those initiatives were not pure cost savings initiatives.", "Those were initiatives that were leveraging all the investments that we had made in the past in ERP technology, in digital technology and all that. And as I've mentioned before, not only it's delivered great results so far. I think it's going to give even better margin improvement as well going forward. So it's not something that we're going to stop doing, but we're going to do that in a more organic way, so going forward.", "But with that, Scott, maybe a few comments on that." ] }, { "name": "Scott Kirkland", "speech": [ "Sure. Thanks, Christophe. Yes. As Christophe said, we progressed very well on it.", "If we think about the two big programs and we have programs going on all the time. But the two big programs, the A 2020 and the Institutional Advancement Program through the end of 2021, we were north of 90% complete from a savings and cost perspective on both of those, and we'll have a little bit of a tail into 2022 and 2023 to wrap up those programs." ] }, { "name": "Scott Schneeberger", "speech": [ "Thank you very much for the color." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Steve Byrne with Bank of America." ] }, { "name": "Steve Byrne", "speech": [ "Yes. Thank you. You've had Purolite now a couple of months. How do you view the expectations about profitability from that business relative to what you previously had in both industrial business, wallet share gains, and on the life sciences, anything that has changed your outlook on that?" ] }, { "name": "Christophe Beck", "speech": [ "No. We're really happy with that acquisition. As you mentioned, we're kind of two months in. So we're really at the beginning.", "Our first objective was really to do no harm, and making sure that they can keep growing as they have in the past, and they're doing really well. We're not working on any significant integration because it's not a synergy play or a cost synergy play. It's purely a growth synergy that we see. And the biggest challenge that we have, which is an interesting challenge is that we need to keep building enough manufacturing capacity in order to keep growing, which is a challenge that all industry is having, we had, which is good.", "And we have two extensions, a new plant in the U.S. and the extension in the U.K. that's supposed to be coming in line as well in the first half of '22, and that's going to give as well an inflection point for the second half. So, so far, really happy with what we're seeing with Purolite." ] }, { "name": "Steve Byrne", "speech": [ "And one quick follow-up on that one. Do you expect operating results out of that business to more than offset the amortization expense? Or do you think you will change your view and not include amortization in your adjusted earnings? And if you don't mind, can you also comment on what is the average number of months between your purchases of raw materials and when it flows through COGS?" ] }, { "name": "Christophe Beck", "speech": [ "So on the question on amortization, we've been very clear on how we see '22 to be neutral. Obviously related to the first question since business is evolving as expected, the neutral is going to happen as well in '22\\. But it's important to keep in mind that the amortization is $0.26 in '22\\. So it's relevant and it's all cash that's coming, obviously, since the amortization is a noncash item as well as such.", "So we're looking at what other companies are also doing in life science arena, and it's usually handled differently than what we've done in the past. I'm not indicating that we're going to change anything, but we're going to share with you how much is the amortization. So at the same time, well, you can know what's the true cash return of that business since we want to know it as well." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Andrew Wittmann with Baird." ] }, { "name": "Andrew Wittmann", "speech": [ "Great. Thanks for taking my question, guys. I guess I just wanted to start out with, I guess, a two-part question on the revenue outlook. I think I just wanted to clarify the first part here.", "Christophe, in your prepared remarks, I think you said that pricing was going to be five to six for the year. And I think in your Q&A, you mentioned that pricing will ramp to five or six. I guess the question I wanted to clarify is, if it's going to be five or six for the year, presumably 4% for the fourth quarter, it would suggest that the exit rate in 4Q could be above 6%. So could you just clarify the cadence throughout the year that gets you to the five to six? And then maybe for Scott, could you talk about what FX could mean to your revenue performance or growth here in '22 with current rates where they are?" ] }, { "name": "Christophe Beck", "speech": [ "Andy, I'll take the first one, and I'll give the FX to Scott. On pricing, as mentioned, so we're exiting at four of the fourth quarter, moving toward five for the first quarter and for the full year, so being between five and six. So it's pretty steady, and that's our current plan, considering all we know in terms of inflation. As mentioned before, raws and freight inflation are not dealt with exactly the same way, but relatively steady.", "So between these four and six so during '22, which leads to this average of five to six ultimately. And Scott on the FX?" ] }, { "name": "Scott Kirkland", "speech": [ "Yes, certainly. Yes, as you might expect, just given where rates are going in the U.S., the expected increases during the year, we will have some drag as a result of FX, it's probably in that $0.10 range in 2022." ] }, { "name": "Andrew Wittmann", "speech": [ "OK. And then I guess I wanted to just ask kind of a follow-up here, just regarding the special gains and charges that we expect here that you expect in 2022. You kind of mentioned that you're 90% done with the programs. Purolite, I guess, because it's not an integration cost synergy play, shouldn't have too much there, I don't think.", "And then the other big bucket, it looks like the COVID costs in '21 were notable. But with COVID subsiding and just life getting used to COVID, it kind of feels like the special gains and charges should be less in '22\\. Am I thinking about that the right way, Scott? Or are there other things that I should be considering in that?" ] }, { "name": "Scott Kirkland", "speech": [ "Yes. As you talk about the big buckets, there will be ongoing special charges with Purolite next year, but we did have the big impact from the purchase accounting include the inventory up in 2021\\. As it relates to 2022, as you think about -- as you mentioned, COVID, the COVID really had a couple of big buckets in it. And pay protection was a large piece of that.", "We also had the inventory reserve that we disclosed. And the pay protection can't predict how COVID's going to react, but expect that variable pay protection to be less in 2022\\. We also had some medical costs in testings. There will be a little bit of a tail on that, I expect.", "But given our pace of COVID, we expect that to be less in 2022 than it was in 2021." ] }, { "name": "Andrew Wittmann", "speech": [ "Thank you very much. Have a good day." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of use Rosemarie Morbelli with Gabelli." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Good morning, everyone. I was wondering if you could touch on Russia and Ukraine. How much of an impact, let's say, that we go to war, which we probably won't. But nevertheless, how large are those two regions for your business?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Well, I hope that nothing is going to happen, obviously. So too many human lives would be impacted. For us, it's a reasonably small business.", "It used to be much bigger when we had Upstream Energy, as you know. And today, it's less than 0.5% for the whole company. So for us, it's not so much a business issue. It could have an impact on energy cost, but that's an indirect impact.", "And for us, obviously, as a people company, it's making sure that everyone from our team is in a good place. Unfortunately, we have some experience a few years back when Primier was in focus and we've managed that really well. We have a good team, even if it's a small one. Rosemarie, no big business impact, maybe on energy, and we want to make sure that our team is doing well." ] }, { "name": "Rosemarie Morbelli", "speech": [ "OK. That is great. And so I was surprised by the double-digit growth in institutional, considering that there is COVID that not everyone is back on the road. We still have masks and not a lot of people going to a hotel.", "Can you give us a little more detail as to why that performance was impressive?" ] }, { "name": "Christophe Beck", "speech": [ "Well, it's a good business, which is really in leading positions. That helps. We haven't lost customers. We have roughly the same number of units as well than we had pre-COVID.", "They're buying a similar number of solutions as well. We have a lot of new business as well that we've acquired. They've been extremely good during the COVID times in new business generation. Pricing has been good as well.", "Ecolab Science Certified has been good as well. And customers have needed us more than ever during COVID. So as they reopen, while we keep growing. And honestly, Rosemarie, we were expecting in Q4 to grow even faster except that omicron changed the plans a little bit, and it stalled at the Q3 level of growth.", "That's going to come when hopefully, COVID is going to move behind us. So I'm really confident in that business going forward." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Great. And if I may. Your SG&A ratio was some 32.6% in 2017 or thereabout. And obviously, you have made progress as it is down to 28% in 2020, and you talked about the factors that are going to impact this ratio.", "How low do you think is reasonable to think you can go as a ratio to sales?" ] }, { "name": "Christophe Beck", "speech": [ "It's a great question. Well, it's not going to reach zero, that I'm sure, but it's going to be better than where we are today. Keep in mind that we have a very large sales team. They drive a lot, for instance, to go and visit our 3 million customers around the world.", "Digital technology is helping us managing and serving customers remotely as well. That reduces the time that our teams need to travel, that improves, obviously, the SG&A productivity. They do a lot of prep work, preparation works before they go and meet customers or after they've met customers in order to make sure that head office knows the value that's been created. That's getting automated as well as we speak.", "So with automation and such a large team, I think that we still have a lot of potential not only to improve the productivity but making sure that our teams, Rosemarie, are focused on creating value for our customers instead of moving papers, collecting data or driving on the road." ] }, { "name": "Rosemarie Morbelli", "speech": [ "OK. So we can expect -- I mean, reasonably speaking, maybe another 200 basis points?" ] }, { "name": "Christophe Beck", "speech": [ "It's a great question. I don't think it's going to be a straight line, Rosemarie, but it's going to improve every year. And we've demonstrated that for the many past years and it's going to keep improving. What you've seen in the past is what you're going to see in the future." ] }, { "name": "Rosemarie Morbelli", "speech": [ "All right. Great." ] }, { "name": "Operator", "speech": [ "Next question is from the line of Jeff Zekauskas with J.P. Morgan." ] }, { "name": "Jeff Zekauskas", "speech": [ "Thanks very much. In your industrial business, your margins were sequentially flat, and you had good volume growth. But your margins in institutional, where you also had very good volume growth what were down, I don't know, 350 basis points. Same thing in healthcare.", "You had weakness there. Why is there more margin stability in the industrial business versus the other two? Is it that raw materials are going up less or your price pass-through is more effective? What accounts for the difference in margins between the segments on a sequential basis?" ] }, { "name": "Christophe Beck", "speech": [ "Well, the macro is basically that the share of raw materials and freight cost versus the total P&L is very different business by business. So when you have inflation, the impact on the P&L and the margins is very different business by business, exactly the way you described it. And then it's the speed at which we can drive pricing is different as well so business by business. Sometimes you have group purchasing organizations.", "Sometimes it's individual street accounts. This is different. So those are the two main drivers, Jeff. The first one is really what's the share of raws and freight for the P&L.", "And second, it's the speed at which we can increase prices, while keeping customers for the long term as well, which is essential for us. And the combination of both over time creates those distortion that you just mentioned." ] }, { "name": "Jeff Zekauskas", "speech": [ "OK. Second question is, in the institutional business in 2018, you used to make $1 billion, and now you make $566 million. When do you get back to $1 billion? And can you help us out with what your interest expense is for 2022 now that you've bought Purolite?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. So two questions, obviously. So I'll leave it up to Scott for the interest piece, a very different question, obviously. In institutional, keep in mind, Jeff, that we've kept our team intentionally.", "And thank God, we did that. So when you look at restaurants and hotels today where you need to do your own housekeeping and do your bed yourself because they don't have labor to do it. We would be in a dramatic place today if we didn't keep our team in 2020, sorry, when COVID started. So that was totally conscious.", "We said we're going to maintain the whole team, even though the business went down so quite a bit during COVID. That has a direct impact on our income in that business. So as the business gets back to the 2019 level, which we expect to happen. So this year in '22, well, over time, you're going to get to the same margins than we had before.", "And on top of it, you get productivity gains as well that are going to improve it. So I feel really good about the trajectory that we have in institutional. So with that, maybe, Scott, if you can comment --" ] }, { "name": "Scott Kirkland", "speech": [ "Jeff, answering your question on the interest expense. So adjusted interest expense was just north of $180 million in 2021. And as you recall, the -- we had $2.9 billion of debt through the Purolite transactions. And so we'll see it about $45 million higher, call it, roughly $230 million of interest expense in 2022." ] }, { "name": "Jeff Zekauskas", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Kevin McCarthy with Vertical Research Partners." ] }, { "name": "Kevin McCarthy", "speech": [ "Good afternoon. Christophe, I'd be interested to hear your updated thoughts on the subject of labor. If we think about the first half of '22, do you think that labor-related challenges will be any better or worse or perhaps stable versus the back half of '21?" ] }, { "name": "Christophe Beck", "speech": [ "And, Kevin, when you say labor, you mean our labor or our customers' labor or both?" ] }, { "name": "Kevin McCarthy", "speech": [ "I was really referring to downstream among your customers, but if you have meaningful issues internally, I'd like to hear about those as well." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thank God, we don't have big issues internally. We've had our share, but we've managed it really well. You've probably heard that we have -- over 95% of our team has been vaccinated as well in the U.S.", "So it's over 18,000 people that are projected that has helped us dramatically as well to keep our team operating during that time. So we were in a reasonably good place internally that's been a bit different for our customers as we know. Distribution centers had a hard time as well to unload the trucks. You have retail stores that can't do the cleaning as they're supposed to be doing it.", "The same in hotels as well because they're having such a hard time to find the right talent as well to do it. So it's having an impact in logistics, and it's having an impact in demand because our customers don't have the people to do the work as well. But it's improving every month. So over time, it's going to improve.", "But I think it's going to take probably the whole '22 until our customers are in a more stable place." ] }, { "name": "Kevin McCarthy", "speech": [ "I see. And then secondly, I wanted to come back to the subject of pricing. I think you indicated 5% for the first quarter on a glide path to 5 to 6% for the year. And so that would imply, I think, relatively modest incremental price contributions from here.", "And so it was tempted to ask you, why not be more aggressive there? Or how would you frame potential for upside to price? I appreciate you have a value-in-use model. But are there some combination of competitive considerations, elasticity, or contract terms that would preclude a greater contribution or might you revisit depending on the cost trajectory?" ] }, { "name": "Christophe Beck", "speech": [ "Well, you've given a few answers as well at the same time. But I'd say -- so first, when you say the 5% in Q1, so it's going to happen during Q1, as you know, pricing is happening exactly. So as quarters evolve as well. So we crossed the 4% in Q4\\.", "We will cross the 5% in Q1\\. When exactly? I don't know, so we'll see what it nets out for the first quarter as an individual quarter. But for the full year, we feel reasonably confident that the 5 to 6% we will deliver it. And that feels like the right amount of pricing in order to get our margins back to where they should be.", "And to your point, if inflation happens differently than what we've assumed, as I described it in my opening remarks, Well, we will adjust as we did as well so over the past few months. But what's absolutely critical, the way we think about pricing is that we want to keep pricing for the long term. We're not a cyclical company and have no ambition to become a cyclical company, which means that when we get pricing from customers, it's based on the value that we create for them on the long run. And when inflation moves behind us, well, it sticks as well.", "And that has an impact on the speed at which we can get pricing. If we were a chemical company, pure play, well, we would go much faster, but we would have to give it back at some point. This is not what we do. So we go slower, it's having a lower impact on margin for a while.", "But ultimately, it's paying off big dividend on our margins. And the last point I'll make is raws and freight for us is 25% of our sales. So the inflation that you get, the 10% I talked about for '21, well it's on 25% of our sales. So when you compare the 10% on the 25% to the pricing of 5% to 6%, you get to a reasonably good place." ] }, { "name": "Kevin McCarthy", "speech": [ "Understood. Thank you so much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question is from Mike Harrison with Seaport Research Partners." ] }, { "name": "Mike Harrison", "speech": [ "Hi. Good afternoon. Christophe, you've talked a little bit about innovation in the institutional business. It's been a while since we've had the restaurant show in Chicago for you to showcase some of your new products.", "So I'm looking forward to that in May. But maybe give us a little bit of a preview, I guess. Are there some key products around warewashing or hard service sanitizing or food safety that you're excited about launching here in 2022?" ] }, { "name": "Christophe Beck", "speech": [ "Well, we do. As you know, Mike, at the same time, so it's not just about product for us. It's about programs. So where you put all the products together.", "But to name one, in institutional especially driven by COVID. So we brought in the market over the last 12 months, a whole range of products that are killing COVID within 15 seconds. It was a remarkable achievement, especially when customers do not have the labor force as we discussed before. So to do the work, well, if it can clean effectively, very quickly, this is not only good for guests, but it's good for customers as well at the same time.", "So this whole program is very interesting, and you'll see it at the NRA. At the same time, I've mention as well the Ecolab Science Certified, which brings all the programs together in order to make sure that your guests are protected. And that's -- it's a good story in terms of how many units we're getting but you need to keep in mind that in order to be certified, you need to use all the products as well of the company. Well, that's driving sales as well at the same time, which is good.", "And if I fast forward in industrial, a major new program is really the so-called net zero water program. where customers are looking to deliver on their commitments of getting zero water or net zero water usage over time, whatever the commitment is. And we're uniquely positioned with our net zero program to help them deliver that. So you won't see that at the NRA.", "But that's going to be an interesting one. And at the NRA, you're going to as well more in Purolite, which is ahead of an innovation as well, and we will cover that more when we get together." ] }, { "name": "Mike Harrison", "speech": [ "All right. And then my other question is on the specialty business. That has historically been a very consistent high single-digit grower. In 2021, it declined.", "Can you help us frame up the dynamics that you're seeing there? And maybe give us a sense of where you see volume and pricing growth in specialty in 2022?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. The specialty growth in '21 was mostly impacted by very high comparisons in 2020 because during COVID, well, since restaurants and hotels were closed. People were going to retailers and to a certain extent, the takeout or drive-through from QSR. So that's driven high growth during COVID and when COVID evolved, I'm not saying going away, unfortunately, was suddenly you compare to a very high comparison.", "But generally, underlying, those are two very strong businesses that are going to keep doing well going forward as well. And QSR has been growing 8% in the fourth quarter, just to name one." ] }, { "name": "Mike Harrison", "speech": [ "All right. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Kevin McVeigh with Credit Suisse." ] }, { "name": "Kevin McVeigh", "speech": [ "Great. Thanks so much. Christophe, I wonder, could you give some thoughts on the downstream business? It seems like it recovered a little bit in the quarter. But based on the recent pricing actions in oil, any thoughts as to see that business as we move our way through 2022?" ] }, { "name": "Christophe Beck", "speech": [ "It's a very interesting business, downstream, because things are evolving. We're doing today and even more tomorrow, some very different things than what we did in the past. In the past, downstream was all about maximizing capacity utilization, improving the efficiency, the productivity of the assets. That was the No.1 focus.", "It hasn't gone away today, but the focus has shifted dramatically toward sustainable operations, and it's turning refineries into operations that are using much less water. When you think about the refinery, so beyond crude oil, obviously, that go through, the second other element is water. And we're working with the super majors to help them to get to their net zero ambitions as well. And that's totally new.", "That had no acceptance in the past for most customers. And today, this is the No.1 to pick and that's where we're best at as well. We can differentiate ourselves. And the good news is really that our new business is going really well in that business.", "So a very different one going forward than what we've seen in the past, which matches much more who we are as a company and who we want to become as well in the future." ] }, { "name": "Kevin McVeigh", "speech": [ "Very helpful. And then just real quick on what type of full service in unit traffic could we assume? In the 2022 guide, I know it was about 70% of 2019 levels in Q4\\. How are you thinking about that over the course of 2022?" ] }, { "name": "Christophe Beck", "speech": [ "Well, it's a good and difficult question. So the industry is expecting to be back toward the end of the year in restaurants. And in hotels, probably more the year after. We are ahead of that curve as you mentioned, as we mentioned as well early on.", "So I think that during the second half of this year, we should be ahead quite a bit." ] }, { "name": "Operator", "speech": [ "Mr. Monahan, there are no further questions at this time. I'd like to turn the floor back over to you for closing comments." ] }, { "name": "Mike Monahan", "speech": [ "Thanks, Rob. That wraps up our fourth quarter conference call. This conference call and the associated discussion and slides will be available for replay on our website. Thank you for your time and participation today, and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
ECL	2020-02-18	[ { "description": "Senior Vice President of External Relations", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Douglas M. Baker", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "William Blair & Company -- Analyst", "name": "Timothy Mulrooney", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Jeremy Rosenberg", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "Oppenheimer & Co. -- Analyst", "name": "Scott A Schneeberger", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Jeffrey Zekauskas", "position": "Analyst" }, { "description": "R-Research -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "Seaport Global -- Analyst", "name": "Michael Harrison", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Shlomo Rosenbaum", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings. Welcome to the Ecolab Fourth Quarter 2019 Earnings Release Conference Call. [Operator Instructions]", "At this time, it is now my pleasure to introduce Mike Monahan, Senior Vice President, External Relations. Thank you, Mr. Monahan. You may now begin." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you.", "Hello, everyone, and welcome to Ecolab's fourth quarter conference call.", "With me today is Doug Baker, Ecolab's Chairman and CEO; Christophe Beck, our Chief Operating Officer; and Dan Schmechel, our Chief Financial Officer.", "A discussion of our results, along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials stating that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview of the results. Pricing, new business gains and product innovation led fourth quarter acquisition adjusted fixed currency sales and operating income growth, which, along with lower delivered product costs and cost efficiency actions, yielded the fourth quarter's earnings increase.", "Looking at some highlights from the quarter, and as discussed in our press release, acquisition adjusted fixed currency sales increased 1% as the Industrial, Institutional and Other segments showed steady sales gains and more than offset the decline in Energy. Excluding the ChampionX business, Ecolab's acquisition adjusted fixed currency sales rose 3%. Adjusted fixed currency operating income margins increased 60 basis points, continuing their steady improvement. The growth was led by double-digit gains in the Industrial and Energy segments. Adjusted earnings per share increased 8% to $1.66 and were up 10% excluding the Healthcare recall.", "Progress continues on the separation of our ChampionX business. We continue to expect the transaction to be completed by mid 2020. Looking ahead, our work to drive sales momentum showed improvement in the fourth quarter, with ongoing business volumes up 1% excluding ChampionX and the recall. We are driving new business wins, focusing on our innovative products, sales and service expertise and our value proposition of best results at the lowest total operating cost for customers. We also continued driving productivity and cost efficiencies.", "Our fourth quarter slides and earnings discussion include an earnings bridge for 2020. As shown, we expect strong operating earnings growth for the full year of 12% to 15%. However, we will also face some headwinds in 2020, including $0.08 from the impact of lower interest rates on our pension plan; $0.04 from an unfavorable currency exchange; and the impact from the coronavirus outbreak, which we estimate will cost us $0.05 in the first quarter, with the remainder of the year not estimated and forecasted at this time. Net of this, we look for 2020 adjusted diluted earnings per share to rise 9% to 12% to the $6.33 to $6.53 range, as improving volume and further pricing gains, along with cost efficiency benefits, more than offset the impact of business investments and the headwinds just mentioned.", "First quarter adjusted diluted earnings per share are expected to be in the $1.05 to $1.13 range, up 2% to 10%, including an estimated unfavorable $0.05 per share impact from the coronavirus outbreak.", "In summary, we expect improving top line momentum in our business in 2020. And along with our ongoing work to expand margins, we look for 9% to 12% adjusted earnings-per-share growth. We continue to make the right investments in the key areas of differentiation, including product innovation and digital investments, to develop superior growth for this year and the future.", "And now here's Doug Baker with some comments." ] }, { "name": "Douglas M. Baker", "speech": [ "Thanks, Mike. And hello, good day to everybody.", "So, I'm going to touch on three subjects. First, Q4 and full year 2019, I'll touch on the Healthcare recall and then finally our 2020 outlook, including coronavirus.", "So first, Q4 and 2019. I'd characterize '19 as a very productive and successful year for us, and we realized very important outcomes in Q4 specifically. So we dramatically de-risked the business, we positioned it for even better future growth and we delivered double-digit adjusted EPS growth and strong cash flow growth for the full year. We derisked by moving from a 45 plus year old ERP system in the US to SAP. This is never pain free, and much of the field execution load fell in early Q4. But our team did a great job managing this. The lion's share now of the cost and risk is behind us and in the base.", "Second, we successfully separated the Upstream business. It is now operating as a stand-alone with its own supply chain and ERP systems. This was a huge amount of work also, but the right work, and again, is behind us and in our base. Also, we continued to make the talent, innovation and digital investments needed for future success.", "We talked in Q3 about our gear shift from price, then new business, to new business, then price, as the priority order. This too, the shift has been quite successful. We are continuing to realize price gains, and importantly, have had huge quarters in terms of new business wins in both Q3 and Q4, which we will realize over the next few quarters.", "So, while all of the above was planned, we had an unfortunate unplanned event in Q4 too, and that's the European Healthcare product recall. This had a significant impact on our Healthcare sales and on Q4 EPS. The Healthcare plant in question has now been decontaminated and has been producing again since mid-December. There will be some residual costs, but the big cost pain is behind us, and the team is in full recovery mode and making very good progress.", "So, as we enter 2020, we do so with a clear focus on growth. Our huge SAP and Upstream separation projects are largely behind us. Healthcare Europe is back producing and selling. And we enter with very strong sales momentum as a result of our new business wins talked about earlier. So, even with a challenging environment, we expect a strong year in 2020. We expect our sales to strengthen throughout the year, we expect continued gross profit improvement from continued pricing efforts and a modestly improved raw material environment, we expect our new digital innovation to also continue and bear fruit and we have a strong M&A pipeline and recently announced the acquisition of CID Lines, a leading provider of animal health technology.", "Even with a challenging backdrop, we feel well positioned and are forecasting continued strong cash flow and double digit adjusted EPS for the year, at the midpoint of our range. This includes a negative $0.08 from pension and a negative $0.04 from FX for the year. It also includes a $0.05 hit in the first quarter from coronavirus, but does not include any potential impact in Q2 through Q4 because at this point it's impossible to estimate. With that said, we are assuming that the global economy avoids recession in 2020. Net, we feel very good about where we stand as a business and are quite optimistic that we can outperform again in 2020.", "So with that, I will turn it back to Mike." ] }, { "name": "Michael J. Monahan", "speech": [ "Thanks, Doug.", "That concludes our formal remarks. Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] Our first question is from Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Timothy Mulrooney", "speech": [ "Yeah. Good afternoon. So, the ChampionX business, how much was it down in the fourth quarter? And what has the performance been through the first half of the first quarter?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. The sales were down 6% but operating income was pretty strong. And what we've really been focusing on in that business is making sure that we're doing the right things from a margin and focusing on profitable growth. Importantly, if you break apart the Upstream business, you've got WellChem, which is closer to the wellhead, and you've got our traditional OFC business. And the OFC business, which is by far the larger of the two, continues to do quite well." ] }, { "name": "Timothy Mulrooney", "speech": [ "Okay. Thanks, Doug. So, organic growth at RemainCo, at Ecolab, was up 3% excluding ChampionX. I'm wondering if you could provide that for operating margin. Operating margin was up 60 basis points in total, I think is what you said. But what would that have been up, excluding ChampionX." ] }, { "name": "Douglas M. Baker", "speech": [ "In fourth quarter?" ] }, { "name": "Timothy Mulrooney", "speech": [ "Yeah, in the fourth quarter, yeah." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. We're looking. It's up a little bit. It's also up about 60 basis points." ] }, { "name": "Timothy Mulrooney", "speech": [ "Okay. So, it's still kind of a neutral impact." ] }, { "name": "Douglas M. Baker", "speech": [ "Well, it was, because you had -- you had the Healthcare recall, right, as well in the fourth quarter, which really impacts the RemainCo business negatively." ] }, { "name": "Timothy Mulrooney", "speech": [ "Understood. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Christopher Parkinson from Credit Suisse. Please proceed with your questions." ] }, { "name": "Christopher Parkinson", "speech": [ "Great. Thank you. In Industrial, chemical and power applications still appear a little sluggish just on a relative basis versus your best performance in light and F&B. Is this simply subject to macroeconomic factors? Is there something else [Speech Overlap]" ] }, { "name": "Douglas M. Baker", "speech": [ "Sorry, can you repeat the..." ] }, { "name": "Michael J. Monahan", "speech": [ "Chris, can you repeat the question? It's coming through quite muffled." ] }, { "name": "Christopher Parkinson", "speech": [ "I apologize. So, in Industrial, chemical and power applications still appear sluggish on a relative basis versus your performance in light and F&B. And I was just asking, is this simply subject to macro factors? Or is there something else on the new product front we should be looking for as we head into 2020?" ] }, { "name": "Michael J. Monahan", "speech": [ "Chris, what I'm hearing is you are asking, why was chemical and power softer for water?" ] }, { "name": "Christopher Parkinson", "speech": [ "Yes. And what you can do -- is it primarily macro that need to drive the improvement? Or is there something else you can do to improve those two sub-segments' performance?" ] }, { "name": "Michael J. Monahan", "speech": [ "Power primarily reflected the shift toward natural gas in the US where natural gas requires less than coal. And the chemical I think was probably somewhat industry trends and just I think timing of some new business." ] }, { "name": "Douglas M. Baker", "speech": [ "There is nothing fundamental [Indecipherable] in the heavy business other than the big transition we just talked about. And clearly, Industrial performance levels broadly are going to have some impact on that business too." ] }, { "name": "Christopher Parkinson", "speech": [ "Got it. And then just as a quick follow-up. When you talk about enterprise selling efforts within F&B and light water. And then we think about your presence in pest elimination. Can you just comment as to which geographies are driving these benefits and whether or not you will still need to broaden your global breadth on the latter, i.e., pest elimination to replicate these benefits assuming the bulk of the momentum is driving in the US? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. We've combined a lot of the way we go to market in the food and beverage space, combining the water business and the F&B traditional business, and then often bring in pest too. The F&B and water businesses are truly global. The pest business is not as global. We have good presence in Europe, obviously cover all the North America and then we have a few businesses in Asia and Latin America, but do not cover all those markets.", "With that said, we've had a lot of success driving, if you will, enterprise selling efforts, particularly in food and beverage where we focus first. Pest comes along quite frequently, but the pest business gains are going to be most frequently found in Europe and US just because that's a large presence." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of David Begleiter with Deutsche Bank. Please proceed with your questions." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Doug, looking at institutional, the division, not the entire segment, what do you think that can grow in 2020 and what's the progression from early to late over the course of the year." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. So when we talked about Institutional last, we talked about we expected it to end at a run rate of 4-ish percent. And if you look at underlying sales, particularly in the US, we got very close to that number if you round up. The expectation for that business is, it will continue to strengthen sequentially. What it's going to report is going to be a little different given coronavirus and some of the other impacts, but the underlying business, we expect, just continue to strengthen. We expect the year to be in the 4-ish range, which means it can be a little less in the beginning and probably a little more at the end as we go throughout the year.", "We, of course, are challenging the team to do better than that. But I would say I think the fundamentals in the Institutional business are getting better. We wish they are getting better faster. But that's always our perspective. But they are moving in the right direction." ] }, { "name": "David Begleiter", "speech": [ "And, Doug, in the same bent, can you discuss any comparative dynamics vis-a-vis diversity over the last few months here?" ] }, { "name": "Douglas M. Baker", "speech": [ "No, there hasn't been any big change or activity in the last few months. I think there is still -- they've had some change in their business. We haven't seen any difference in direction as a consequence of that. So, no, I wouldn't really say -- I don't think that's going to be really the fundamental change for us." ] }, { "name": "David Begleiter", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your questions." ] }, { "name": "Jeremy Rosenberg", "speech": [ "Hi. This is Jeremy Rosenberg. I'm for Vincent. Thanks for taking my question. I want to start off on the cost savings program. I think it's $325 million and you guys did $80 million in that last year. I'm just wondering how much incremental you have baked in for 2020. And then I do have a follow-up." ] }, { "name": "Douglas M. Baker", "speech": [ "We have $130 million incremental baked into the plan this year." ] }, { "name": "Jeremy Rosenberg", "speech": [ "Okay. Got it. And then just thinking about free cash flow for the year. Maybe just your thoughts on the outlook. Any thoughts on working capital and capex then? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I'll hand back to Dan." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah. Thank you. So, maybe we'll just start with a quick recap of 2019. As Doug referenced upfront, we had very strong cash flow throughout the year and finished the year strong as well. So we had a voluntary pension contribution of $120 million in 2019. And if you exclude that, our free cash flow was up about 20% with 109% conversion rate. So, behind that number was improvement in inventory. We commented during the year that one of the consequences of having the supply chain so focused on the SAP go-live was maybe not pushing quite as hard at inventory reductions and in fact building some finished good inventory.", "So, looking ahead to 2020, I guess I would steer you toward what fundamentally the way is that we think about it, which is that we will continue to see very strong cash flow and strong cash flow conversion which we anticipate to be in the range again of 100%, maybe slightly north of reported net income. So 2020 will be another strong free cash flow year for Ecolab." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of John McNulty with BMO Capital Markets. Please proceed with your questions." ] }, { "name": "John McNulty", "speech": [ "Yeah. Thanks for taking my question. With regard to the areas that you're starting to see kind of the increased volume from the shift maybe a little bit away from price and more into the volume front, can you articulate a little bit as to which areas you're seeing the kind of early traction, the early wins, and how we should be thinking about how that progresses throughout the year?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, John. I'll just add. I mean, we have Christophe to answer this. I mean, Christophe early got the team, very focused on the shift middle of last year, which is why you started seeing the results in Q3, Q4, and it was a very important shift for us. We know pricing, ultimately given inflation and other things, is going to carry you forever and we had to get volume growth moving again. We saw a 50 point improvement in volume. If you adjust for the Healthcare recall from third quarter to fourth, we expect to see more. Christophe, I'll ask you to give a little color on where we expect to see it." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug. Yeah, it's been a very collective effort that started to become really strong since mid of 2019, which has really generated some record new business generation during the second half of 2019. We've seen that mostly in the Industrial businesses at the beginning, where we had saw stronger momentum, and that's why you've seen as well water and F&B have been up 5% as well, life sciences 13% as well, and then progressively as well moving toward institutional, specialty past -- that will as well lead to better results going forward in 2020." ] }, { "name": "John McNulty", "speech": [ "Great. Thanks for the color on that. And then just with the SAP system up in North America, any insight into new targets, opportunities, whether it's on the working capital front, on efficiency measures? Anything notable with the early start of that?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I would expect ultimately all those things will be targets that we'll get after. What we've seen early is -- I would say we recently had a review with our Institutional business, and they're already talking about the transparency that they have that they didn't have before in terms of what's happening in specific customers with specific categories. They can see their shipment costs much more clearly and understand the, I would say, ramifications of shipping policies, how you might tweak those and enhance, if you will, our ability to both meet customer needs, but do a cheaper. So I think there's going to be a multitude of areas. Putting these in, you're glad it's like a lifetime event because nobody would do it twice. But we're very happy we're through it and now starting to bear fruit." ] }, { "name": "John McNulty", "speech": [ "Great. Thanks very much for the color." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of Gary Bisbee with Bank of America. Please proceed with your questions." ] }, { "name": "Gary Bisbee", "speech": [ "Hey, guys. I guess just the first one. Can you give a little more color on where you expect in the business to see the coronavirus impact? I think in the prepared remarks, you called out water and pest. But is it broader than that. And any more color on how much it's impacting your ability to produce products versus sort of customer pull -- demand at this point? I realize it's fluid. But any color would be helpful." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Let me just state on coronavirus. So I think there's three levels of impact. We'll answer your specific question -- I'll have Christophe do it after I go through this. There is certainly market demand in China, where -- that's the principal ground zero right now of coronavirus. So market demand has an impact. The secondary impact is really what's it going to do to global supply chains. Now, it won't impact our global supply chain. We have plants in China, but they are really for China consumption. We don't use it as an export market per se. Nor do we rely on specific parts from China for production in other regions around the world. So it is a big worry I think broadly about its impact on supply chains. It's not a specific worry for us.", "But then the third impact is what it do ultimately to global GDP. And that really is a question of, does it spread; how long is it; and if it doesn't spread, even how deep and long does it last in China. And there are all kinds of scenarios. The traditional scenario is these burn out fairly early like in March-April as weather gets warmer. But it's very hard to predict exactly what any of these are going to do. And if it does spread, obviously you've got additional impacts. And if it goes deeper, say into June, and you really have this outage for other supply chains, it's going to have broader impacts.", "For us, the impacts have been really China specific. I would expect them to remain China specific. Pertaining to the global GDP, we're probably going to be not as impacted as other companies. But obviously if global GDP goes down, it's not healthy for any company, including ours.", "So, with that, I'll turn it to Christophe to talk about the impacts we're seeing right now." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. I'll just say two things. So on one hand, we are in the infection prevention business. So customers have a natural tenancy to come to us for help. But that's a little part of the business to help them to prevent the spread of infection. So, long-term, it's going to be a good thing. And we're strengthening the relationship with customers locally and globally on that. But there's not much we can do as well for restaurants and plants that are closed as well in the meantime. So kind of short-term negative impact, but long-term probably something which is positive for our relationship with customers." ] }, { "name": "Gary Bisbee", "speech": [ "Great. Thanks. And then just a follow-up. A couple of quarters in a row, you've been -- and we've seen this in the past -- obviously you talked about bookings momentum building. We don't see a lot of it in the organic constant currency growth rates. How do we think about sort of how long it takes to onboard new business? Is it very different from business to business? And how quickly should that start to flow through to revenue? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Great question. This is Christophe. So, it depends, obviously, business by business. Some are much simpler. So the more institutions or restaurants like type of business goes quicker. It can be done so in a few months. Usually we think a quarter or two to get that rolled out. We talk about chains usually. So when we talk about the regional chain, a global chain, while does not happen overnight, but it's kind of a quarter or two. When we think about industrial businesses, so it's plants, where much more engineering work needs to be done, that's usually between two and three quarters." ] }, { "name": "Gary Bisbee", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Scott Schneeberger with Oppenheimer. Please proceed with your questions." ] }, { "name": "Scott A Schneeberger", "speech": [ "Thanks. Good afternoon. Just, I'll start real quick on a follow-up on Gary's question about -- I think and the hand-off Doug from me to Christophe. You covered, on coronavirus, in China and then those three categories. But was it consistent with what you have in the press release of just water and pest? Or is it more broad based, so like $0.04, $0.01? Just kind of curious by segment. Thanks. And then I'll have a follow-up." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. No, I would say the specific impacts in industries, we're seeing it clearly -- I mean, it all makes sense, right. Hospitality, travel is way down in China; hotels are clearly impacted; foodservice is clearly impacted. You have a number of chains that have shut down half their units in many instances. We have then obviously industrial production, which you're speaking to which has also been curtailed. I mean, they extended China New Year for at least another week and they talked another week. It's really different by province.", "We have a number of plants that are working to start back up. Some have. All of ours are back up and producing at this point in time. But they were down for several weeks and others' were as well, and some take longer to ramp up. And the closer you are to a widespread outbreak centers, the longer it's going to take for them to start-up production." ] }, { "name": "Scott A Schneeberger", "speech": [ "Thanks. I appreciate that. And then you've been exiting -- in Institutional, exiting lower margin businesses recently. And just wanted to get a feel on what that impact might be early in 2020 and where you stand on the curve of optimizing the portfolio from a margin perspective." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. So I'm going to give the answer that I gave a minute ago. The lion's share of that is behind us. There is a little dribs and drabs coming in, but you know what, we're done talking about it. Fundamentally, we've seen the impact. We're moving on. We will expect, like we saw in fourth, continued improvement sequentially moving forward. I would say it's much more than the normal range of what we have. We have some attrition every day. It's small, but we have some, and this is much more than that normal keeping at this point in time, especially as we go throughout the year." ] }, { "name": "Scott A Schneeberger", "speech": [ "Okay. Thanks very much." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of PJ Juvekar with Citi. Please proceed with your questions." ] }, { "name": "Eric Petrie", "speech": [ "Hi, good morning, Doug. This is Eric Petrie on for PJ. As you look at your share repurchases in 2019, it's been the lowest level since [Indecipherable] I think since 2013. So how do you see buyback shaping up into this year and going forward versus the M&A pipeline?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. A lot of the impact last year was the consequences of being out of the market, because of the negotiations around the subsequent announced RMT. And so we were blacked out for periods of time that were unusual. And as a consequence, we can really talk about this in third quarter or others, right -- we weren't able to buy because we are negotiating.", "With that said, I'll hand it to Dan to talk about forward view." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah, sure. So one of the consequences of the split transaction prior to the RMT with Apergy is that we will be out of the market essentially for the first half of the year. We have said before -- I guess what I'll say again that when we look forward, beginning in the second half of the year and look at the cash dividend payment or cash payment that we will receive as part of the Apergy and RMT, we will evaluate at that time whether or not the better uses of free cash flow re for share repurchase or debt retirement. Our cash flow priorities importantly will remain consistent.", "And I guess at this point, looking so far forward, I'm comfortable saying that we will repurchase shares at least to level, to offset the impact of our share based compensation plans and at the margin. This will be a decision that we make when we get clarity on the market and what the best opportunities are." ] }, { "name": "Eric Petrie", "speech": [ "Okay. Secondly, at Investor Day, you talked about roughly 13% of sales being digitally enabled [Phonetic] in industrial and 1% institutional. How do you expect that to grow in 2020? Or do you have a target step-up in mind per annum or how do you view that internally?" ] }, { "name": "Christophe Beck", "speech": [ "So maybe to give you just some colors. We don't have formal numbers that we share usually with that. But based on what we said at Investors Day -- so the numbers are still right. What's good is that those sales which are so digitally enabled, we have two categories. One, which are the ones connected to the cloud, and the other ones that are enabled basically. Both of them together are $1.3 [Phonetic] billion roughly. It's growing double digits. So it's something which is good. And we expect the same type of growth that we've seen in '19 continue in '20, which is basically helping the rest of the business continue to grow." ] }, { "name": "Eric Petrie", "speech": [ "Helpful. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of John Roberts with UBS. Please proceed with your questions." ] }, { "name": "John Roberts", "speech": [ "Thank you. What was the root cause of the plant contamination in Europe and what fixes have been put in place to keep that from happening again?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. It was a water-borne bacteria that ended up creating a biofilm in parts of the plant. And biofilms are -- we make a business of cleaning up biofilms and other facilities. So the good news is, we had the technology and know-how to go clean this. And the challenge of biofilms is, they don't leak out bacteria evenly. It's more sporadic. And so you ended up with some batches contaminated, some not. When they are contaminated the biofilm itself sort of envelops the bacteria, which normally would be killed by the product, but in some cases is protected. So they're bit [Indecipherable].", "So, we've done a number of things. One, we believe [Indecipherable] and it was a one-time impact of, in part, moved equipment that occurred just before we bought the business. But with that said, we know this is a water-borne illness. It's naturally occurring and found in many water sources. So, we have significantly upped the capability we have to ensure that the inbound water is absolutely bacteria free. We've gone through the plant and redesigned a number of [Indecipherable] areas. We're going to continue to do that.", "We have new aggressive protocol put in place that frankly is much more aggressive than we think we need. But we're going to make a new mistake going forward. So we've taken a number of steps. The team has been all over this. We're back producing. We're through the 80% of previous production volume heading to 90%, and then over 100%. So I think the team has done a good job getting this back up running and contamination free." ] }, { "name": "John Roberts", "speech": [ "And then Healthcare sales were up 3% excluding the recall. Does that business grow above 3% near-term now that the plan is fixed? Or did you lose some business that will cause you to grow below 3% here for a little while before you come back?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. In the nature -- I mean, this occurred in Europe and so there's still going to be impact in the first quarter because December is part of our international first quarter. And so, we're through it, but that impact is still going to hit part of Q1, but not nearly at the same level as it did in the fourth quarter. That is, by the way, in our forecast. So it's not any new news that's coming down the pike.", "Yeah, I would expect there is going to be a pipeline refill that will occur. Certainly, we're going to go annualize against the recall event in the fourth quarter. You would expect to see larger sales as a consequence of that. At this point in time, I can't give you blow by blow if we lost any business as a consequence of this. It's a real possibility, but something that we are going to certainly work to earn back if that's in fact true. We do not have any numbers on that at this point in time, and I don't believe that's going to be the main story." ] }, { "name": "John Roberts", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Jeff Zekauskas with JPMorgan. Please proceed with your questions." ] }, { "name": "Jeffrey Zekauskas", "speech": [ "Thanks very much. Your Energy business had revenues that fell in the fourth quarter I think by $32 million and then your operating profits were up $11 million. How did you do that? How did profitability improve so much?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Well, there's been a lot of work on cost savings, a lot of work on formulation work, i.e., how do you produce efficacious formulas at least at equivalent value not better at lower raw material input costs. We talked about this work in previous calls. When you're on the high trajectory growth rate, all you're really working to do is meet demand. We've had a period of time here where we've been able to reformulate lower, if you will, the cost of goods kind of on a permanent basis. And I think the team has done a very good job doing that. It allows them to compete in a much tougher environment effectively.", "So a lot of the work there -- there has been big focus on specific businesses where we were upside down in cost, there were some parts of the North America OFC business that we're not going to work from a mass standpoint. They've taken out heads, retooled work, made sure that we can meet customer needs in a more efficient way. It's all those things combined. We expect, even moving forward in the first quarter, we're going to have probably sales decline and significant OI growth in that business. So the OI, EBITDA trajectory of that business is quite favorable.", "Ultimately, I don't believe the oil story, it's like the last spike we've ever seen in oil -- kind of hard to call a 80-year cyclical business no longer cyclical. I just don't fundamentally believe that. And I think the business is poised well going forward." ] }, { "name": "Jeffrey Zekauskas", "speech": [ "Okay. Your incremental gross margin was over 100% in the fourth quarter. Was that mostly price or of raw materials? Or how would you analyze the sharp improvement in your incremental returns?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I mean, it's a combination of two things. I mean, we continue to secure price and we'll continue to secure price going forward. And we also had softening of the raw material markets, which we had forecast as well. So when you get the combination of those, you end up with happy news in your gross profit line." ] }, { "name": "Jeffrey Zekauskas", "speech": [ "Great. Thank you so much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Rosemarie Morbelli with R-Research. Please proceed with your questions." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good morning, everyone. Doug, when we look at the top line growth adjusted for acquisition, so we have water at 5%; food and beverage, 5%; life sciences, 13%, etc. Were there anything specific in those particular type of growth rate? Can we put that 2% price in all of them or was it mostly demand? And do you expect the demand at this level to continue in 2020?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I'll add a comment and then ask Christophe to follow on with some additional specifics. I would say that our assumption for economic growth in 2020 is that it's positive but below 2019 levels. But that's good enough for us, we believe, to end up with better sales growth in 2020 than we saw in 2019. So it's positive, not global recession, but not at the 2019 level.", "And the reason we feel that way is, one, the strong new business result that we had in Q3, Q4. We talked about the lag. It takes a while for that business to show up. We're starting to see it. We started to see a bit of it in fourth quarter. We expect to see more of it in Q1. The hardest thing is going to be looking behind coronavirus. We will do everything we can to be clear there. But obviously that's going to impact Q1 for sure; Q2, likely. It's hard to predict.", "But if we look at sales ex China, right, in virtually every category, our expectation is that the business strengthens. And the reason I say ex China is it's just trying to take away the unknown of coronavirus out of the equation, and it is because of the new business efforts. And I'll throw it to Christophe if he wants to add any additional color." ] }, { "name": "Christophe Beck", "speech": [ "Hello, Rosemarie, this is Christophe. So, trying to build on that, so the demand is not extremely strong as such from customers. And I'm excluding obviously the virus impact that Doug has covered in here. It's mostly so internally driven. We have offerings so far with customers that are very unique. You were talking about life science, for instance. Many of our customers are mostly cleaning with soap and water. Well, the technology, the chemistry, the service, the expertise that we're bringing to those customers is absolutely unique and helps them so to be operating in much safer environment and to do that at the much lower total operating cost as well.", "Beyond that, so we have very unique corporate account management structure. As you know, we have these food and beverage global solution corporate account organization that is really bringing together water and hygiene in a very unique place. Most of the competition can't do that. So we're in a very unique position to offer that to our customers. And ultimately, what's also interesting is that, well, we do that in a way that gives them a high return. So it's not a cost question. It's a total cost -- the more they invest with us, the better off they are with their own operations, and that's driving a lot of demand of what we're doing. So ultimately that's what we've been doing the last two, three years, Rosemarie." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay. Thanks. And then following up quickly on pricing, you had 2% growth rate overall this year. Should we anticipate that next year will not be any more than 1% as raw materials are coming down and eventually there is going to be some kind of a balance between the two?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. You know what, Rosemary, it's going to be what we round above it through this year and we'll probably round to it too in 2020. It's not going to be reported as a vast difference. But clearly, we expect pricing to be positive in 2020 at a lower rate than 2019, but not dramatically." ] }, { "name": "Rosemarie Morbelli", "speech": [ "All right. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Laurence Alexander with Jefferies. Please proceed with your questions." ] }, { "name": "Laurence Alexander", "speech": [ "Good afternoon. Just wanted to follow up on one of the earlier coronavirus discussions. Can you put us in longer-term context? When you look at other outbreaks that Ecolab has had experience with, what does it take for it to turn into a sustainable change in Ecolab's brand position in the affected region or longer term growth rate as opposed to a blip in operations?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, you know, the past ones. I mean, be at H1N1 or SARS. I mean, SARS is probably the most well known. SARS is a different animal. It was less contagious but more deadly, probably like five times more deadly but easier to contain because it's really the -- how easy is it to transmit to other people is the number one factor in how easy or difficult is it to contain. And unfortunately this coronavirus appears pretty effective at being transmitted from one host to another, to use like the science term. I would say this. I think our guess from the literature we've read from our scientists' viewpoint is coronavirus is -- whatever happens during this season is likely going to reoccur in other seasons, much like you see the flu and others. And I don't know if this is going to have a fundamentally huge change in people's perception of us.", "I think if you go to China, we are viewed as the food safety, antimicrobial experts in that country. We've had very good relations and worked very well in coordination with the Chinese government, the China FDA, etc, for a number of years. We'll continue that work. Our customers rely on us in these instances. I think if you go back to H1N1, that was really the advent of all the hand sanitizers you see in lobbies of all commercial buildings. Before that, it didn't exist. So it clearly changed the demand permanently for hand sanitizing products, etc. You may well see that kind of outcome as a consequence of the coronavirus too. But that's harder to predict." ] }, { "name": "Laurence Alexander", "speech": [ "And then there has been some discussion in China of moving from the open markets to a more industrial food production. Would that provide sort of a faster growth ramp for Ecolab in China? Or should we think of it as not really affecting your growth rate?" ] }, { "name": "Douglas M. Baker", "speech": [ "Certainly, I think there will probably be some changes in the way they think about the live markets going forward. And yes -- I mean, the food has been shifting there to more prepared, more production food for quite a while. And that trend -- I would agree with you. This is going to be more an accelerant of that trend. It's certainly not going to slow that trend down. That's been a very positive trend for us because when you're doing large-scale food, you need to make sure that your food safety is really good or you're going to poison a lot of people at one time.", "And so all that move has been quite positive for us. We've always expected that to continue going forward. And I don't think coronavirus is going to do anything but accelerate that. But that again is hard to predict." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of Mike Harrison with Seaport Global. Please proceed with your questions." ] }, { "name": "Michael Harrison", "speech": [ "Good afternoon. I was wondering, in the specialty business, you noted in some of your prepared remarks, the strength in the food retail portion of that business. You mentioned new accounts as well as some new program introductions. Can you give us a little bit more detail as to what has been driving the strength in that food retail business?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. That was one of the early adopters of digital. So clearly, our program, which is now coupled with digital, allows even more transparency and better communication with customers, so they have more visibility as to what's going on in their stores has helped. We secured a number of new chains in that business as we have in a number of businesses. That's always been a little bit of a elephant hunting game. So sales can --sales growth -- it grows every quarter. It will grow faster, obviously, after you land a couple of these large chains. That's the situation we're in.", "But the truth is, we have a number of those stories. Pest has had a lot of success securing new business, Institutional had a very good fourth quarter in terms of net new business gains. And we continue to have strong performance in F&B and the water business as well. So it's across the board. I'd say the Industrial side was quicker off the mark, but now we see it across the businesses, the success, and net new business wins, including in FRS." ] }, { "name": "Michael Harrison", "speech": [ "Great. And then, wanted to ask about the Energy business. You mentioned some increase in international sales that were driving the downstream business. Did you get some new wins there that should end up meaning sustainable growth for the downstream international business? Or was there something maybe more temporary going on that helped you this quarter?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, nothing notable. I would say, it's probably better execution in the quarter, but no fundamental change. That business is focused on new business. We've got great programs there. And we believe increased focus on execution is going to pay dividends there as well." ] }, { "name": "Michael Harrison", "speech": [ "All right. Thanks very much." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is coming from the line of Shlomo Rosenbaum with Stifel. Please proceed with your questions." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Hi. Thank you for taking my questions. Hey, Doug, the part of the energy business that you're going to retain, the downstream business, was up kind of moderately. I understand it's generally more of a mid-single digit revenue growth business. Can you talk about what was going on in the quarter? And when you do see variations in that business, what percentage of that business is really kind of very steady? What part kind of moves around?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I mean, the fundamentals of that business are quite similar to the rest of our water business, to be honest, which is, it's an annuity-type business with deep embedded service and capability around technology and understanding the types of crude that are being refined, what needs to be done, how do you treat the water -- the captive water and boiling and cooling, etc.", "With that said, there's also an additive component to that business. So much like circle the customer execution and other industries, we've also done the same in that industry for a number of years. And so the additives can be a little more up and down based on consumption and/or seasonality. The fourth quarter, for that business, sales were around the 3% rate. They were fairly solid -- was the best growth that we had all year in that business.", "So, I would say, to your point, yeah, we do view this as a mid single-digit type business going forward. It treats not only fuel refinery businesses but also petrochemical plants. And long-term, for sustainability, we are going to need plastics and derivative type light-weighting products to enable fuel efficiency and other things. I mean, that's what the world is counting on. I know plastics are under a lot of pressure. There are good plastics and bad plastics, and we make sure we don't throw out the good plastics with the bad plastics." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay. Great. And just as a follow-up. Just on the pest business, it's generally been kind of 6% to 8%. Came in at 5%. I know there are some timing of new business. Is there anything to call out over there or just kind of the ebbs and flows of the business in general?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Honestly, we're feeling pretty good about pest. We don't like the 5%. But we like the fact that it was coupled with an incredibly strong new business win portfolio in Q4 too. So we expect that business to accelerate." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Mr. Monahan, there are no further questions at this time. I would like to turn the floor back over to you for closing remarks." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our fourth quarter conference call. This conference call and the associated discussion slides will be available for replay on our website. Thank you for your time and participation. Our best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2022-07-26	[ { "description": "Vice President, Investor Relations", "name": "Andy Hedberg", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "William Blair and Company -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Ronan Kennedy", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Seth Weber", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Josh Spector", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Ashish Sabadra", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Jeff Zekauskas", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Steve Byrne", "position": "Analyst" }, { "description": "Oppenheimer and Company -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Dan Rizzo", "position": "Analyst" }, { "description": "Chief Financial Officer", "name": "Scott Kirkland", "position": "Executive" }, { "description": "Robert W. Baird and Company -- Analyst", "name": "Andy Wittmann", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "Vertical Research Partners -- Analyst", "name": "Kevin McCarthy", "position": "Analyst" }, { "description": "Gabelli and Company -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Seaport Research Partners -- Analyst", "name": "Mike Harrison", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to Ecolab second quarter 2022 earnings release conference call. [Operator instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Andy Hedberg, vice president, investor relations. Mr.", "Hedberg, you may now begin." ] }, { "name": "Andy Hedberg", "speech": [ "Thank you, and hello, everyone, and welcome to Ecolab's second-quarter conference call. With me today are Christophe Beck, Ecolab's chairman and CEO; and Scott Kirkland, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's results, are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials which state that this teleconference and associated supplemental materials include estimates of future performance.", "These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described in the Risk Factors section of our most recent Form 10-K and in our posted materials. We refer you to the supplemental diluted earnings per share information and release. With that, I'd like to turn the call over to Christophe Beck for his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Andy, and welcome to everyone to our conference call. And, Andy, welcome to your new role as Head of Investor Relations after 15 years in the industry and six years alongside, Mike Monahan. In 37 years, Mike has built a legacy of trust, transparency and simple messages. He has built trusted relationship with all of you on the call by listening to you, by addressing your concerns and by building on your ideas in good and in more challenging times.", "He said openly with you what we were seeing, what we were doing about it and where we were going to keep winning. And in a world that feels like it's getting more complicated by the day, he kept describing our performance, our opportunities and our concerns in simple and clear ways to make your life as investors as simple as it could be. And none of that will change. So under your leadership, Andy, we will simply build further on Mike's great legacy.", "Now to our results. The second quarter concluded as expected while facing 30% delivered product cost inflation and increased headwinds from FX translation. Our global team managed to deliver once again sustained double-digit organic growth by driving new business and by accelerating pricing, both great signs of the real value we create for our customers and our margin growth potential. We almost doubled our total pricing from 5% in the first quarter to 9% in the second as we further strengthened our structural pricing and executed our first ever global energy surcharge with customers around the world in all our businesses in 172 countries in an extraordinary short period of time.", "We're now exiting the quarter with double-digit sales growth and pricing momentum that's now ahead of delivered product cost inflation, most importantly, with gross margins that have now turned the corner. In other words, we expect to see easing year-over-year margin pressure over the next two quarters. We're now in a fortunate position where our #1 strategic priority over the past 12 months has been addressed, getting ahead of inflation. This will now help us fully recover our gross margin over time and expand them even further in the long run.", "With margins getting on the right track, the time has now come to shift our primary focus to offense. With an environment that keeps getting more complicated, we do not expect the world economy to accelerate. We're, therefore, getting ready for that, too. Our new business is strong, and innovation pipelines are at record levels.", "Our customer retention has remained largely unchanged, still north of 90%, with the industry's largest and best-trained sales force, with the resources and the capabilities to get the job done and serve our customers better than ever, with a business model with over 90% consumable revenue, with innovative technologies and services that are helping customers reduce their total operating cost when they needed it most, like right now, and a growing $152 billion market opportunity that will remain huge no matter what happens to the world economy. We, therefore, entered the second half of the year in a position of strength, with strong growth momentum and growing share across the board, with inflation and energy costs that seem to keep getting higher, especially natural gas in Europe and in the U.S., with the right pricing momentum to stay ahead of inflation and the right mechanism, if I may say, with the energy surcharge to mitigate spikes of energy costs over time. This shift from focusing primarily on pricing to major share gains will naturally take some time. But as we've demonstrated in the past, it will also lead to strong results down the road.", "We, therefore, expect overall performance to improve sequentially in the quarters to come. Q3 earnings will, therefore, continue to be driven by strong top-line growth, easing year-over-year margin pressure, supported by solid pricing, but in the short term will also be impacted by unfavorable currency translation and potentially softer volume growth as the team shifts their focus to major share gain. As a result, we expect Q3 to show a sequentially narrowing decline in year-over-year adjusted earnings per share, including the impact of at least $0.10 of FX headwinds. Now with the total pricing already at low double-digit levels, new business generation to drive share gains, right through innovation and productivity benefits to drive margins, we expect fourth quarter to show accelerated adjusted earnings-per-share growth, resulting in modest growth in full year 2022 adjusted earnings per share.", "Now let me conclude my remarks on a more personal note. I love growth and I hate just as much as you do low earnings growth. This is not who we are and certainly not who I am, except when it's because we've done the right thing, the right way for our future, like keeping our global team and capabilities intact at a very high cost during the COVID lockdowns. Like managing pricing in a way that protected long-term customer retention, like maintaining growth investments in new products, digital technologies, and new high-growth businesses to gain market share and significantly increase our opportunities.", "As intense as it is right now, our near-term momentum keeps building and our long-term opportunities have never been greater. That's why I've never been more bullish about the future of this company. Our $152 market -- our $152 billion market opportunity keeps getting bigger. When infection risk keeps rising with pandemic, with hospital-acquired infection, and we put safety challenges like we've seen lately in baby food production, we had to help our customers.", "With water scarcity and a warming climate that's hurting businesses and people, we had to help our customers reduce their total water and carbon footprint while reducing the total operating cost, helping to deliver superior long-term performance for them and for our shareholders, which is why I firmly believe that with Ecolab the best is still yet to come. I look forward to your questions." ] }, { "name": "Andy Hedberg", "speech": [ "Thanks, Christophe. That concludes our formal remarks. Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question is coming from the line of Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Good afternoon, Christophe and Scott. Thanks for taking my question." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Tim." ] }, { "name": "Tim Mulrooney", "speech": [ "So I'd love to ask you about your share gains and innovation and all that. But I think I've got to stick to the basics at least starting out here. So my first question is about raw material costs, not surprisingly. And then I've got a follow-up on pricing.", "So, Christophe, the last time we spoke, it was your expectation that delivered product costs would be up about 25% in 2022. Is that still your expectation? And can you kind of break that down in between what you saw in the first half of the year versus what you expect in the second half?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, great question. So talking about raw materials. So first, I'd like just to step back, so one-step last year. So in '21, we had 10% of delivered product cost inflation, which includes rolls and freight, just to be clear as well on this one.", "We entered the year '22, expecting 15%. Then you're right, we talked about 25%. And today, we're closer to 30% right now in the second quarter, and we expect that level of inflation close to 30% to remain until the end of the year." ] }, { "name": "Tim Mulrooney", "speech": [ "OK. Got you. So it was a little less than 30% maybe in the first quarter, but then -- but 30% in the second quarter and for the remainder of the year. That's helpful.", "And then now if we layer on the pricing part of the conversation, Christophe, I guess, net price cost turned into a net positive in June. Can you talk about how you expect -- I guess what you expect for the price cost spread, how you expect that to play out through the second half of the year? And what that implies for gross margins moving forward?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, with pleasure. So the 30% as well so -- that we are experiencing, so right now and going forward for the next few quarters as well, just to put it in perspective, so represents $1 billion, of course, that our teams had or will have to overcome so during the year to 2022. And that's why it's been so remarkable that the team managed to get ahead of inflation during the last months of the quarter. When initially, we saw that would happen in the first quarter of the year, the war started then in Ukraine and shifted, unfortunately, one more quarter.", "Because energy costs went through the roof, we started with the energy surcharge, which worked out really well in the second quarter. We got structural pricing plus energy surcharge kind of well implemented during the last month of the quarter, and that's how we got ahead of delivered product cost inflation so at the end of the second quarter. So when I think about the second half of Europe, we got the job done. We're ahead of inflation.", "That will remain for the foreseeable future, obviously, which means that the margin pressure is going to ease over the quarters to come. This is going to be true in Q3. But it is going to be even more true in the fourth quarter as pricing and the energy surcharge together are going to keep accelerating. I talked about low double-digit levels in the second half.", "And if we assume an easing of the 30% rate of inflation for the next two quarters, Q4 should be a very nice margin play, which is why we're expecting as well accelerated growth in terms of earnings per share in Q4." ] }, { "name": "Tim Mulrooney", "speech": [ "Got it. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Ronan Kennedy", "speech": [ "Hi. This is Ronan Kennedy on for Manav. Good afternoon, and thank you for taking my call. Christophe, may I ask if you could just recap the outlook? I know you touched on potentially unfavorable volume growth or growth not accelerating as initially anticipated.", "Can you just recap what the outlook is for the second half into '23 from a growth standpoint? And if you are starting to see -- obviously, the inflationary pressures are immense, but are you starting to see some macro pressures as well?" ] }, { "name": "Christophe Beck", "speech": [ "Well, great question, Ronan. So the overall picture for 2022, we were expecting, so from an economic perspective, a continuous acceleration during the year, over the past few months, obviously. So the environment has changed. That being said, our own trajectory as Ecolab has remained fairly stable.", "So 13% organic growth in the first quarter, 13% in the second quarter, and we expect something similar in the quarters to come as well. But it's basically so having our own views focused on the potential risk of an economic slowdown, all indicators are showing that direction. In our own businesses, it's not obvious yet, but we're not immune, obviously, to whatever could happen in the world out there, which is why, first, we believe in our models being great in that kind of environment, which is very different than the lockdowns of COVID, which was just an industry, so stopping to operate. When we talk of a slowdown, this is something that we're very used to.", "And we like it because our model ultimately 90% consumable revenues. So that means recurring our promise to customers. It's to help them with premium products, reduce their total operating costs that's ultimately when they need us even more in those moments. So our model very well aligned with a potentially slowing environment.", "And ultimately, that's why, as I've mentioned as well in my earnings quote that the shift from primarily focusing on pricing to primarily focusing on new business will come at the right time as well, which is a shift that we've done many times as well in the past. So overall, an environment that might be slowing down with what we're undertaking, so expecting some kind of a stable momentum in the quarters to come with a potential downside risk that we can manage as well." ] }, { "name": "Ronan Kennedy", "speech": [ "That's very helpful. And with regards to that shift in focus, I think you had also referred to it as going from defense to offense. What does that entail that shift to focus on new business wins? And then are there other elements to kind of a downturn playbook that may be different than the approach that was taken during the unprecedented height of the COVID pandemic, where the focus was on protecting the company, your employees, and customers?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. I think that's what we're heading toward to today is kind of something that the company has been used to in any so -- more difficult times over our history. We are a sales organization. We have a sales culture with sales driven, which means that half of our company is driven by two things.", "The first one is new business. The second is price. And since it's all about execution, it's important to set for the organization, what's the clear primary priority? Is it price? Or is it new business? While you do both, obviously, at the same time? Well, in the last 12 months with this high inflation that came on us, like everybody else, ultimately, primary focus hedge to be pricing, and the team got it done. And now it's kind of shifting and saying you focus primarily on your business, while you keep driving pricing.", "So it's selling new accounts, it's expanding penetration, it's selling innovation, while you get price as well because we create more value as well. So for them -- So it's a shift between primary focus from price to new business that we've done over time in our history. It takes a few months, obviously, so to get in gear, but this is something that we're very familiar with. So I'm not worried about that." ] }, { "name": "Ronan Kennedy", "speech": [ "Thank you. I appreciate it." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Ronan." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of David Begleiter with Deutsche Bank. Please proceed with your question. Mr. Begleiter, your line is open for questions." ] }, { "name": "David Begleiter", "speech": [ "I'm sorry, can you hear me?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, we can hear you, David." ] }, { "name": "David Begleiter", "speech": [ "I'm sorry about that, Christophe. Back to the Q4 guidance, Christophe, you're guiding to about 20% share growth. EPS growth from Q3 to Q4, a pretty sharp ramp up. Is it just the additional pricing? Or are there other drivers of that additional price increase -- that additional earnings growth from Q3 to Q4?" ] }, { "name": "Christophe Beck", "speech": [ "It's the combination of many factors. When we think about the third quarter, so to begin with, so it's mostly impacted by FX, the $0.10 that we've talked about. Otherwise, the EPS would be growing in the third quarter. And if you look at Q4, it's going to be the combination of business momentum, so driven by new business, as mentioned before, added to it the pricing that's going to keep strengthening together with the energy surcharge as mentioned, so will be in the low double-digit territory as well.", "Our productivity work is going to keep working as well in our favor. And we expect as well a stabilizing of the 30% of delivered product cost inflation rate, as mentioned before. So the combination of all ultimately is playing to the Ecolab model where you see margins enhancement during the fourth quarter. It's not going to be an improvement versus last year, but it's going to be a sequential improvement from Q2 to Q3 to Q4, which, by the way, David is really playing in our favor longer term as well as we rebuild our margins fully and then afterwards even expand that." ] }, { "name": "David Begleiter", "speech": [ "Understood. And just briefly, of the energy surcharge you announced of 8% to 12%, how much do you actually realize?" ] }, { "name": "Christophe Beck", "speech": [ "It's hard to tell exactly the number. It's part of the 9% or the low double digit for the second half. We estimate that it's roughly two-thirds is structural pricing and one-third is the energy surcharge. When we communicate in our press releases, that's always directional, that's a max and then afterwards, you need to respect contractual agreements with customers, you need to negotiate with customers as well.", "And some customers have even chosen so to have the energy surcharge being included in the structural pricing, which makes the line between the two a little bit more fuzzy. But I think that a good guide might be this two-thirds structural price and a third energy surcharge." ] }, { "name": "David Begleiter", "speech": [ "Great. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, David." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Seth Weber with Wells Fargo Securities. Please proceed with your question." ] }, { "name": "Seth Weber", "speech": [ "Hi. Good afternoon, everybody. Thanks for taking the question. I guess just another pricing question, Christophe.", "I mean this -- talking about, say, 6% or 7% structural pricing. Can you just give us your view on Ecolab's ability to retain that next year into 2023? I'm not asking for guidance for next year, but just your confidence level and the company's ability to keep that type of pricing next year?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thank you, Seth. The structural pricing, I have a very high level of confidence that we're going to keep it. This is what we've done over the last 99 years as a company.", "So we're not cyclical in terms of pricing evolution. So structural price is going to stick the way we execute that with customers. The energy surcharge will be more of the question. I don't think that the energy costs are going to come down anytime soon.", "Unfortunately, I may almost say. And maybe one piece of information for you, Seth, is also that our energy surcharge, which was anchored on oil price Brent that everybody could read has been complemented by the natural gas prices as well, which is becoming a bigger issue in Europe and in the U.S. for the same reasons as we know. So it's going to be a combination of oil and natural gas, which is why initially we called it as well, the energy surcharge.", "How much are we going to keep of all that? Whenever the market comes down, I think we're going to keep part of it and some might be given back. But overall, the discussion with customers is driven by how do we build margins on our side, that's our internal discussion, but most importantly with customers is making sure that the return that they get on the investment that they've made in our value gets a positive return, which is EROI. So I feel good about the way we can maintain our pricing that we've executed here. Some might get back, but it's going to be marginal." ] }, { "name": "Seth Weber", "speech": [ "That's helpful. And then maybe just a quick follow-up on the healthcare and Life Science margin was a little bit light versus what we were thinking. I saw some of the call-outs in the slide deck and things like that, but is there anything that would prevent the margins there? Is there something that's going on there just structurally that the Purolite margin is obviously very high. So we're assuming that margins there get a lot better.", "Can you just talk about the ramp that we should expect in the healthcare and Life Science margins going forward?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, it's really so, two different stories. You saw Life Science and Purolite are doing very well. So no issue on that side, and it's been very steady in the past, and it's going to be steady in the future as well. Health care is a different story.", "That's where our challenge lies. Three things that I would mention. The first one is pricing with GPOs takes more time than with customers. That has an impact on margin.", "Secondly, North America, elective surgeries took more time than expected initially, that's been on and off so during COVID as we know. So quite a few times, that's where we make most of our money as well, like hospitals do as well at the same time. That has an impact on the healthcare margin. And third, in Europe, so we still compare to the so-called mega deals with government's COVID activities related in '20 and '21, which is also having an impact on the healthcare margins.", "But let me be very clear, healthcare is not where it should be. It's not been so for a long time. There have been some better and some less great times in that business. We focused on it.", "We need to fix it, and we will fix it." ] }, { "name": "Seth Weber", "speech": [ "Thank you. Very helpful." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of John Roberts with Credit Suisse. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "It sounds like base price is up 6%, on its way to 7%. What is the base cost inflation that you're seeing? That is what are costs up excluding energy?" ] }, { "name": "Christophe Beck", "speech": [ "It's a difficult question, David, because when we talk about energy, we don't buy energy directly, as you know. But the way we think about it is a third of our raw material cost is impacted by energy. And again, when we talk about energy, you have oil and then you have natural gas. So what we buy are second or third derivative of that.", "That's why it's a difficult question to answer here. But I would say one way to think about it, we were thinking in 2022 to have an inflation of 15% plus. We are at 30% right now, to a great extent that DPC incremental inflation came through energy following the invasion end of February. So that's maybe one way to think about it.", "But hard for us to really split the two, I'd rather focus on the 30% delivered product cost inflation, which is the true number." ] }, { "name": "John Roberts", "speech": [ "OK. And maybe a different way to ask about price. But when you started to implement the surcharge, WTI oil was about $120 barrel, and now it's $95. And back then, TTF gas was $25 million BTU, now it's [Inaudible].", "Can you help us understand like an average U.S. surcharge has gone down, I assume, because of the WTI drop and the average European surcharge is going up because of the TTF gas increase?" ] }, { "name": "Christophe Beck", "speech": [ "No, because -- so the Brent is still so north of $100 right now, which is the same bracket as where we started in April, so during the second quarter. So no change there. And it's not a perfect science as well because if customers were to pay straight math, obviously. So you're in that bracket, and you get 10% to take what we had in the press release, well, that be one situation.", "It's a negotiated number, which means that this one is not changing every month either. On top of it, as you mentioned and as I've mentioned as well earlier on that call, natural gas, is the new game in town. You've mentioned the number in the U.S. going up pretty rapidly and in Europe even more.", "So basically, where we are is that surcharge in the U.S. kind of unchanged to up because we are still executing more with customers that we haven't concluded yet. And in Europe, we're moving further up because of the natural gas price increases that you've just mentioned." ] }, { "name": "John Roberts", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Josh Spector with UBS. Please proceed with your question." ] }, { "name": "Josh Spector", "speech": [ "Thanks for taking my question. And actually, a similar vein of the prior question. I was curious, just to clarify, is the surcharge essentially in for all customers now? Or is there some percentage that's still being negotiated? And when do we take effect during the third quarter? And similar to kind of the prior question to an extent, if energy prices go up 20%, 30% into the fourth quarter, you have the surcharge in place. Are we going to be talking about that there is a price cost catch-up in fourth quarter? Or do you feel relatively insulated at what you've done has immunized that risk now?" ] }, { "name": "Christophe Beck", "speech": [ "If this is not a major shock in the system geopolitically, which could happen. If you look at what's happening so -- with Russia and Ukraine today, we should be in a good shape. We are ahead of inflation as we exit the second quarter, as mentioned, and we will stay ahead with increased pricing in Q3 and Q4 and further execution of the energy surcharge as well in the months to come. So both together brings me in a reasonable place for Q3 and Q4 that we will stay ahead and expand as well.", "So the margin leverage or margin impact that we have on our business. Second, if something happens as well in the world, in Western Europe, especially impacting natural gas, as we just mentioned before, with David as well. With the energy surcharge, we have a mechanism as well that we can fairly short-term change in order to capture more pricing through the energy surcharge. So this is pretty handy which was what we had in mind when we launched as well.", "That was not just to react to what was happening back then following the invasion in February, but also being able to react with whatever could happen as well in the months and the quarter to come. So bottom line, I feel quite good about staying ahead of inflation and rebuilding margins in the months and quarters to come to fully restore and expand even further. And if something happens in the world, it might take some time to increase the energy surcharge, but we have the mechanism to address that as well." ] }, { "name": "Josh Spector", "speech": [ "And just to clarify, the inflation for the second half, you talked about 30%. What two-year stack of that inflation that you guys are planning for?" ] }, { "name": "Christophe Beck", "speech": [ "The two-year stack, that was your question, Josh?" ] }, { "name": "Josh Spector", "speech": [ "For the second half, specifically, yes." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Last year, we had, as mentioned, so we had 10% in Q3, we had 20% in Q4. And you add the 30% of this year itself, that's how you get your stack two years model." ] }, { "name": "Josh Spector", "speech": [ "So we have 30% to 40% to 50%. That is how you're thinking about it?" ] }, { "name": "Christophe Beck", "speech": [ "Directionally, that's right. Yes, over two years." ] }, { "name": "Josh Spector", "speech": [ "OK. All right. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Christopher Parkinson with Mizuho. Please proceed with your question." ] }, { "name": "Christopher Parkinson", "speech": [ "All right. Thank you so much. Christophe, a lot of your platforms and services ultimately pertain directly to your customers facing their own inflation, whether it's low-temperature warewashing systems and even some stuff around your commercial and water treatment in terms of prevention and obviously facing inevitably rising costs in their own side of things. Can you just offer a little bit more color on your ability to kind of continuously push price just given the environment your own customers earn? I mean has the narrative really changed between the value-added proposition of your products and services over the last year and new customers ultimately recognize that.", "So just any color on that would be greatly appreciated." ] }, { "name": "Christophe Beck", "speech": [ "That's a great question, Chris. Thank you. Well, it speaks to our model that you're really familiar with. And our promise as a company has always been best results at the lowest total operating cost which we measure with EROI, which is basically so how much cost savings versus investment customers are making.", "And our ambition is to be north of 25% return for the customer in here with pricing in here as well, and we stick as well to that model, the way we're operating with customers today. Usually, we know up to 25%, which gives us as well some margin as well, need to get even further pricing. So, so far, it's worked out pretty well. That's why I mentioned that our customer retention has remained very stable over the past 12 to 18 months.", "But going forward, focusing even more on EROI will be essential for two reasons: first, to really sort of keep executing pricing. But most importantly, in times where economic environment might evolve as well. So to the downside, if I may say, without mentioning the R word as well in here, customers need it even more. This is true in warewashing.", "This is true in laundry. This is true in water. And it gets compounded as well that most of the customers have a hard time as well to find staffing to get the job done. Well, our offering helps them get the same results or even better results with less people and less cost at the same time.", "And that's why our value proposition is pretty ideal in such an environment where we help customers to get better results with less people and lower cost. That helps us execute margin and drive more new business." ] }, { "name": "Christopher Parkinson", "speech": [ "Got it. And then in honor of Mr. Monahan, I'll make sure I say this correctly. And as it pertains to your Pest Elimination business, not control, but elimination, I will always remember that.", "Give us a quick update. It seems like things are kind of reengaging there. You're getting a little bit more momentum and specifically North America. It's been a huge focus of your -- your kind of ongoing enterprise selling initiatives.", "So just -- can you just help us kind of offer the framework of the current environment and how we should think about that in the immediate and longer term now that it seems like you're getting a little bit more -- a little bit more traction in terms of the recovery?" ] }, { "name": "Christophe Beck", "speech": [ "I love the relation to Mike Monahan, that's true. It's Pest Elimination, unlike competition that's controlling. You still have mice and rats running around, but you have less than before. With Ecolab, you have none, which is our promise.", "So to the business in here, Pest Elimination has been an exceptional business for many, many years. It's been strong during COVID in 2020. It was strong last year as well. You maybe remember it was a double-digit top-line growth.", "It's been expanding its margins as well both a gross profit and OI ratio as well. And when I look at 2022, while it's kind of steady Eddie, we are in double-digit territory as well in terms of top-line growth as well, with very strong margin as well. That's why I don't talk much about Pest Elimination because the business is doing extremely well, has done well during difficult times and is doing well right now. It's a great team, very well led.", "And I look forward to even more going forward, a beautiful business." ] }, { "name": "Christopher Parkinson", "speech": [ "Great. Thank you as always." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Chris." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of John McNulty with BMO Capital Markets. Please proceed with your question." ] }, { "name": "John McNulty", "speech": [ "Yeah. Thanks for taking my question. Christophe, maybe we can speak to the end markets for Institutional. So I know you're kind of battening down the hatches, it sounds like for a potential recession.", "At the same time, I guess I'd be curious to know where your institutional business is relative to pre-COVID. And if there's still some uplift to go there even if we do kind of stumble a little bit into recession, I guess, how would you characterize that?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Good question. John, Institutional is in a good shape and evolving very nicely. Honestly, I had expected that the market recovery would happen, so way faster, way bolder.", "It's not what happened. That has nothing to do with us. Obviously, this is a market question. But when I think about our business institutional, well, if you compare it to 2019, for instance, which is kind of the base of pre-COVID, we are 5% ahead of 2019.", "We were 2% ahead of 2019 in the first quarter. So that shows that the business is kind of in a good place and evolving very nicely as well. What's most interesting is that we're gaining shares as well to the comparison that we've done so many times as well. So for the U.S.", "restaurants, if you look at the dine-in traffic, which means people coming in dining rooms, well, it's down 36% versus 2019. Our business in the same place is down only 3%, which means that we've gained a huge share as well in the meantime. So at the end of the day, we're ahead of '19 in terms of sales in the second quarter. In the quarters to come, two or three quarters, we will also recover the volume, and in the second half of '23, I believe we will recover as well the margins, which is the plan that we had all along.", "So all in all, in a pretty good place." ] }, { "name": "John McNulty", "speech": [ "Got it. No, that's helpful color. And then I guess the second question would just be on the raw material front. So your Industrial business, in particular, if I have it right, has a reasonable amount of exposure to like propylene derivatives, things like that.", "Propylene is off -- at this point, it's off about 25% quarter over quarter. So I guess, can you help us to think about that kind of basket and if you're starting to see any raw material relief yet or if it's more just look, these are derivatives, it takes time, but that's still on the comp as we kind of look to the back half of the year? Is there a way to think about maybe some relief coming for you?" ] }, { "name": "Christophe Beck", "speech": [ "It's clearly the latter, John. So we don't buy anything at spot prices or there are some exceptions probably. But generally, no, it's also contract based, more longer term. As you've mentioned, it's derivatives, second or third of feedstock as well, which means that it takes time to get through the system for us as well, which means as well the spikes are not that high, but it goes higher and stays longer as well so for us.", "But when I think about Industrial, they've done an exceptional job. At pricing. They're ahead of the average, they got most of the DPC, delivered product costs impact. Since inflation started in the second quarter last year, they've gotten on pricing, on the energy surcharge extremely well.", "They're ahead, obviously of DPC as well as they exit the second quarter. They're going to have even higher pricing versus the average of the company. I think they are on an exceptional trajectory, doing really well in new business, in momentum, getting pricing, getting productivity as well. And if you think quarters down the road, we would like what we will see from the Industrial business, which is half of our company.", "And I'll just -- and on one thing, it's been especially a part of our business where at every inflationary cycle, they've done really good work in pricing, and they helped improve the gross margin as well at each of those cycles as we're going forward. So in a way, as hard as it is right now, it's going to be a good story in terms of margin for Industrial going forward." ] }, { "name": "John McNulty", "speech": [ "Got it. Thanks very much for the call." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Ashish Sabadra with RBC Capital Markets. Please proceed with your questions." ] }, { "name": "Ashish Sabadra", "speech": [ "Yeah. Thanks for taking my question. Just wanted to focus on two items that was discussed at the National Restaurant Association Show. One was on reigniting the Ecolab certified program.", "I was wondering if you could talk about how that's coming along. And then obviously, there was a discussion also around the significant pull from customers for digital solutions, next-gen products, if you could comment on that as well?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thank you, Ashish. So the two points, situation hasn't changed much, obviously, since we met a few months ago. Ecolab Science Certified, as mentioned, so -- it has been launched during COVID to support our customers in order to protect their own guests and ultimately, so having more people coming to their restaurants or their hotels.", "It's kept being a very good story. We've become the leading program in the U.S. It's become stronger as well in the meantime. We're expecting to get in the next few quarters or close to $100 million of incremental business, close to 100,000 of locations as well down the road.", "So it's becoming a major program for us and for our customers. And ultimately, it's going to move beyond COVID and really making sure that our customers feel safe when they get to their own restaurants as we've talked all along. Now to digital solutions. Interestingly enough, with most of our customers struggling with staffing conditions as we've seen when you go to restaurants, to hotels, to airports or wherever you go, ultimately, our automated solutions for customers are helping them get the same job done with less people as well.", "Well, this is not only helping them on the staffing side, it's helping them on the cost side as well, which is good now and even more important going forward. So thank God, we kept investing behind digital solutions, which, by the way, are helping ourselves as a company, if you look at our SG&A productivity that has kept improving year over year and accelerated as well. So during the past few years, this is almost directly related to the work that we've done with digital." ] }, { "name": "Ashish Sabadra", "speech": [ "That's very helpful color. And maybe if I can drill down further on the volume side of the Industrial segment. Can you just talk about how that business obviously has morphed since the last GFC both on the Nalco front, but also on the core side. And also some of the growth drivers there, particularly animal health and data centers, how those are progressing.", "So any color on those fronts would be helpful?" ] }, { "name": "Christophe Beck", "speech": [ "What's good in Industrial is that it's very broad-based. All the businesses are doing really well. When I look at Water, which is the biggest, had strong growth, food, and beverage, downstream and paper. So the four big ones, obviously, that we have had are all doing so -- really well.", "So it's not one business driving the whole Industrial, it's very broad-based. And it's very broad-based geographically as well, which is why I feel confident about the business, especially as well going forward. So in terms of demand, we haven't seen much reduction, if I compare to 2019, for instance, as well, which is the right base because you remove all the noise of COVID as well. So in between, there is some noise and variation as well in there.", "But otherwise, they're pretty steady month after month. We'll see what happens in the months to come with the economic environment, but ultimately, very strong new business. That's going to help them obviously mitigate any softening of demand out there. And second, the pricing evolution is extremely strong as well as mentioned before.", "So the combination of both is driving a very steady and healthy story for Industrial." ] }, { "name": "Ashish Sabadra", "speech": [ "Thanks a lot, Christophe." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Jeff Zekauskas with J.P. Morgan. Please proceed with your question." ] }, { "name": "Jeff Zekauskas", "speech": [ "Thanks very much. You expect the lower earnings per share comparison in the third quarter versus the year ago. You've said that your raw materials are being offset now by price increases. You've got a little bit of negative currency.", "So does that mean that volumes are about flat in the third quarter year on year?" ] }, { "name": "Christophe Beck", "speech": [ "So the key points, Jeff, sorry, you're right that Q3 2022 is going to be lower than Q3 2021, as mentioned, mostly impacted by the FX, the $0.10 that I've mentioned as well earlier. So without that, we would be in positive territory. That being said, I'd like to add 2 points. The first one is we compare to Q3 last year, which was a strong recovery in our institutional market.", "So ultimately, the volume growth in Q3 will be lower than what we have in Q2 because we're comparing to this reopening post the third or fourth COVID wave that we experienced in institutional. And the last point I'll mention as well, there might be some conservatism as well in terms of volume from my side as well in here. But looking at what's happening around the world, I want to be as well on the safe side. So you have all three, you have the FX, you have the comparison to reopening an institutional in '21, and there might be as well some caution from our part in terms of economic development." ] }, { "name": "Jeff Zekauskas", "speech": [ "OK. Ecolab has maintained its staffing levels since 2020. I think with the idea that the global economy would recover, and the restaurant industry would come back and that there would be no strong inflationary effects, but there have been inflationary effects. It has been a slower recovery for the restaurant industry.", "And it looks like we may be going into a recession. Should you be thinking about restructuring your operations or having a lower cost structure than what you've got now?" ] }, { "name": "Christophe Beck", "speech": [ "We're not planning for restructuring, at least nothing broad-based. You will always have some pockets around the world. We are a large organization operating in many countries around the world. Obviously, not everything is created equal, and we will keep improving our operations wherever we operate around the world.", "Broad-based, no, nothing major is expected at least with everything we know right now, so from the environment. If you look at our SG&A, as well as over the past few years, we've done some very good progress as well in terms of productivity, and we're going to keep doing that as well going forward, mostly driven by digital automation, which means that it's the same team. We can serve more customers and do more with the customers that we're serving as well, so directly driven by digital automation, which means that, if in the past, our company was growing its team more or less at the same speed as the company was growing, that's going to change in the years to come, not because our model has changed, but because our technology is helping our teams do more with less. And last point, I'd say in hindsight, Jeff, I would do again the same thing.", "If we would have reduced our team in 2020, when most of our customers did ultimately, well, we would have lost all those relationships. We would have lost all the capabilities and expertise that this team had. We've kept it. This is a huge advantage for us, for our customers and going forward, but our productivity is going to keep improving in the years to come." ] }, { "name": "Jeff Zekauskas", "speech": [ "Great. Thank you so much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Jeff." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you. Good afternoon. Christophe, could you talk a bit about Europe? And I guess I'm less focused on sort of consumer recession-type angles and more, just thinking about the energy situation over there and how Ecolab would be impacted if there were natural gas or electricity shortages in the fourth quarter and potentially into the first quarter. What would that do to your own operations and ability to produce or procure raw materials? And what might it do to some set of your -- some subset of your customer base? And presumably, you don't have anything baked in for these risks in the second half guidance?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. This is a great question. So there is some I know and some we don't know, obviously. So starting first with our business in Europe, overall, doing really well, growing double digit.", "It's been very resilient during the COVID times as well. So overall, Ecolab in Europe doing so really well. Now to your question of operational resilience, depending on what could happen on the Eastern front. We have a very good supply chain team that has been tried years after years when you think about it, so what we went through over the past few years being so natural catastrophes in the U.S.", "like the Texas freeze or what happened in China as well. So we saw all the lockdowns that we had to go through. We've managed to really supply our customers in remarkable ways around the world in a very difficult situation. So when I think about Europe, our team was there together as well over the last few weeks thinking about the extreme scenarios and ensuring supply during those times.", "I feel reasonably good about our ability to ensure supply in the case that natural gas would be stopped from Russia, which I guess is the core of your question. The impact on our customers is way harder to answer because obviously, we don't operate for them. So depending on how they're going to do, that's going to have an influence on us. But this is something I can't obviously influence.", "The only thing we can do is ensure the supply and driving as well new business with existing and new customers as well to try to mitigate that as well as we can." ] }, { "name": "Vincent Andrews", "speech": [ "OK. And as a follow-up, you referenced in the back half guidance, you sort of let us know that maybe you're being a little conservative on the volume side of the equation. Where do you think the biggest risks are to the back half forecast. If it doesn't come in, where you think it's going to? But what are the one or two things that you're worried about in relation to the forecast?" ] }, { "name": "Christophe Beck", "speech": [ "It's hard to tell. But the hotspots are obviously starting with Europe for all the reasons that you mentioned before, geopolitically, not an easy situation. Obviously, there, we have a great business, doing really well with a very strong team. But OK, we can't create miracles as well either.", "So I'm very cautious about what could happen in Europe. In the U.S., the economy is not going to accelerate. We'll see-saw what the print will be so for GDP as well in the second quarter in the U.S. Well, it's going to head toward more of a slowdown than an acceleration.", "So that's the second area. And the third one that was a bit of a question mark, at least a few months ago was China, have become a little bit more comfortable with the situation in China. Our business is doing reasonably well, all considered as well over there. So first Europe, quite a bit behind the U.S.", "and way further out China. But overall, it's to remain cautious and to think about all that could happen to have as well contingency plan in place in case things went differently than what people would expect." ] }, { "name": "Vincent Andrews", "speech": [ "OK. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Steve Byrne, Bank of America. Please proceed with your question." ] }, { "name": "Steve Byrne", "speech": [ "Yes. Thank you. Within your water treatment business, are municipal water supply authorities currently customers of yours? And if not, is there something structural about that end market that is not of interest to you? One would think that drinking water standards are only going to get more challenging for these municipalities. And just curious to hear your outlook and interest for that end market?" ] }, { "name": "Christophe Beck", "speech": [ "Well, let me start by saying, Steve, that we are literally not in the municipal water business by choice. We do maybe a few millions here and there. But it's totally irrelevant for our company because we do not want to be in that business. We have so much more to do on the Industrial and Institutional and Health care end markets that we know extremely well as a company.", "When I think about what's the main reason for that? Well, first, it's choice of priorities. We want to really stay focused where we can truly win. And second most importantly, the way we sell, as mentioned before, it's really helping customers improve their total operating cost while reducing the environmental impact. This is a value proposition that resonates extremely well with companies.", "Municipal, by definition, are governments. Governments do not think that way. In terms of total operating cost, it's much more what's my budget that I have for the year. This is not the way we drive our business.", "So there's a mismatch as well here. Is it going to stay like that for the next 50 years? I don't know. But for now, no interest in entering the municipal market." ] }, { "name": "Steve Byrne", "speech": [ "And with respect to innovation, can you comment on what areas of focus you're particularly excited about with respect to new products from innovation?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, we have some great stories. It's been the case for many years, obviously, so in our company. I would start with a few macro innovation. The first one is Ecolab Science Certified.", "As mentioned before, this is a comprehensive program for institutional customers, restaurants and hotels that are protecting their guests. That's been a major innovation for us. In the Industrial field, think about net 0 water. This is a comprehensive set of programs that's helping our customers deliver on the sustainability commitments or ambition as well.", "We are uniquely positioned to help customers get there. This is a major driver for the future. Think about Purolite. It's an acquired, obviously, innovation that's growing fast, very high margin.", "This is new to our portfolio. And the last I'd mention is Ecolab 3D, probably one of the largest industrial clouds out there that we've been building over the years where we have thousands of clients that are connected that can improve their performance in real time compares what the performance unit versus unit within a company, across an industry and across industries as well. So those are four key innovation that I would qualify. So as enterprise innovation as well.", "But then you can think about data centers as well. We didn't have a program for data centers. It's a new business. We started that a few years ago, extremely successful as well.", "So this is a good one as well. Think about Lobster Ink, which is also providing online real-time training for institutional customers, hotels and restaurants, with all the staffing changes they have. We have close to 3 million users as well today. So working really well as well.", "And I can maybe mention just the last one, which is during COVID, we've launched as well our fastest kill for COVID virus in 15 seconds program for institutional customers, hotels and restaurants as well that have been used as well in the healthcare. Those are just a little bit a list of innovations that are coming to mind with your question." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much. Yes, I was -- could you elaborate on specifically the Health care segment, Chris. Could we see that return to revenue growth in the third quarter and maybe some commentary on your view of electric procedures -- elective procedures, excuse me, versus pre-pandemic levels?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. I want to be careful on this one. So as mentioned before, so healthcare is a business that still needs work. I like the focus that we have on it.", "It's going to take some time as much as I hate it and you hate it as well. I think so thinking about the fourth quarter, so to see growth in healthcare, not in the group, healthcare, and life science. Obviously, Life Sciences is in a great shape. It's clearly, so healthcare.", "I think it's more looking at the fourth quarter growth is probably more realistic. And if we can improve in Q3, well, that's going to be even better. But I would really focus on Q4." ] }, { "name": "Scott Schneeberger", "speech": [ "Appreciate that. And then could you categorize just overall or summarize. It was in the press release this quarter or last quarter, investments in the business and last quarter were investments in the sales force. Could you just categorize broadly where the company is making investments and just levels of magnitude? Do you anticipate amplifying that or if the economy takes a term for the worse, how discretionary on your ability to pull back? You've mentioned just a few questions ago that digital is something that -- it's a very consistent spending logically so.", "But if you can just categorize the broad base of investments, that would be appreciated?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. So macro picture, investments stable. They've been stable over the past few years. They're going to stay stable in the years to come as well.", "So if you think about capex, for instance, 6% of our sales, that's been steady Eddie for a very long time. And it's going to stay as well like that. Second, our SG&A, you've seen productivity so is improving as well every single year. And we will keep doing that as well.", "So it's investing in our team, but driving SG&A productivity as well at the same time. If I think about incremental investment, it's going to be mostly on two areas -- or three areas, sorry. The first one, our growth businesses, like Life Science, like Purolite, like data centers, like animal health, those high-margin businesses. We will obviously keep over-investing in those ones because we want to build our leadership position as well going forward.", "Second is in digital for the reasons that you mentioned before, it's adding value for our customers. it's driving a better experience for our customers, and it's driving productivity. So all good reasons as well to do it the right way. Included in that, you have cybersecurity as well.", "The more digital you do, the more cyber risk you get, the more you need to protect yourself. We need to obviously make sure that we're well protected, and I like where we are. And third is behind innovation, the products, all the programs I mentioned before as well, to the previous question, we will keep over investing as well. But overall, very steady in terms of overall envelope of investment, both capex and opex." ] }, { "name": "Scott Schneeberger", "speech": [ "Great. Thanks for everything." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Scott." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Dan Rizzo", "speech": [ "Hi. This is Dan Rizzo on for Laurence. Just one quick one. If we think about the $0.10 FX headwind in Q3 and a $0.30 for 2022, what are the assumptions for where the euro and the pound are going to be trading over the next six months or so or next five months or so?" ] }, { "name": "Christophe Beck", "speech": [ "That's a great question. Dan, let me pass it to Scott, our CFO, who has more details on that." ] }, { "name": "Scott Kirkland", "speech": [ "Yes. Thanks for the question, Dan. Yes, as you might expect, we're expecting continued rate hikes through the end of the year, probably in the range of eight. And so as you see that FX, it's ramped up through the second quarter, and we're expected to double basically in the second half relative to the first half, so about the $0.30, as you said." ] }, { "name": "Dan Rizzo", "speech": [ "All right. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question coming from the line of Andy Wittmann with Baird. Please proceed with your question." ] }, { "name": "Andy Wittmann", "speech": [ "Hi. Yeah. Thanks for taking my question. Scott, I was hoping to keep you going here, I guess and talk about free cash flow.", "Year to date, the free cash flow of the business is, I guess, I'm calculating just under $200 million, which I think is probably a little bit behind pace. It looks like inventory and accounts receivable has consumed a decent amount of capital. And I suppose given the revenue line, that's somewhat explainable. But could you just talk about your forecast for the year? What we should be thinking about, what free cash flow generation could potentially look like? And if there's anything else going on in some of these key working capital accounts that we should know about besides effects from the top line?" ] }, { "name": "Scott Kirkland", "speech": [ "Thanks for that question, Andy. No, your spot on with that is the free cash flow really for the first half of the year is as we expected. And as you're seeing the increases in sales, the investments in working capital as well as capex, which, as a reminder about half of our capex is customer-related equipment. So as we see new business and growth in the business, we invest in Capex but expect that to be in line, as Christophe said, that 5% to 6% of sales historically.", "So -- but as you think about the full year, we continue to expect as we talked after Q1 to have our free cash flow conversion in that mid-90% consistent with historical." ] }, { "name": "Andy Wittmann", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Eric Petrie with Citi. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "It's my understanding to get the Ecolab Science Certified sale, you have to buy the majority of products from Ecolab. How does that compare to your existing customer base in terms of supplier diversity?" ] }, { "name": "Christophe Beck", "speech": [ "I want to make sure I get your question right. When you say supplier diversity in terms of ethnical minorities, is it what you're talking about?" ] }, { "name": "Eric Petrie", "speech": [ "Yes. How much of your existing customer base buys from you versus others?" ] }, { "name": "Christophe Beck", "speech": [ "OK. Well, in terms of customers, this is a good question. I don't have the exact answer for that. So we can work on that and come back, obviously, to you.", "We are extremely driven, obviously, so by both diversity inside our company and outside our company. So this is true for our customers, and we have good progress there, but I want to make sure we get the right facts, and Andy is going to come back to you. And when I think about supplier diversities for the company, we've delivered on our commitments. We've improved dramatically as well.", "So our purchases from minorities as well and diverse suppliers in the country in the U.S. as well, we're perfectly on track versus what we had expected so far." ] }, { "name": "Eric Petrie", "speech": [ "OK. For my follow-up, how does your volume mix fare by month in the quarter? And directionally, how did it trend in July with the surcharge in place?" ] }, { "name": "Christophe Beck", "speech": [ "We usually don't give that granularity. So within the quarter -- it's also not a straight line. So within the quarter as well, so we have some seasonality as well that's coming as well into play. But we usually don't have big spikes within a quarter as well.", "So what we've communicated for the quarter is a good proxy in what we've seen in the second quarter. And the third quarter pricing is going to be an even bigger share versus volume which is not surprising since pricing is going up. Total organic growth is going to remain strong, which means that volume is going to remain. So stable/down in the meantime going forward." ] }, { "name": "Eric Petrie", "speech": [ "Thank you, Christophe." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Kevin McCarthy with Vertical Research. Please proceed with your question." ] }, { "name": "Kevin McCarthy", "speech": [ "Yes. Good afternoon, and thanks for taking my question. Christophe, with regard to your global institutional and specialty segment, do you have new structural price increases on the table or set to flow through in the back half outside of the realm of surcharges?" ] }, { "name": "Christophe Beck", "speech": [ "Absolutely, Kevin. First and foremost, pricing in our company is happening in every business every single year, and that's been true for a very long time, maybe since the company started as well. So this is really a muscle that we keep practicing every single year. And pricing is something that sticks as well in our model because it's driven the value, the return to eROI that we are providing to our customers.", "So we're going to keep driving structural pricing in all businesses, including Institutional, obviously, in the months, quarters and years to come. On top of it, is coming the energy surcharge, which is related to the energy oil and gas markets, as mentioned as well before. But the beauty of the structural price is really that it's driven by the value that we create for our customers, which is this eROI, how much savings do we help them create in their own operations versus the investment that they're making. And we're really making sure that that return stays as strong as it can be.", "So pricing is true for every business, and it's been the case in the years to come." ] }, { "name": "Kevin McCarthy", "speech": [ "I see. That's helpful. And then as a follow-up, sticking with the global institutional segment. If I look pre-pandemic, you earned pretty consistently between $930 million of EBIT to about $1 billion back in 2018.", "And so if I compare those sort of levels to where you're tracking this year, it seems as though you've got maybe $300 million or more of price cost to make up. Do you agree with that math? And if so, what kind of time might be required to restore the profitability to the older levels?" ] }, { "name": "Christophe Beck", "speech": [ "As I mentioned before, to take the big picture, I think from a margin perspective, in Institutional, it's probably the second half of '23 that we're going to get there in terms of ratio. In terms of volume, I'm expecting that first half of next year. In terms of sales, we had, obviously, already now. We're working as hard as we can to get as quick as we can toward those milestones that I just mentioned.", "But macro, that's a good proxy. That being said, it's important to keep in mind as well that Institutional like most of our businesses in the company post this cycle are going to be in a stronger place than they were before, driven by three things: First, we've gained share, so we have bigger businesses. Second, we have a pricing driven by the value that we create. That takes time to get to the right place, but it's driving margin leverage.", "And third, we have this digital automation that's going to keep helping. So the SG&A ratio, which is going to be a good story. So taking time we do that the right way, it takes more time. It's kind of short-term pain for long-term gain.", "But I feel really good about where we're going with Institutional. Last point. Institutional was mostly driven by North America as you know. So from an EBIT perspective, I like the fact that the regions around the world are improving as well in the meantime, especially Europe as well.", "So it's a business that's getting stronger as well from a geographic perspective, which is also good in terms of stability going forward." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Rosemarie Morbelli with Gabelli Funds. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. If we look at healthcare for a minute -- I mean that has been kind of a problem child for a while. Do you have any specific path to get the margin, the profitability of that business to the level of your other operations?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, it's a great question. And you're right that it's been a problem child for quite a while. That's one way to put it. The way I'm expressing it within the organization is to say, well, it's a dream that hasn't come through yet because the promise of reducing hospital-acquired infection in hospital, well, makes human sense, people hurting less and it makes a profitability sense for hospitals because it's less work.", "Obviously, since people are not readmitted for new infections that they get. So I like the promise. I don't like the journey that we've been on. It's taken way too long for us to get to the right place, and we're not at the right place yet.", "Now back to your question. So the main driver is really sort of focused on those programs as I mentioned during the Investor Day as well, which is central sterile for instance, which is kind of like a big kitchen. Our Health care team doesn't like when I compare that, that way, restaurants to a hospital, but you have a dish machine in a central sterile with all the instruments coming in. This is where we can play, this is where we know how to win.", "This is how we know where to make money as well. And that's a core program that I want to strengthen and build around it. Our programs are doing really well. Then, unfortunately, only 40% of the total business today, as that will grow, the business will improve.", "It's taking time, too much time, but we will get there as well." ] }, { "name": "Rosemarie Morbelli", "speech": [ "All right. And then if I look at the pro forma gross margin in 2019, it was 44%. What is the likelihood that you can get back to that before 2025, even if we have a mild recession?" ] }, { "name": "Christophe Beck", "speech": [ "I feel really good of getting back there. Obviously, the work that we've done on structural pricing, on energy surcharge is going to be the main driver for us to get there. On top of it, you have the productivity improvements, driven by digital automation in SG&A and in our operations as well. So getting back to the 44% is step one.", "Step two is to build even beyond the 44%. The question will be the timing. And the timing is related, obviously, to the shape of inflation in the quarters and year to come. The trajectory, I have zeroed out that we're going to get to the right place.", "The only question is how fast we're going to get there. And that's depending mostly on external factors." ] }, { "name": "Operator", "speech": [ "The final question is from the line of Mike Harrison with Seaport Research. Please proceed with your question." ] }, { "name": "Mike Harrison", "speech": [ "Hey. Good afternoon. I had a couple of quick ones, hopefully. One is on Purolite.", "The capacity additions I guess I thought that some of those were going to start to trickle in, in Q3, but it sounds like you're still sold out through Q3. Is there going to be some additional commercial volume in Q4? And are you at a point right now where you're able to baseload that additional capacity with customer commitments?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, we're in a great place. It's an interesting problem so to have where demand is really strong with the innovation we're bringing to the market, even stronger when we combine. So what we're doing in life science and water as well, so for our customers, we're maxing capacity. As you mentioned, we hope to bring that capacity online during the third quarter, knowing exactly when that's going to happen, I don't know yet.", "And that's why I'm assuming that's probably going to take till the end of the third quarter, we want to do that extremely well. Quality needs to be absolutely secured. Those are pharma products, as you know, as well, and we want to do it as well to the Ecolab way, which means that it's going to be unleashed in Q4 and in 2023. It's taking a bit more time than what I would have wished to build that capacity, but I like the trade of getting very solid quality even if it's taking a little bit more time, I'm building for the future here.", "If the future is in Q4 instead of Q3, I'm fine with that. The trajectory is going to be really nice. And the more I look at that business, the more like it." ] }, { "name": "Mike Harrison", "speech": [ "All right. Then the paper business continues to be very strong. Can you give, Christophe, some additional color? Are you taking some market share? And if so, is that more of a new customer or a new mill win? Or is it expanding share of all of the existing customers?" ] }, { "name": "Christophe Beck", "speech": [ "It's all of the above. It's a fascinating business, paper. And especially since we've evolved over time from old graphic paper, the paper you write on, to more consumer products, which are tissues and boxes for the most part. This is a market that's strong, that requires a lot of technology that we can provide as well, that is much less cyclical than printing paper ultimately here.", "So the portfolio shift that we've made in paper toward consumer products has been extremely successful, both from a sales perspective, attractiveness of what we're doing and margins as well because we help those consumer goods companies operating at a lower total cost while reducing their environmental impact, they use a lot of water, as you probably know as well and create a lot of waste. Well, what we offer to them helps them reduce environmental impact, reduce the total cost and improve the quality as well as of the finished products. It's a good story, and this team has been great at executing pricing as well, which on top of it, makes it an even better business." ] }, { "name": "Mike Harrison", "speech": [ "All right. Thanks very much." ] }, { "name": "Operator", "speech": [ "We reached the end of our question-and-answer session. I'll hand the floor to Mr. Hedberg for further remarks." ] }, { "name": "Andy Hedberg", "speech": [ "Thank you. That wraps up our second-quarter conference call. This conference call and the associated discussion slides will be available for replay on our website. Thank you for your time and participation, and I hope everyone has a great rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
ECL	2019-04-30	[ { "description": "Senior Vice President of External Relations", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker", "position": "Executive" }, { "description": "Lane -- Bank of America Merrill Lynch -- Analyst", "name": "David Ridley", "position": "Analyst" }, { "description": "Canaccord Genuity -- Analyst", "name": "Chip Moore", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Josh Spector", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Macquarie -- Analyst", "name": "Hamzah Mazari", "position": "Analyst" }, { "description": "William Blair & Company -- Analyst", "name": "Timothy Mulrooney", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "Seaport Global -- Analyst", "name": "Mike Harrison", "position": "Analyst" }, { "description": "G. Research -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Chief Financial Officer and Treasurer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "-- Analyst", "name": "Unidentified Participant", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to Ecolab First Quarter 2019 Earnings Release Conference Call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder this conference is being recorded. It is now my pleasure to introduce Michael Monahan. Thank you. Mr. Monahan, you may now begin your presentation." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. Hello everyone and welcome to Ecolab's first quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO and Dan Schmechel, our CFO. A discussion of our results along with our earnings release and the slides referencing the quarter's results and our outlook are available on the Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials stating that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview of the results. Continued sales growth and margin expansion drove Ecolab's double-digit earnings-per-share growth in the first quarter. Pricing, new business gains and product innovation led to sales and operating income growth which along with cost efficiency actions and reduced tax rate and lower interest expense yielded the first quarter's 13% adjusted earnings per share increase.", "Moving on to some highlights from the quarter and as discussed in our press release, acquisition-adjusted fixed-currency sales increased 3% as the Industrial and Other segments both showed strong sales gains and along with minus growth in the institutional segment more than offset a slight sales decline in energy.", "Adjusted fixed currency operating margins increased 80 basis points, continuing the good acceleration shown throughout 2018. Growth was led by double digit gains in the Industrial, Energy and Other segments. That operating income increase drove the 13% growth in adjusted diluted earnings per share to $1.3 representing another quarter of double digit adjusted EPS growth.", "Currency translation was an unfavorable $0.04 per share in the quarter. We continued to make progress on the spin-off of our upstream business. We currently expect the spin-off to be completed by mid 2020. We continue to work aggressively to drive growth winning new business through our innovative new products and sales and service expertise as well as driving pricing, productivity and cost efficiencies to grow our top and bottom lines and improve rates across all of our segments.", "Our digital investments are developing well and we look for them to add an expanding range of new actionable insights for our customers to improve their operations, enhance their experience working with us and increase our sales force effectiveness. We continue to expect consolidated 2019 adjusted diluted earnings per share to rise 10% to 14% to the $5.80 to $6 range as volume and price gains and cost efficiency benefits more than offset the impact of moderating delivered product cost increases and business investments. Currency translation is expected to be an unfavorable $0.11 per share in 2019.", "Second quarter adjusted diluted earnings per share are expected to be in the $1.36 to $1.46 range, up 7% to 15% . Currency translation is expected to be an unfavorable $0.05 per share in that quarter. In summary, we expect improving top line momentum in 2019 which should more than offset moderating delivered product cost increases and unfavorable currency exchange and along with cost efficiency actions yield a 10% to 14% adjusted diluted earnings-per-share growth. We continue to make the right investments in the key areas of differentiation including product innovation and digital investments to develop superior growth for this year and for the future.", "And now here is Doug Baker with some comments." ] }, { "name": "Douglas M. Baker", "speech": [ "Thanks Mike and hello all. So a quick overview. Look we had a very solid start to the year and are in a good position to deliver 2019. On the plus side, Industrial sales are very strong so are margins as pricing is overcoming the inflationary pressures that we've been feeling and this is leading to margin recovery. Energy also had strong margin recovery even with predicted soft sales of minus 2%. Our Other segment and our other specialty businesses QSR and FRS were strong also.", "The only disappointing news is Institutional whose sales were weaker than expected. The underlying sales were 4% in the US and 3% globally. This is better clearly than the 1% reported but still up expectations by a point or so as distribution inventories were reduced, as happens frequently, and the exited business we discussed last quarter converted quicker than we had forecast. We expect the institutional business to show improvement in reported and underlying sales through the year particularly in the second half.", "So as we finish our first quarter and move into the balance of the year, we're well positioned we believe. The heaviest lifting of our US SAP implementation is behind us with our fourth and final supply chain wave completed in the first quarter of '19. Our pricing, cost savings, innovation, digital and talent initiatives are all on track.", "A new business is tracking ahead of last year's record pace. As a result, we expect to deliver double digit adjusted EPS for the year and in every quarter and most importantly leave the year with good momentum as well. So with that I'm going to turn it back to Mike who will open up Q and A." ] }, { "name": "Michael J. Monahan", "speech": [ "That concludes our formal remarks. As a final note before we start Q and A, we plan to hold our annual tour of our booth at the National Restaurant Association Show in Chicago on Monday, May 20. Looking further ahead, we also plan to hold our 2019 Investor Day on Thursday, September 5th. If you have any questions, please contact our office.", "Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "Yes. Thank you. We will now be conducting a question-and-answer session. (Operator Instructions) Our first question is coming from the line of Gary Bisbee with Bank of America Merrill Lynch. Please proceed with your question." ] }, { "name": "David Ridley-Lane", "speech": [ "Hi. This is David Ridley-Lane filling in for Gary Bisbee. Can you discuss the revenue trends in Europe, particularly in your core segments, Institutional and Industrial?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, we had a stronger quarter in Industrial than Institutional. Industrial was organic 5% and Institutional was down a point. QSR had a fairly strong quarter. So if you put them together you end up with a little better answer.", "Institutional Europe I think is an area where we feel like we're doing the right things to improve this. We put a new GM in Europe late last year. The new GM Martin Boucher (ph) started in Institutional. He was a GM who turned around Pest North America. We've added a sales field leadership position in Europe reporting to Martin and collectively that team is focusing on three things, localizing innovation. We had two global and much of our institutional approach.", "We want to make sure that we're doing the right things and making sure our innovation is tailored for local approach. We're also enhancing field execution discipline. This is really the key role of the sales field leadership position. And we're also adding sales firepower by converting some field resources where we're a little heavy and converting them into corporate account selling resources. Obviously it's not the same bodies in every case but it's the same money." ] }, { "name": "David Ridley-Lane", "speech": [ "And then it's just a quick follow-up. Heard the comment on new business growth. Could you maybe quantify that a little bit or put that into context of your hiring -- aggregate hiring on the sales force? For instance, are you getting increased productivity out of sales force as well as just hiring more people. Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Over 2018, we added about 3% sales and service resources last year. So we feel we're in a good position to take care of the growth that we're generating as we move forward." ] }, { "name": "David Ridley-Lane", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. The next question comes from the line of Chip Moore with Canaccord Genuity. Please proceed with your questions." ] }, { "name": "Chip Moore", "speech": [ "Thanks. Wondering if you could touch on life sciences continue to outperform the market very nicely there. Doug, maybe talk a little bit about the runway for growth, any changes you're seeing in the competitive environment there?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. No I -- the life sciences business continues to do well. And while it was performing decently before we, if you will, created a focused life science business. It clearly has kicked into a higher gear and we've averaged double digits since that point in time. Look we love that market. So the market is global. It's consolidated in many sense. If you think about the customer set, it's fairly fragmented competitive set. That's a good environment for us. We continue to reach out and drive our advantage which I would say is kind of three fronts.", "We have very good clean room technology. We have world-class CIP technology. So the lessons that we've learned over the years in food and beverage and increasingly in other industrial applications perfectly applies here. And then finally the water capabilities that we have are really well suited for this industry as well because it's a great -- it's a prime source for contamination potentially et cetera. And so we're leveraging these advantages quite successfully growing that business.", "We made an acquisition as you will all recall in UK, Bioquell, just fourth quarter is when we closed. And so that's going to also give us additional technology and a new entry point, if you will, into this market. Finally, we just added manufacturing capability in North America where we have now registered products. So it's going to open up a much broader swath of the US market than we've been able to compete against previously. That will in essence change the competitive environment for us, I don't think for the worse simply because we'll be able to go after a bigger part of the market." ] }, { "name": "Chip Moore", "speech": [ "Got it. That's helpful. And just a follow-up. In terms of -- you mentioned the UK acquisition. Is there a pipeline of potential targets in that space?" ] }, { "name": "Douglas M. Baker", "speech": [ "Absolutely. And I would say it's a relatively new space for us. And so it's not an area that we've probably mind as heavily as we have others in the past. So, yeah, there's a nice long list. Obviously it's going to be at the right time, right price et cetera." ] }, { "name": "Chip Moore", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. Good afternoon, Doug. Just on the Institutional side. You talked about the distribution inventory issue. Could you just elaborate that -- elaborate on that and maybe in past quarters where it might have happened so that we can take a look back. And if that was the main reason why you were a point to two behind your expectations there?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, it clearly was one of the issues. I would say distributor inventories move up and down and we have printouts from the distributors. So we know where every case moves to, meaning we have a very good understanding of consumption in the industry and as a consequence it's very easy for us to understand what's happening in terms of distributor inventories up or down based on ins and outs, if you will. So this happens almost every year in a quarter. We have some conversation. Last year in the first quarter our conversation was the opposite. We'd actually -- distributors have built inventory during that quarter. And we talked about how the reported number was a little stronger than the actual underlying sales at that time and don't expect that immediately in the second quarter, but we would expect to in the year at a 5% run rate. So this happens frequently. If I were going to sum up Institutional, I would say this. We expected a downtick in Q1, part because of the previously announced exit of low margin business. However, it was worse than we expected which we talked about in my opening remarks and Mike referred to.", "So one the business, the low margin business exited faster than we had forecast and expected. That's not going to result in any change long term, it's just the timing issue. The distributors did drop inventory in the quarter which happens. Typically we'll see it rebalancing and that come back in follow-on quarters. I can't predict if that's Q2 or Q3, it's probably one of those two. And the final piece I would describe for a lack of a better term, is the fog of war and this is related the SAP US implementation. It's not -- this doesn't mean we lost consumption because of SAP, we didn't. But when you do these implementations and I'll just remind you we had four waves in the US. The last supply chain wave was just this February, a couple of months ago.", "The first wave was the February before and wave three was in quarter four. And what happens during these waves is you preload, i.e. build the inventory in your direct customers and in the trade. You do it in case you have a supply chain short circuit as part of cut over. Now we never saw a short circuit. We were able to get up and running very quickly in every one of our waves. But you still prepare as if that may happen so that you don't end up shorting customers. But as a consequence after these waves was all this rebalancing activity and so it's noisy short term and hard to go figure out exactly what's happening. In Q4, North America Institutional was up 6% but that was driven by a 7% growth number in U.S. Institutional. And we said at the time that's higher than our run rate, don't use it as a terminal value. We knew it's a little inflated. We weren't exactly sure how or how much. And as we look at first quarter, obviously we see a lower than expected number. And certainly in that wash here is this rebalancing and all the other stuff going on here. Now when we look at March and April we see much more normal activity in our North America and particularly U.S. Institutional business and see sales as we would have expected all along. So we think the noise as we would expect from past experiences sort of moving out of the business and what we're going to see is more normal behavior.", "So when we look at all the underlying things, pricing, new business, (technical difficulty) business other than the low margin stuff I talked about, a lot of stuff is exactly on track. We know that if we continue to focus on these things we'll show improvement. The key metrics to us are new business and pricing. If we drive these and we expect to the rest self cures, the loss is annualized, the distributor inventories rebalance and the SAP implementation costs, which are not insignificant by the way and in 70% hit Institutional are also recouped. So there are some natural like margin lift as we move through this just as we start getting through this noisy period.", "Net we think we'll see an improvement in Q2, I'd say modest but a more significant improvement as we get into the second half in institutional. So we're -- I think we have a good understanding of what's going on. Business is doing what it needs to do to go drive value and we expect Institutional to be a strong business as it always is." ] }, { "name": "Manav Patnaik", "speech": [ "That's super helpful with the color. Maybe just along the same lines on Industrial, like should we think of that 7% growth is sustainable or maybe there's some timing and it might sort of stabilize later?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Look our Industrial business is really led by water and F&B, have obviously been strengthening sequentially for a number of quarters. It's driven by both pricing activity and by volume, volume driven by a lot of new business which we've been talking about right in almost every call how we're having very good new business success. That's clearly in the water and F&B business in particular, also in Institutional et cetera. The food and beverage, rate -- organic growth rate is 7%. I wouldn't say that's our terminal value, but F&B has really done a heck of a job partnering with water to bring outsized value to customers and this has turned into big sales with big players. Now annualize against some of these sales in quarters, so every quarter is not going to be 7% organic. But with that said, we expect to have a very strong year in F&B and a very strong year in water.", "So is it (ph) exactly sustainable? I'm not going to commit that to every quarter but we expect mid to high single digit organic growth rates in these businesses. And we also are starting to see the margin leverage what we've talked about. We had significant raw material and logistic inflation impacting all of our businesses, but in particular our Industrial businesses.", "And so they've been on pricing and this pricing is now starting to overwhelm the inflation in that business and we're starting to recoup the margin losses that we've seen. But this isn't going to be overnight either, right. This is going to take us some time to rebuild these margins but you should expect to see pockets of margin build throughout this year and it's going to need to continue into next year.", "So some of that's going to come from pricing, some from cost savings, some from doing a better job operating supply chain now that over 80% of our volume is on SAP. So we just have better visibility and a better and a more easier, if you will, kind of foundation to run on. So those are the key things to look for and watch particularly in the Industrial business." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Laurence Alexander with Jefferies. Please proceed with your questions." ] }, { "name": "Laurence Alexander", "speech": [ "Good afternoon. Two questions. First on the Institutional growth rate as you think about the cadence of this year and the pricing initiatives you have under way, should we see that business sort of exit the year at about a 4% to 5% kind of run rate? Is that a fair way to think about it? And secondly can you give a little bit of flavor about Colloidal and how long do you think that can sustain a double digit growth rate?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I'll do the small one first. Colloidal, I would say Colloidal is an interesting technology. We have it. There's capacity constraints in the world and other areas will continue to drive the growth there. But that business we are going to continue to manage we think very intelligently for cash and return and other things. We want to do the right thing for our customers. But we're also going to do the right things for shareholders as we look at this business. In Institutional, yeah, I would say there's really not a caveat because if you want to say, do we expect to be at a 4% to 5% run rate on December 31st, the answer would be yes. Because by that time we would have no longer be lapping the lost business, right. It would be pretty much out of our sale. So I think it would be a comfortable yes that we would exit the year at that run rate because of that." ] }, { "name": "Laurence Alexander", "speech": [ "Okay. And can you give a bit of a flavor for how you're thinking about the sales force incentive programs, that is are you comfortable with the current set or are we going to go through one of these periodic refresh and refocus my calls. Can you just give us a sense for where is your rationale on that?" ] }, { "name": "Douglas M. Baker", "speech": [ "I would say we really look at comp every year and make minor adjustments almost every year. And there are episodic times where we go through major adjustment in a given business, meaning we went through one in pest about three years ago quite successfully I would add. You could even -- you could even see it in the business but we changed the comp there dramatically.", "In Institutional there's certainly areas of that business where we are going to revise comp programs part to reflect new regulations or the way regulations are being enforced and some because we think it's going to just -- and we'll do that in a way like we did with pest where I don't think it's going to be visible to anybody except those in the business. We want great people. We want great people that's incented to do the right thing and also incented enough where they want to continue to stay here and can make enough money to make a career out of it. And so we always have evolutionary change around here and I wouldn't -- there's nothing on the horizon that I would say would be noteworthy." ] }, { "name": "Laurence Alexander", "speech": [ "And maybe if you wouldn't mind just one last one. On healthcare, is there a reason why the business model there hasn't flexed more in response to sort of the disappointing growth rates? I mean like why it hasn't evolved into like a partnership with an insurance company or some kind of other way to get an end run around the bottlenecks that you've seen in terms of the purchasing managers?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, well, look we've certainly explored a bunch of different things. Here's what I would say. The healthcare business, our program business which is really what we're emphasizing continues to do well. These are programs around room cleaning to reduce HAICs, round OR, turnover and accelerating turnover both time and efficacy and also central sterile et cetera. These programs are doing quite well. The issue which is principally in US is just one of portfolio mix. These programs are still relatively small versus what I'd call the historic product approach. And as time goes on, obviously since the programs are growing so much faster than the products, they're becoming a larger percent of the portfolio. And what you'll see is that sales will reflect that -- but that just is going to take some time and the team I think is doing exactly the right thinking and after that, but that is having good uptake. In Europe our mix is a little bit better and in Europe we expect to have mid single digit, low single digit organic growth rate. (inaudible) is doing well in Europe, they've got very strong program mix in a number of areas.", "Some of those we're exporting to other parts of the world including the US once we get registrations. So I would say underneath the covers we think the healthcare business is more right than wrong. Certainly we would like to accelerate it. We would like to see faster better results too. But if you look underneath, good things are happening and we want to make sure that we stay focused on what we think for long term advantages." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of John Roberts with UBS. Please proceed with your questions." ] }, { "name": "Josh Spector", "speech": [ "Hey guys. This is Josh Spector on for John. Just a question around energy. Given some drivers with spin around customer buying patterns shifting and maybe moving a bit away from kind of the Ecolab heritage model and slower growth there in the quarter? Do you see any risk of another shift going on that could impact the second half? Or do you have pretty good visibility into the sales growth there?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. The energy quarter if you will -- the soft sales of negative 2%, I mean -- we expected it to be flattish coming into this quarter, plus/minus. And so the 2% to us (inaudible) plus 2% than minus 2%, no doubt about it, but it was around where we expected it to be, it's not the easiest business to forecast and really we expected these types of top line results for two reasons.", "One there is a dramatic reduction in just activity. A lot of this is occurring in Permian. I mean if you look at others in this business you're going to see -- I would say even lower sales rates than we had and so we're not alone. Ours should probably be on the better side. The second reason was we were going against a high base i.e. first quarter last year was an 11% growth quarter. And even at the time we said it was in part driven by one-timers and we knew those one-timers weren't going to recur again in this quarter. Hence the reason we were sort of bearish on the first quarter. So it's not a change in buying pattern, it's not a change in all of a sudden we're out of favor at all. We would expect that as the year goes on you're going to see stronger top line performance. And most importantly even in the first quarter with negative 2% we had double digit OI growth in that business as we are recovering on the margin side handily due to the pricing work that we talked about every quarter last year and it's continuing.", "And now it's being coupled with excellent cost savings efforts as well impacting both gross profit and SG&A. So we expect mid single digits in this business for the year top line and outstanding margin recovery driving even much better OI results for the year as well. So I'm not really worried. I think the stuff that the energy business is doing is smart, right and it's going to bear fruit for the year." ] }, { "name": "Josh Spector", "speech": [ "Okay. Thanks. And just a quick follow-up around the energy spend. I don't know if it's too early to ask about any numbers around that but I guess if I try to think about how like amortization stays with Ecolab and goes with the spend, do you have a rough cut there?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, $170 million of amortization goes with the spin." ] }, { "name": "Josh Spector", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of David Begleiter with Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Thank you. Doug, you have some new competitors in the last six to nine months in water and Institutional. How are they acting in the marketplace?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I guess our new competitor in Institutional would be new owner." ] }, { "name": "David Begleiter", "speech": [ "New owner, yes, I'm sorry." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. And I would say they're acting like they've always acted. So I don't -- we really don't see a significant difference. They can be really aggressive at times bidding on new business. This has been a pattern for years and years.There have been frequent times over the last -- I've been here 30 years, anytime during the 30 years but over the last 15, 20, I have a better memory, where we've blinked and walked from business where we're not going to make money, in some cases not make cash and we don't think that's smart to stay in those situations.", "And we've had some recently but we've had them two years ago, three years ago, five years ago, seven years ago 10 years ago. In many instances these businesses end up back with us, not 100% but a fairly high percentage. And what we want to make sure that we do is maintain our ability to do great job for the customers where therefore customers when they need us. And -- but we've got to be able to make money so that we continue to invest in innovation in digital and all the like and so we've got to be playing a disciplined game as well and that's the story there. On the water side, GE Water is now owned by SUEZ. I don't know that there's a dramatic difference day-to-day. We were -- we thought we were well positioned against GE Water and I'm not -- we respected them, we respect them now that they're owned by SUEZ, but we remain in our minds quite well positioned as a competitor in this area and you can see it in the strong results. So I don't think our competitive environment has really dramatically changed one way or another." ] }, { "name": "David Begleiter", "speech": [ "Very good. And just on your delivered product costs, I know they'll be moderating for the year. What were they up year-over-year in Q1, Doug, and what should they be up by the end of the year on a quarter, maybe not Q4, over a prior-year basis?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. We're forecasting 3%to 4% inflation for the year. For the first quarter was the most significant year-on-year 5%-plus probably increase in the first quarter but at a base for two reasons. I mean mostly because we started running into an inflated base if you will, i.e. raw materials got more expensive throughout the year last year. So the delta decreases as you move forward as long as you don't see dramatic inflation this year.", "We have some inflation forecasts this year. We've held that forecast. Last year we got burned on raw materials. The indices we follow were completely wrong last year. If you looked at the indices this year they would say that inflation is going to be less than we have forecast currently.", "We don't know if that turns into upside for us or not. We're being a little more conservative this year based on last year's experience which means we'll be wrong two years in a row, I hope, who knows." ] }, { "name": "David Begleiter", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your questions." ] }, { "name": "Vincent Andrews", "speech": [ "Thanks. If I could just ask a question on pricing and you touched on this a bit earlier in the Institutional comments. But just want to know how price was across the segments, if there were any meaningful discrepancies or anywhere where you were still need to work a little bit harder. And then just within institutional was there -- is price flattered at all by the exit of the low margin businesses in any meaningful way?" ] }, { "name": "Douglas M. Baker", "speech": [ "No, but that would show up in for us in more mix and it would have an absolute price the way that we measure the margin stuff. I would say two things. We continue to accelerate on price, if you will, it's five quarters in a row. And so, it still is around the 3% rate, industrial had the strongest price number they needed because, one, they were probably the furthest behind and have been playing catch up and doing a very good job doing it but they got a couple of years of big raw material inflation numbers in their business and they're working to recover those and obviously working with customers to do it in a way that works et cetera.", "Institutional always takes more a slow and steady approach on pricing. They don't get hit in rock significantly with raw materials as some of our other businesses do, partisan mix of the raw materials in part is solids and the other technology that they've deployed over the years and so they've got a lower more like a two price if you will year-on-year and energy was also 3% in the quarter as well, energy also obviously see significant inflation. We expect to continue to get pricing throughout the year, we need to, we have margin recovery goals. Our plan isn't to expand margins during this cycle but we certainly -- our goal isn't to lose margin either as a result of this. We'll expand margins through our own efforts internally i.e. leveraging the SAP implementation and other work to help improve margin and/or innovation but that's where we are on price. I would say team is doing a very good job in a very -- it's always hard." ] }, { "name": "Vincent Andrews", "speech": [ "And just as a follow-up on the de-stocking, it sounds like from your comments earlier that this would be something that would take place within a quarter that it wouldn't straddle two quarters based on your look at the printouts of the books and stuff in the conversations with the distributor customers, is that correct?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, we don't expect -- I mean look we don't control it absolutely obviously, if I went on history and we go through this literally every year in a quarter and obviously when it helps us nobody remembers it and when it hurts us you don't remember what the bounces back. And I would say this is a very normal thing. We would expect it to bounce back and as I said earlier, I don't know exactly if that second quarter or third quarter but it's probably one of the two most likely. That's typically the pattern we've seen in the past and there's no reason to believe that that won't be the pattern we see here." ] }, { "name": "Vincent Andrews", "speech": [ "Okay. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Hamzah Mazari with Macquarie. Please proceed with your question." ] }, { "name": "Hamzah Mazari", "speech": [ "Hey, good afternoon. Thank you. My first question is any update you can provide as to your circling the customer initiative, specifically which verticals it seems like food and beverage is one which may be sort of optimized in terms of selling your entire product suite to corporate clients and where you think there's room to sort of improve that?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, look it's been a key part of our strategy and a key part of our success particularly in Industrial as we put Nalco, I mean, Nalco a part of Ecolab. We came out of the gates and said one of the key areas we wanted to focus on was the F&B market. And if you look at what's occurred in F&B over the last six years, it's been really amazing. And if you look at the brewery business in particular, how we've been able to very successfully marry water in our F&B cleaning and place, food safety technologies together to create outsized value for customers, it's driven share and it's been a key part of how we went to market strategically, how we created value for customers and the reason that we've won coupled with that is always pest elimination.", "It's also lead us to understand other parts of the pest business like fumigation, and it's then lead pest to start one buying and acquiring some fumigation businesses which we've done recently and starting to build a larger business in that area because it's core to the F&B market. So that's a great example of how circle the customer drives value for customers' share for the Company and also opens the door to new opportunities as well. There are other examples. I mean, I can do -- we're watching technology being leveraged in QSR and in some instances in our food retail business, coupling with the institutional capabilities. I mean, there's plenty more, but I don't want to take up too much more time." ] }, { "name": "Hamzah Mazari", "speech": [ "No, that's helpful, and just a follow-up. On healthcare, and you may have touched on this earlier in a question, but specifically, does your go-to-market strategy in that segment need to change? Specifically, more of a C-suite type sale? Are you just talking to the wrong people in healthcare? Just curious around go-to-market, if that's a drag at all on growth. So you may have touched on this, but any color there? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "No, I think we talked healthcare earlier. So I'll just sum this way. No, I think the way -- we've really focused strategically on program selling there. And the programs that we have out in the market are growing and we're having success selling them, and those are programs around room cleaning and HAIC reduction, operating theater if you will change over and also better efficacy and then also in the central sterile. And those programs are working and growing. The issue which is principally US is just they're still a relatively small piece of the total portfolio, so that sales is sort of math if you will by the product sales that represents a balance of the portfolio where you don't have the same strategic advantages that we have in program selling. So our noses the grindstone, sell programs, keep focusing the portfolio will shift over time because it's growing at three, four times faster than the other. We know what will happen and then you'll start seeing the sales come through. But that's our strategic focus and there we are clearly calling on the right people. We're not flying the white flag on the product side but it's just a different competitive environment and equation which is why our efforts going toward programs." ] }, { "name": "Hamzah Mazari", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of John McNulty with BMO Capital Markets. Please proceed with your questions. And so, moving on to Tim Mulrooney with William Blair." ] }, { "name": "Timothy Mulrooney", "speech": [ "Good afternoon." ] }, { "name": "Douglas M. Baker", "speech": [ "Hello." ] }, { "name": "Timothy Mulrooney", "speech": [ "So first, Doug, your industrial business, can you just give us an update on the industrial business in China? It's hard to know what's going on over there sometimes, but your water numbers are so strong. So just curious if the market is getting better or worse or about the same?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes, look our China business, overall, was mid singles growth -- mid single-digit growth in the first quarter, decent profit. I would say it was really driven by the institutional side so I'm getting to the point you'd like me to talk about. And institutional collectively was double-digits doing quite well. The industrial side of the business was flat to down modestly in total, really driven by paper, which was down more dramatically. They're not making as much corrugated for export shipments in the meantime as we go through this. So certainly we're impacted somewhat with the trade discussions there.", "We don't see this ultimately turtling our China business for the year by any means. We think it'll probably. One, if we get the trade agreement figured out, it'll open the door, but even barring that as we look at the progression and everything else, we think we got more good and bad net business and we're going to have a good year either way." ] }, { "name": "Timothy Mulrooney", "speech": [ "Okay. Thanks for the update. My follow-up is on SG&A. SG&A adjusted for one-timers was actually lower than the last year despite revenue growth. Is that primarily the result of your cost savings initiative and do you expect a similar dynamic through the remainder of the year?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I would say SG&A certainly we have, strong cost savings initiatives in place. We would have said in the first quarter probably delivered about $20 million, which is on page to the 80 that we've talked about. For a handicap the year, we probably have upside and the cost savings side of the initiative pile in terms of you need some upside because you never know what's going to happen and other things like FX, et cetera. So yes, those are driving it. We're also leveraging technology in a number of parts of our business as we go forward, and this is also enabling us to do more via each person. So it's a combination of things but cost saving certainly is a driver." ] }, { "name": "Timothy Mulrooney", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. The next question comes from the line of John McNulty with BMO Capital Markets." ] }, { "name": "John McNulty", "speech": [ "Yeah, thanks for taking my question.Quick quick follow or one or two of them. One on the raw material front where are the buckets that you're actually seeing the inflation because it does seem a little bit counterintuitive given oil coming off the way that it has that you're forecasting something in kind of the low to mid single digits for the year, so maybe help us to understand where you're seeing some of those pressures." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Yes, well, oil year-on-year is up nearly 50%. So, it's you know, we got to go compare back to Q1 last year. That's what our comparison is here. But beyond if you will sort of oil derivative raw materials, certainly caustic is up for us, transportation costs grew double-digit last year, particularly in the U.S., but we had inflation also in other markets, Europe in particular. So, our two biggest markets, if you will, so the number of areas where there has been inflation in raw materials. And you know, I would say last year was significant it followed a fairly significant year, the year before. So as you kind of a two-year run, we are forecasting, moderation in the inflation rate, but not deflation this year. We still think that's the right forecast. And we hope we are on." ] }, { "name": "John McNulty", "speech": [ "Got it. And then it's been a couple of months since you announced the split or potential -- or the upcoming split of the upstream energy business. Can you speak to whether or not you've seen interest from potential buyers in that business at this point?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, that's not something we would comment on publicly one way or another." ] }, { "name": "John McNulty", "speech": [ "Got it. Fair enough. Thanks for the time." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Christopher Parkinson with Credit Suisse. Please proceed with your question." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you. So when you look at your various platforms, what are the largest opportunities to improve margins over the long-term outside of simply price cost is suppressed, perhaps shifting more even -- even more I'd say to us service model and just, I know institutional in Europe has clearly been a longer term opportunity, but where are the other ones that long-term guys should be thinking about? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, look I think there are a number of areas. I mean, you started in Europe and we had a 3% OI margin in Europe and are now nine and knocking on double-digit. And we've done all that over seven, eight-year period of time. And I would say the opportunities that existed there still exist and they exist everywhere else. And so, as we now have SAP implemented through our supply chain and our finance backbone, and in North America, we now have visibility and different visibility into the U.S. markets. And we've had ever via ERP. I mean, it's replacing a system called Collinet (ph), which we think is 40 years old, but we can't find any marker on the box.", "So, let me just say our visibility is enhanced significantly. So we would expect there's significant savings in supply chain. If you will, kind of freight channels throughout North America. The pricing on those channels has changed dramatically over the last two years. We know that we've got to recognize that in the way that we shift supply or manufacturing in plants and where do we supply, what customer from where and how do we do that? There's significant money there. We know that there's a number of policy issues that we're getting after that didn't reflect the current reality and now -- do that is going to reduce the number of shipments it takes to shift the volume we're shipping today. So we know we've got to get better standards there; formulation reductions, not just SKU, the most important part of SKU is formulas, if you reduce formulas, we reduce raw materials and end up with more scale and buying. And so there's a lot of work around that area, right now in energy but increasingly in our water business and in other areas as well. If you look at just relative margins by business, we know there's significant upside still in water and some of the other businesses that came over the Nalco acquisition. Their margins have been enhanced significantly since they've come over. But the team does not believe we're at the edge there or at the end by any means. And we want to keep driving that. So we talk about 50 to 75 basis points in sort of your typical run rate. Clearly with the announcement of the accelerate initiative and the cost savings there and also that we're in margin recovery zone time because of those recent run-ups we expect to run significantly over that range for a period of time. We need to recover and get back on track and margin build." ] }, { "name": "Christopher Parkinson", "speech": [ "And yes I apologize for the stereotypical simple sell side question but can you comment on the overall M&A landscape particularly in Asia and Europe. Thank you very much." ] }, { "name": "Douglas M. Baker", "speech": [ "Well Europe's probably as good as it gets in the U.S. right now simply because a lot of people were unsettled. And with that often comes opportunity certainly in the U.K. but I would also say on the continent in terms of Asia you know I mean the challenge in Asia as is scale and culture i.e. can you buy a company that's meaningful enough in size to be worth the risk and the effort to bring it on an integrated and then culturally and this isn't the Asian culture just make sure it is a company what's the company's culture and how it been built in terms of how it sells and creates value et cetera.", "So there, you know, we've got to be make sure that it's a company that we would have a right to own and run as we go forward. Generally I guess you know I think or we're going to enter a period where you know acquisitions of even size are going to make sense again. I know it'll happen I don't know exactly when it's going to happen. But being smart about the price you pay is always a good idea. And it proves out over time we believe that value is created through return on invested capital and our ability to generate cash. And those are the things that we look very carefully at when we make acquisitions that can we do those things over a period of time and the answer is yes we're all in it the answer is no we're quite careful unless it's got some seminal strategic value beyond just cash creation which is hard to find often." ] }, { "name": "Christopher Parkinson", "speech": [ "Great color. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Mike Harrison with Seaport Global. Please proceed with your questions." ] }, { "name": "Mike Harrison", "speech": [ "Hi. Good morning. I was wondering Doug if you can talk a little bit about what kind of trends you're seeing in restaurant foot traffic and if you could maybe talk about that by region, sounds like really, really outside of Latin America, nothing is really much to write home about." ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. Mike I would say I kind of agree I think. I would say this I don't think the foot traffic anywhere is going to impact our business. It's neither dramatically. I mean you know the places where you got fast, fast growth and food service is Asia and you know we're all about scaling getting after share we've made a number of key moves in the last 12 months in China which we think put us in a much better position to get after that business on a faster basis. I mean it's a business it's already growing in the teens but it should do better. And we're working to do that. In the U.S. your foot traffic seems to have been soft my whole career and yet every time I walk into a restaurant it seems to be full. So I can't quite get over these two problems. And you know but by and large throughout that period we've had very good growth. There are a zillion restaurants we don't sell yet. We would like to sell them. So until we have 100 share we're not going to talk about foot traffic is our problem." ] }, { "name": "Mike Harrison", "speech": [ "All right. And then when I also ask about the strength that you're seeing in food and beverage are we seeing any improvement at all in the underlying market there or is it really just share gain that we're still capturing?" ] }, { "name": "Douglas M. Baker", "speech": [ "That's principally driven by share gain. I mean people are still eating obviously but you've got some markets that are still fighting through some challenges. But you know the team's done a very good job for all the reasons I discussed earlier partnering with water and Pest et cetera driving outsized value which is leading to some very significant wins." ] }, { "name": "Mike Harrison", "speech": [ "All right. Thanks very much." ] }, { "name": "Operator", "speech": [ "Your next question is from the line of Rosemarie Morbelli with G. Research. Please proceed with your questions." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon everyone. Doug I was wondering if you could give us a little more detail on how the changes you have made in order to grow faster in China. You said double digit is good but you can do a lot better. So what changes have you made?" ] }, { "name": "Douglas M. Baker", "speech": [ "I think in a couple of areas. So if you want to talk institutional we've organized a bit differently simply because that food service market is developing differently than markets have in the past part they get to learn from U.S. history and European history. They have concepts which don't fit neatly in boxes and we've got to go and be prepared to offer what those concepts need and around service custom designed for those concepts not maybe the same exact service package that we've had in other markets so designed for China.", "So we've invested more if you will on innovation resources in China on digital for China resources in China, organize our constructive businesses a bit differently to allow a better blurring of lines and have somebody overseeing it, so they can make smart choices for customers first and by doing that for the company. So they've been a number of steps and most notably increased resources. And so for all those reasons we think we're just better positioned, we've learned a lot over the last few years. We've done decently. But as we look at it we just thought the way we were structured and the way we were resource was a hindrance if you will not an offensive weapon and we wanted to change that." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay. And then looking at -- now you have your SAP more or less internationally installed, so now that you have this, can you see the potential benefit from the restructuring to be above the $325 million that you have initially estimated?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah I wouldn't, I mean look, we would agree with you as long as it's positive for the business i.e. doesn't hinder our ability to deliver for customers more would be better and not lost on us. But we're not in a position right now to increase our estimate of those. I mean we just took it up $125 million from $200 million to $325 million when we announced the spin, which will enable us as we all recall to both cover the $70 million of estimated stranded costs and still deliver $200 million in if you will, Ecolab ex spin. And so I think it positions as well. And on the spin side there'll be more than able to cover their costs of building the kind of public company infrastructure that they need to build which they estimated $35 million. So I think we're in good shape there, if we can do more we will. It behooves us and the shareholders and that's what we're paid to do." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thanks and if I may squeeze one in. You said that you were expecting to close the Bioquell acquisition by the end of the year by the fourth quarter. Are there some issues regarding the competitive environment, are you dealing with anything that you may have to change?" ] }, { "name": "Douglas M. Baker", "speech": [ "Bioquell we did close. (inaudible) I mean we've closed but we're going through a competitive review. I would say right now we're working with the authorities in the appropriate way and that's the path we'll follow." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks. Good afternoon Doug. Specialty has been a real bright spot in global institutional another good quarter and you cited I believe some business wins I saw also that second quarter may slow down a bit on new customer rollouts but still a solid year. Please elaborate a little bit on this sub-segment, what is going on with the new business wins in some of these initiatives that you've highlighted in the release. Thanks." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I would say both the QSR teams and the food retail teams are doing a really good job of one driving new business. They're leveraging innovation to do it. They have a strong pipeline. They've been at the forefront on institutional and digital food safety technology which is already making a difference and we think going to make increasingly a difference in their ability to secure new wins going forward. That's been significant development cost which has really been borne principally in the institutional side of the equation. And so that starts bearing fruit, I think you're going to see enhanced margin as well as we go forward. So there are a number of large opportunities that exist both in QSR and FRS U.S. and around the world that I think our team is doing a good job targeting and getting after.", "There are occasions. So we give you a heads up on Q2 that they may have slower than current run rate sales for a quarter that's on a lap an unusual quarter of the year before where you might have had a pipeline load for a new customer i.e. you've got to build their distribution network and their stores simultaneously which just means you get four months and three and when you lap that it's tough to replicate it. So, we just try to give fair warning that occurs in many of our businesses occasionally through quarters throughout the year." ] }, { "name": "Scott Schneeberger", "speech": [ "Great. Thanks. And one more if I could. The CapEx and free cash flow a little lower this year in the first quarter than last year I guess last year a bit of a unique comp year but just any thoughts -- I know it's early in the year about what we should expect from these two going forward for the full-year?" ] }, { "name": "Douglas M. Baker", "speech": [ "Dan, can have that one?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah. Thank you. Sure. Absolutely so, yeah, you are right, it was annualizing first of all in the first quarter of '19 against a very strong performance last year in which we grew the business but consumed almost nothing in the way of incremental cash flow. So part of the year-on-year comparison is what you're seeing. Look, we still feel great both about our longer term record of delivering great cash flow generation from the Company and think that 2019 will be another great example of that. So sitting here today I expect that our free cash flow conversion which is the metric that I track most closely will be in the mid 90% range. So feel good about cash flow and how it's developing and for the year." ] }, { "name": "Scott Schneeberger", "speech": [ "Great, thanks." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of P.J. Juvekar with Citi. Please proceed with your question." ] }, { "name": "Unidentified Participant", "speech": [ "Hi. Thank you this is (inaudible) on for P.J. In water, could you just discuss the growth profiles underlying in light industry versus heavy industry and perhaps provide an update on 3D TRASAR penetration?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, they were very close in fact. Not a big differentiation in growth rates between heavy and light. So both performed quite well and we expect both to perform well for the year. In terms of 3D TRASAR unit penetration at this point time, I mean we're nearing 40,000 units outstanding. If -- we can give you an exact number if it's important if you want to call Mike or Andy." ] }, { "name": "Unidentified Participant", "speech": [ "Okay. And then secondly your first quarter volume growth to 1% is kind of lagging the overall fiscal year '18 of 4%. How do you see that going forward? And do you expect price to make up the delta?" ] }, { "name": "Douglas M. Baker", "speech": [ "Talking about -- the 1% for the Company?" ] }, { "name": "Unidentified Participant", "speech": [ "Yeah, 1% of the first quarter versus 4% for the full-year '18." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I mean the 1% was clearly impacted also by FX and FX is going to be a particular challenge in the first quarter and second quarter, but at current rates and forecast not a significant challenge in the second half. So, some of it's just that. The other we talked, institutional, which we expect to improve, and energy which we expect to improve." ] }, { "name": "Unidentified Participant", "speech": [ "Great. Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. Mr. Monahan, there are no further questions at this time. I would like to turn the floor back over to you for closing comments." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our first quarter conference call. This conference call and the associated discussion slides will be available for replay on our website. Thank you for your time and participation, and our best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "Thank you for your participation. Today's conference has concluded. You may now disconnect your lines at this time and have a wonderful day." ] } ]
ECL	2019-02-19	[ { "description": "Senior Vice President of External Relations", "name": "Michael Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker, Jr.", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- -- Managing Director", "name": "Gary Bisbee", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Greg", "position": "Analyst" }, { "description": "Canaccord Genuity -- Analyst", "name": "Chip Moore", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "William Blair -- -- Analyst", "name": "Timothy Mulrooney", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Morgan Stanley -- -- Managing Director", "name": "Vincent Andrews", "position": "Executive" }, { "description": "Credit Suisse -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "Buckingham Research Group -- Analyst", "name": "Dmitry Silversteyn", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Scott", "position": "Analyst" }, { "description": "Stifel Nicolaus -- -- Managing Director", "name": "Shlomo Rosenbaum", "position": "Executive" }, { "description": "Macquarie Capital -- -- Analyst", "name": "Hamzah Mazari", "position": "Analyst" }, { "description": "Oppenheimer & Co. -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Gabelli & Company -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Robert W. Baird & Co. -- -- Analyst", "name": "Justin Hauke", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the Ecolab fourth quarter 2018 earnings call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press *0 on your telephone keypad. As a reminder, this conference is being recorded.", "It is now my pleasure to introduce your host, Mr. Mike Monahan, Senior Vice President, External Relations for Ecolab. Thank you. You may begin." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. Hello, everyone and welcome to Ecolab's fourth quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO, and Dan Schmechel, our Chief Financial Officer. A discussion of our results along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor.", "Please take a moment to read the cautionary statements on these materials stating that this teleconference, the discussion, and the slides, include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected. Facts that could cause actual results to differ are described under item 1A, risk factors, of our most recent Form 10-K, and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview of the results, Ecolab's strong growth momentum and double-digit adjusted earnings-per-share growth continued in the fourth quarter. New business gains, accelerating pricing, and product innovation drove strong fourth quarter acquisition adjusted fixed currency sales and operating income growth, which along with cost-efficiency actions and reduced tax rate yielded the fourth quarter's 12% adjusted diluted earnings per share increase.", "Moving on to some highlights from the quarter and as discussed in our press release, acquisition-adjusted fixed currency sales increased 6%. Adjusted fixed currency operating income rose 7%, continuing the acceleration shown throughout 2018. The operating income gain, along with a lower tax rate yielded the 12% increase in adjusted diluted EPS, continuing the double-digit quarterly growth trends recorded throughout 2018. We continue to work aggressively to drive growth, winning new business through our innovative new products and sales and service expertise as well as driving pricing, productivity, and cost efficiencies to growth our top and bottom lines.", "Our digital investments are developing well and will add new actionable insights for our customers to improve their operations, enhance their experience working with us, and increase our salesforce effectiveness. We also continue to see solid underlying sales volume and pricing across all of our business segments.", "We expect 2019 adjusted diluted earnings per share to rise 10% to 14% to the $5.80 to $6.00 range, as volume and price gains more than offset the impact of higher delivered product cost and business investments. First quarter adjusted diluted earnings per share are expected to be up 8% to 16% to the $0.98 to $1.06 range.", "In summary, we expect continued strong topline momentum in our business over the balance of the year to more than offset higher delivered product cost and deliver operating income growth and along with cost-efficiency actions yield double-digit adjusted diluted earnings-per-share growth this year.", "Importantly, despite the headwinds, we continue to make the right investments in key areas of differentiation, including product information, digital investments to develop superior growth for the future and we expect to sustain strong momentum as we exit the year.", "Now, here's Doug Baker with some comments." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Thanks, Mike. Hello. I've got a couple comments. I'm going to keep it brief and maybe a bit repetitive. If we look at '19, we enter with really quite strong momentum. Q4 was solid in the positive sense of the world. We had 6% organic growth, driven in part by strong pricing, but also very solid volume. This is driven by strong new business, which we really enjoyed all year, including in the fourth quarter. We saw improving OI throughout the year and double-digit EPS in the fourth quarter and for the year as well.", "So, as a consequence, we project '19 to be very good as well. We're forecasting a 10% to 14% full year adjusted EPS range, 8% to 16% Q1 range. The year is really going to be driven by this formula, continued good volume and pricing, a growing benefit from our accelerate plans and less raw material headwinds, underscore less. They aren't favorable. They're just growing slower than they were in 2018 or that's our projection.", "Importantly, we'll continue to invest in systems, digital, and key growth innovations throughout the year. Our success driver really fundamentally remains the same. I would say importantly the story we bring to our customers is an important story in both good and not so good economic times.", "We know when we have great teams driving our great business model, which we define as best results at lowest results and environmental impact, this is what drives great financials for our shareholders. It's exactly what we're focused on. So, if there's any shout-out that's deserved, I'm quite pleased with the moment we enter '19 and it's really a testament to our teams who have been executing very well out in the field.", "So, with that, I'll turn it back to Mike for Q&A." ] }, { "name": "Michael Monahan", "speech": [ "Thanks, Doug. That concludes our formal remarks. As a final note before we start Q&A, we plan to hold our annual tour of our booth at the National Restaurant Association Show in Chicago on Monday, May 20th. Looking further ahead, we also plan to hold our 2019 investor day on Thursday, September 5th. If you have any questions, please contact our office. Operator, would you please begin the question and answer period?" ] } ]	[ { "name": "Operator", "speech": [ "Thank you. We will now conduct a question and answer session. We ask that you please limit yourself to one question and one brief follow-up question per caller so that others have a chance to participate. Our confirmation tone will indicate your line is in the question queue. You may press 1 to join. You may press 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the * key.", "Our first question comes from the line of Gary Bisbee with Bank of America Merrill Lynch. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey, guys. Good afternoon. The first question from me -- obviously, pricing has really picked up and that's been helpful to revenue growth, but in fairness, volume also had its best year in a number of years. As you think about 2019, what does the cadence look like? I assume as you start to lap the pricing you're unlikely to get those types of gains again on top of what you've got now. Is it reasonable to think the revenue growth decelerates a bit as we move into the year or is your optimism around volume such that this recent trend is sustainable on the topline. Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "We believe contributions from volume and pricing in '19 are going to be very similar to those we saw in 2019. While you've got raw material inflation slowing, we still forecast it's going to be up year on year. I don't even think it's spot market pricing that's really driving our conversation with customers. Fundamentally, we don't try to match price and inflation in any given quarter. We want to do it at a slower pace as we've talked in the past because it's better for our customers.", "So, we're still in the recoup mode, if you will, from a pricing standpoint for increases that we saw in parts of '17 and all the way through 2018 and the continued forecast that we see in '19. We would expect fairly steady, if you will, collective sales growth throughout the year. We don't think there's a big hockey stick, i.e. it's much faster in the first half versus second or vice versa." ] }, { "name": "Gary Bisbee", "speech": [ "The quick follow-up -- I wanted to probe your ability to prepare for the spend. Does this have any impact on either the bolt-on M&A strategy or anything else as you divert people to focus on that or do you think that's not going to be a huge deal as we think about what the executive team is working on over the next 12-18 months? Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "It's fair. It's absolutely a large project. I think we worked hard to understand, if you will, where the shadow falls from this project. It will not preclude us from continuing our path of bolt-on M&A. We have a very good pipeline right now. What we create when we're in these situations and I think we've done it quite successfully in the past -- is we create and kind of segregate teams that are going to go focus on this. We will utilize outside services where they are equal or better than what we can do internally as well so that we don't drain capacity needlessly here.", "If you recall when we had the Nalco integration, we created a stand-alone team. We gave them a charter. They executed excellently. If you also recall, we continue to drive very successfully sales growth and margin growth during that period of time in the rest of the businesses." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Greg", "speech": [ "Hi, this is actually Greg calling on for Manav. I just wanted to hit on the raw material assumptions a little bit more. Given what happened last year in terms of the third-party assumptions ending up a little bit worse, I'm wondering what level of conservatism you've put into those assumptions." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "We would follow the philosophy I think you're advocating. We'll make a new mistake this year. If you went on the indices last year, which is basically how we formulate forecasts, it would have suggested you would have had a much lower level of inflation of raw materials in '18 than we actually saw.", "If you look at our forecast in indices, our forecast for raw materials is slightly above the indices at this point in time. We also understand the indices are going to be wrong one way or another. But we are certainly not being overly aggressive, we don't believe, with our raw material forecast. We'll see what actually transpires. Obviously, it ramps up, we have proven that we can ramp up pricing if we need to in that eventuality and that's exactly what we do if we needed to. Obviously, we would probably step on the accelerator too." ] }, { "name": "Greg", "speech": [ "Okay. And then I just wanted to quickly ask about how you think about the growth trajectory for the downstream energy business. I think in the past, a lot of the secular growth drivers you've talked about for that business focused more on the upstream side. So, if you could just touch on some of the drivers that have driven the nice growth on the downstream side, that would be appreciated. Thanks." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "The downstream business, if you look at cyclicality either on growth or income is one of the steadiest businesses we have in our portfolio, not just in energy, but in total. It's a very steady mid-single-digit topline growth business. There are a number of things that drive it. We are a global player in that market. You certainly still have significant economic growth in key parts of the world that typically drives energy consumption. The other aspect of production out of the refineries in petrochemicals, obviously plastics.", "While there's certainly pressure on some consumer plastics, plastics are absolutely critical to a number of the key sustainability initiatives. It's the way you lightweight materials, the way you lightweight vehicles, etc. is going to be through fundamentally plastics. There's very steady demand story, we believe, as we look at this business. If you look at the past, it would also indicate the business is quite resilient, both the end market and ours." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Chip Moore with Canaccord Genuity. Please proceed with your question." ] }, { "name": "Chip Moore", "speech": [ "Thanks. Maybe you can talk a bit more about competitive environment by geography in institutional in particular and then where you are exiting some lower margin business. Maybe you can help to quantify that for us as a headwind in 2019." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I don't know if the competitive environment has dramatically changed by region. Certainly, Europe remains the most competitively challenged market that we compete in from an institutional standpoint. It was and is and will be, we think, for a considerable period of time. In terms of the low margin comment, yeah, we ended up and we've been through this a number of times, where through quite aggressive bids that we determined weren't smart to match, we have exited loss, whatever word you want to use, some business, principally in the contract catering arena. This will have some topline impact, probably less impact on the bottom line, simply because it wasn't high-margin business to begin with, then we face very aggressive competitive bids.", "If you go back, this isn't very different than the situation we faced in food and beverage for a considerable period of time, where in a number of instances, we decided not to match bids. The business went away for a period of time and virtually all -- I can't think of one piece of business that we have not rescued after going through that in the food and beverage market. Obviously, we will work to prove we're the right partner to these companies going forward, but we can't do business when it's going to be at a very problematic financial situation.", "The reason we're in business is to do good for society and our customers, but also, by the way, make money. We do not ever see the idea of losing money as a strategic benefit. So, if we can't prove we'll get cost right and do other things, this is not going to be significant institutional this year, it's going to grow mid-single-digits again as a sector and institutional specific division will have mid-single-digit growth this year as well." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Lawrence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Laurence Alexander", "speech": [ "Can you give a feel for particularly on the more industrial-facing parts of institutional, dairy and food and beverage and so on, what kind of dispersion you're seeing with regard to traction with the price increases? Are there any pockets, regional or otherwise, on price and gaining traction, where it's been more difficult? Second, as you think about the digitization investments, what would you need to see over the next couple of years to change the pace of investment?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, the first question around industrial and where we're seeing pricing, we saw a significant improvement in pricing captured throughout the year and ended over 3% in our industrial businesses in the fourth quarter. We expect that to continue as we enter 2019 as I discussed earlier.", "You're right. Regionally, it's not exactly the same number everywhere. I would say China, which was a net-plus in the pricing column, is always a more challenged market, cultural, historical, etc. But we are pushing and securing price there, just not at the same rate that we're seeing in some of the other markets. We also know that ultimately that's got to change too. We feel good about the ability to capture price.", "I think at the heart of it is the value we bring to customers is tangible. They understand it. They're willing to pay for it because they know that net, we are a better deal than their alternatives and we work very hard to merchandise and prove that day in, day out, and it really comes from the significant water and CO2 savings or energy savings that we help drive within their facility, which often are greater than the total bill they pay us. So, that's an important part of the equation, important reason we get price.", "The second question, digital -- I would say what do we need to see? To me, this is one of the most critical things that we need to do. We have huge built-in advantages that we need to leverage and I think those advantages play really well in a digital future. We have nearly 3 million customer sites, probably 90% were collecting information today, but a very small fraction of those are connecting to cloud at the moment, connecting those dispensers, which are collecting unique information to the cloud isn't technically hard and costs have been going down.", "So, we're on a real mission to go get those connected. The information streams that we have will be unique, we have unique ways of analyzing this because we have know-how and the ability to translate this into advantage for customers we think is dramatic. We've done this on fairly large scale industrial where cost of capital isn't as sensitive, simply because you may be taking out millions out of a given unit versus thousands. We have proven the concept.", "One of the reasons I think you really see water moving, food and beverage moving is our ability to capture information and utilize it to the benefit of customers. We now have some very large-scale wins and tests going on and big customers in the institutional area. We're quite confident it's going to show the same kind of value creation as we go. So, obviously, we need to continue to see fruit from this investment, but I would also say I think the future without investing in digital is a scary place to be and a bad bet for any business to be making.", "So, even if we have some hiccups, some stumbles or some other things, we've got to continue to invest here. I think our investors would eb wise to hold our feet to the fire on digital investments going forward because it's the safest way to guarantee a long-term successful future." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Tim Mulrooney with William Blair & Company. Please proceed with your question." ] }, { "name": "Timothy Mulrooney", "speech": [ "I have two questions. Going back to the price conversation, how much were delivered product costs up year over year in 2018? What are your assumptions for 2019?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, they're up high-single-digit, like 8% globally, pretty significant. Our assumptions into this year are roughly half, so increase, but more at the 4% level." ] }, { "name": "Timothy Mulrooney", "speech": [ "Perfect. Then Doug, relative to my model, the business that outperformed the most in the back half of 2018 was water. Were there any large orders or other one-time events that drove such strong performance? How are you thinking about water for 2019, particularly given the difficult comps in the back half of the year? Thank you?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "If the water team is listening, I'm hoping for 20% in 2019. For the investors, I'd probably calm that down a bit. I would say the water business is an annuity business. So, there can be occasions where we have a significant investment and/or sale, but that's quite rare and was not the driver for the acceleration in the second half of the year. It was fundamentally improved pricing certainly helped, but I would also say a big, big success in terms of driving new business, net new business.", "That's always the key to driving our topline. The team in heavy and light and mining, really kind of broad -- it was a broad success story. Paper, obviously, you saw the numbers there. They've done a very good job leveraging innovation to drive new sales as they go forward." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Back on the digitization efforts, would you expect the institutional business to be able to go down into smaller customers more effectively? You're concentrated up in the larger change, but I don't know whether this allows your guys at a lower cost to be able to provide some sort of services to the smaller restaurant chains that have been harder for you to penetrate." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I would imagine ultimately as we continue to drive utilization of the technology and technology continues to evolve and typically, the evolution to digital is lower cost, not higher cost, that yeah, I think you would -- ultimately, our focus is going to be driving superior outcomes for our customers, but I would also say I imagine that using digital will enable us to be even more targeted in how we use our very advantageous field resources more successfully and more efficiently.", "As you're able to do that, you've got the best of both worlds, which is you will learn more, you can be predictive, but you can still react and have the capability of solving the problems that you uncover, which is a huge desire on our customer standpoint. So, yeah, I think it will lower cost, improve our capabilities and enable us to probably go to a broader swath of the market." ] }, { "name": "John Roberts", "speech": [ "Could you give us an update on the institutional water market? You had a relatively small business and Nalco had a relatively small business. I've kind of lost track. It's not broken out clearly." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "That would be the water right business would include the institutional market and food and beverage markets, etc. That business has been a very consistent, if you will, mid to upper-single-digit perform for quite a while. We really reprioritized that business. It was an important business for Nalco in the 90s. It got deprioritized in the 2000s and we thought incorrectly -- so did much of their management, by the way. We have resplit -- one of the early work we did, was redividing the Nalco water business into dedicated focused business units, much how Ecolab thinks about going to market.", "I would also say much how Nalco used to go to market up through the 90s. This has proven to be a good investment and good work to go through. One of the reasons I believe we are seeing improved water results is we've gone through all that work and now have this redivision, if you will, done largely globally and focus drives results.", "In the light business, we see it as well. We are out there working to secure. We've made some acquisitions to give us route capabilities. In the New York market in particular, we want to learn from that route model and see if we can't replicate it in other large metro areas because we think it gives us an additional means of getting after a large segment of that market." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you. Could you give us some comments on the gross profit margins for the year in terms of how much improvement you think you're going to get? You talked about overall cost for the year earlier, but how does that phase in through the year? Where do we see the inflection in JPMs in which quarter?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. We would expect to start seeing daylight, if you will, or year on year improvement in gross margins second quarter for the vast majority of the businesses. And I think you'll see improvement in the first quarter versus the fourth quarter in terms of margin-fueled gross profit year on year decline. It will be much less.", "So, you're going to see the line, I think, steadily improve from second half through the first quarter and second quarter, I'd be surprised if we didn't have, if you will, increased margin year on year, '19 versus '18 in Q2. For the year, given that we're going to have this -- it's going to be 30 to 50 basis points kind of improvement this year overall, but obviously, it's going to be stronger in the second half than it is in the first half, as we just discussed the first quarter situation." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Christopher Parkinson with Credit Suisse. Please proceed with your question." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you. Your enterprise selling has been doing pretty well, especially in the F&B and pest elimination. Can you give a quick update on these themes given the current level of customer penetration? Is it still safe to say we're in the early innings? Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Based on share, you'd have to say we're in early innings. While we've been in these businesses, we're successful in some key markets, we're number one, but we still have significant upside from a share standpoint. We think just like line of sight in front of us. We would expect the pest business to continue to perform as it has been, which is high-single-digit organic growth rates. They've been executing very well. We continue to invest in that business as we believe we need to sustain that type of growth rate.", "F&B had a good 2018, ended up with 6% growth in the fourth quarter, organic growth rate. They too are working hard to secure pricing to recoup the margin that was lost as a consequence of the significant raw material run up. In terms of topline, there are significant opportunities. I would say the combination of water and F&B's food safety programs is an outstanding story that our customers have really responded to.", "We had early success when we first, if you will, acquired Nalco and we talked about half a billion dollars in terms of sales synergy, which we also announced that we more than surpassed. I would say the momentum is built, if anything. It's really the team's willingness and drive to continue to refine the story and now have that translate into new innovation where there's synergistic innovations between water and F&B, shared platforms around 3D, etc. All those things bode very well and there's a reason we've seen a huge uptick in share in that space." ] }, { "name": "Christopher Parkinson", "speech": [ "A quick follow-up on healthcare -- last year or the last couple quarters, you've been shifting your sales approach a little versus your competitors. Can you comment on the status of the strategy evolution, any key differentiating offerings, how you're handling yourself in the hospital versus your appears and the overall approach to reaccelerating the growth in this business?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. Fair. We talked about healthcare last year and we had what I'll call a disappointing start to the year, where the first half was very low single-digits. We forecasted we would improve through the year and to the team's credit, we did. We exited the fourth quarter with a 4% organic growth rate in healthcare.", "The team has done very good work in terms of developing programs and we believe they're the right programs, the team does, I do. They've done great work around utilizing digital technology to further enhance those programs. It's quite compelling stuff. What we need to do is sharpen the way we talked about benefits, which I mentioned in previous calls, which is reduction in healthcare-acquired infections and significant rate reductions.", "We also need to do a better job translating that into economic benefit. I think the team has done a lot of work there. Our program business in healthcare, the stuff that we've been emphasizing and putting, if you will, our real sales effort behind is growing double-digit. It's just not the majority of the business yet. If you continue this path over any length of time, ultimately, it becomes a dominant piece in terms of size and more of that growth starts showing up in the overall number." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Dmitry Silverstein with Buckingham Research Group. Please proceed with your question." ] }, { "name": "Dmitry Silversteyn", "speech": [ "Thanks. I wanted to follow-up a couple of questions. Number one, can you talk about what's going on given the softer economic conditions in parts of the world outside of the US with your restaurant and quick service business? How should we think about your ability to gain share in this slower growth environment in 2019 in that space?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I think where we're going to see the economy have any impact is probably Europe. The US is forecasted to grow slower, but we're not that GDP-sensitive. We still think it's going to be a very solid economy. Our ability to capture share and do things and offset lost business, etc. we think remains pretty robust in the US. Europe is going to be a tougher environment. Probably where you see weaker economies maybe show up. Globally, as I mentioned before, we think institutional will continue to have a good year in 2019, but Europe will probably be their soft spot." ] }, { "name": "Dmitry Silversteyn", "speech": [ "Then as a follow-up on your comments about Europe being the most competitive and most difficult market for you to execute the value-added strategy that you've become known for, my question is there anything on the horizon in Europe from what you guys are doing or what others are doing in terms of consolidating that space and if not, what's stopping the consolidation of an industry that can result in a better operating environment for the remaining players?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I wouldn't say we go out to consolidate an industry. Our view is if we're going to do M&A it's because it gives us the ability to enhance our offering to customers either through technology and/or gives us access to a market that maybe we didn't have access to. I guess if you want to take the long view, which I appreciate, certainly our competitive position, in every business, most notably institutional, is dramatically better today than it was 20 years ago, 15 years ago, 10 years ago, or 5 years ago.", "We have larger share. We've outgrown our competitor in terms of absolute percent on double the size I think every year or close to it. I don't have all the facts because they've been private much of the time, but I think they've had pretty good estimates because they were public for a period of time. That includes Europe.", "Our Europe business improves too. It is a tougher situation. These are relative comments. I don't feel we're impaired in Europe or that we're missing any technology or critical competitive advantage to compete. It's just relative to the other markets, our competitive situation is more challenging in Europe than it is in other places, but I don't believe it's an obstacle." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of PJ Juvekar with Citigroup. Please proceed with your question." ] }, { "name": "Scott", "speech": [ "Hi, this is Scott on for PJ. Doug, if I can go back to the institutional business, I think you had forecasted for 2018 topline growth to return to the mid-single-digit range and it did despite weaker restaurant foot traffic in the US. Would you mind talking about some of the drivers behind that growth this year? Do you think that level of growth is sustainable through 2019?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. We forecast mid-single-digits for '19. I don't know if the point is lower at 5 or a point faster. It's relatively the same, roughly the same type of growth rate this year. The reason we won't see acceleration is a little bit of the conversation around softness in Europe and as we overcome some of the losses through new business, which we've secured, but you've got to install it. I'm quite confident in our institutional business as we go forward.", "What drove it last year is sort of old-fashioned. We've sold new business. They had a lot of very successful innovation uptake throughout both their wear wash platform as well as continued progress in their laundry platforms. Those are by far the most important factors in driving this growth. They're starting to see it more broad. China is moving quite nicely for our institutional business. It's going to be the most important market long-term for food service globally. That's a very important investment area for us and an important place for us to see traction long-term." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Shlomo Rosenbaum with Stifel." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Thank you for taking my questions. Doug, are the assets you're expecting to spin out in the energy space expected to grow this year in line with corporate average, in line, or above corporate average?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "More in line -- we would say it's mid-single-digit topline growth. We would expect to see margin expansion as well in the upstream business as they recoup the significant raw material inflation they've seen as well. I wouldn't say the business was going to look dramatically different with or without it from percentage growth and percentage OI growth." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Just from an on the ground perspective, after you spin out this business, does that give you more management wherewithal to focus on other areas of the company or is there some commentary you can talk about the kind of executive focus required for that business over the last several years? Beyond changes in the end markets, does this free up some management time or bandwidth to focus on the other businesses you didn't have beforehand?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I guess I'd answer it this way -- the basis for the spin remains the model is shifting and it's increasingly becoming less like our other businesses in terms of the discipline and expertise you need to run it, which we talked about during the spin call. That's really the reason we're doing it. I would say an additional benefit is exactly what you said. Certainly, if you will, the models we're running are more alike.", "So, you get more synergy in terms of management, investment, and time. You get more synergy in terms of uptake on specific developments you probably will have in digital and/or some of the other technology as we go forward. I think a side benefit is the company becomes arguably a little easier to run, which means more bandwidth to go drive innovation improvement in what you're running." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Hamzah Mazari with Macquarie Group. Please proceed with your question." ] }, { "name": "Hamzah Mazari", "speech": [ "Thank you. If you could remind us on synergies between various businesses in the portfolio -- the reason I asked is you touched on water being a significant portion of downstream. Maybe touch on how many of your corporate customers are subscribed to your entire suite of products or however you want to answer that question, I appreciate it." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. Well, it's a hard one to answer, simply because of the breadth. We have, as I mentioned, 3 million customer units around the world. I would say the best way to answer the heart of the question is this -- there's not a customer that we sell that we couldn't double or at minimum triple the business with if they ended up buying all of our offerings. That includes our most long-standing, most highly penetrated customers. So, we have significant upside in every customer.", "Now, a lot of this is planned upside. We continue to invest in new technologies, water continues to build out, if you will, their capabilities around cooling tower and legionella detection and ultimately prevention practices. When they do that, they open up the scope of offerings or customers they can sell to.", "As a result, the opportunity continues to increase. We've always said we want to grow every year and grow our opportunity every year so we don't end up running into walls like our share is too large and there's no more growth in front of us, which is a mistake too frequently made by too many companies. We'll make a different mistake. We're not going to make that one. I don't care if it's pest -- there's huge penetration opportunities, water, huge penetration opportunities, institutional itself has significant penetration opportunities.", "They're getting water filtration in a more concentrated way in a number of other technologies. There's huge upside for them in a number of their customers. Warewash and our Kay QSR business has got significant upside potential. There's probably not one set of customers or one set of technologies that doesn't have upside from customer opportunities." ] }, { "name": "Hamzah Mazari", "speech": [ "Does the spend of energy increase your appetite to do larger deals? I know you haven't done one in a while, but any thoughts there? Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I think our appetite was plenty large to begin with. I think it's always going to be counterbalanced with discipline. I think the company and the team has proven that we can successfully do whatever large deals mean, deals in the billions. We would not be afraid to do that, but we aren't going to do it if we don't think the valuation is such that will enable us to have healthy returns for our shareholders. That's why shareholders invest in us. You can do a lot of deals and make them accretive, but they're lousy return deals and long-term, we think it's return that drives value." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Scott Schneeberger with Oppenheimer & Company. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks. Following Hamzah's question on M&A, the last big one was two years ago. Can you give us a progress report on that one and then this conversation earlier about how Europe may be the soft area, going forward on a relative basis. What's your propensity to do M&A in that region specifically? Might there be an opportunity upcoming?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "So, Anios has been very successful and through today versus its plan is on or above plan on almost all key metrics. We feel very good about how the team integrated, onboarded, the cultural overlap. There aren't many areas where we don't feel good about how healthcare has integrated that business. I think you would chalk it up on the success side. We have fairly aggressive management cases for deals. They are higher than our investment case, if you will. So, Anios is off to a good start.", "In terms of Europe, yeah, I would sort of concur that soft economic environments can create good M&A opportunities. If you recall when we bought Nalco, 2011, it was very early in M&A heating back up. For some, it was a little earlier than they thought maybe was wise, at least the first eight weeks. But as a consequence, we bought that, the print number was like 11 EBITDA and with synergies, it was high single-digits.", "It's because it was following a big economic change. We'll be aggressive in looking. Our relative performance tends to do quite well in tough economic times and we're a good cash generator. Our capabilities at doing M&A don't change demonstrably in touch economic times and our advantage probably changes more significantly up in bad economic times." ] }, { "name": "Scott Schneeberger", "speech": [ "The other question was in the other segment, very strong operating margin expansion. I imagine a lot was because the departure of equipment care, but that should all anniversary now headed into '19. What's a reasonable steady state margin to expect there? What is achievable?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "You're right, a big piece of that year on year margin growth is the fact that GCS was filled partially in the base and had obviously a very low margin relative to the other businesses. So, exiting that impacted it, right? It's out. Going forward, yeah, I think you'll see steady improvement overall in that base. There will be some lumpiness, simply because CTG can be a small business, but relatively lumpy. It can have some big quarters plus and some quarters not as large, if you will. Pest over time has been a very steady performer. It's one of the higher margin businesses that we have. It's a good margin business, very commensurate with other pest businesses, if you will." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Rosemarie Morbelli with G. Research." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Good afternoon, everyone. Doug, I was wondering if you could talk about Bioquell and how you are planning to integrate it in your healthcare business. It sounds to me it is different from what you are offering. Can you give us a better feel for what you are doing with it?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Happily. Bioquell is a different business. It's really being integrated -- let me define that word for a minute in this case -- in to our life sciences business. There will be some application of the Bioquell technology in healthcare or acute care, specifically, which isn't unusual for us. Predominately, we view the Bioquell being targeted against the life sciences, pharma, cosmetic industries, etc.", "The life science approach here and the acquisition model is fairly light-touch initially from an integration standpoint. Our mantra, we stole it from somebody else, is make sure do not harm. We've got a great business with great technology, great competency in the team that we brought on. We want to understand how we most effectively leverage, if you will, the other parts and life sciences to advantage Bioquell and vice versa. That takes time. We have a thesis going in. You need some experience to prove and learn how do you best do that.", "Long-term, the Bioquell capabilities are always going to be somewhat unique. So, we're always going to need, if you will, a unique center with people who are expert and specialists in that area. We're probably going to take more of an approach than we did with Anios, which is utilize the asset, learn and understand the team, seed them with technology that can enhance them, and learn from them how you best drive that business performance over time." ] }, { "name": "Rosemarie Morbelli", "speech": [ "I thought their technology allowed them to totally isolate a room if there is some kind of infection you don't want to spread anywhere else. How does that apply to life science and the cosmetic industry? I thought of it as acute care and hospital, not at all in life science or cosmetics." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. There are times in pharma and/or cosmetics or other manufacturing where you need to do a concentrated shutdown and comprehensive kill. So, that's not infrequent. It's an important part of the tool. It could be parts of a manufacturing facility. It doesn't necessarily have to be the whole thing. It can be specific clean room applications and others." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Lastly, when I look at your operations, you have reached 46% to 48% gross margin. I'm assuming the energy upstream has lowered it in addition to the inflation and so on, but is there a chance that you can return to that particular range and how quickly could you do that?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "You've got a couple factors. You're right. Our margins post-spend will be greater than they are pre-spend. The other factor are the rev-rec changes we undertook where we had to move on the P&L geography some of the service cost, which previously with SG&A was a 500-basis point change in overall gross profit, had no impact on OI, if you will. But it did have an impact on gross profit or gross margin.", "With that said, certainly, I would say you can expect -- it's not hard to figure out both our OI margin post-spend as a consequence also our ROIC post-spend will both be enhanced fairly significantly by the change." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Justin Hauke with Robert W. Baird. Please proceed with your question." ] }, { "name": "Justin Hauke", "speech": [ "That last one was kind of what I was going to be asking about, which is structural gross margin expectation that would be aspirational from here. The second part of that question would be does pricing need to be even greater than it is or is there something else that's diluting the gross margin down? 3% pricing is about as good as it's been, really, in a decade-plus.", "It seems like with raw material costs only up 4% in the outlook, all else equal, I would think there would be a little bit more gross margin recovery than kind of flat to up slightly that's implied here. Is there anything else that's changed that's maybe the diluting the gross margins down from where we would otherwise expect them to go to?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "There have been fundamental changes. I would say as I mentioned earlier, last year, we had 8% raw material increase and we built pricing through the year. Pricing in total for 2018 was 2%. It was 3% in the fourth quarter. We are moving in this year with a lot more momentum, obviously, than we moved into 2018. Raw materials, while they're expected to increase, it is at a slower rate.", "The most severe year on year comparison we're going to have on raw materials is in Q1, simply because they started moving really kind of Q2 on forward, if you will. So, the base becomes somewhat easier as you go throughout the year than it starts. With that said, we said we don' have really any hockey stick forecast for EPS or other things. We believe we'll be able to manage through this as we go on throughout the year. But there are no other huge structural issues.", "The last point I'll make is recall, we have now had 100% of our US supply chain, the bulk of the supply chain moved on to SAP. We did that all the way through 2018 and actually put the last 15% on last week successfully. It started a year ago like mid-February and we now have 100% of that supply chain.", "That costs money. It costs money in the investment in SAP systems, you turn it on, but probably most importantly, it creates hijinks in your supply system. If you need to move inventory around internally, plant productivity goes down near-term as you move them from one system to another. We said when we were going to undertake this that this would not make a quarterly call and it hasn't.", "The team did a great job managing this successfully, not making this a point of distinction, and it was a big, big initiative. It certainly has cost there. We will have some continuation of higher costs this year than I would call normal in our supply chain as a consequence of that, but that will bleed off as you move and exit 2019 as well and we move into 2020." ] }, { "name": "Justin Hauke", "speech": [ "Then the last one, this is purely a number question -- of the $325 million, just so we can track and calibrate better on the cost savings that are expected, what's expected in the 2019 guidance specifically?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "$80 million incremental versus last year." ] }, { "name": "Operator", "speech": [ "Thank you. Ladies and gentlemen, this concludes the question and answer session. I'll turn the floor back to Mr. Monahan for any final comments." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. That wraps up our fourth quarter conference call. This conference call and associated discussion slides will be available for replay on our website. Thanks for your time today and participation and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation." ] }, { "name": "Justin Hauke", "speech": [ "More ECL analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
ECL	2020-10-27	[ { "description": "Senior Vice President, External Relations", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker", "position": "Executive" }, { "description": "President and Chief Operating Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "Boenning & Scattergood -- Analyst", "name": "Ryan Connors", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Chris Parkinson", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "Seaport Global -- Analyst", "name": "Michael Harrison", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Jeffrey Zekauskas", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to the Ecolab Third Quarter 2020 Earnings Release Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions].", "It is now my pleasure to introduce your host, Mike Monahan. Thank you, Mr Monahan. You may now begin." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. Hello everyone and welcome to Ecolab's third quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO; Christophe Beck, our President and Chief Operating Officer; and Dan Schmechel, our Chief Financial Officer. A discussion of our results, along with earnings release and the slides referencing the quarter's results and our outlook, are available on Ecolab's website at ecolab.com/investor.", "Please take a moment to read the cautionary statements in these materials, which state that this teleconference and the associated supplemental materials, include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our September 25, 2020 Form 8-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview; third quarter results showed significant improvement from the second quarter, while still reflecting the divergent impacts from COVID-19 on the business segments. Fixed currency sales and earnings per share declines narrowed, as we leverage the recovering customer end markets, with new business wins, increased customer penetration and cost efficiency actions to show the sequentially better results. Sales and income for our Healthcare and Life Sciences segment were strong, as it continued to benefit from good underlying business trends, strong cleaning and sanitizing demand, and several large one-time sanitizer orders.", "Our Industrial segment saw a modest sales decline, as end market activity returns toward more normal levels, while income growth continued to be strong due to pricing and lower costs. Institutional division results also improved from the second quarter, as consumer activity within restaurants, hotels and entertainment facilities continue to recover, though traffic at them continues to run below last year, due to COVID related restrictions, that yielded the lower Institutional segment results.", "We expect our overall improvement to continue in the fourth quarter, though likely at a slower rate and with the second COVID impacts reopenings. We remain confident we will emerge from 2020 with stronger competitive advantages, and a more robust product offering. We continue to invest in the key drivers for our business. Our accelerated investments in hand care and sanitizer capacity are paying off, and our continued digital investments and accelerated field technology deployment are enabling us to provide excellent customer support, even where we cannot be there in person, while also enabling better value delivery and further efficiency in our cost to serve.", "We remain firmly focused on maximizing our post COVID position. While COVID-19 creates a near-term challenge, it also creates long-term opportunities. In a world challenge by COVID, our food-safety, clean water and healthy environments positioning has become even more important. We believe that our long-term growth opportunities remain robust, driven by our huge remaining market opportunity, our leading global market positions, our focus on providing our strong customer base with improved results, while lowering their water, energy, and other operating costs, and our strong financial position, with resilient free cash flow.", "We believe looking beyond the near term uncertainty and focusing on these sustainable long term business drivers, will yield superior long term performance for Ecolab and our investors.", "And now here's Doug Baker, with some comments." ] }, { "name": "Douglas M. Baker", "speech": [ "Thanks Mike and good day everybody. So our sales and earnings showed significant improvement in Q3 versus the lows we saw in Q2, which was expected. This was led principally by our Institutional division, as its markets reopened, albeit partially. Our Healthcare and Life Science businesses continue to accelerate with our third quarter sales up 29% and our Industrial businesses performed solidly as well with negative 3% sales, but 18% OI growth. Importantly, we expect the overall improvement to continue in Q4, though at a slower pace, as COVID second wave is expected to dampen reopenings. Even so, we have a number of initiatives under way, as the opportunities and challenges presented by COVID are much clearer now. We have a heavy upfront investment in hand care and sanitizer production, which is now coming online and starting to pay off. Our launch of new antimicrobial, with best-in-class 30-second COVID-19 kill claims are well timed, it's just going out now. Our continued investments in digital and our accelerated rollout of our new field technology, is paving the way for further efficiencies and our cost to serve, which we are capitalizing on now, through targeted cost savings programs.", "Finally, our new business efforts continue to drive really good results, particularly in Institutional. Our ability to dramatically outperform our competition in terms of customer care during the COVID period, is being rewarded with new business across the board, and our new Ecolab science certified program is helping drive improved penetration in existing customers.", "If you recall, our objective for this year was to maximize our position for post-COVID success, and we are well on our way to do that. As a result we feel, we will be in very good position leaving the year. As we look forward, we expect COVID to run into 2021 fairly deeply, meaning through several quarters, but we also expect our business to continue and strengthen, as our capacity, innovation, new market entries, Ecolab Science Certified and digital efforts put us in a great position to manage and grow our business. So I feel really good about the steps our team has taken, how they've managed through this period, and most importantly how they position us for success in 2021.", "Thank you." ] }, { "name": "Michael J. Monahan", "speech": [ "Thanks Doug. That concludes our formal remarks. Operator, please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. We will now be conducting a question-and-answer session. [Operator Instructions]. Thank you. And our first question is from Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Hi Doug. I know there's a lot of uncertainty right now, and a lot of moving parts between your different segments. But I think a key question for me and what's on a lot of investors' minds this morning is, based on what you know today, when do you expect to get back to 2019 EPS or better?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Well, thank you, Tim. I would say we're not giving specific forecast. But I'll say this, even with COVID second wave and I think we understand where COVID is going. We track it very carefully. Meaning, all the recent news reports about what's happening in Europe, what's happening in the U.S. is not really news to us per se, that we've considered this in thinking about our business progression, even when we talk about further improvement in Q4, and how we're considering 2021. That doesn't mean, it couldn't be worse than we anticipate, or it could be better than we anticipate. But I don't believe we are underestimating COVID.", "With that said, I think we are in good shape to be playing above 2019 EPS in 2021. The question is really, how much? We've got a number of things that give us confidence. The markets we believe are going to be better on average, in '21, than they were in '20, principally, because we don't expect a repeat of a global shutdown during the March-April period. That alone drives on average, a significant improvement in just underlying market performance.", "Inventory reduction is really behind us. Dishmachine rent relief isn't going to be repeated. A lot of the one-offs that we had talked about that we took purposely in Q2, and we know we've gained share. We've got very strong innovation, and we've added capacity on hand care, where honestly, we could sell more, if we could make more and now we're able to make more. And ultimately we know we're also taking steps to lower our costs.", "So we feel we're well positioned next year, we've got a number of levers to pull. And so I expect sitting here today, that we will be certainly above 2019 EPS in 2021." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay. That's really helpful, I appreciate your thoughts there. I'd also like to ask about your new business wins and how that trended through the quarter relative to your expectations. Are these wins coming from developing growth opportunities, or is it more just from recovering end markets? I know you've got a lot going on with new sanitizers and Science Certified for example. So, I was curious how that's all affecting the cadence of your new wins?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I will ask Christophe to go address this. But we have been, I would say very surprised at the strength. We were worried early in COVID, with the fact that we couldn't make in-person calls in the same manner that we did prior, impact our ability to get customers to yes, and that's turned out to be a false worry. We've actually performed very well through this whole period and I will give Christophe an opportunity to give you some color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug, and James, good morning or good afternoon. So yes, new business has been going very well this year. When we think, year-over-year growth of new business that we track. So on a monthly basis, it's basically growing at the same pace as it used to be as well, so pre-COVID, which is very encouraging. Doug is right as well, so installing that new business has become a bigger challenge, which means that our full book of business ultimately will help us as well down the road. But we've leveraged as well digital technology. So to do that in unbelievable ways, where we could install new customers, all remotely. So we've learned as well and those are the capabilities that we can use as well tomorrow.", "And to your question on the main drivers, I'd like to come back as well to what we discussed during the previous calls as well, where many customers are coming to us, because they are looking for our expertise from a science perspective, as well, how to deal with COVID, how to make sure that their guests or customers can be protected as well. That has been a huge driver for many new customers to come to us. It's also innovation; Doug mentioned, new sanitizing programs that we have, that are killing COVID-19 in 30 seconds or less. Those are world records out there, and that's coming out of years of innovation as well. And last but not least, in more difficult economic times, our customers like our proposition of driving the total cost of operations down, which drives more business as well toward that. So net-net, new business generation is kind of steady, even versus what we had pre-COVID." ] }, { "name": "Douglas M. Baker", "speech": [ "And I'll just say, I guess Christophe won't say, as he'll be humbled today, is from an operating standpoint, our business has done a great job performing in a tough environment. And honestly, have dramatically outperformed competition in our ability to meet our customer needs when it's required in unit, we get there. We've worked and leveraged remote digital capabilities, and this has really been led by Christophe and all of our teams out in the field, and that has made a big difference here as well." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Manav Patnaik with Barclays. Please proceed with your questions." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. Good afternoon. My first question is just around this increased focus on sanitization, that clearly you guys are benefiting from. Maybe a two parter; the first one is, you talked about, you can now do more capacity in hand care. But I was just curious if there was any updates on any other areas or maybe you still are restrained in terms of how much you can produce? And I think for the first time ever, I saw an Ecolab ad on TV, for Certified Science, I guess. Is that trying to target a little bit more branding versus Cloroxes and Lizols of the world?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I'll touch on the capacity question. Our capacity challenges really have been around hand care in particular, to a lesser extent to some surface sanitizers, all driven by demand. Meaning our hand sanitizer business is up 3X. Now, we've had to do a lot of work to be able to increase capacity 3X, and now we are expanding that beyond that, because demand is greater than that. But these aren't easy, easy ramp-ups, as you go through those right. This is GMP. You've got to make this properly. We don't take shortcuts. We're not the guys using bad ingredients. People can count on us. And so we're going to do this the right way, so customers continue to count on us going forward. But the operations team has done really a terrific job working with the team, to move these volumes up, and we have a lot of capacity now just coming online, because it takes months or as equipment, we found very creative ways to do this.", "Regarding the TV Ecolab Science Certified, let me give that to Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug and hi Manav. So good to hear you. Ecolab Science Certified is something kind of new for us. So we're learning as well, as we go. Was really meant to support our customers, to provide reassurance for their consumers, their guests for the most parts, in hotels and in restaurants. And it has been really driven by the fact that we knew that guests were fearful about the risk of infection. We all know that. We knew as well at the same time that, hospital grade disinfectants were driving them two to one times versus the retail brands that you mentioned as well before.", "So that was a plus clearly, as well so for us. And the third thing was really that, we knew we heard from guests that they wanted to see clean, not just to have people telling them, that it's safe out there. All that brought together this fear of being infected, the fact that like hospital grade disinfectants, the fact that you want to see that it's clean and safe, led us to this concept of Ecolab Science Certified, that has been extremely well welcomed by our customers. Their customers seem to be liking it a lot as well. So great reaction from customers, we are really working now in the roll out of all those thousands of sites as well around the country. And from a media perspective, it's just out there a few weeks, so hard to tell. But early indication are way above average than what we had expected." ] }, { "name": "Manav Patnaik", "speech": [ "Okay, got it. And it was nice to hear the comments on 2021 EPS, but maybe just on fourth quarter trends. I guess, in terms of the way you described it, it sounds like fourth quarter won't -- even if there is a resurgence in cases, etc, it won't be as bad as the June quarter, but maybe somewhere between that and the September quarter that you just reported, in terms of may be partial lock towns and impacts, would you say that's a fair characterization?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I think Q4 is one, you're entering Q4, at a very different run rate from a market consumption standpoint than we entered Q3. And so as a consequence, you've got room. I mean, to get to even equal right, you could add some degradation through the quarter, just fundamentally. We expected, I mean some of these lockdowns are just being announced, but we knew that COVID second wave was real coming, and there is going to have to be some reactions to this. And so as a consequence, it's in our mindset. Now, if it gets more severe than we anticipate and everything else, but we expect Q4 to be better than Q3 and the top line on income on EPS on an absolute basis, and on a relative basis, versus prior year. I mean that's so -- and I think it's with our eyes wide open, but this is a wild world and we're here to react to what we need to react to, and we are doing the smart things.", "Long term this business I think is in great shape. We're going to manage intelligently. The one thing I'm not going to do is, key investments in Q4 and do some other things, because they're -- really what is paving the way for, are very positive feelings about 2021 and beyond." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. Your Institutional organic sales were down 28% year-over-year. What's your estimate of what the market was down? Maybe, can you give us some perspective on the share gain?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. It's not as easy as just doing the straight math, simply because the market is down 50%, we're not going to be down 50%. There is just some base level of consumption in these units, if they're just open. So the numbers that we have shared in the deck and others is, over 90% of restaurants in the U.S. were open by the end of third quarter, running at a roughly 55% capacity rate. Now in addition to that, they're doing a bunch of off-premise, but obviously off-premise doesn't generate much warewashing business, as you might imagine, if you've been an off-premise customer.", "So I would say we certainly -- our volumes are healthier than the restaurant volumes in total. We do believe we are gaining share, because we track very carefully what we're gaining and what we're losing. And I would say our losses have been minimal. And I mean, we've done a great job on the other side, securing a bunch of new business through this period." ] }, { "name": "John Roberts", "speech": [ "And then water, downstream, sales were down 11%, petrochemical was up, so refining was down more than 11%. I don't know if that is surprising or not, but I thought the utilities, the steam system and the cooling tower were relatively insensitive to the refinery operating rate, or is that not the case?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I'll give that to Christophe. Our water businesses improved. You're talking to downstream and you're right. Downstream was worse in Q3 than Q2. Christophe, do you want to?" ] }, { "name": "Christophe Beck", "speech": [ "That's right. Yeah, overall picture. So Industrial is in a very solid shape, as you've seen, so up modestly and the OI is up double digit, as you've noticed, driven by a few great businesses, obviously like water being one of them, food and Beverage really good. Water improving very nicely. On downstream, you underlined sort of petrochem, which is positive. This is really true. Otherwise so, for the fuel refining business, we are kind of in line with the consumption, which was down 12% roughly in the quarter, but when the oil price is low, refiners have a tendency to go for light crude, which means that they need much less of our additives as well, which are usually used for harder to treat, as well, product. So generally we like [Phonetic] the petrochemical, which is where we focus most of our attention, especially going forward." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of David Begleiter with Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you, Doug. You guys increased your savings this quarter to $335 million from I think $270 million. Where are those additional savings coming from and with COVID impacts going well into '21, are you looking at additional temporary or interim cost levers to pull, to offset these headwinds?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I'll have Dan answer specific questions around numbers. But yeah, I would say a couple of things. You know what we wanted to do, is allow time, so that we could see more clearly, where we are going to be hit, say for several quarters at least or even a couple of years like we've talked about lodging, recovery and some other things. And we are starting to adjust our costs in businesses that are going to have more lingering effects. You might think also, we are investing in some businesses like Healthcare and Life Sciences, where we expect the lingering impacts to be positive. And so we have increased 8/2020, which was the program that we had in under way, which is really a place for us to put early moves there. They were not a big impact at all in Q3. Will start impacting Q4 somewhat, but the major impacts will be in Q1 and Q2 of next year.", "And Dan, if you want to add some detail?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah, thanks. So just, as you've indicated, right, we've announced that we've taken up the full year target from $270 million to $335 million, and of this incremental $65 million as Doug has indicated, anticipate that the big bulk of that, say may be $50 million, will fall into 2021, with a little bit recognized in 2020. Not much, frankly, given the fact that we're -- you can imagine starting -- where we're starting now near the end of October, and a little bit of cleanup in 2022.", "In terms of what drives it, I mean I would go back to sort of how we're thinking about 8/2020 or this cost savings initiative generally, which is -- some of this is reorganization. A lot of it frankly is driven by, getting back benefit from the significant investment that we've made in institutional. And as Doug has indicated, we're really -- similarly sitting here in the era of COVID, taking a look at our deployment principally and where we might see continuing benefit. And so, of the $50 million, it's pretty evenly spread frankly across the Industrial business opportunities and supply chain too, where we could true up and have an opportunity to think of improving efficiency of some of the lines. And some also in the Institutional business, not surprisingly." ] }, { "name": "David Begleiter", "speech": [ "And Doug, just looking longer term, given the impact of COVID on Institutional. Is Institutional a fast growing business post COVID than it was pre-COVID?" ] }, { "name": "Douglas M. Baker", "speech": [ "I think there's going to be -- I mean Institutional is obviously ground zero for COVID, and there is going to be some knock-on effects for a period of time. But not forever by any means. I would say -- I think if you read most lodging forecasts, people believe that business travel will be down for several years, but will start coming back. It will be replaced, in fairly short order. But I think lodging takes a couple of years to recover. I think restaurants recover a lot quicker. And the reason for that is, if you look at the history of recessions and everything else, even in restaurant to go out of business. There seems to be an endless line of people, who think opening a restaurant is a great idea. And that has been true, and you end up with a lot of -- let me just say capital-light opportunities, after the these recessions. You have strip malls with restaurants in them, that are vacant, where they are looking for somebody to move in and put a sign on the door and get back into business. And it's sort of a time-honored tradition.", "So far, I would say we've been surprised at the fact that there is not more restaurants out of business during this period. We expect that there will be more, particularly as we get into the winter. But it's still probably below the forecast that we had internally last March and April. So Institutional ultimately, we feel very confident, we'll be a -- and continue to be a great business. Now we can get to earnings, right, growth faster than we'll will probably get to sales record growth, simply because we're doing a lot in the business. Some of this is planned pre-COVID, a lot of the technology moves we're doing, the efficiency moves.", "We've accelerated the deployment. I mentioned this in my opening comments of the newest and latest field technology, which gives us a lot of new capabilities and makes our field team a lot more efficient, and gives us much more time to sell. We are adjusting our field service team, to what we expect to be service requirements going forward, and efficiency benefits. But we're actually adding sales firepower, because we know coming through this and out of this, we want to go out and secure the new business, that's going to occur. There are other forecasts. Let's say in 2021 mid-sized chains and others will be adding a significant higher number of units than they've done in recent years, as they work to capitalize on this too, and we want to be the guys they're getting this business.", "We never mind taking, if you will, SG&A risks like this. We think they are wise. We think they're going to pay off and help us recover even faster, and if we're wrong, they're not hard to address." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Gary Bisbee with Bank of America. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey guys, good afternoon. I guess if I could go back to the cost program for a second. Good to hear about the incremental and where that's coming from and the timing. But can you just give us an update on where you are versus the initial plan? As I recall, it was a significant number and growing number from '19 to '20 and into '21. Are you on pace? Did you pull some forward, given the challenges of this year? Or is there still an expectation that there is a significant step-up from the original plan next year, before this $50 million incremental that you're adding here? Thank you." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah. So this is Dan again. Let me -- I'll just walk through the sequence here. We announced a plan, right, which was originally $200 million and took it up to $325 million, so we accelerated it. Of that $325 million, $55 million was focused directly on the upstream business, and so those cost savings and all of the incurred expense associated, went with the ChampionX business. So that's how we net down to the $270 million. And frankly, we've described this $270 million as $200 million in run rate savings for Ecolab and then offsetting $70 million of what were essentially stranded costs related to the separation of the ChampionX business. So that's the background on the $270 million.", "If you focus on the $270 million, I would say that our capture of that opportunity has been almost exactly in pace with what we have said. Okay. And so now, we are saying that we're going to increase it by $65 million for all of the reasons that I went through, with the biggest part of that benefiting and falling into 2021." ] }, { "name": "Gary Bisbee", "speech": [ "Got it. So there is -- but I mean I have the $325 million breakdown which you provided a few years ago, and -- so I understand part of that went away. But it was like $80 million in '19, $105 million in '20, and $140 million in '21 was the initial target. So assuming a lot that went away is in '21 maybe. So there is a significant step up still from the original plan and then you are adding on top of that?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "I would say, yes. Okay, from the $200 million to the $270 million, that was the step-up. Really though I would think about that as an offset to the to the ChampionX stranded costs. What we disclosed is incrementally benefiting 2020, originally it was $110 million, and it will be essentially that number, with a little bit of increase related to the $65 million increase. So I view this as being, once we expanded the plan for the first time, if you net down to the $270 million, which is ex the ChampionX piece, we have been pretty much in line with the targets year-by-year, as we've communicated." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I will add this. What we said very early in this and we were asked if we're going to make cost adjustments, even back as early as February. We basically said, look, we're in the fog of war. We don't know what moves to make right now. We need this fog to clear, and really have more understanding of where the opportunities are and where the challenges are going to be. What's going to linger and what's going to go away quickly. And as a consequence, we are sitting here today with much more clarity, around what needs to happen moving forward. So we're much more confident taking steps, that we don't believe are going to cause any unintended harm and other moves. The team, I think, is in a great place. Everybody understands. And since we're adding in some businesses and subtracting in others, even where we're reducing our team, we have opportunities to create for them and other businesses, which we are making available. Sort of differently than we've done in the past.", "So these are moves we're taking. So in Institutional, we're certainly taking steps which I mentioned, around field service costs in particular, given number of units and the efficiencies that we have generated, as a consequence of the technology investments and all the digital investments that we've been talking about over time. You would expect us to do those, and now we have a better understanding of the lay of the land, and so we're taking those steps. And if anything, I would expect us to take more, and this is not internal, that's all been discussed. But as we start getting clarity around the financials, what that means and what it means for 2021." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Ryan Connors with Boenning & Scattergood. Please proceed with your question." ] }, { "name": "Ryan Connors", "speech": [ "Great, thanks for taking my question. I wanted to ask a question about, so you talked about the fog of war, Doug. One of the things that seems to be emerging from that is that the big chains are out there are, taking share, if you will, or faring better than some of the mom and pop restaurants as an example. But I guess, that's in a number of different industries. That would seem to favor a company like Ecolab, that presumably is heavy with some of those big national accounts. Can you talk about that dynamic, and whether you think that's meaningful and how it affects you, if that does in fact, continue the next couple, few years?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I mean it could only be a net positive for us. How it exactly plays out in terms of their ability to continue to garner share, vis-a-vis smaller players, we watch the same trend. I believe, they will gain share during the upcoming periods, probably even more notably during recovery. They are poised to add units aggressively, and would be in a position to do it even faster, and in some cases than say smaller and mid-sized players. So I would say we're not -- it's hard for us to say exactly what this means to us. But I would say, to make a case, let's say, a negative would be hard to make. It's net positive for sure." ] }, { "name": "Ryan Connors", "speech": [ "Got it. Okay. And then my other one was at risk of going across the valley, as it were. You talked about investments in capacity in hand care and sanitizers and the 3x demand growth and so forth. Obviously, you're not the only one making those capacity investments, and if in fact things normalize post vaccine, even if that's a year or two or whatever out there, how do you guard against -- really as a company and as an industry, adding too much capacity, and then we've got a negative pricing cycle in those product lines, once this all kind of -- as the dust settles here?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I would say there is two things. One, here's our expectation in the hand care market. We think in the near term probably -- and this includes hand soap, which is obviously a much larger market than hand sanitizer in total. That the combined market triples and then settles as a double, versus pre-COVID. I.e. there is certainly a COVID bubble here, but the post-COVID will be at a run rate much higher than the pre-COVID, simply because you condition people through this, around hand hygiene, which by the way is a smart thing to do, to prevent many other viruses than just COVID-19.", "So with that, yeah. Are people going out? Yeah, we're not the only guys adding capacity. But I would say prior to this, we were also doing a lot of co-packing. So we are now in a place where we have additional capacity, if it proves not to be as wise, we can in-source stuff if we need to. So I think we've got a number of options here, and we wanted to create more options if you would, going forward.", "In terms of price war, it's not going to work that well here. Even in hand care, dispensers fall off walls, things happen. We have been priced at a premium in almost every one of our markets, we are the -- if not the global leader, right, number two in the world in terms of hand care, and we do it at a significant premium, because service does matter even in this market. So I don't think we're -- I don't think that's going to be the play or the conversation we're going to be having in two years." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Chris Parkinson with Credit Suisse. Please proceed with your question." ] }, { "name": "Christophe Beck", "speech": [ "Thank you very much. So you hit on this a little bit, but I just want to get down a little bit further. But despite a lot of noise in the Institutional revenues right now, how should we be thinking about the current market share gain environment. It still seems, despite a lot of noise like you're outperforming a lot of your peers? And then also, just when we think about the growth in innovation investments, how do those ultimately factor into your expectations for your framework for '21 and '22? Just any additional color would be greatly appreciated. Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Well, I'll just put together what we've already said on the call in maybe a different context. One, we have confidence that the business is going to be playing above 2019 in total next year. Right from an earnings standpoint. We don't believe Institutional is going to be fully back, while we are doing that, which we've also said. Institutional will ultimately have record sales and record earnings. We have not seen the peak of Institutional by any stretch, because that market will come back. We think foodservice first, lodging a little later. The good news is, foodservice is much larger and there are underlying trends in foodservice, which are positive.", "We are gaining share, which means, I think will even beat the market getting back. So I guess the point is, I think when you look out beyond the depths of COVID, you've got a number of positive earning machines, right, within this business. Recovery of Institutional over the couple of years, fast to recover in industrial and some of the other players, technology, lowering our cost to serve on a permanent basis etc. So we feel like the steps -- the stuff we've done in the last six months, I think has long legs. That was the whole idea. We didn't want to go do a bunch of stuff in the second quarter, that would only help the third quarter. We wanted our stuff have years of benefit not weeks of benefit, and I think that's why I'm proud of the team. You can get very flustered during these periods. These results are hard to report. It's not what we normally do. But I think the steps will prove to be very wise going forward. I don't think we're very far away from getting back to the type of reports people expect out of us." ] }, { "name": "Chris Parkinson", "speech": [ "Great, that's very helpful. And just very quickly on the Industrial front, there has been a fairly material divergence between end markets. Just versus your initial expectations, let's say, coming out of the second quarter, can you just assess your performance in F&B, water and downstream, and then similar to my question on Institutional, how would you also view your own relative end market performance on a go-forward basis? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I'll give this -- Christophe got this." ] }, { "name": "Christophe Beck", "speech": [ "Hey Chris. Hi. Maybe starting with your Industrial question and then I'll cover Institutional. So as mentioned, overall Industrial is in a very solid shape. Slightly off at sales, but income up 18%, and that's the advantage we have that we have so many different end markets as well that we serve. But all driven by these needs of water purity and hygiene food safety as well, which are obviously big trends right now. So when we think in terms of the water businesses, the way we call them. So this one has improved very nicely. So from a minus 5 to a minus 2 in Q3 and we expect that to improve as well in the quarters to come. F&B, which has been a very strong franchise pre-COVID, has remained fairly strong, positive for sure, during COVID as well. Q3, being a little bit of an unusual quarter out of two reasons, one is the total shutdown of brewing in Latin America, you are not allowed to produce beer basically over there, and we have a huge business over there, extremely strong, extremely profitable as well, but that's going to come back. People are not going to stop drinking beer obviously. And dairy as well in the U.S., which is related to schools as such. But this is very temporary. New business is really strong in F&B, good momentum, great relationship with customers. There is no one even close to us, who can really bring water and hygiene, as mentioned before.", "So very strong position on Industrial. And in Institutional, a lot has been said obviously before, firmly believed that people are going to go back ultimately so, to what we call out-of-home. As such people are not going to start cooking from scratch in the long term. So these trends are going to be positive, at the same time, people are going to look for more demonstrated safety in restaurants and in hotels. This is well to our advantage. They are going to look as well for more expertise. This is Ecolab's strength as well. They will want to have global standards as well that you have in every unit anywhere around the country of the world. Well, this is what we offer to customers.", "And last but not least, as well as such. While it's mostly driven by corporate account as Ryan was asking before, two-third of our business are large customers. Well, that's where the growth is going to come from and that's where we have most of our focus. So Institutional long term, is going to be a positive story as well. So I hope it helps Chris." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of John McNulty with BMO Capital Markets. Please proceed with your question." ] }, { "name": "John McNulty", "speech": [ "Hey, good afternoon. Thanks for taking my question. So looking at the Other segment, it seems like it's mostly going to be driven by pest. The profitability surged pretty dramatically compared to kind of the revenues, where they were up, but not nearly to this degree. Was there a bit of a catch-up in there. Or I guess, can you help to explain, kind of the incremental margins from 2Q to 3Q, in that business, and help us to think about how to think about that business going forward?" ] }, { "name": "Douglas M. Baker", "speech": [ "I would say within pest -- our pest business, I would say recovered even stronger than we had thought it would, during the third quarter. It was down 2% year-on-year in the third quarter, and they made up a lot of ground. They have done a number of smart things in that business and are poised to break through the growth number, even in the fourth quarter. So of those businesses, it's probably the most significant in terms of its ability to earn money and most of the -- that's probably the biggest positive story coming out of the other segment." ] }, { "name": "John McNulty", "speech": [ "Got it. And then maybe just a housekeeping question, just because admittedly I've gotten probably a dozen emails on this since you've been talking. But so when you talk about EPS growth in 2021 versus 2019, I assume that's on the $5.12 base, the kind of pro forma of the Oilfield services split basis, is that right? Am I thinking about that right?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, that would be our new -- that would be the '19 number we would compare to." ] }, { "name": "Operator", "speech": [ "Thank you. The next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you. Just thinking about trying to bridge Institutional a bit more and I'm looking at slide 4 you provided in the supplemental data, and in particular, just trying to think about the multiplier effect of product use in COVID, and what percentage of operating rates and full service restaurants do we need to get back to, in order to kind of make it whole with 2019, because presumably, you don't have to get back to 100% or 90% or something like that, just given more products being used? And likewise for lodging. So, any thoughts there would be helpful." ] }, { "name": "Douglas M. Baker", "speech": [ "Well, we don't have a specific number to throw. it would be less than a 100%. I think the truth of the matter is, there is going to be this natural, I would say recovery ceiling, until you have a vaccine. Now what we believe is, vaccines will be approved here in short order, but they are first going to go to frontline workers, second to populations at greatest risk, and then broader populations beyond that, and you need a significant number of the population to get. It's going to take quarters, right, to get this out. And the reason I bring this up, is I really think, we will continue to see improvement in Institutional.", "Some on the top and then on the bottom line, as we go through this. I don't know that you're going to be breaking through 90% and others, until you get real breakthrough on COVID, to be honest. We've watched in other markets, there's just a fundamental fear factor that stops people from going in the environment, even when there is a low-COVID rate. Now it improves. There is clearly room from this 55% number. But I don't think it busts through 80%, until you start seeing COVID time. With that said, we don't expect Institutional to be fully back in '21, but we expect to be certainly playing north of '19 EPS in '21." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you. And just as a follow-up, just thinking about the SG&A line into next year, you are down about $165 million year-to-date and I'm just trying to reconcile, you have some discretionary cost savings that maybe some of that starts to come back later next year versus the cost program that you're running to take things out. So how should we be thinking about SG&A trending into the fourth quarter, and then how much do you think it can actually stay down next year?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I think the discretionary savings, i.e. T&E in particular and some others, I think lasts well into next year. Our view -- we're going to respond to what actually happens on COVID, not what we believe. We believe COVID is here through a good part of 2021. If that proves to be wrong and it goes away faster than that, we will benefit and vice versa. But our travel isn't going to change dramatically, until COVID restrictions change. And so, there's a sort of what I will call natural benefit lined up with sales pressure. So we think for the majority, certainly majority next year, we're going to see depressed T&E travel as a consequence. We will not bring it back up to a 100% of 2019 rates for a long period of time, because I think we've all learned, there are probably are a number of trips we took in the past that we didn't need to take, and we will be using digital technology, in many cases the prior we took trips to accomplish. So travel is not going down to zero, but it's not going back to 100% of '19 either." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, good afternoon. With regard to Healthcare and Life Sciences, that growth rate certainly is impressive. How sustainable do you think that is, and then the margin in this segment was very strong. Just curious, how much was pricing other factors for the margin expansion, and maybe some discussion of sustainability of that. Thanks." ] }, { "name": "Douglas M. Baker", "speech": [ "I'll give it to Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug. Hi Scott. So it has been another great quarter for this group. So 29% topline growth, 82%, income, and it has been driven by both, big businesses in there, so Healthcare and Life Science, both were in to double digits of top line growth and income growth as well. Driven from one part, because of COVID on the other hand as well, a lot of government business as well that we could conclude as well in Germany, in the U.K., in Australia because of the expertise that we could provide as well, to those agencies with whom we have great relationship, that's going to partly stay in the future, but it's going to ease as well over time, whenever COVID is going to ease as well. So that's back to Doug's comment of the vaccine and how many quarters we'll have to wait for that.", "Bottom line, when we think in terms of underlying growth, we've said for Healthcare, that if you exclude those big one timers, it's roughly 12% topline, but that's still driven by the COVID wave as well. So when that eases as well, we believe that we will be so in Healthcare, to kind of 6% to 8% underlying growth, which is really where we always wanted to be. So ultimately that's a business that has truly benefited, from what's happening here. And on Life Science, it's a business that's totally on fire. It's really an industry that loves what we do. For them new business is extremely strong. Innovation is very strong as well, I think Bioquell as well, so it has grown 100% during the quarter as well in Q3. Well, those are offerings that are going to stay as well going forward. So, it's not going to stay at the same high level as what you've seen in Q3, but it's going to be double digit underlying, going forward for sure." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, appreciate that, Christophe. And then, a follow-up for either you or Doug, just curious, now that you've built out capacity significantly for hand sanitizing, just curious, kind of on the back end of the supply chain, what were the considerations you made, so that if we get into a situation where the world is largely shut down, hopefully that doesn't happen again. But, has this been done largely domestically, near shored, just curious the thought process and the strategies you've taken in developing that supply chain? Thanks." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Our historic supply chain strategy is to make in the currencies we sell in. I.e., if you go to China, we have multiple manufacturing facilities. They're really designed to meet China demand, and like 93% of our China volume is produced in China. So that's been the historic strategy and it's a strategy that governs us going forward. It was really designed, because we didn't want currency to become a strategic problem, i.e. producing in U.S., dollar gets strong, and our competitiveness is weakened everywhere else. That was the initial reason for it. It obviously has also proven to be a good strategy in a tariff world, and a more restricted supply world. So that strategy has been, let's say, cemented, at this point in time, is a good idea.", "So, where we're building? We're building a lot of the capacity in the U.S. and in Europe, which are two of the largest markets where you'd expect. But we also made capacity moves in China too." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Laurence Alexander", "speech": [ "Hi. Two quick questions. The cost reductions moves that you're now making, how will that affect operating leverage once conditions recover? And secondly, a longer term question, I guess -- I remember most of our discussions on the Healthcare side being around antimicrobials. Can you speak a little bit about your [Technical Issues]?" ] }, { "name": "Douglas M. Baker", "speech": [ "Sorry. Laurence, the last couple of words got garbled. What was the last question about Healthcare antimicrobial?" ] }, { "name": "Laurence Alexander", "speech": [ "Sorry. Can you speak about your capabilities in antifungals as opposed to antimicrobials?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. Well, in Healthcare, I mean, if you want to go -- I mean, spores are the biggest challenge, right, C. diff and the others, and we have significant advantages in that category in Healthcare as well. And so, that has been an area that I would say, we have some standout capabilities too. The Healthcare capabilities are important, not just because of the healthcare market opportunity, but also because of, if you will, what we learn in Healthcare, and how we can apply it in other businesses. So Christophe talked about the positioning that we're using in Ecolab Science Certified, which is Healthcare grade -- hospital grade disinfectants, that resonates with consumers. Well, by the way, they're right, because the breadth of the kill claims and the kill time are much more advanced in those types of products, than they are in consumer products. You can have a consumer product that literally takes four minutes to kill what we're killing in 30 seconds. And the problem is, not many people wait four minutes for anything anymore. So this is an important part of what we're doing.", "The leverage question, I mean, we don't have a specific answer. I mean, as we get out and articulate the complete program, it'll be pretty obvious what the leverage impact will be. But certainly, it's going to improve leverage, which I know you already know." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Mike Harrison with Seaport Global. Please proceed with your question." ] }, { "name": "Michael Harrison", "speech": [ "Hi, good afternoon. Doug, you mentioned this reduction in on-premise dining, a lot of your restaurant customers are shifting toward more takeout and delivery. Some are coming up with these novel ideas like ghost kitchens or creating meal kits to help make ends meet or survive in this challenging time. What kind of changes are you making in your approach, to help your customers navigate this trend toward less on-premise dining? And, how do we think about kind of the future of your business? What we used to think of is warewashing being kind of the anchor or the cornerstone of your institutional business. Is that going to be shifting toward hard surface cleaners, going forward?" ] }, { "name": "Douglas M. Baker", "speech": [ "I'd say two things. I mean, there are certainly new business categories in institutional, that we are pushing and exploring, that frankly we think will have staying power, no matter which way the industry goes. With that said, I would say, we think post-COVID, the industry reverts back to principally on-premise, for two reasons. It's what diners want mostly; and two, the profit of takeout, given packaging and other, is not great. If you're in a pizza business, it's hard not to make money on pizza, because the ingredient costs are so low, and all you got is a cardboard box. But when you're getting into, let me just say, some of these fancier meals and the packaging costs and the rest, I have a number of friends who are actually in the restaurant business, it is not a perfect solution for them. They're trying to keep the doors open, cash flow moving and everything else. But their preference greatly would be, to be serving these meals on-premise versus off.", "We have supported ghost kitchens. They've been long-standing in a number of ways. Think about food trucks and the rest. They are going to have a place going forward, and it's probably the way to run just a delivery business. But there will be modifications in this industry as a consequence of COVID, but I don't think it's a revolution." ] }, { "name": "Michael Harrison", "speech": [ "All right. And then, in terms of the food retail side, you mentioned expanding cleaning protocols and frequency. Can you give us a sense of how much that's increasing sales right now? Like, is the typical grocery store customer for example, using 10% or 20% more of your product, or is it double how much they would typically be using?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I think, it's settling down, we are at double digit up in consumption. I will also say, you've seen slowly, a number of retailers curtail some of the cleaning that they were doing early. It's still up versus where they were pre-COVID. But where you had maybe four people wiping down every car, you may have one or you have car wipes and some other things, all of which go to consumption. We expected this. So, I think what you'll see -- you'll see certain categories have benefit going forward. But right now in the Institutional business, I mean, the number one volume standout, is the negative impact on warewashing, which by the way, is where we have a lot of our innovation and money, it will come back. But until it does, right, you got a mix challenge and Institutional doesn't get fixed, until dishes start getting washed." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is coming from the line of P.J. Juvekar with Citi. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "Hey, Doug. Good morning. It's Eric Petrie on for P.J. Can you talk a little bit more about your growth opportunity in these new fast kill cleaners? And how long does it take to reach peak sales in your view? And then, as these viruses mutate, can you talk about how effective the cleaner is over the long-term, and whether or not you will reformulate?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. I'll turn it to Christophe on this. They have quite a bit of staying power, as you go through. And there's different ways you kill organisms. And I would say, for instance, hand sanitizers, alcohol, basically destroys a cell. So it's hard to develop immunity to a sphere, if you think about it that way. Some do poison, and you can have immunity built over time to poisons, but not to everyone and it's not a fast issue, i.e., we're using clots that still have effectiveness, that have been around for decades, right, in a number of instances. So it's not a short life in terms of our business careers, it's a short life in terms of human history. So I don't know if you want to add in terms of, Christophe, how long it takes to get to peak sales, etc?" ] }, { "name": "Christophe Beck", "speech": [ "The only thing I would offer is that, we're really watching every pathogens out there. So the ones that we know well, and how do they react against our products as well, or how our products are effective against those. The new ones as well, COVID being one of those that we didn't know, obviously in the past, and we learn from each other. The latest disinfectant that we talked about today, with this extremely fast kill time, was developed for the norovirus, for instance. So, we really look at all pathogens out there, try to understand the type of effectiveness, how is it still working, is there any reaction to it as well? And generally, so we develop our innovation in order to stay ahead of that. So, I believe that we are in a very unique place, especially compared to any competitor out there." ] }, { "name": "Eric Petrie", "speech": [ "That's helpful. And then, just maybe talk, Christophe, on peak sales related to that question. And then, for my follow-up to Doug, as end markets recover, some managements have been talking about building out their M&A pipeline or returning to share repurchases. So Ecolab's net leverage has improved to the low twos. Can you discuss both uses of cash? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Okay. So, I'll take the first question and I'll give the M&A part to Dan, just in a second. To your point, on the peak annual sales, we usually take five years, which is the best average that we have out there. Some products are sometimes shorter term, but most of them are longer than five years. So that's why it's the metric that we use. On M&A, Dan?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah. So, I'll interpret it more as a cash priorities question. You also asked the question on share repurchase. So let me just say this. We ended the quarter with a little north of $1 billion on the balance sheet in cash, which is by any historical standard, a very, very big number for us. So yes, that's the premise for the question. Right? I will follow the thread of a lot of the Q&A today, to just say that the world remains a very uncertain place, and I'm comfortable with the amount of cash that we have on the balance sheet. Partly, this is a cash is king environment and there's a lot of who knows what's to be seen. We are getting increasing confidence, as you've heard, from the tone of the call today too, about the shape of the world with many uncertainties yet to be known. I presume that as we go forward, it will present both, challenges, right, maybe some unforeseen, but also opportunities. And so, I guess the shortest answer I can provide, is that as our confidence continues to build, you'll see us return to more traditional cash levels and cash priorities, including share repurchase and M&A activities. Okay?" ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Jeff Zekauskas with J.P. Morgan. Please proceed with your question." ] }, { "name": "Jeffrey Zekauskas", "speech": [ "Thanks very much. Revenues declined $250 million in the Institutional business, and Institutional operating profits were down $200 million. Why is the decremental margin 80%? If a decremental margin were 50%, you would have earned double? What is it about the business, where the incremental returns are so high?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "You're talking about year-on-year on third quarter to third quarter?" ] }, { "name": "Jeffrey Zekauskas", "speech": [ "Yes. Exactly right." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Well, I would say a couple of things. They won't be 80% over any long period of time, as you go through this. But you get into quarters. Now you're getting to what happened last period, you get into bonuses, bonuses where you know are taken down and up in different quarters in different years for different reasons, and these kind of have impact, as you go forward. There are other investments or bad debt and some other things, as you go through this period. But our decremental margins either going down or going up over a period of time, aren't going to be in the 80% range.", "The gross profit of that business is right in the mid-60s, right, on the good day. So a lot of that's going to happen. We are starting to take decisions on fixed costs and other things. And so, what we will see, is a recovery of those margins as we go forward." ] }, { "name": "Jeffrey Zekauskas", "speech": [ "Were raw materials down about 5% year-over-year in the quarter?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Raw materials in total were not a material impact. If anything, they were negative in Institutional. A lot of that is stuff you're seeing around heightened demand in hand care and some other areas, where you really just have shortage of supply, and Industrial, year-on-year, minorly favorable." ] }, { "name": "Operator", "speech": [ "Thank you. At this time, we've reached the end of our question-and-answer session, and I'll turn the floor back to Mr. Monahan for closing remarks." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our third quarter conference call. This conference call and associated discussion and slides will be available for replay on our website. Thank you for your time and participation and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]." ] } ]
ECL	2021-07-27	[ { "description": "Senior Vice President, External Relations", "name": "Michael Monahan", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Boenning and Scattergood -- Analyst", "name": "Ryan Connors", "position": "Analyst" }, { "description": "Bank of America Securities -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Kevin McVeigh", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Gabelli & Company -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Shlomo Rosenbaum", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the Ecolab Second Quarter 2021 Earnings Release Conference Call. [Operator Instructions] As a reminder, this conference is being recorded.", "It is now my pleasure to introduce to you your host, Mr. Mike Monahan, Senior Vice President, External Relations. Thank you, sir. You may begin." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's second quarter conference call. With me today are Christophe Beck, Ecolab's CEO; and Dan Schmechel, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's results, are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials, which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview. Strong second quarter results reflected significant year-on-year sales and earnings growth, driven by recovering markets, accelerating pricing and new business wins, which more than offset increased delivered product costs and the slower pace of reopenings outside the U.S. We've implemented aggressive pricing actions to offset increase over product costs, leveraging the strong product and service value we deliver to customers. When combined with our strong new business wins, we expect to once again successfully manage the current inflation challenges and uneven global economic recovery to deliver very strong sales and earnings growth in 2021.", "Our position as a leader in food safety, clean water and healthy environments has become even more important in the last 18 months. We believe this position, along with our strong long-term growth opportunities, remain robust driven by our huge remaining market opportunity, our leading global market positions, our focus on providing our strong customer base with improved results while lowering their water, energy and other operating costs and, through that, our ability to help them meet their growing ESG ambitions. We believe that these sustainable long-term business drivers will continue to yield superior long-term performance for Ecolab and our investors.", "And now here's Christophe Beck with his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Mike, and thanks to all of you for joining us today. As expected, Q2 was indeed a very strong quarter for our company. Acquisition adjusted sales rose 12%, driven by the U.S. and China, with the reopening of Europe and the rest of the world expected to follow progressively. Adjusted earnings per share ended up a strong 88% over last year. U.S. Institutional sales more than doubled in the second quarter versus the same quarter in 2020, clearly outperforming the industry.", "The number of restaurants we serve as well as the number of solutions they buy from us ended up almost back to 2019 levels and are growing fast. Both are strong signs of how much business we've gained during the pandemic and the growth potential we have as markets reopen.", "Industrial accelerated to 3% in Q2, driven by strong business -- strong new business generated during the pandemic and accelerated pricing. Water sales were up 7% with light industries up 12% driven by strong momentum in new segments like data centers, which, by the way, grew 53% in the quarter. Paper was up 10%, driven by strong demand for our innovative solutions in board and packaging, while food and beverage kept improving.", "Downstream remained a bit challenged in the quarter as it repositions itself from a focus on operational efficiency to a new promising sustainability offerings. Healthcare and Life Sciences also had very strong and consistent underlying sales growth in Q2 with mid-single and double-digit growth, respectively.", "Reported sales were only down as they respectively compared to exceptional growth of 13% and 53% in 2020, largely driven by unusual high made and one timers during the pandemic. And finally, the Other segment grew 23%, driven by continued strength of pest elimination, which was up 21% in the quarter, benefiting from further market reopening and very strong business.", "On the margin front, things progressed very well too, with overall margins improving 420 basis points. Beyond the U.S. institution recovery, our continued progress benefited from accelerated investment made in digital technology during the pandemic as well as overall pricing that accelerated to 2% in the second quarter.", "With this backdrop and for the full year, we remain confident of our ability to deliver adjusted earnings that are better than 2019, excluding the Texas freeze. How much better is the only question, considering the delta variant, the timing of reopening in Europe and in the rest of the world as well as the speed and amplitude of the rise of inflation.", "More broadly, our longer-term outlook has never been stronger. Our new business and innovation pipelines are at record levels. Our new growth engines like Life Sciences, Healthcare, high tech and data centers are all very well positioned to drive incremental growth. And our digital capabilities continue to increase customer value, field productivity and customer experience.", "Our main focus right now will be to leverage this positive pricing environment to protect and strengthen our margins, and do so while further enhancing value for our customers. This is something we've accomplished many times in the past and expect to successfully accomplish once again. Therefore, we've now embarked on a third round of price increases, which will progressively cover the new rapid rise of input costs that we've seen in Q2 with the biggest impact to be seen in Q4, when we expect pricing to reach 4%.", "Overall, we feel good about our ability to deliver the second half of '21, even if the pacing between the next two quarters will be slightly different than initially anticipated. We now expect attractive sequential improvement in the third quarter and a more significant one in the fourth as pricing actions will hit the P&L.", "And finally, global trends in people health, like infection prevention and food safety; as well as planet health, like water and carbon emissions are becoming front and center for every business leader. And there's no one positioned to help customers on both fronts better than Ecolab, while helping them ensure strong and long-term business sales. In other words, we're strengthening our global position as the natural sustainability partner for our customers.", "All this, combined with the strengthened highly innovative portfolio, strong business momentum, terrific new wins, accelerated pricing and unique digital capabilities should position us with great momentum for '22 and will contribute to drive continued strong digital -- double-digit earnings growth for the years to come.", "With that, I look forward to your questions." ] }, { "name": "Michael Monahan", "speech": [ "Thanks, Christophe. That concludes our formal remarks. As a final note, before we begin Q&A, we plan to hold our 2021 Investor Day on Tuesday, September 14 in St. Paul. Operator, please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Your first question comes from the line of Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Good afternoon, Christophe. Thank you for taking my questions." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim. Good afternoon." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay. So I want to focus on raw materials and price, which probably doesn't surprise you. But in the face of raw material cost pressure, I think your typical formula is to increase price to make up for the dollar amount in year one and then the margin in year two. But in your press release, you said the recent pricing actions you took remain ahead of input costs. So I was hoping you could clarify this language a little bit. If your price minus cost dynamic is currently positive, it sounds like you've already moved past Phase 1, and you're essentially already on Phase 2, which is working to rebuild the margin. Am I reading into that statement incorrectly? Or is that how you would characterize it?" ] }, { "name": "Christophe Beck", "speech": [ "The general direction, Tim, is right. Actually, when I look at the first half of 2021, so I like a lot, where pricing was compared to the input cost. We're usually good at that as well so to begin with. Now what has changed is that the indices, as we've all seen, you've seen that as well, so during the second quarter, so have changed for the much higher for the second half. And that has indicated we had to change our pricing plans quite significantly. It's been the third time we've done it over the last 12 months. We've engaged those new plants as well with the whole team. We have indicated that as well to customers and progress is good.", "So we were ahead. Market has changed a little bit, which forced us to change our plans as well. And I feel good right now that we will be in a good place for the second half, both in terms of dollar and progressively improving the margin.", "And now to that point, it's going to impact mostly Q4, obviously, because it takes some time obviously to agree with customers to get to that new pricing. So we will see a better improvement in Q4 than what we have expected and a lower improvement in Q3 than what we had expected. But overall, so for the second half, basically at the same place as what we had planned initially." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay. Very clear. Thank you. And the announcement that you guys gave publicly in a press release, I think that was specifically related to the Industrial segments. But presumably, you're also seeing cost pressures in Institutional and Healthcare as well. Are you implementing price increases across those divisions as well? Or is this really a conversation about Industrial primarily?" ] }, { "name": "Christophe Beck", "speech": [ "We're implementing price increases in every business, every year, Tim. This is really a practice that we have coached our teams and our customers for the many past years, as well really making sure it's not an event, but it's really something that's happening every single year, really driven by the value we create for our customers and not directly driven by the input cost, which is one of the elements, obviously, of the discussion.", "So you're right, Industrial takes the heaviest or biggest part. Because of their cost structure, this is nothing new, and they're really good at it. So the majority of the price increase is in Industrial, but the other businesses are moving up as well at the same time." ] }, { "name": "Tim Mulrooney", "speech": [ "Understood. Thanks, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Yes. Thank you. I just had a broad question, which is, what do you need to see happen in terms of visibility before you can start giving your detailed guidance like you used to? I was just hoping you could help us through some of the moving pieces maybe beyond just the Delta variants, I suppose." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Hi, Manav. Good question. So it's all related to the variant Delta or D as it's called out there. As you know, if you look at the past 20 years, we've always delivered within our guidance with the exception of 9/11, unfortunately, so 20 years ago. So for us, the level of assurance and certainty is very high. And we focus on everything we can control, including questions of price and inflation, as we just discussed. The Delta variant is something that is really unusual, hard to predict as well. So that's the only question mark that we have out there. The clearer things are going to become with vaccination rates with how governments and countries are reacting as well out there, well, will bring us closer to us providing as well guidance.", "We will get back to that. We like it. It's something that has been good for us and for investors as well at the same time. So we'll get back when time is right. But so far, I'd say, if things do not change materially, our directional guidance remains true, and we will firm it up as soon as variant D becomes more clear." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. And just maybe on the margin front, I mean if pricing is ahead of cost and you've obviously learned a lot, I think, in terms of efficiency from the past 15 months or so. So just curious if the incrementals and the incremental margins in the business, should we think of that as getting better or more of the same? Or any color there would be helpful." ] }, { "name": "Christophe Beck", "speech": [ "Overall, for the second half, it's going to be the same. But obviously, so the input cost has changed quite dramatically and the pricing has changed as well, so quite a bit. We had initially thought for the full year that our input cost would increase kind of mid-single digit. That was the initial plan. The way we look at it for the full year now, so it's closer to double digit numbers, so quite a change. And we've changed pricing as well for that. We're good at it as well. But let's keep in mind as well that in order to get the margins back to where they used to be, we need to double the pricing versus the input costs, since we have a gross margin of 50%. So easy math as such. So overall, good situation in terms of pricing versus input cost.", "Second half is going to deliver similar improvement than what we had expected. But as mentioned earlier, the pacing between Q3 and Q4 will be different just because we need some time in order to get agreement with customers." ] }, { "name": "Manav Patnaik", "speech": [ "All right. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Manav." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of David Begleiter with Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Christophe, just again on price versus costs. In Q3, do you expect pricing to again exceed input costs in this quarter?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. The price will be ahead of the input cost. And as mentioned before, so our objective is not just to get there, but it's to get back to the margins in percent that we used to have, and that takes a little bit more time. But so far, things are going really well." ] }, { "name": "David Begleiter", "speech": [ "You mentioned, again, Q3 being below your initial expectations with that catch-up in Q4. How much lower is Q3 going to be below versus your prior expectations on a sequential earnings basis?" ] }, { "name": "Christophe Beck", "speech": [ "This is hard to tell, because it depends on agreements with customers, and it's a question of week/one-or-two months. We do that very thoughtfully with our customers. So we're not a commodity-driven company. As you know, we are all driven by the value we create for our customers with whom we've had relationships for decades. So we are very careful in how we do that, really in order to make sure that a year from now, well they still believe that we did it the right way, that it was good for them, well, it was good for us as well. So it's all timing-dependent for Q3. That's why I'm directionally saying it's going to be a little bit pressured in Q3, and it's going to be better in Q4." ] }, { "name": "David Begleiter", "speech": [ "Very good. Thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, David." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Ryan Connors with Boenning and Scattergood." ] }, { "name": "Ryan Connors", "speech": [ "Hey. Thanks for taking my question. My first was just on -- you noted that the Institutional results were actually not only up nicely year-over-year but actually outpaced the end market, at least as you saw there. Can you kind of give us some color around what metrics or quantitative metrics you have around making that assertion? And then talk about how sustainable that is going forward? Is that just a snapback in some specific markets you're in? Or do you think you can continue to outperform as Institutional recovers?" ] }, { "name": "Christophe Beck", "speech": [ "I like where we are in the U.S., especially since its where the recovery has happened first -- or second after China, obviously, but the size is completely different. Maye just to give you a few numbers as well in here. You look at the -- that the restaurants sales were 9% down, so for us are 91% back to where they used to be, which is a better way to look at it. 15% of the end units have closed as well out there in the market. And the dine-in traffic, which means so in the dining room, so it was down 37% as well in the second quarter. So with us being 91% of where we were before, so it's much better than where the market is.", "And the second perspective is also we measure how many restaurants or hotels for that matter -- so we serve and how many solutions they buy as well. And we are back to the levels that we were in 2019, knowing that the traffic is not as high as it used to be. So when traffic is coming back up as well, our growth is going to pick up further as well. So I see that as a sustained development." ] }, { "name": "Ryan Connors", "speech": [ "Okay. And then on the flip side, there was a lot to like in the report, but Healthcare was a drag, which I mean, I guess we know that last year was the apex of the pandemic, but I'm a little bit surprised to see that. Can you give us some dynamics around that? Is that sort of more virtual medicine that's driving that? And what's the outlook for that Healthcare as we move into the recovery?" ] }, { "name": "Christophe Beck", "speech": [ "No, it's just a comparison versus exceptional results last year driven by the pandemic. So we're comparing some 12% or 13% growth in Healthcare in Q2 of 2020 and 53% growth in Life Science as well, so in Q2 driven as well so -- by pharma demand and as well infection prevention solutions as well in the pharma sector.", "What's important for me is really to look at the underlying growth. So when we strip out -- so the unusual demand of 2020 and one-timers, you see Healthcare, so in mid-single digit, which is better than where we used to be. So this 2%, 3% in the past has moved so closer to the 5%-ish. And Life Science as well underlying is in the double-digit territory, which is very good. So kind of sustained growth as well going forward. So when you strip out the noise, basically, you get to this mid-single and double-digit growth for Healthcare and Life Science, respectively." ] }, { "name": "Ryan Connors", "speech": [ "Got it. Thanks for your time." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Gary Bisbee with Bank of America Securities. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey, guys. Good afternoon. First question on margins. I wanted to ask a little differently. Obviously, Institutional still down from pre-pandemic levels, quite a bit along with the revenue and the volumes. But the other three segments all had second quarter margins ahead of the second quarter of '19. And I know you've had ongoing cost reduction efforts, and there's a lot of moving parts, obviously, with the input costs in the short term and everything else. But outside of Institutional, which presumably will continue to see the margin recover with revenue. For the other three businesses, is the margin this quarter a reasonable number to use to think about moving forward other than maybe a little bit of raw material hit in Q3 and maybe you get that back in Q4? Or are some of these that are still way above the 2019 margin, is there risk of some further give-back to get to a more normal go-forward margin base for each of the segments? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "All three segments are a bit in different places but the headline is that the margin trends are a good indication overall of where we are and where we're heading. But if I just unpack them, just for you, you saw Industrial first. Yes, it's growing. But as mentioned before, so it's impacted the most by the input cost, as is always the case. So nothing unusual in here. They have also the biggest share in pricing, and they're really good at it as well at the same time. So there are different elements of cost and price are different, but ultimately so, Industrial is going to keep its development in gross margin, and we expect the overall year to stay fairly close to where it used to be as well so last year.", "Healthcare and Life Science, it's -- as mentioned before, so we're comparing to very unusual growth numbers in Q2 as well last year. And if you strip that out, ultimately, so our margins have improved very nicely in 2020. And we expect as well in Healthcare, Life Science to get quite close to where we were in terms of record margins in '21. And as you mentioned, so Institutional is on its path to recover as such. So it's maybe so the business where the margin we had in Q2, the improvement in Q2, so it was a bit overstated as such because we compare in 2020 as well with two special events. The first one was the bad debt that we recorded for obvious reasons in Q2 during the beginning of the pandemic. And second, we've foregone as well so the lease payments for dishmachines. So you compare something that was lower.", "As such so, it's going to change a little bit in Q3 and Q4. But overall, for the company, good situation in margin and assuming that our assumption obviously is for roles and pricing happen as planned, which I do ultimately, so margins should keep evolving as expected." ] }, { "name": "Gary Bisbee", "speech": [ "Great. Thanks. And then a quick follow-up. You mentioned in the prepared remarks that you put out there, refocus in mining away from coal and alumina. I think you've alluded to that in the past, but also I saw in Downstream, some low-margin refinery exits. Are these material? Or is this more just sort of coming out of the pandemic trying to refocus the portfolio on the best opportunities? Any color on the -- if there's any other strategic sort of --" ] }, { "name": "Christophe Beck", "speech": [ "Yes, Gary, it's mostly the latter. So it's really refocusing the portfolio toward the better opportunities. The mining point, moving away from coal and refocusing toward fertilizers, for instance, which are related to ag and to food, is something that we started obviously way before the pandemic, and it's working really well. So, our exposure to coal so has become minimal over the past years and our exposure to the growth segment has become much better as well. So, risks are lower and growth potential are higher, which is good.", "On the Downstream side, it's a bit different. Downstream, it's a bit of a tale of two stories in here. So you have petrochem, kind of plastics, which is an end market that's doing well. We've been growing for a long time. We are still growing right now, and we were growing during the pandemic. So this is an end market that we like and an end market that we want to further focus on and we're bringing new solutions as well to recycle better plastic, for instance, which is very traditional with our sustainable solutions approach for this business.", "And then the last point is refining, which is an industry that is in a complete transformation. As we all know, they have to reduce their footprint in terms of carbon footprint as well in here. And that's going to take a few years. So for us to get it right in the way that we have refineries produce with a lower carbon footprint and very good pilot project in there and help those companies as well refocus on renewable as well.", "So I like where we're going here, but that's going to take quite some time in order to get to a place where it sustained high-level growth as well in refining. So that's the way I would express it" ] }, { "name": "Gary Bisbee", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of John McNulty with BMO Capital Markets. Please proceed with your question." ] }, { "name": "John McNulty", "speech": [ "Yes. Thanks for taking my question. So I guess maybe two quick ones. Just with regard to Europe and how you see the reopening or gradual reopening impacting the businesses, can you give us a little bit of color or thoughts on how to think about things sequentially from 2Q to 3Q and the pace of that reopening for both the Institutional and the Industrial segment?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. So -- hi, John -- the Europe reopening happens early Q3, let's put it that way, as you've read as well in the newspaper, I had a chance as well to spend a few weeks as well in Europe, so toward the end of June. And Europe was clearly closed until June, then suddenly reopened everything. So we've really seen a pickup in our Institutional business, so first and foremost, because kind of went from zero to kind of open. Obviously, that's quite a dramatic change, and we've seen that in our numbers, so very encouraging trends in Institutional Europe. And we see Industrial, which was in a very different place, they were not closed, obviously, like restaurants and hotels, improving as well. So overall, Europe doing OK so far.", "And international, overall as well, it's an interesting perspective as well to keep in mind, where last year, international was kind of flat, which means outside North America. So it was kind of flat for the whole company. And we see it coming back to growth, not only in Q2, but it's going to get even better in Q3. So good news on that front, too." ] }, { "name": "John McNulty", "speech": [ "Got it. That's helpful color. And then I guess from a raw material perspective, can you speak to whether or not you had any issues in terms of sourcing raw materials, and if that had any impact on the businesses? Or has it really just been a function of inflation and just getting that through in terms of pricing?" ] }, { "name": "Christophe Beck", "speech": [ "It's a great question. The market is tight out there. The Texas freeze made it harder, obviously, so in February for everyone out there. We're lucky enough to have a great procurement team, a great supply chain team as well that could find alternative sourcing, that could reformulate product. So overall, it's been heavy lifting within the organization. But we've been able to supply our customers in a fairly continued manner during the second quarter, and we see that improving as well in the quarters to come. So bottom line, a lot of work, but the great teams are helping customers being supplied as they should." ] }, { "name": "John McNulty", "speech": [ "Great. Thanks very much for the color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. Labor is an issue for your Institutional customers right now. Is your Lobster software or any of your other digital offerings enabling you to help your customers with their labor issues?" ] }, { "name": "Christophe Beck", "speech": [ "It does. Actually, we're expecting to have close to 1 million users with Lobster Inc. by the end of the year, which is driven by exactly what you're saying. Those labor shortages in hotels and restaurants are creating some new challenges for that industry. They need to train a lot of people coming into restaurants and hotels, and that kind of solutions are definitely helpful. So that's the good side of the story." ] }, { "name": "John Roberts", "speech": [ "And then could you talk about some of your other new product offerings? So many of the new products like fast-acting, hard surface cleaners had a surge last year. But are you still penetrating new customers? Maybe talk about it in terms of market penetration or customers that you're adding." ] }, { "name": "Christophe Beck", "speech": [ "We are. Actually, when you think about it, the fact that we have as many restaurants buying as many solutions as pre-pandemic today in a market which has seen units are declining by 15% during that time is a direct outcome of, first and foremost, Ecolab Science Certified, which is the circle the customer program since the customers had to buy all the solutions in order to be certified as such. So that's been a great story. That's progressing very well. You've maybe seen that McDonald's as well, for instance, has endorsed as well the program, as well as the corporate company. So great story here, which has driven penetration of units in solutions are really good.", "And you're right. So when we think about sanitizing products, we've refocused quite a bit over the last 18 months, partly driven by the pandemic as well. All the surface sanitizers that we brought on the market are doing really well, by the way, and we still see a double-digit growth versus what we had pre-pandemic, which is a good sign, and we will keep innovating as well in that field, like with disinfecting wipes, for instance, as well. So we've acquired two companies, one in the U.S., one in the U.K. in order to supply as well that market. So, so far so good on the innovation front and especially on the disinfecting side." ] }, { "name": "John Roberts", "speech": [ "Okay. Thank you. Nice quarter." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Kevin McVeigh with Credit Suisse. Please proceed with your question." ] }, { "name": "Kevin McVeigh", "speech": [ "Great. Thanks so much. Hey, I wonder -- just a point of clarification. The 4% price increasing, is that across all of Ecolab or just the Industrial business? And if it's across all, is it 75% Industrial? Or just any way to frame out that 4% increase overall that you talked to?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Hi, Kevin. So 4% is for the whole company, and you will have more in Industrial because that's where we bear the brunt of the cost increases as well. So you're going to have higher than 4% in Industrial. And in the other businesses, you're going to have lower than 4% ultimately." ] }, { "name": "Kevin McVeigh", "speech": [ "Got it. And then just within kind of the Downstream business overall, as you're clearly repositioning that, any thoughts as to what percentage of the revenues refining today? And then where that ultimately bottoms, and ultimately, you're going into kind of higher growth areas as well? Just at 100%, is there ways to think about those end markets just within the Downstream business itself?" ] }, { "name": "Christophe Beck", "speech": [ "It's hard to tell, but I would say that we've reached the bottom in the refining part of Downstream right now, so petrochem has been doing well all along. So that's a different story, obviously, as such. So I think it's going to improve progressively as of now in Downstream refining. But it's going to take us a year or two to get to the right place where we can say we truly like the trajectory of that business. It's an industry that is in total transformation as well. The good news is that we are uniquely positioned to work with those companies to help them get the better place. I've had great discussions with some of the CEOs of those companies lately as well. They need us more than ever. That's especially true with European companies, but also in the U.S. So longer term, I think it's going to be a very good opportunity for us." ] }, { "name": "Kevin McVeigh", "speech": [ "Thank you so much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Kevin." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you and good afternoon. You mentioned in the prepared comments in Specialty in the food retail business that you were seeing sales reversion as expected, some of it, I think, coming just from less consumer demand, but also there were labor issues from a customer perspective. And one of those things seems temporal and the other one seems sort of a little bit more structural. So could you help us understand how to think about those trends on a go-forward basis?" ] }, { "name": "Christophe Beck", "speech": [ "Yes. Hi, Vincent. So it's really because we're comparing to a strong Q2 in Specialty last year. It's a business that's doing well actually. So it's a comparison question, underlying. So I like a lot -- so where quick serve and food retail are heading, very strong businesses, very profitable and serving successful industries right now as well. So it's the comparison that's kind of a little bit skewing the numbers, otherwise, underlying very good. And I see a future that's going to keep steady on what you've seen pre-pandemic as well with those two businesses." ] }, { "name": "Vincent Andrews", "speech": [ "Okay. And then just as a follow-up. I assume you're on track for the $120 million of cost savings you've targeted for this year, and I think the total number overall eventually was going to be $365 million. Are those still the right numbers?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, let me give that question to Dan. I was looking forward to a question as well there. So that's a perfect opportunity, so Dan?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Such a great question. So thank you. Yes, we remain very much on track to deliver our incremental $120 million year-on-year. And more broadly, maybe the 2020 program, which has gone through a couple of iterations, we feel very good about the progress that we've made sequentially, and we'll continue to." ] }, { "name": "Vincent Andrews", "speech": [ "Thanks so much." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much. So my first, I want to inquire about new business wins. A lot of the description today has been recovering markets, but we -- in the press release, a lot of highlighted new business wins, and that's across water, paper, sign certified, you talked about and even pest. Could you just elaborate a little bit on maybe where you're getting the most strength and what type of wins you're getting? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "Great question. Thank you, Scott. So new business, interestingly enough, is gaining traction in every end market. We thought that in some markets like the institutional markets over the past 18 months, it would have been way harder. Actually, it's one of the areas where we've made the most progress, which is really good news. Industrial is doing really well and Healthcare as well as Life Science has always been great at it, which we see in the numbers as such. So a really good story.", "I would say one of the new emerging stories in business is, what many call this net-zero, with many customers are trying to get closer to their sustainability ambition, so water-neutral or water-positive or carbon-neutral, carbon-positive. And those discussions with those forward-looking companies interestingly enough, are strengthening our relationships with them because they need our help even more than before. And that's growing as well as our new business opportunities, because they need our help in all the units around the world and need much more solutions as well from us in order to get closer to the net-zero ambition. So that's one of the new drivers that we're seeing emerging, which is good for our company." ] }, { "name": "Scott Schneeberger", "speech": [ "Great. Thanks. And then I think a good follow-up to that would be just to ask specifically on data centers and animal health, some of your other emerging growth opportunities, just a progress report there. And any quantification on pace of growth or margin expansion? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yes. So starting with data centers. As mentioned earlier, we've been growing. I think, 53% in the second quarter. It's been a terrific story. It used to be part of our light water industries business. In the past, we've created a dedicated unit, 12 or 18 months ago, which is really a division that's focused on data centers and microelectronics, by the way, the Intel of that world as well. And interestingly enough, its new expertise that we could build, its new offering that we could provide to those companies that are really interested in close to 100% uptime for all the reasons that we understand, our secure solutions as well from a digital technology perspective, they want to make sure that any access that we have with them is done in a totally secure way as well. And those are companies that are very sustainability-friendly as well. So they all want to get -- so close to the net-zero as fast as they can. All that is really driving that business in a great way.", "Animal health is a complete different story. Obviously, as such, this is something that takes time as well. We've created a dedicated unit. We've made acquisitions as well in that field, underlying. I like where we're going. Q2 has been a bit subpar because we compare it to a very high Q2 in 2020, but that's a business that's going to be very interesting going forward for at least one important reason that most of the farmers won't be or are not allowed to use antibiotics to protect the animals, and they need way more solutions in order to make sure that they are in a healthy environment in order not to get sick. And this is exactly what animal health is doing in our business.", "So it's an evolving proposition, but that's clearly aligned with the longer-term trends that customers and consumers like you and I ultimately are expecting from the food manufacturers." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, Christophe. Appreciate the color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Scott." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Rosemarie Morbelli with Gabelli & Company. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good morning, Christophe and everyone else." ] }, { "name": "Christophe Beck", "speech": [ "Rosemarie." ] }, { "name": "Rosemarie Morbelli", "speech": [ "I was wondering if you could talk a little bit about M&A. You have been making small acquisitions. Do you have an appetite for larger ones? And are there targets that you would be interested in?" ] }, { "name": "Christophe Beck", "speech": [ "So the short answer is, yes. We're interested in M&A and larger ones. We've done smaller ones over the past few months, as mentioned earlier, in the wipes area, which is a perfect complement to our offering in Institutional, in Healthcare and in Industrial. And we couldn't produce that ourselves. We were toll manufacturing with other companies, and we've seen during the pandemic that that could be a great business for us today and especially going forward. So we've done that as well.", "We've done animal health as well last year, as I just mentioned as well as to the previous question. And we've been extremely active on the M&A front over the last six months. We have a very rich pipeline. We have very serious discussions with many as well out there. But at the end of the day, we have this very disciplined line on what we do and what we don't do. And when I look at all the discussions that we've had so far, we didn't find the exact opportunity so right now. But I feel confident that in the future, so we will get to a bigger opportunity at the right time." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Can you share with us any particular area where you are more likely to make a larger acquisition?" ] }, { "name": "Christophe Beck", "speech": [ "So I can't go too much in detail, Rosemarie, for obvious reasons, but the core areas of water is interesting, so for us; Life Science, which is a very successful business serving a very large and high growth as well end market; and third, related to digital technology as well. So those are kind of three areas that are very interesting for us." ] }, { "name": "Rosemarie Morbelli", "speech": [ "All right. And then, if I may, what is the size of your animal health business currently?" ] }, { "name": "Christophe Beck", "speech": [ "I'm not sure we've disclosed that so far." ] }, { "name": "Rosemarie Morbelli", "speech": [ "But you can do it now." ] }, { "name": "Christophe Beck", "speech": [ "A few hundred million, let's put it that way, Rosmarie." ] }, { "name": "Rosemarie Morbelli", "speech": [ "I'm sorry, did you say $200 million?" ] }, { "name": "Christophe Beck", "speech": [ "A few hundred." ] }, { "name": "Rosemarie Morbelli", "speech": [ "A few hundred. All right. Thank you and good luck." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Rosemarie." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of P.J. Juvekar with Citi. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "Hey, Christophe, it's Eric Petrie on for P.J." ] }, { "name": "Christophe Beck", "speech": [ "Hi." ] }, { "name": "Eric Petrie", "speech": [ "You noted you were gaining share in U.S. restaurants. I was wondering if you had a similar data point on lodging. And then in both restaurants and lodging, how does that compare in Europe and Asia?" ] }, { "name": "Christophe Beck", "speech": [ "So my comment was mostly focused on restaurants because it was a highly impacted area. I like the progress we're making in hotels a lot as well. And mostly because of the offering that we provide them in terms of automation, ease of application of our solutions. You've heard about the staff shortages that they all have. I've had the chance to talk to a few CEOs as well, so lately from large hotel chains in U.S. and abroad, and this is top of mind for them.", "So the solutions that we have, which are not new, those are things that we've been doing so for many, many years are ultimately helping them clean quicker, which is something they're really so challenged with right now or in the dish room as well as to clean dishes in an easier way, fast away with less labor as well. The same on water, the same on housekeeping and so on. And those are solutions that are ultimately helping us sell new business in lodging. So good progress in lodging as we've seen as well in foodservice." ] }, { "name": "Eric Petrie", "speech": [ "And just a follow-up then to clarify. Would you say you're gaining share in restaurants in Europe and Asia as well? Or is that not settled out?" ] }, { "name": "Christophe Beck", "speech": [ "We have less numbers over there, and to be honest, so those markets are reopening right now. So we've gained new business. We have to see how it looks in practice then afterwards. So I think that in the months and quarters to come, I will be in a better position to really share whether we've gained, which I believe we will, but I want to have the facts first, or not." ] }, { "name": "Eric Petrie", "speech": [ "Okay. And second for my follow-up question. How much were your sanitizer and hard surface cleaners sales down in the quarter? And what do you expect in terms of moderation for second half?" ] }, { "name": "Christophe Beck", "speech": [ "So sanitizing sales were -- so just to put in perspective, it's 10% of our overall sales for the company. We had significant growth last year. And we expect to be lower than last year overall. So we don't disclose all the detailed numbers, but quite a bit higher than 2019. And that's probably the way you need to think about that, so lower than the peak of the pandemic, thank God, but higher than 2019, because practices have changed in most end markets and countries." ] }, { "name": "Eric Petrie", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Laurence Alexander", "speech": [ "Hi. Just a quick one to follow-up on the discussion earlier of the shifts away from some of the lower-margin businesses like refining. If you look at the moves you've done over the last couple of years, can you give a rough sense for how much sales you've moved away from sort of some of the out-of-favor business segments over the last couple of years, how much stronger your sales line would have been if you hadn't done that, calling up the mix?" ] }, { "name": "Christophe Beck", "speech": [ "It's a great question, Laurence, but I have no idea because it's something that we're doing all along in every business. The focus is really to move up the chain, move up the margins. It can't be driven only by pricing. It needs to be because we are focusing on the higher-margin segments, higher-margin offering as well. So it's continuous work, where in some areas, it's more extreme, like the coal, as mentioned before, or refining in Downstream that are more significant. But I couldn't put a number exactly on that because it's a continuous process." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Shlomo Rosenbaum with Stifel. Please proceed with your question." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Hi. Good afternoon. Thank you for taking my questions. Christophe, I want to ask you a little bit about how the company is leveraging the technology investments as it approaches the C level of an organization in terms of their sustainability. So my understanding is this is enabling Ecolab to start discussions with the C-suite as opposed to starting discussions more at the plant level. And I'm wondering, how are those discussions progressing. Is there an increased pace? Are you seeing a large potential for you to accelerate or an incremental potential for you to accelerate Ecolab's revenue growth by being able to sell further up the chain within the organizations?" ] }, { "name": "Christophe Beck", "speech": [ "Hey, thank you, Shlomo. This is a great topic. I'd love to have more time to zero in on that, but maybe so two quick answers, the what and the how. First one on the what. We have always more customers. It's not new, but it's clearly accelerating. So customers that are asking us to partner with us in order to find a path in order to get to net-zero or positive water or carbon, Microsoft being one of the obvious ones. And it's not a secret since they've been expressing that on CNN over the past year or so.", "So in order to get there, you need to have digital technology, because you need to understand to make it easy to recycle water, which is a physical product. We need to understand in real time the quality of the water or like thereof actually, which indicates what kind of chemistry we need or what kind of technology is required in order to bring it back to the standard level that's being used in a data center or in a food plant as such. This is a direct application of our digital technology.", "And second is the how. Since we are serving thousands of locations out there in the world, we are uniquely placed to know what's the world-class performance that can be achieved. Take a brewery, for instance, how much water per hectoliter of beer that's being produced. Well, we can compare within a company, a brewing company, how does the performance of the individual plants compared to the best in class. We can compare across brewers as well. We can compare across industries as well as a company as well. So we can provide customers with good benchmark of what good looks like; and second, how to get there as well. That's all enabled by digital technology that we've been building, developing and implementing for over the last 10, 20 years around the world." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay. And so is that -- I guess just to keep that going. So is there -- do you see a potential for that to really incrementally improve the revenue growth of the business, because you're able to sell at the higher levels, so obviously, you bring the capabilities that other companies can't bring to the table?" ] }, { "name": "Christophe Beck", "speech": [ "Yes, absolutely. So what you saw with data centers, so the growth of 53% is directly driven by that. And wall light as well, which has been growing 7% as well in the quarter is also driven by that kind of solutions. So early indications are positive and the more we can implement that across the end market, the more it's going to help us as well as a company." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay. Great. If you don't mind me sneaking in one more, just the areas that are completely open now in terms of restaurants, let's say, taking the Florida or Texas, how does the chemical usage compare to what it was pre-COVID? What are the levels in the restaurants there, more customers before and there are still customers?" ] }, { "name": "Christophe Beck", "speech": [ "It's still lower today, Shlomo, because the dine in -- so the dining rooms are, as mentioned before, so in Q2, it was 37% down versus pre-pandemic as such, which means that the usage of cleaning and sanitizing solutions has been lower as well. But as dine-in is going up, so the demand is going up as well at the same time. So -- the fact that we have the same number of units buying the same number of solutions today, ultimately is a good sign as well as compound growth when dine-in is going to pick up as well in the weeks and months to come." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Sclomo." ] }, { "name": "Operator", "speech": [ "Ladies and gentlemen, there are no further questions at this time. And I would like to turn the floor back over to management for closing remarks." ] }, { "name": "Michael Monahan", "speech": [ "Thanks, everyone. That wraps up our second quarter conference call. This call and the associated discussion and slides will be available for replay on our website. Thanks very much for your participation today, and have a great rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2020-04-28	[ { "description": "Senior Vice President, External Relations", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker, Jr.", "position": "Executive" }, { "description": "President and Chief Operating Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Katherine Griffin", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Chris Parkinson", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Dan Lazar", "position": "Analyst" }, { "description": "Gabelli & Company -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "Seaport Global -- Analyst", "name": "Mike Harrison", "position": "Analyst" }, { "description": "Robert W. Baird -- Analyst", "name": "Andrew Wittmann", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to Ecolab First Quarter 2020 Earnings Release Conference Call. [Operator Instructions] As a reminder this conference is being recorded.", "It is now my pleasure to introduce your host Mike Monahan. Thank you Mr. Monahan, you may now begin." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. Hello everyone, and welcome to Ecolab's First Quarter Conference Call. With me today is Doug Baker, Ecolab's Chairman and CEO; Christophe Beck, our Chief Operating Officer; and Dan Schmechel, our Chief Financial Officer.", "A discussion of our results, along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials stating that this teleconference and the associated supplemental materials include estimates of future performance.", "These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with an overview of the results, adjusted earnings per share grew 10% reaching the upper end of our forecast range. Results reflected good underlying sales growth, pricing and cost controls which yielded the first quarter's earnings increase. COVID-19 netted to a modestly negative impact on sales by the minor benefit to earnings from cost controls.", "Acquisition-adjusted fixed currency sales increased 2%. The Institutional and Healthcare & Life Sciences segment showed good sales growth, which more than offset a 3% decline in Upstream Energy. Excluding the Upstream Energy segment, Ecolab's acquisition-adjusted fixed currency sales increased 3%. Adjusted fixed currency operating income rose 12% with operating margins expanding 110 basis points.", "Pricing, improved volume growth and cost savings initiatives more than offset investments in the business and other selling related expenses during the quarter. Progress continues on the separation of our ChampionX business. We continue to expect the transaction to be completed by the end of the second quarter.", "Ecolab's leading capabilities in food safety, clean water and healthy environments have positioned us well as an effective partner in this world crisis and we've responded aggressively to the pandemic. As more fully outlined in our March 25th, COVID-19 webcast, we have taken a broad and further bolstered our already strong financial position and cash flows.", "At the same time, we are working aggressively to safely assist our customers, providing them important product, service and consulting support they need to keep their operations safe and functional for the present and have them well prepared for when they reopen.", "We are also preparing growth plans to aggressively drive new business gains as the recovery develops. As previously communicated, the uncertain outlook regarding the full extent of the pandemic's impact on the global economy and its longevity do not provide an adequate basis for us to provide either quarterly or annual earnings forecasts. As a result, our forward-looking guidance remain suspended.", "2020 represents an anomalous period of unprecedented proportions. As a world navigates the challenges from COVID-19, our food safety, water management and infection protection positioning have become even more relevant. Our long-term growth opportunity remains robust, driven by our leading market positions, our focus on providing our strong customer base with improved results while lowering their water, energy, and other operating costs, and our huge remaining market opportunity.", "Further, our financial position is strong with ample liquidity and a resilient free cash flow. We believe looking beyond the near-term uncertainty and focusing on these sustainable long-term business drivers will yield superior long-term performance for Ecolab and for our investors.", "And now, here is Doug Baker with some comments." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Thanks, Mike, and good day to everybody. So, I'll just offer some comments on Q1 and a bit of perspective on 2020. So our Q1 adjusted EPS results were better than expected as we realize expected business acceleration versus Q4, but COVID-19 impacts were different than we anticipated.", "COVID-19 did negatively impact sales, but also drove lower expense in T&E benefits and other costs, which more than offset the sales impact. But this is not a pattern we see going forward. We know that coming COVID-19 period will be more adverse, but importantly, we enter this period in a position of strength.", "The business and company are in very good shape. We've got a great, very experienced team that's been through crisis before. We've got a resilient business model that generates cash regularly and we have a strong balance sheet and cash reserves. So all this is important as we expect the COVID-19 period to extend into 2021 and we believe the recovery will be shaped more like a U than a V. Finally, we also believe that COVID will have a significant impact on our business short term, quite negative, but longer, term quite positive.", "So our guiding principle is really manage the short term in a way that positions us for maximum long-term benefit. That's where the value is. So we've already taken a number of steps to do this. We created a cash reserve backstop, we cut expenses, we put in hiring freezes, eliminated merit increases etc. We've also cut capital by 50% versus our budget but preserved digital antimicrobial and hygiene tech investments as they were.", "Now, these are detailed examples of steps we've taken and how our approach of managing the year to maximize our post-COVID potential shows up. But let me offer some perspective on the year and the future. So first, 2020; like it seems, everything is with COVID the outcomes are going to be asymmetrical.", "We have businesses having record years or that we expect to have record years like F&B, food retail, healthcare and life sciences. And we also have businesses competing in markets that have been virtually shut down, like Institutional with restaurants, hotels cruise lines etc., really not in business in a material way.", "So in total, the net impact of the pluses and minuses of these groups of businesses will be negative for the year on both top and bottom-line and we've signaled that previously. The timing impact over the course of the year though is going to be imbalanced too. Q2 we believe is going to be the most impacted quarter as we realize both the full effect of COVID-19 volume declines driven by these temporary closures in key markets, plus we're also going to be realizing channel destocking at the same time.", "However, we expect Q3 and Q4 to start showing sequential recovery from Q2. This recovery during the second half will be driven certainly in part by reopenings, but also by expected increased demand for hygiene programs and we're already seeing this across industries like F&B, food retail and even in traditional industrial settings where we hadn't had this type of demand before. The recovery will be further driven by a number of our own initiatives that we already have under way.", "Look we're feeding and fueling segments with momentum, F&B, FRS, healthcare and life sciences. We're adding people, investing in capital, doing all the things that we need to do to build on that momentum. We're launching new offerings, particularly in hand care and sanitizer categories and we're developing new applications for a powerful Bioquell system.", "Three, we're maintaining growth investments in animal health and data centers, which we had seen as great growth opportunities before COVID and they remain great growth opportunities. And finally, we're actively pursuing new strategic customers. This is a great time to continue to talk about the benefits that we bring in good and difficult times.", "Now all this represents what we call the early stage development for the world after COVID. Our business will certainly be pressured this year but we'll continue to generate positive cash flow and gain share throughout the year.", "We believe our clear leadership in hygiene, antimicrobial digital, lowest use cost delivery, environmental offerings will be even more valued after the pandemic is passed, and a number of important factors we believe will remain true. We will still chase a huge market. We will still have a sizable competitive advantage. One might argue that our competitive advantage will be improved. We are in better shape than most of our competitors to handle a situation like this.", "We will have great customer relationship as we demonstrate we're the right partner, particularly when the going gets tough and we will have answers for water scarcity which will still be a huge issue. And finally our ESG advantages will remain significant and important. But we also believe that there is going to be new transformational opportunities as customers and communities' expectations evolve and this is where we will put extraordinary time and effort as we move through this year.", "We see building an even broader, more robust set of annuity businesses as a highest priority for the year. This is what we've got to use this time to do. That's why we still firmly believe that managing through the short-term in a way that positions us for maximum long-term benefit is the right play.", "So with that, I'll hand it back to Mike." ] }, { "name": "Michael J. Monahan", "speech": [ "Thanks, Doug. That concludes our formal remarks. Operator, please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. We'll now be conducting a question-and-answer session. [Operator Instructions] Thank you. And our first question is from the line of Tim Mulrooney with William Blair." ] }, { "name": "Tim Mulrooney", "speech": [ "Good afternoon. Doug, if I could just build on that last comment you were making, if I could ask you to break out your crystal ball for a second. How are you thinking about what the world looks like a year from now when all the governments and corporations have retooled their cleaning and sanitation programs and protocols. Where is the puck going and how are you positioning the Company to best take advantage of this likely increase in your value proposition?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I mean, I guess early read is two-fold. I mean, I think we're quite confident that there is going to be heightened awareness and sensitivity toward hygiene concerns by consumers, which ultimately is what's going to drive businesses to raise their standards. And so, I think we'll see this in a variety of ways.", "If you went back to some of the earlier almost pandemics, they caused many commercial buildings for the first time to put things like hand sanitizer in their lobbies. I could say that was a baby step to what we feel might be the potential here. I think consumers are going to be quite aware of surroundings. You're going to be quite sensitive to, are things actually clean. They're going to want visible signs, call it cleanliness theater. How does this show up, how does it manifest itself, etc. and this is going to be quite important to consumers, and as a consequence, to our customers.", "So that's obviously one big area. The other is, we've all had this very different experience now with digital, and the interesting part is, so have our customers. And so while we've had big digital advantage and I imagine we're going to asked questions about this. It is proven to be invaluable during this time because it allows us to provide service levels, awareness levels, maintenance, ongoing vigilance that you couldn't do if you were connected in the way we were and some customers who I think we're reluctant to the party in some industries, say even in the Food and Beverage industries, have become real big converts.", "I think this is going to be true broadly that the push that we have in digital is going to prove right and that we really do want to accelerate connectivity with our customers. We want to connect our supply chain in certain ways to customers. We want to make sure our field is adequately connected to us and to customers and so a lot of this area, I think is only going to become more important.", "I think we're all somewhat maybe, I am surprised at how effective we are able to work remotely. But we're still only touching, I think the tip of the iceberg there. And as we get this connection, I think our value, our know-how value, our unique information stream value, our potential AI Value, all gets heightened even further, because we've got a great amplifier for it. And then there's a lot that we don't understand yet that's going to I think reveal itself over the coming months and that's exactly how we're approaching this.", "We have confidence in a few things. And we are watching and learning aggressively in other areas, because I think this will reshape society. I think in mostly positive ways. It's a very terrible thing to go through. But how it comes and manifest itself could be very important, and in a couple of areas, we're quite confident it's going to be quite positive for us." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay, thank you. My second question is on raw materials. So years ago Doug, and I mean this was years ago. I think I remember you saying that if oil ever broke $20, you'd hedge it out as long as you could. And I mean that was a different time and things are moving fast here, but what is your long-term view on the price of oil and might the company get more aggressive with hedging right now. And are there issues with finding counterparties in this environment? Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I have the great benefit of a lousy memory. So I have plausible deniability about ever saying I'd hedge oil if it got below $20, which doesn't mean it didn't happen. It just means, I have no recollection. So here is what I would say, we don't take hedge positions like that for the simple reason, nobody buys our stock because they think we'd be any good at this.", "And we'll hedge transactions which are known in specific and discrete with discrete timing, but that's really the extent of it. And if we start straying here, would you just kick us, because that's not what we're about. What we're about is creating great programs, meeting customer needs and creating value that way.", "In terms of crystal ball, I mean, obviously I don't have one. When it comes to oil and some of the other stuff, I would just say, this too -- I don't believe this is the end of cycles in the oil business. That's a very hard call. You can see how sensitive it is in terms of, there is no inventory space for the stuff, which is why it moves so radically when supply and demand moves.", "Now normally supply and demand moves by like a point or two during recessionary period. In here we've had oil fall in demand by 17% in April. I mean it unparalleled. So I think we're going to go watch this and understand it, but we aren't going to take hedge positions because we know we'll likely get it wrong over time." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of Manav Patnaik with Barclays. Please proceed with your questions." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you, good afternoon. Doug, you gave some color obviously, in terms of the segments that are moving up and those that are obviously been hit hard. I was hoping if you could maybe give some color on what the exit rates look like in the month of April thus far, just to get some gauge of you know, what that looks like?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I mean, I would say, what we've seen in April was very similar to what we expected to see. Now your disadvantage is you didn't know what we expected, but it's along the lines that we just talked about. The businesses that looked like we're going to be advantaged because of the shift from restaurants to food retail, you would expect our food retail business to have increased sales as the grocery stores are working very hard to increase hygiene standards to protect their workers and their consumers, even in an environment toward a pick up situation.", "And so, we're certainly seeing that play out in increased demand for that business. This shift also causes big changes in shifts within the Food & Beverage industry itself as they've got to change pack sizes to more consumer oriented from food service oriented pack sizes, etc. and those shifts have also driven demand, as has heightened hygiene for their workers to make sure that they can continue to create a safe environment for workers and continue to operate.", "So, I'd say in the healthcare, it's obvious and those demands are obviously around antimicrobials in particular in hand care, you know like stuff that you would expect. That's offset somewhat by the fact that in the U.S. in particular elective surgeries have been frozen. And so we've got part of our healthcare business with huge upswing in demand in part with significant downswing. With that said the net -- in healthcare, it's a net positive as we go through.", "And then the life sciences. So life sciences was doing well pre-COVID, continues to do quite well. And then Bioquell, an acquisition that we made a little over a year ago, which has hydrogen peroxide technology that's basically misted, enables us to do a number of things that we couldn't do before and that are quite important right now to customers. So they're getting the experience with the technology because of unique needs, but we believe that experience is going to lead -- well we're watching it, is going to lead to permanent use of this technology, as we go forward.", "And then on the downside, you know where restaurants are in hotel occupancy and the like; cruise lines are all docked, they are not consuming much right now. So, 30% of our business is going to be under real significant pressure, particularly in the second quarter where you have most of these restaurants down. There will be some opening as we move through this summer. I don't think all of them in one rush.", "But we know that second quarter is the most acute quarter because you compound that with distributors having to reduce inventories as a result of their demand being down, etc. It's kind of the double -- the double whack, if you will.", "And with this, we have reduced demand like this, suddenly you get significant, right, fall through to profit, because in this case, we're like at a 50-50 if you will, fixed-variable because you can't move quickly and not find some of the variable costs. So the second quarter is going to be the quarter that gets most of the bad news, if you will, as a consequence of COVID." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. And maybe just as a quick follow-up to that, in terms of the most impacted sectors to the negatives that you referred to, just some thoughts on what you're hearing from them, kind of what the Main Street view is versus Wall Street today seeming -- feeling pretty optimistic, things are opening. Just curious if you had any comments there." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I guess, we're watching what's going on around the world and so -- look, in the United States, you're going to have very different, I think patterns, simply because the Governor's seem to have much more the steering wheel here and they're not going to act in one fashion and probably appropriately. They've got very different situations by state, you got very different density in some states than in others and so I think you're going to see different reopening patterns emerge as you walk through here.", "We've seen what Atlanta is doing. They're moving early. They're getting criticized for it. I'm not going to -- I think moving a day late is smarter than moving a day early honestly, in this situation, but they're doing what they're doing. So it's not completely predictable in the U.S., but I would guess that you're going to start seeing some areas reopening and allowing restaurants to reopen.", "And then, what I think you're going to see govern is consumer behavior. So if you go to China and China has reopened restaurants and restaurant volume has picked up from the low but it's nowhere near where it was because until we have, I think, security that we know how to treat the disease, step one; and then ultimately we have a vaccine for the disease, I don't think you're going to see fear abate to a point where people revert completely back to pre-COVID norms.", "It wasn't dissimilar in 9/11. So if you went through 9/11, which was a fear event, travel got stopped for a period of time, reopened up within months, but it took two years for airline boarding's to equal pre-9/11, why? Because it took a while for people there to feel comfortable that probably the government had this under control going forward.", "I think this will be more binary in terms of, if there is a vaccine, people's comfort level will move up and I think you'll see a reversion back to mean fairly short order, is my estimation. But until then, I think it's going to be a slow ramp-up as people reopen, consumers become somewhat comfortable they can do this safely and that's just going to take time." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the like of Gary Bisbee with Bank of America. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Thanks. Yeah. Hey, Doug. How do you see your role in business reopening that -- there's been a number of outsourced services firms calling out the big opportunity to help with cleaning, disinfection, pests, and other things to get whether it's a restaurant or an office building. I think you pest business could benefit, maybe there is some one-time sales of chemicals or more than they'd normally buy. Is this a real opportunity at some point over the next few quarters or in the grand scheme of what you do, do you not see that as a huge -- a big potential for you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I think certainly we are well aware of the reopening, I'd say challenges and opportunities that all of our customer's face. You know they got to start up these operations, again. They go to do it in a manner that's somewhat different from the way they were operating before because of consumer expectation and real health concerns. And so, we are obviously doing a lot of work in this area to make sure that we can provide that help our customers expect from us.", "Yeah, I mean certainly whenever you have -- sort of the reverse case I'm making here, which is when you're going down like this, down and demand fall suddenly, because it's really brought on artificially. It's a consequence of municipal shutdowns. You also have not only the lost demand but the lost inventory.", "And when they start back up, there's obviously going to have to be inventory pick back up, there is going to be kind of heavy clean work early before they get to more normal patterns. So there will be somewhat of the reverse as you go through this process. But I don't believe this is going to be one day that this occurs across the United States or across Europe. It's going to be a series of reopenings that I think are across a number of months. So I don't know that it's going to be a seminal event." ] }, { "name": "Gary Bisbee", "speech": [ "Okay and then the follow-up, just how are you thinking right now about the benefit from lower raw material prices? Obviously, oil has gone way down. Are you -- given the challenge a lot of your customer is in or is there any thought process of sharing some of that or being accommodative on pricing for some period of time or are you likely to be able to flow much of that benefit through to your gross margins as you've done in past periods with lower oil prices. Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. No, I mean our expectation is raw materials will be -- are going to be less this year than we had forecast going into the year for sure. And as -- one of the reasons is oil price per your example. I would say that, we're bearing a lot of cost beyond raw materials. I mean one just reduced volume in a plant environment never bodes well for gross margin, right. You've got a fixed asset or you got some variable cost in manufacturing, there is also not insignificant fixed cost.", "And we've had to have a lot of special transportation needs because of this huge uptick in demand in sanitizers and the other things. And what we're doing is what's right for the customer as we go through this. So I don't expect this to turn into a big pricing event. I mean, fundamentally the ways our customers are realizing reduced spend is, they're not buying anything because they're shut down, we found [Phonetic] many cases.", "And lowering their price when they're not buying anything doesn't really add to their pleasure, just adds to our long-term pain. So that's not really where it's been going and I think for good reason. But what we are trying to do is make sure we understand. We've been partners with some of these companies for decades, yeah and they're going through an unbelievable trial right now.", "Think about the large hotel companies, small hotel companies, large restaurant groups, small restaurant groups, and so we are actively working to do and take our role seriously as long-term partners who benefit in the good times and understand how we can help in difficult times around fixed fee arrangements, around some of the other stuff. How do we postpone and lengthen agreements and do things that may accentuate the short-term pain, but we think it's exactly the right thing to do when you expect to be partners going forward for decades as well.", "So we're taking those steps, which is a little bit why some of the Q2 conversation, but I believe we are positioned smartly and intelligently to manage through this in a way that will maximize long-term gain for this Company and that's exactly what our mind-set is." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of David Begleiter with Deutsche Bank. Please proceed with your questions." ] }, { "name": "Katherine Griffin", "speech": [ "Hi, there. This is Katherine Griffin on for David. Thanks for taking my question. So first off, on the COVID update call, you were discussing some improvement in China in March in Institutional customer activities saying that begin to improve whether it was lodging occupancy improving. I'm curious if you've seen that trend continue so far in April?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. You know I would say our China recovery is going to be up and down. And I think we said in March, it's going to be like a negative nine, it was actually better than that. So, we saw continued recovery from our business in China, both on the industrial and on the Institutional side of the business. What we see in Institutional, as I alluded to in a previous answer was, it's slow. It's moving.", "If you looked at the low point for a lodging occupancy, it was certainly below 20%. It's now around 35%. So it's moving up, but not at a rapid pace. Let's just say it fell faster than it's moving up. Hence my opening comment that we expect more of a U recovery than a V. And I think there is a lot of reasons for that beyond just what we're seeing in China.", "On the foodservice side, you're seeing improvement, but again it's not a snapback and part is that China still, while they say there is no more COVID instances, they're being very cautious in terms of allowing complete freedom of the population, because I think they're very wary of a double infection. And -- so this is the pattern that we're seeing which colors the answers I gave or informs the answers I gave earlier.", "So, yes, China recovery still moving in the right direction. Sales are recovering in China a little faster than we said in our March 25 call, but more of the patterns are same than different." ] }, { "name": "Katherine Griffin", "speech": [ "Great, thanks. And for my follow-up question, so you talked about the digital investments being directed in hand care and Bioquell. I'm also curious, as you think about how to prioritize these investments, is it more to help -- is this the way for your Institutional customers meet their needs near-term or are you focusing those efforts more on kind of the long-term solutions you anticipate your customer's might need.", "In other words, have you gotten a sense of how urgently and to what extent your customers are looking to adapt to a post-COVID-19 environment. You think it's -- they're looking to just do simple solutions like add more hand sanitizer dispensers or double down on purchases of disinfectants or do you think that there is urgency as early as this year or next year that they might look for -- to invest in more advanced solutions, maybe something more like what your Bioquell applications would be used for?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, so Katherine I would -- I'd say, well, it's a combination of both, to be honest. So look, we're doing some work and I'm going to have Christophe fill this in, because he is leading the charge on the digital investment. I mean there are near end opportunities, but we believe their long-term needs around digital training for instance and how we utilize that capability to enable large customers to open quicker and more effectively, but also have a technology that will provide legs in terms of their ability to use it on a long and an ongoing basis. Other areas, it's fuel connectivity and the like. But let me ask Christophe to speak to some of those." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug and hi, Katherine. So, thanks for the question. What's good with digital is that we remain very consistent, you know are focusing our investments over the past few years and it's just going to get accelerated now, but the directions, that doesn't change.", "Just as a reminder, our three big pillars in digital is first to enhance the customer value. You can think about it like a hand care compliance in hospital, making sure that the whole healthcare personnel is really so maximizing, so the protective measure that they can have with hand care product.", "Second is really to maximize our field impact, which is really facilitating the work of our teams. And third, it's to improve our operational performance. Those are the three big strategic pillars that we declared many years ago and that we've really remained focused on. And when we think in terms of alignment with what customers truly need today.", "Well, think about remote monitoring, as you've heard us well. The fact that in many places we can't even go in, even if they're operating. Well the fact that we have the system action center, we can provide service and value even if we're not there physically.", "The second one is automating as well so our customer processes, work that helps them reduce their costs while we're not there as well, but it can be as well. So predictive analytics that we're doing so for Legionnaires' disease, for instance in here, where that's reducing the risks as well for customer's that truly need it now.", "And last but not least, out compliance, as mentioned. So for instance, the hand care compliance program for hospitals that I mentioned earlier. Well, in this COVID environment, this is even more useful of our customers. And to take again, so what Doug said a few minutes ago. Well, the hygiene standards are going to go up in the next few quarters, few years, we believe. How much? We can debate that obviously, while digital technology is going to help us -- help our customers even more. So that would be my take." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. I'm glad you all sound well. Doug, some countries, Sweden, South Korea, Taiwan have kept full serve restaurants open. Do you have any evidence yet of increased product use per location in any of those areas where full services stayed open?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "No, they're relatively small. What I would say is, we have a number of QSR restaurants opened. We have restaurants opened in other markets where we've seen certainly heightened sanitizers sales, hand care sales in particular. And so that, in many cases, even offset lower traffic." ] }, { "name": "John Roberts", "speech": [ "Okay. And then, propylene, surfactants, and other chemicals are coming down. Do you think you'll get some help in the second quarter from lower raws or will you be buying so much less that it's going to take longer before you see the benefit of some of these lower raws?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. No, I mean the lower raw costs, we would expect to have a benefit in Q2, but it's just going to be because of volume destruction in the Institutional business in particular, which is short term but acutely focused in Q2 is going to -- I mean, what that does to plant overhead absorption and the rest, that's going to be much more of the story." ] }, { "name": "John Roberts", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Chris Parkinson with Credit Suisse. Please proceed with your questions." ] }, { "name": "Chris Parkinson", "speech": [ "Great, thank you very much. In terms of your supplemental commentary regarding healthcare and life sciences trends, are your customers solely in reactionary mode still or are there already in discussions on how to further develop their programs over the long term. So basically, where do you believe you'll offer the most impact in terms of your healthcare and Bioquell platforms? And on the former, how would you rank yourself in terms of the competitive environment? Thank you very much." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah I'll just offer a quick perspective, then ask Christophe to comment. From a competitive environment, I think in these periods, I think you got to certainly watch your traditional competitors, I would say there. If anything that typically accentuates our strength are balance sheet, financial model kind of long-term management and scale, but you got to also make sure you're watching for new entrants and maybe people enter in ways that they -- that previously didn't make much sense but this opens the door.", "That's also true for us by the way entering, I would say, some new businesses. And then finally, I'd ask Christophe even to broad it. I think there is a number of customers who are in different places per year comment. Healthcare, I think is an interesting question and then maybe comment on some of the other businesses, even those who are going through the toughest times are certainly thinking ahead already and having conversations, Christophe?" ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug, and hi Chris. Maybe -- to your comment on reactionary versus proactive, especially so in hospitals. It clearly started as a reactionary mode because they got overwhelmed with so many patients so who came in, in the hospitals and we've helped them as well with sanitizing programs that they've been growing very fast. It's also helping them as well disinfecting as well their PPE, their masks as well in a hospital that was really. So making sure that they could serve the most urgent needs that they have in hospitals as we've seen in media obviously over the past few weeks or months.", "Now it's shifting toward more proactive, and interestingly enough, while it's coming back to the value that we've been offering so for a long time, just as a reminder, what we do for hospitals is to help them prevent hospital-acquired infections, which is obviously very aligned with what's happening in here. So the needs for those hospitals are -- is growing and once this tidal wave is a little bit of softening for them, we see really the hospitals to come back to us and really asking how can we help them really reduced so that the infection risks going forward.", "And if we move a little bit further away, so from hospitals and think about hotels and restaurants. Well, it's been a bit different obviously because they had the wave down where we help them really, so stay open as long as they could by providing them, so sanitation programs as well worked out quite well, then closed, and then it's really so helping them down thinking about how to reopen.", "What are the programs that they need, what are the products that they will require. We have done a lot of webinars as well where we had thousands of people as well joining to understand so the background as well of COVID how can it be dealt with. How can we live with it as well so going forward? And then it's really saw training their people as well taking that time as well, this kind of downtime as well in between train our people serving their people, training them as well.", "And last but not least, Chris, it's also to provide our audit services which is ultimately making sure that everything that we've planned together to give to them has been truly delivered and really so closing the loop as such. So kind of very aligned with the value that we've been offering so far." ] }, { "name": "Chris Parkinson", "speech": [ "Thank you. And just, in your first quarter pest elimination results, you mentioned difficulties accessing customers for service, which I imagine is still ongoing, but do you ultimately believe pest will merge into one of the other kind of megatrends that you're seeing across water hygiene, disinfectants etc. Just given the disease of all this component, just wanted to hear what you're getting from your customers and how you see the global opportunity emerging versus let's say '19 and prior years. Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. I'll quickly answer it. So the pest business, yeah, I mean the access reference was fundamentally some of the buildings are just closed and so that's created some access challenges. They're short term. That will abate. But we do not see any circumstance where pest services and our pest programs in particular are going to be less valued going forward. We think the opposite case is probably the better argument." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you and good afternoon everyone. Maybe you could just talk a little bit about where you saw the very strong results in the first quarter, give a sense of -- obviously, lots of stories across the universe of products being hoarded and so forth. Was there anything maybe beyond hand sanitizer that you guys sell into customers that you think might have been -- have been built up substantially?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. Well, I'd say a couple of things. The quarter -- we're going to have a great quarter before COVID. We ended up having good earnings. We talked that sales were modestly negatively impacted from COVID, but we were realizing the recovery in Institutional that we had predicted and in the other businesses they were having a good quarter, where we certainly saw heightened demand even though we said there is some demand destruction in the first quarter as a consequence of COVID, certainly hand sanitizers, surface sanitizers, really across Institutional and healthcare, in particular, but also in F&B and in some of the other businesses where I mean the demand spikes fast so too does the consumption.", "So we do not believe this is an instance where there are big hoarding stockpiles being built by customers. What you have is significantly more hand care consumption and sanitizer consumption as a consequence of this. So it's in places where you haven't had it before. That doesn't mean somebody is going to have a garage full of this stuff somewhere, but I don't believe that's the big story. I think the real story is consumption has jacked up dramatically in these areas." ] }, { "name": "Vincent Andrews", "speech": [ "And then, maybe if I could just ask on the market share opportunity, are there things that are being done differently as you go after particularly maybe some of the large potential customers that you've had -- you just haven't made inroads with over the years. Are you getting involved directly Doug, or what -- what sort of are you doing, particularly given I would assume with social distancing and everything you can't have your sales folks doing much other than these webinars. So how are you trying to make this a little bit more personal and then maybe get some of that business that you had always wanted." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah. We're certainly not following the old rule where we would blanket them with an army of people. Yeah, but we're -- look we're doing videos. We're doing other ways to get and -- get in front of customers. Certainly, executives are doing some store opening. But by and large, we've got a great corporate account team. And what we've learned over the years is these environments open doors that have been hard to open in the past.", "And there are opportunities where some of our technology maybe can fill a need that they now have, they can understand and experience us in real life and we can prove that what we're saying is actually true. And we have several instances of that going on in large healthcare are customers, quite honestly, but also in others and I'll ask Christophe to add a little color here too." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug. Well, our philosophy is really so to keep in mind that customers will remember how we dealt with them during difficult times and that's true for our existing customers, but also when we look at the market more broadly, where the strength of our companies will get accentuated and the weaknesses of others too.", "So we have customers who have been working with other companies in that meantime as well. So recognizing that they don't get what they're looking for, with some of their current partners and comes very naturally to us, which is a very good thing. So, we obviously helped them with new programs. We're in a position where we can provide very comprehensive program where it's obviously cleaning and sanitation, can be infection prevention, can be pest elimination, can be water safety as well; all the things that the company can provide.", "And last but not least, two elements; on one hand well, we can supply large quantities that they need as we just discussed. So those needs of sanitizing products go up and require capacity so to do that. We have -- it was often extended. It's not unlimited, but we could provide much more. And last but not least is the digital capabilities that we have that can bring it all together and for them, understanding how are they doing as a estimate? This is something that most companies can't do. So bottom-line, yes, it's helping us, especially long-term." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of John McNulty with BMO. Please proceed with your questions." ] }, { "name": "John McNulty", "speech": [ "Yeah, thanks for taking my question. With regard to the Global Industrial Segment, I guess how resilient are you thinking of that business, acting as we kind of go through this recessionary period. I mean, obviously there are some fears on the Institutional side, but this one does seem like it may have greater resiliency. I guess how should we be thinking about that?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, it's certainly not going through the shutdown scenarios that you're seeing in the Institutional side, so it has that. I think what we said in some of the transcripts that we released this morning or later on this morning was we expected Industrial to be fairly resilient equal to or modestly below last year in total and so you've got some winners in there. F&B that we've talked about but you'll have some large industrial stuff going on too. Christophe, why don't you talk a bit about how you see it?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, we believe that industrial in general, will be less impacted, will be impacted in Q2 for sure as most businesses ultimately. But as Doug mentioned, so food and beverage well, is growing nicely, has been a very strong business before COVID by the way, with very good programs, very nice new business generation as well and the demand so has just grown, not only because people need more consumer goods, but those consumer goods companies so need as well more sanitizing programs to make sure they can keep operating as we read in the newspaper obviously.", "So, F&B is going to keep humming. The whole water business, as we've mentioned. So we felt some demand slowdown in Q1. That's going to continue in Q2 to a certain extent and then come back in the second half. And as mentioned, so we expect it to be flat to slightly below last year in aggregate, with everything we know right now.", "Downstream is, obviously, being related to the oil and fuel consumption, but it's a story of two chapters in here. There's the oil consumption, but it's also what we do for refineries that is stable so no matter what out there. And Paper, interesting business in that situation where obviously e-commerce goes up and the whole towels, toilet paper for whatever interesting reasons, has gone up very highly over the past few months, and seems to be fairly resilient so far. So all in all, kind of stable versus last year to potentially slightly negative." ] }, { "name": "John McNulty", "speech": [ "Great, thanks a lot. And then, Doug, I think I heard it, but I just wanted to clarify. So, when we think about the decremental margins as we go into kind of 2Q and 3Q, did you say it was -- it should be somewhere in the 50% range, is that the right -- is that the right way to think about it?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I think what we are saying in total, your fixed costs are around the 50% level particularly early because you don't have time, if you will. There are costs that are theoretically variable and they're variable over time but they're not variable on day one. And so, thinking particularly in Q2, around a 50-50 is probably the better way to think about it." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Scott Schneeberger with Oppenheimer. Please proceed with your questions." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, good afternoon. Just kind of following up on that, you've already alluded to capex being down probably about 50% this year. Just curious about the stock process, as you progress through the year and what you see how would you think about maybe doing more, maybe doing less? Thanks." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I think the thought process. I'm going to ask all Ecolab Management to hold their -- plug their ears for this comment. We purposefully took capital down aggressively for -- but as I mentioned, while protecting digital investments, antimicrobial investments and other investment. And we took it down aggressively because it's easier to add it back in than it is to go for double cuts and it's -- early you do this work, the better off you are", "So we certainly would have room in our estimation. If there are great return ideas, we're going to learn things, as I mentioned before, and I imagine part of that learning is going to be where we could maybe invest some smart money early for outsized returns long term and we have certainly kept some capital at bay to go do that. So my expectation would be that if it moves in any one direction from here, it will probably move up not down." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, Doug. And just following that up, on the opex side with regard to business investments, are you reeling those in, in this environment or is that something you're going to go ahead with full steam and just plough through and look for the -- coming out stronger on the backside?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, well, then, again, it depends on what it is. But back to the things that we're quite confident in around antimicrobial program development, digital both, when you roll it out, etc. that takes opex cost not just capital. We've retained all that money in the plan and it's significant. The reason for that is we know it's absolutely critical to the future or was before COVID and I would argue, we think it's even more important now with COVID.", "So all that stuff remains and what we're -- what we're working to do, look, you could go and try to say my goal is to make 2020 as good as possible. And that's going to be our overarching view. For our business, in our situation, we believe as a team and we're all like a locked in arm on this. That is not the right answer.", "The right answer is to manage 2020 responsibly and intelligently but really with a mind on '21, '22 etc. And that doesn't mean we're going to be foolish or anything else, but I would argue, if you really went after 2020, given this is artificially induced, there is going to be recovery, nobody is clear exactly how it's going to show up that taking this and using time to your advantage and we have the ability to do that given the resiliency of our model. And frankly, our balance sheet and cash position.", "And as a consequence, we're going to allow time to help answer some of these things, so we know how to invest intelligently. We know how to reshape businesses that need to get reshaped intelligently. We're just going to make, I think moves once instead of multiple times and organizations don't like multiple upsets. And so that -- that's the tact we're taking. Q2, I could care less about to be honest.", "It is, we'll make money but I don't care -- spending time on making it look less bad seems like a waste of time. It's a 13-week period. What we want our team focused on is really all the stuff we've been talking about. The investments Christophe has been talking about around digital, connectivity and all that.", "The new antimicrobial capacity and ideas that we have, how to leverage Bioquell? How do we develop comprehensive programs for reopening an ongoing behavior for clients who need new stuff etc.? That's really where we think the money is long term for -- and how you create value for customers and communities and that's how you create value for shareholders, and that's the stuff we're all over." ] }, { "name": "Operator", "speech": [ "Thank you. The next questions comes from the line of Laurence Alexander with Jefferies. Please proceed with your questions." ] }, { "name": "Dan Lazar", "speech": [ "Hi guys. It's Dan Lazar [Phonetic] on for Laurence. How are you? You mentioned that you're seeing some inventory drawdown. I was wondering what channel inventories were before COVID? Were they lean or normal? I mean, certain companies are saying that their inventory is already lean. I was wondering how much drawdown can actually occur?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "The inventory drawdown we're talking about is in, let's just pick foodservice distributors. I don't know exactly where it stood but let's call it normal, but what was normal is now abnormal, high because their demand has fallen dramatically as a consequence of all the restaurants being temporarily closed. So what was normal became too much inventory for them. I mean, just the machine models that will be driven are based on consumption and consumption going down is going to make inventory looks like it's gone up. So they're just not going to -- they're not buying, they are shipping more than they're buying and they are shipping a lot less than they used to." ] }, { "name": "Dan Lazar", "speech": [ "Okay, thank you. And then you mentioned during your prepared remarks that hand care and sanitizer products would go up and this allow you to introduce some new products. I was just wondering what you're introducing now for hand care and sanitizer products. How is it different than say what you were introducing say six months ago or way before this started?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I mean, a great example, I mean is driven by Christophe and team with huge assist from supply chain and everything else is, look, we ran out of capacity in our traditional hand sanitizer and so we went and developed new formulations that allowed us to build this on different filling equipment than we were using here before and start meeting inordinate demand. There are now, what I would call hand sanitizer 2.0 views of how that evolves from here.", "So something that happened literally inside of four weeks is now already being rethought about how do we move that in second quarter to even Stage 2? So those are examples around the world, we had a lot of our team step up in very unique forms around anti-microbials, forms we didn't sell before maybe were sold by others but in small amounts. And they came up with ways of meeting consumer or customer demand.", "We really didn't have that capability as early as January and so the team has done a very good job being responsive. What we're now doing is saying \"Okay, out of all these ideas what are we really going to bet on and where are we going to put permanent capital, if you will, behind some of these ideas\" and there are few already that we want to." ] }, { "name": "Dan Lazar", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Rosemarie Morbelli with G. Research. Please proceed with your questions." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. I was wondering if, given the situation with Upstream, do you think that there is going to be any change to the current agreement you have with Apergy? Are they going to take advantage of the situation in order to change something?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I mean, the way the agreement is written is, even if they wanted to, they couldn't. Our agreements are agreements. Yeah, we believe still that this will conclude successfully within the second quarter." ] }, { "name": "Rosemarie Morbelli", "speech": [ "All right, thanks. And then on the F&B which was very strong, given the impact of some meat packing facilities shutting down, is that, do you think, going to impact your -- that particular business, particularly in the U.S.?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, protein generally is at the highest consumption part of that business for us. But I'll throw it to Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Yeah bonjour Rosemarie. So maybe a comment on F&B. So interestingly enough, the plants that closed down were not customers. So obviously that's not impacting us. As such, to Doug's point, to the meat business, protein business is not a major part of F&B. that's one that we're contemplating more for the future, but it's not big right now. And on the other hand, so those customers need more sanitizing programs that we can offer. So that's all good news actually so for F&B." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay and if I can ask Christophe another question. You talked about what you were doing on the digital side. Given the environment currently, are you changing your focus on the digital needs of your customers or do you think you keep moving on the same path." ] }, { "name": "Christophe Beck", "speech": [ "Great question, it's the latter actually. So we're really trying to stay -- not even trying, we are staying very firmly on the same path, if anything it's to go faster and the interest of customers to be connected is growing, especially in situation where we can't get to the customer. Well, this is a good argument so to get connected, in order so to provide a remote service. And as I mentioned before, so automation is helping customers reduce their costs.", "Well, this is something that we are accelerating because they will need it even more in the next few months or quarters whatever happens down the road, customers will need some savings in the total operating costs and they will be a ready so to invest more in our digital technology and that's why I said, we are ramping up. So here our speed of progress, we're not changing the direction at all." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of PJ Juvekar with Citi. Please proceed with your questions." ] }, { "name": "Eric Petrie", "speech": [ "Hi, this is Eric Petrie on for PJ. Doug, I wanted to ask, how do you see the magnitude of sales decline in U.S. and Europe compared to China? I'm guessing there is some differences due to the extended stay at home orders, but any thoughts directionally would be helpful, particularly in the Institutional?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I mean the situations are quite different in terms of development, and frankly Europe, didn't they act in a unified fashion. You had different countries because of disease progress at different points in time too, act in different ways at different points in time. So there is no one answer really that will work in Europe. I think what we've seen is, I would say more similar than dissimilar what clouds it sometimes is the percent hand sanitizer can kind of cloud some of the results, etc.", "U.S. really across the board went really aggressively on a restaurant shutdown. You had, as talked earlier in Europe, a number of the big countries have shut restaurants down but not all countries and in certain markets, they've stayed open as is through the whole COVID experience heretofore. So there is not, I think, one model.", "What we've signaled and I think there's plenty of outside data that if you look at our largest market, which is the U.S., you've had a lot of the restaurants either completely closed or only allowed to have pick up or delivery, which is a dramatic downturn in their business and there is public data around number of transactions, which were down in the 40% to 60%, depending on the segment percent rate year-on-year and I think those are good indications of the type of demand you would expect to see." ] }, { "name": "Eric Petrie", "speech": [ "That's helpful. And then secondly, as you're growing your annuity business, we see greater opportunity in existing customers with circling the customer and adding increased solutions per account or do you see greater opportunity from new customers?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I think it's always -- the answer is in both and Christophe's answer on protein would be a good evidence. I mean certainly there are providers there who are high quality and highly concerned, who we have not developed relationships with over time that we would love to develop relationships over time.", "That would be on the new side, and then within our customer base, given the new sensitivity around hygiene, which we believe is here to stay for quite a while, there's going to be ample opportunity, if you will, to sell new additional programs to help them meet new consumer expectations. So I would say it's a great chance for both. We like to have a balanced approach and have both at all times. That's typically how we build our marketing plans and so this will also fit that well." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Mike Harrison with Seaport Global. Please proceed with your questions." ] }, { "name": "Mike Harrison", "speech": [ "Hi, good afternoon. Your slide deck mentioned the accounts receivable write off risk was under a percent of sales in the prior downturn or in prior downturns. This downturn is different really -- really hitting your foodservice and hospitality customers. Can you talk, kind of in general, how you view their financial position and how you are thinking about the risk to collections or around bad debt?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I'll ask Dan to give his perspective, and then we're going to add some color to it. Thanks." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yes. Thanks, Doug, and thanks for the question. So, yes, you're right, we gave the parameter around how our collection experience and bad debt expense trended after the great recession, and clearly like you, we think that this is going to be an event of a different character. So let me just say this, I mean, Doug said upfront and it's true. We're very confident in our financial position.", "We go into this experience very committed to be partners with customers that we have decade's long relationships with. That said, we are also on our guard and looking out for our own interest and for our shareholder interest. I'll just put it this way maybe, we will work very collaboratively with customers with the interest of helping them also assuring ultimately a great collections. We have tested our bad debt experience and portfolio deterioration very, very severely and the net of it is, we remain very, very confident of delivering positive free cash flow across the year." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "And I would add, the disadvantage of being a global business is you see a lot of crises over time and the advantage of being a global company is you see a lot of crisis over time. So if I even go back, there is a long history of very good partnership between the finance team and the businesses and it takes both to manage these risks. So could even be the Greek crisis.", "It could be things that we go through in Latin America routinely. Experience we had as just referenced in '08, '09. Things we've gone through in Asia at different points in time. We have experience here. That doesn't mean that we are going to mitigate all the challenges either. So the fact that there's going to be increased bad debt is almost a surety and then it's a question of how well do we mitigate and manage that and I would say we have a very capable team there." ] }, { "name": "Mike Harrison", "speech": [ "Alright. And then, one of the things that you guys addressed as an opportunity at your last Investor Day was Legionella. It seems like this is an issue when you have buildings closed for some period of time and then you reopen them. So can you just talk about how Legionella might factor into Institutional and lodging or maybe some other markets as we start to look at an eventual reopening?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, Christophe will address this." ] }, { "name": "Christophe Beck", "speech": [ "So the water question is becoming so a bigger opportunity. So for those sites, this is true in hospitals, this is true in manufacturing, this is true in hotels because infection in general will come from the weakest link. So it's maybe a little bit coming back to a previous question, as well so saying that if we serve very well the food safety risk doesn't mean that the whole infection risk is reduced if we don't take care of the water cleanliness. If we don't make sure that the pest is being eliminated.", "So that's where the comprehensive value of the company, so it makes a huge difference for our customers going forward. So the question on water is becoming more interesting and more in demand, especially in Institutional and in healthcare. This is true for Legionella. Just to remind it's really coming out of sprayed water. So like the cooling towers, but it's also disinfecting so that the water from the building, which is important as well, and it's also getting the right quality of the water for any food preparation or drinks for that matter as such. So the water opportunity in those segments are -- will rise going forward through that period." ] }, { "name": "Operator", "speech": [ "Thank you. Our final question today is from the line of Andy Wittmann with Baird. Please proceed with your question." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, thanks. I just wanted to get an update, I guess on the three year efficiency initiative where you guys are playing on addressing about $325 million of cost savings and just trying to understand how that gets addressed with all the other complications of COVID. Does that number go up in terms of your target savings? Can you -- and really, could you just give us an update of the annual run rate of savings maybe that you ended the quarter at? Can you reiterate or update us on the incremental savings that you expect to see this year and maybe next year? I just want to understand how that's factoring into your business plans today." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I would say, Andy, we went into the year with a $130 million incremental savings, as a consequence of the May 2020 program. We still expect to realize that. As that base changes over time, we will keep updating and let people know what's going on and how it's related to May 2020.", "Right. I mean, I don't know what else. Yeah, it's going to be interesting time. There is going to be a lot of changes. We will certainly be saving more than a $130 million on SG&A this year. It's going to be an absolute requirement given the environment we're in, but a key component of our savings this year still is coming from May 2020." ] }, { "name": "Andrew Wittmann", "speech": [ "Okay, thanks." ] }, { "name": "Operator", "speech": [ "Thank you, at this time -- we've come to the end of our question-and-answer session. And I'll turn the floor back over to Mike Monahan for closing comments." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our first quarter conference call. This conference call and the associated discussion of slides and slides will be available for replay on our website. Thanks for your time and participation today and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2019-10-29	[ { "description": "Senior Vice President, External Relations", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker", "position": "Executive" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Daniel Rizzo", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "G Research -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Seaport Global -- Analyst", "name": "Mike Harrison", "position": "Analyst" }, { "description": "", "name": "Analyst", "position": "Other" }, { "description": "Robert W. Baird -- Analyst", "name": "Andrew Wittmann", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to Ecolab Third Quarter 2019 Earnings Release Conference Call. [Operator Instructions]. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. It is now my pleasure to introduce Mike Monahan, Senior Vice President, External Relations. Mr Monahan, you may begin." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. Hello, everyone and welcome to Ecolab's third-quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO and Dan Schmechel, our CFO.", "The discussion of our results, along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials stating that this teleconference and the associated supplemental materials include estimates of future performance.", "These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview of the results, pricing, new business gains, and product innovation led the third-quarter sales and along with productivity improvements and cost efficiency actions yielded the third quarter's 12% adjusted diluted earnings per share increase.", "Moving on to some highlights from the quarter, and as discussed in our press release. Acquisition adjusted fixed currency sales increased 2% as the Institutional and other segments show steady sales gains and more than offset a modest decline in Energy and moderately softer industrial markets. Adjusted fixed currency operating income margins increased a 140 basis points, continuing their steady improvement. Income growth was led by double-digit gains in the Industrial and Energy segments.", "Adjusted earnings per share increased 12% to $1.71 representing another quarter of double-digit adjusted EPS growth. Currency translation was an unfavorable $0.03 per share in the quarter. Progress continues on the spin-off of our Upstream Energy business, we continue to expect the spin-off to be completed by mid-2020.", "Looking ahead, we will begin rebuilding our sales momentum in the fourth quarter as the moderated delivered product cost environment has enabled us to reprioritize new business development, as our sales teams' primary objective. As always, we will drive our new business wins by focusing on our innovative products, sales and service expertise, and our value proposition of best results at a lowest total operating cost for customers.", "We will also continue driving productivity and cost efficiencies. Our digital investments are developing well and we look for them to add new actionable insights for customers to improve their operations, increase our sales force effectiveness, and enhance our market differentiation.", "We narrowed our forecast for the full year 2019. We now look for adjusted diluted earnings per share to rise 10% to 12% to the $5.80 to $5.90 range as pricing volume gains and cost efficiency benefits more than offset the impact of moderated delivered product cost increases and business investments.", "Currency translation deteriorated $0.02 and is now expected to be an unfavorable $0.13 per share in 2019. Fourth-quarter adjusted earnings per share are expected to be in the $1.64 to $1.74 range, up 6% to 13%.", "In summary, we expect good fourth-quarter earnings momentum in 2019, the more than offset moderated delivered product costs and unfavorable currency exchange, and along with cost efficiency actions yield 10% to 12% adjusted earnings-per-share growth. As we continue to make the right investments in key areas of differentiation including product innovation and digital investments, we expect to develop superior growth this year and for the future. And now here's Doug Baker with some comments." ] }, { "name": "Douglas M. Baker", "speech": [ "Thanks, Mike. So I'll just offer my take on the quarter. There is a lot to like in this quarter and there are some areas that we're addressing. The good news is as we leave the third quarter moving into the fourth quarter, we are in a very good position to end this year successfully while I'd say importantly building momentum as we head into 2020. So the positives in Q3, well certainly, 12% adjusted EPS growth. We had very strong cash flow with a Q3 conversion rate of over 100% as we reduced inventories post our supply chain SAP roll-out in North America. Year-to-date cash flow was up 29%.", "We also continued our strong pricing helping drive the 140 basis point OI margin improvement, Mike referenced. Our team has executed really well across the board, they continue to drive the business performance improvements, they are also managing a North American SAP roll-out, which has moved from supply chain into the commercial arena and they're also managing the spin-off Upstream. All this, they're doing while improving the business. And we also talked that we've shifted our sales team priority focus as raw materials stabilized and some markets have softened. We have moved our sales team focus from what I'd call pricing and growth to growth and pricing, meaning growth is primary. It's not the only thing we ask them to do, but you always have to have something as number one priority and right now, we believe it's smart to have growth as the number one priority.", "So this shift moves this team back to what I would call their natural state and we're seeing strong results in all of our leading indicators. Net new business is accelerating, it was virtually flat year-on-year in Q1, up 10% in Q2, was up over 40% in Q3. We really need roughly 15% year-on-year to continue the growth trajectory that we'd like to see. At the same time, while we're accelerating our net new business, the team has continued to deliver on pricing, which, excluding Upstream, in Q3, was up 3% and very importantly, our customer retention has improved throughout the year as well. So our pricing efforts are not leading to declining retention trends.", "Finally, I feel very good about our priorities, our plan, and the execution. So we got on costs early, we remain on costs, we've done a great job securing the needed pricing as we've discussed. We've also shifted successfully to driving new business, and as I mentioned we're starting to see those results while continuing to secure pricing. And we're also driving the critical investment for sustained advantage like digital, like SAP, like people development and like the Upstream spend. So now let me turn it back to Mike, who will open up the Q&A session." ] }, { "name": "Michael J. Monahan", "speech": [ "That concludes our formal remarks. Operator, would you please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "Yes, thank you. We will now be conducting a question-and-answer session. [Operator Instructions] And our first question comes from the line of John with BMO Capital Markets." ] }, { "name": "John McNulty", "speech": [ "Yeah, good morning or good afternoon and thanks for taking my question. With regard to the reprioritization around new business development versus pricing kind of moving the volumes to the front of the -- I guess of -- the queue. I guess, how quickly can you get that shift to start really working on the volumes? And I guess also how should we be thinking about what this means for price mix as we look to 2020 as well?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, you know it's a little different by business, I would say in Industrial there is usually a couple of quarter lag between securing significant new business and when you start seeing it show up in the P&L. Institutional, that lag can be a bit shorter, call it a quarter and a half. So there is always, it takes a little time for what I would call accelerating new business trends to show up in the growth trend and make a difference. We would expect to have what I think historically good pricing next year. We're going to enter the year with very good carry-in momentum. We will continue to price in this environment, it's just going to be-we just, I mean honestly, it's about as simple as it sounds. We were late getting on pricing, sales teams hate doing pricing. It's a contentious discussion with customers who are they, who they're trying to make like us.", "And so this is always a hard thing to get sales teams excited, motivated around and you've got to make a call. We rang the bell little over a year ago on pricing. They started making very material difference as a consequence of that and we now know given the situation where they can, raw markets and just broadly economically it's smart to get on volume. So I think what you'll see is an increasing volume trend going throughout the year but it will take a few quarters for you to see a material change." ] }, { "name": "John McNulty", "speech": [ "Got it. Thanks for the color and then maybe just a quick question on the Industrial segment. I mean the overall growth actually looked relatively robust considering kind of the macro backdrop, I guess, can you speak to the condition of the end markets that you're seeing and what that means in terms of some share gain that it looks like you may have been picking up?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I think our Industrial business, I would agree, I think it's fared pretty well, I mean, it shows up. For instance, water looking like it went from [Phonetic]eight to a five we really probably think it went down two points and this is -- several factors. I mean certainly some markets are softening, but it's not softening across the board in the Industrial areas. There is a number of places where it's still quite strong and we see those areas. So the F&B business, chemical plants, commercial buildings, life sciences as examples, those markets are really unimpacted whereas steel, auto, and paper, which I think there's a lot of noise around and we would also say, we see some of that softening there as well.", "But with that said, I think we view this market, I mean if this is a conditions we're in, we think ultimately our new business efforts will overcome a lot of that softening may be not 100% of it, but we can still grow at a very good clip in that business. And obviously, if it gets dramatically worse, then we'll have to update our forecast, but that's not what we see right now." ] }, { "name": "John McNulty", "speech": [ "Great, thanks very much for the color." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you and Good afternoon. Maybe you could just help us unpack the -- the volume performance If we strip out energy and then the low margin businesses you exited. If you could just kind of walk us through the segments and where you are happier, where you think there is more work to be done?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, we would -- I don't know if I've ever had a quarter where I thought I was happy with our volume growth. And this would include it, meaning we have aggressive targets that we go chase. But if you unpack it your take away, paper was down this year and in the Energy segment, we probably lost a point in total. So without those, we will be up a point, but that's not where we need to be, which is really why sort of this shift in emphasis. We have very good trends in pricing and other things, we know we're going to have good carry-in, we've got to get moving on adding even more share. I would point out against every one of our major competitors, we track wins and losses we've gained share against all of them, but you've got to go on a really major share gain strategy when you have softening markets." ] }, { "name": "Vincent Andrews", "speech": [ "If I could, just as a follow-up to that into the pricing pivot. Are there specific new business initiatives that you're putting in place, is it product-specific or is it digital new technology, ERP system driven? Or is it just basic blocking and tackling?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, [Phonetic]we all use innovation as one of the primary, if you will, means to the end i.e. we bring additional benefit to customers, new and our existing and that's absolutely critical to equipping the sales team to have good success in new business. So certainly, the new digital efforts that we've had are starting to bear fruit. We're seeing it in a number of accounts, in QSR where we really led in the Institutional side, we're seeing it in food retail as well and water was one of the early adopters and we've seen very strong efforts around there as well. But with that said, there has been clear new targets established for the last four months of the year, what we're trying to achieve, what kind of momentum we're trying to drive. I think the sales teams love these initiatives, they're all over it it's clearly tracked, clearly monitored it's led by Christophe Beck, our COO and that initiative will also, we're quite confident, help us gain volume momentum as well as pricing momentum." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question is coming from the line of Gary Bisbee with Bank of America Merrill Lynch. Please proceed with your questions. Mr Bisbee. Your line is open for questions. Moving on, our next question will be coming from the line of Manav Patnaik with Barclays." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. My first question is just also just to follow up quickly on the pricing shift. What changed between I guess today and the prior quarter, is it just any backdrop that the -- weakness in the Industrial side or was it just -- may be just a little bit more color on why the decision was made today?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, it wasn't really made today. It was obviously made several months ago. And as we start moving this shift, I mean you got to -- it takes little time to enact it. This is like a natural occurrence for us. Sooner or later, our natural bent is growth then pricing, and so what I would call, it was a call to get back to natural state versus sort of a -- abnormal state where it's pricing over growth. And as we look at the situation we saw a rise, if you will, stabilizing in terms of market, in fact, we had a little daylight in Q3 year-on-year i.e. raws were slightly cheaper this year than they were a year ago in total when we net everything out", "And so that condition certainly, you know, what's we had forecast, we started to see that, in fact, it was true. And it takes a little time for these shifts to start bearing fruit, so you got to be a little bit ahead of the curve not behind it. There is no doubt that all the pricing actions that are in flight are going to be completed by the sales team. We continue to monitor that I'd point out that we had still strong new business growth, even when pricing was in front. So we'll continue to have good pricing effort even when growth is in front." ] }, { "name": "Manav Patnaik", "speech": [ "Okay, got it, that's super helpful. And then just your comments on the net new business, the acceleration from [Phonetic]0% to 10% to 40%. I guess in the fourth quarter -- or broadly just some thoughts on how we should interpret that into growth next year because I think you said all you need is really 15%. So that 40% sounds a stand-out there?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. And it's not a small, relatively small number right in terms of the whole P&L. So, I mean if I wanted to give you a very simplistic example if you've got a business in a $100 million and it loses 5% a year in attrition. Then if you want to grow at 7% you're going to need to add 12% new business. Somehow let's pretend it only comes from net new gains in corporate accounts, we have some businesses like that. Kay, would be like that really the only sell corporate accounts, well as you go through this, you start doing the math that 12%, it's got to continue to grow each year, roughly a 15% rate, if you want to continue to grow at 7%.", "And so that's how we look at this and so we measure this very closely, we like to be more around the 20% rate, so that we have some wiggle room if you will, in our numbers and those are the types of things that we look at because they're good forward indicators for us. But as I mentioned, I think John had asked the question. It doesn't, it's not like an immediate [Phonetic]show-up. So if we land, a new contract, we will count it as new business that day, it may take us three to four months to fully install and to realize that volume, but at the same time we are counting losses, the day it's announced, even though it may take four to six months for that loss to fully see itself into our P&L, and we think that's important.", "And so really this whole number is really a measure of our of our large wins and losses, principally in corporate accounts." ] }, { "name": "Manav Patnaik", "speech": [ "Got it, thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Gary Bisbee with Bank of America Merrill Lynch." ] }, { "name": "Gary Bisbee", "speech": [ "Okay. Let's see if this works this time, I guess, Doug, one more cut at the revenue, there is a number of areas where the comps were actually quite a bit tougher. F&B, paper being too. You talked about timing at Life Sciences. We know you walked away from some low-margin business that at Institutional recently, like how much of the sequential deceleration is sort of those factors that can normalize relative to actual change in the underlying trajectory like, because of weaker macro conditions or other items?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I think in Industrial, I mean I think when you normalize you get like this, I mean, if we were going to just to kind of [Indecipherable] there's like a 2 point apparent deceleration. I mean we are still going to grow on our higher base. We would call it 1 point market and 1 point is sort of gear shift from pricing to new business. And that's why we know we get on this new business, we're already starting to see the results, we know we will end up, if you will, gaining back some of that sales momentum. Now we aren't going to be able to cover any market condition. Nobody's ever expected us to nor will we promise that we can, but if the conditions remain more or less like they are today. We think this is still a relatively good market for us to continue to perform in the fashion that we're performing." ] }, { "name": "Gary Bisbee", "speech": [ "Great. And then a quick follow-up just on pricing, you said you expect to enter 2020 still having pretty solid pricing, but obviously, the comps get more difficult as we move out because you start lapping the bigger price increases you've gotten. What's reasonable to think about over the next year? I mean is it sort of like the 1% or so that's been the long-term average or 1% to 2% or anyway to help us. Thanks for that. Thanks." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I would say, it's not going to be at the current rate, which really when you strip out as I mentioned, Upstream averages up, right, it's a little over 2.5%. It's about the rate that we expect in the fourth quarter and it is going to slow through the year, but we will be significantly above our normalized 1% calling almost terminal rate that we have. So I think we're in a position next year where we don't forecast inflation really in our raw material base to still have benefit from pricing." ] }, { "name": "Gary Bisbee", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of David Begleiter with Deutsche Bank. Please proceed with your questions." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Doug, can you discuss the competitive dynamics in US institutional and any concern that -- may be more aggressive view on the new business development might elicit some price response from your large competitor?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, David, I haven't, we haven't seen huge change in their behavior really anywhere, I would say, as we look at our wins and losses against our main Institutional F&B competitor, it's 4 times more wins than losses. And so our advantage, I think in technology and feet on the street and ability honestly to deliver great value I think continues to show up. So I mean, I'm just -- the numbers that we have, we don't see it. If we look at retention kind of ex the large margin walk away situation, we have very good retention, and so we're not seeing it. We're not getting nickels and dimes with small, medium accounts.", "Our retention has actually improved in Industrial throughout the year, which is terrific given the very strong pricing performance that they've had. So that's what we know." ] }, { "name": "David Begleiter", "speech": [ "Very good. And just on buybacks, Doug, you bought back no stock in the quarter, is that due to more active M&A pipeline and how is M&A pipeline today?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, we've got a large pipeline I've mentioned this and we're obviously going after a number of what I'd call middle to smaller deals. I think we also have larger folks that we'd be interested in, but there you got to be pretty, pretty price disciplined. Typically they're longer -- they're companies with the history and your ability to improve them is X, but not X times three and so we need to make sure that we're going to get a return for our shareholders over any reasonable period of time. I would say I never really want a recession, but I mean if there is an upside and there is a recession coming, I just can't tell you what year it's going to be, it will be a better M&A environment." ] }, { "name": "David Begleiter", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question is from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "All right. Doug. Thanks. In the Institutional SBU, for the business that was exited was that business that Ecolab never should have been in, or was it business that you've got in and then the customers eroded in that business? And then if you can characterize for us, the businesses that you are exiting?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Now we were in that business a long time, the value equation we had was favorable. The offers that were put on the table for the customers were dramatic decreases on what I would characterize as lower margin business for us before we ever would consider meeting those deals and so while it was good, it was going to be upside down if we met those like bids. And so, we chose not to do that, we of course continue to try to secure the business at a much different price than it was being offered and the customers made a choice.", "This has happened. I mean, this isn't the first time, but I wish it would be the last. And as I mentioned before, we've been through, we went through a wave of this in F&B for a number of years, I would say we secured almost all of that business back. I can't really think of one that we have and I'm sure there is one. We've had in Institutional over years. It kind of moves by region and in many cases, we've resecured that business as well. So we've got to maintain price discipline. Going -- selling customers for a cash loss just doesn't make any sense to us. And we do not believe or cost advantage or we have this monster cost disadvantage. I think we just understand the cost of doing the business quite well." ] }, { "name": "John Roberts", "speech": [ "Okay and then post-spin, will you put the downstream energy business into the Industrial segment? And are the margins about the same as the overall industrial segment currently?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes, downstream will end up in the Industrial segment. In fact, their margins are higher." ] }, { "name": "John Roberts", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Laurence Alexander with Jefferies. Please proceed with your questions." ] }, { "name": "Daniel Rizzo", "speech": [ "Hi guys, this is Dan Rizzo on for Laurence. How are you?" ] }, { "name": "Douglas M. Baker", "speech": [ "Good." ] }, { "name": "Daniel Rizzo", "speech": [ "So with the pricing and the shift to growth for next year, is there a certain threshold with external factors that would kind of make you shift your policy again. I mean would be a spike in oil or I mean how do you think about it if things were to change in terms of the input cost environment?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, well absolutely, I mean you can draw a scenario where it would be smart to reprioritize again, input pricing had a growth we aren't anticipating that environment obviously but should it happen, we could pivot quickly there." ] }, { "name": "Daniel Rizzo", "speech": [ "Okay, thank you very much." ] }, { "name": "Operator", "speech": [ "Next question is coming from the line of Christopher Parkinson with Credit Suisse. Please proceed with your question." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you, your results in F&B continue to do pretty well on enterprise selling across water pest elimination among a few other substrates. Can you just give us an intermediate to long-term update on where these initiatives stand? where they could go in 2021 and just, are there any other glaring enterprise selling opportunities within Industrial comparable to F&B? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Well, yeah, I would probably characterize it as -- why don't I say within water just because it's really water and F&B partnering very successfully. And honestly, there are a lot of legs left in that partnership. There is many customers where we may have small penetration of the combined concept, but not full enterprise and there are others where we haven't penetrated yet at all. So I would say I think the team has done a great job. But there is still plenty of room left to go even there.", "With that said, if you look at the water match up with Institutional, particularly in the hotel segment and with healthcare in the hospital for acute care segment. There is a significant upside. With water and life sciences, pharma continues to make sure that they create really sterile boundaries even external to they're building etc. So there are a number of initiatives and opportunities as we go forward. The data that we're getting and the new capabilities to digital just enhance our capability to what I would say as, marry these solutions to create outsized impact for customers." ] }, { "name": "Christopher Parkinson", "speech": [ "Got it. You've also -- lot more with products and service programs in healthcare over the last 12 months to 18 months, including some stuff internationally. Can you just quickly walk us through the two to three key growth drivers for our 2020 in both the US and abroad. Just given the strategy evolution. Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, look, I would say, number one, continue driving the program, selling initiatives that are already under way. They continue to have success, we know long term, that's one of the smartest strategies and the team continues to work to pull what I would call some commoditized segments and wrap them with digital capability to create additional programs moving forward. The other, as we discussed at the Investor conference that we had is OEM Solutions. Lot of this is marrying our capability and other med-tech device companies' capabilities and creating joint solutions that really gives both sides an advantage and these can be quite sticky as well. Those would be two big initiatives that we continue to push. We continue on Anios to push internationally and geographic, moves outward using their technology where we don't want to build, if you will, a ground-up Ecolab healthcare business and we continue to build out -- countries like Australia, China etc. with more traditional Ecolab full-service approach." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And next question comes from the line of Rosemarie Morbelli with G. Research. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. Doug looking at downstream energy, you mentioned the timing of new business start-up and the timing of also maintenance. Could you give us an estimate of the impact on the downstream growth? And then, is that a business that you can catch up in the fourth quarter or do you have to wait until the spring of next year, because of weather?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, no, I mean the downstream business, well, we think, be much better in the fourth quarter, because of the timing issues that we discussed. So mid-single-digits type performance, I would say, downstream is not that much different than some of the other businesses, they have been clearly all over pricing as well and have done a very good job securing pricing, it's helped them drive significant enhancement in margin, because they had to rebuild margins as well as a result of raw material price inflation.", "And so they are also in a shift to make sure that they get on and have growth and pricing but growth first, as they start driving share gains and they've got plenty of opportunities to do that. And then quickly," ] }, { "name": "Rosemarie Morbelli", "speech": [ "And then quickly if you could touch on how much business overall you may have lost because of your pricing strategy. And then if you could update us on the transaction the Holchem transaction in the UK where do you stand?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, the Holchem, I mean I think it has been announced, we have a disagreement with the antitrust authorities, unfortunately, the power in this disagreement is asymmetrical. Just the same way, we plan to challenge it through the legal channels that are available to us, but clearly, it's not a positive. And so we just have to let that move through the courts. In terms of -- customers we lost because of pricing, I mean, aside from the conversation we've just had around those two customers in Institutional, which is now well over a year old story in terms of when we got the news. I don't know if I'm sure there is a few but not material and the best evidence is the evidence I cited earlier, which is what we call our retention, which we measure very carefully by business, our retention corporately is better and it's improved throughout the year in Industrial. So we don't really see the pricing has had an adverse effect on our customer base." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Mike Harrison with Seaport Global Securities. Please proceed with your question." ] }, { "name": "Mike Harrison", "speech": [ "Hi, good afternoon. Was wondering about the water business, you mentioned some softening in autos and steel. Can you talk a little bit about how those markets were trending during the third quarter and in the Q4, where they worsening? And I guess, kind of the heart of my question is that autos have been weak for some time. So is it that they're shut down activity that happened in Q3. And I guess why didn't -- why haven't autos looked weaker earlier in the year, because they've been under some pressure for some time?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah autos I think as you know well-publicized scenario, so I don't think we see a situation where that turns around by any means in Q4. I mean you might have GM, it was a specific customer because strike on and strike off but aside from that I mean autos weakened throughout the quarter and we would expect them to remain weak in Q4 as we go through. In terms of steel, we got more of mixed message as it goes. I mean secured new, new business in that area, but overall, I mean the steel business as a consequence, in part because of autos and other Industrial is down, but we don't look at that one and hopeful that business continues to grow. We would expect it to grow in the fourth quarter." ] }, { "name": "Mike Harrison", "speech": [ "And then a question on the F&B business, just looking for an update on the protein market you mentioned that that market grew moderately during the quarter, but was wondering specifically if you can comment on what you're seeing related to African swine fever and the impact that that's had on protein markets?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I don't think that's going to have a material impact on us, given most of our exposure and protein would be beef and chicken, so we've seen the protein business continues to grow, it's low single digits, we would expect more of the same." ] }, { "name": "Mike Harrison", "speech": [ "All right, thanks very much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of PJ Juvekar with Citi. Please proceed with your question." ] }, { "name": "Analyst", "speech": [ "Good afternoon, this is Eric Petrie on for PJ. Doug, your volume and mix was flat in the quarter, how do you think that compares versus underlying industry trends?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, as we mentioned earlier that's heavily influenced by Energy, right, which was off considerably and also paper, I think even those declines were very much in line with industry trend you might even argue we held sort of our gain share in those markets. And then on the balance, I think now I mean how many, I've got a lot of industries to walk through, but I would say. I think if you look in total. I think we're, if you look at our net wins and net losses what we think is actually going on in the markets I would say we feel we are gaining share, but not at the rate that we want to or need to in the market environment we're in right now." ] }, { "name": "Analyst", "speech": [ "Okay, helpful. In healthcare, your team has been innovative with product launches including digital dashboards, predictive analytics, and core temperature fluid management, do you think that's enough to get top-line growth, higher?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, you know we're bouncing around the low to mid-single digits, right now I think it's going to take us a while to move out of that range. So I think those things are going to enable us to do it, but as we talked in the investor conference. I mean, we need to continue if you will, evolving the portfolio much more to grow. Some of that we do by taking things that have been commoditized and putting them in the growth category. And some, it's just over time the stuff in the growth category grows faster than the stuff not and we start seeing a natural shift as we go." ] }, { "name": "Analyst", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Andrew Wittmann with Robert W Baird. Please proceed with your questions." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, guys. Yeah, there's been a lot of questions on kind of the top line, I wanted to dig in a little bit more into the margin profile. I mean if you look over the course of the year, the SG&A margin has been falling each quarter sequentially around here from like 29.7% this quarter about 25% and you're guiding 25% SG&A in the fourth quarter. I guess as we look at that 25% in the quarter and then guidance for the fourth quarter, is there anything unusual in that that makes that unusually low or anything or is that kind of the way to be thinking about it as we head into 2020?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, there is no big news in there that would say makes it look artificially low, I mean, certainly, we work on productivity routinely. We still believe there is productivity in front of us as we leverage more effectively new tools, i.e., we need to equip our teams with capabilities to enable them to manage more business successfully. And we are working on those tools, all the time, they are always in flight. And so we do not believe by any means that we're at the end of, like our productivity journey, but we've got to do it in a way that makes sense i.e can people adopt the new technology, does it work, does it truly enable us to continue to serve customers the right way. And I think we've done a good job, doing that as evidenced by both retention which is good and continued decline in SG&A ratio." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, thanks for that. I guess my follow-up question would be, I guess similar on the gross margin side, obviously, there's a lot of factors that have -- that go into this. in the last couple of quarters, you're starting to see some gross margin leverage from the pricing, which is great to see. I was just wondering with the bigger puts and takes are Doug that you're looking at on the gross margin side, obviously raw materials has been the story for many, many years now. Are there other factors that come out of your cost efficiency initiatives that you've got in place, which I think were largely SG&A based, but are there other puts and takes besides the raw material complex that could factor into your gross margin performance as you head into 2020?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes, no, I think there is a number, I mean, one, we got on a lot of formulation work and what I would call is optimizing where we make what and particularly the energy business, they were impacted by the SAP roll-out that we had that was really more on what I would call legacy Ecolab plants primarily. So as a consequence they were liberated they weren't frozen and so you see even there and in tough volume situation good gross profit and very good [Indecipherable] a leverage that is both SG&A and a lot of the work in the plants etc. That opportunity exists across the board and the supply chain SAP work is largely done, we got a few plants left to do, but it's really not material, and now those plants are leveraging the new tool, understanding and having more clarity about what's happening in terms of all the way through freight, but making, we do a batch process should we be rethinking formulation structure and the rest.", "And so a lot of this work is still in front of us and I would say greatly enhanced and enabled by the work we just did with SAP. There is also clearly work to be done on SG&A and so this is why we still believe, delivering double-digit EPS is really the right path in the way to think about it going forward, because we can grow and we can also grow while obtaining leverage, not just through volume but through efficiency work both in plants and in SG&A." ] }, { "name": "Andrew Wittmann", "speech": [ "Thanks. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We've reached the end of our question-and-answer session. I will turn the floor back to Mike Monahan for closing comments." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our third quarter conference call. This conference call and the associated discussion slides will be available for replay on our website. Thank you for your time and participation in our best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2019-07-30	[ { "description": ", Senior Vice President, External Relations", "name": "Mike Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "Nomura", "name": "Dan Dolev", "position": "Other" }, { "description": "Bank of America", "name": "Gary Bisbee", "position": "Other" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays", "name": "Manav Patnaik", "position": "Other" }, { "description": "Jefferies", "name": "Laurence Alexander", "position": "Other" }, { "description": "UBS -- Senior Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Deutsche Bank -- Executive Director of Business Services", "name": "David Begleiter", "position": "Executive" }, { "description": "Morgan Stanley -- Research Division Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "JPMorgan -- Research Division-Senior Analys", "name": "Jeff Zekauskas", "position": "Other" }, { "description": "Credit Suisse -- Senior Research Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "Gabelli & Company -- MD & Senior Chemical Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Seaport Global", "name": "Mike Harrison", "position": "Other" }, { "description": "Citi -- MD and Senior Research Analyst", "name": "Eric Petrie", "position": "Analyst" }, { "description": "Robert W. Baird.", "name": "Andrew Wittmann", "position": "Other" } ]	[ { "name": "Operator", "speech": [ "Greetings and welcome to Ecolab's Second Quarter 2019 Earnings Release. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Mike Monahan, Senior Vice President, External Relations. Mr. Monahan. You may now begin." ] }, { "name": "Mike Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's second quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO, and Dan Schmechel, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials stating that this teleconference and the associated supplemental materials include estimates of future performance.", "These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are discussed under Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview of the results, continued good sales growth and strong margin expansion drove Ecolab's double-digit earnings-per-share growth in the second quarter. Pricing, new business gains and product innovation led the sales and operating income growth, which along with cost efficiency actions yielded the second quarter's, 12% adjusted diluted earnings per share increase.", "Moving to some highlights from the quarter. And as discussed in our press release, acquisition adjusted fixed currency sales increased 4% as the Industrial and Other segments both showed strong sales gains. We realized improved growth from the Institutional segment and the modest gain from energy. Adjusted fixed currency operating income margins increased a 120 basis points, continue the good acceleration shown throughout 2018 and into 2019.", "Growth was led by double-digit gains in the Industrial and Other segments. Adjusted earnings per share increased 12% to $1.42 representing another quarter of double-digit adjusted EPS growth. Currency translation was an unfavorable nickel per share in the quarter.", "Progress continues on the spin-off of our Upstream Energy business, we continue to expect spin-off to be completed by mid 2020. We continue to work aggressively to drive our growth, winning new business through our innovative new products and sales and service expertise as well as driving pricing, productivity and cost efficiencies to grow our top and bottom lines at improved rates across all of our segments.", "Our digital investments are developing well and we look for them to add an expanding range of new actionable insights for customers to improve their operations enhance their experience working with us and increase our sales force effectiveness. We continue to expect consolidated 2019 adjusted diluted earnings per share to rise 10% to 14% to the $5.80 to $6.00 range. As volume and price gains and cost efficiency benefits more than offset the impact of moderated delivered product cost increases and business investments.", "Currency translation is expected to be an unfavorable $0.11 per share in 2019. Third quarter adjusted diluted earnings per share are expected to be in the $1.65 to $1.75 range, up 8% to 14%. In summary, we expect continued good top line momentum in 2019, which should more than offset moderating delivered product costs and unfavorable currency exchange, and along with cost efficiency actions yield 10% to 14%, adjusted diluted earnings-per-share growth.", "We continue to make the right investments in the key areas for differentiation including product innovation and digital investments to develop superior growth this year and for the future. And now here's Doug Baker with some comments." ] }, { "name": "Douglas M. Baker", "speech": [ "Thanks, Mike, and hello, look, it was a very solid quarter adjusted EPS up 12% versus year ago, we had a number of standout performances led by water at 8% organic Life Sciences, which was up 43% but importantly 14% organic, F&B up 9%, 5% organic and Pest 7% organic. And we also saw a solid improvement in our Institutional and Healthcare businesses.", "So continued strong pricing work, new business efforts led by innovation all helped drive a 14% improvement in operating income, which reflects a 120 basis point improvement in ROI ratio at fixed currency, so this is delivered importantly, while executing the key final steps in our US SAP rollout, which is now largely behind us.", "So as we sit here today, we feel we're in a very good position, we've got significant growth opportunities. Our teams are focused on driving new business and having success, margins are expanding via pricing and cost saving efforts and all of our initiatives have legs there early. So as a result, I remain quite confident we'll meet our dual objectives of delivering the year and importantly exiting with great momentum.", "So with that, I'll turn it back to Mike." ] }, { "name": "Mike Monahan", "speech": [ "Thanks, Doug. That concludes our formal remarks. As a final note before. Before we start Q&A. We plan to hold our 2019 Investor Day on Thursday, September 5, if you have any questions, please contact my office. Operator, would you please begin the question-and-answer period." ] } ]	[ { "name": "Operator", "speech": [ "Yes, thank you. We'll will now be conducting the question-and-answer session. [Operator Instructions]. Thank you. Our first question is from the line of Dan Dolev with Nomura. Please proceed with your questions." ] }, { "name": "Dan Dolev", "speech": [ "Hey, guys. Thank you so much for taking my question. So, looks like a great quarter. When it comes to the cost control , etc, it looks like you're guiding your gross margin, up by 50 basis points for the year. Two questions here. A, how much confidence do you have in that increase in the guide, Doug? And the second question is if I think about sort of the EPS impact for this. It's north of I think $0.10 potentially. They do have some interest savings, maybe little bit more shares like why not take up the EPS guidance. I mean this seems quite conservative? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I guess, from the first question on gross margin, yeah, I mean we feel good about our ability to continue to drive improvements in gross margin. Q2 reported, had a negative year-on-year. Gross margin, not significant, but that was really driven fundamentally by the fact that we just produce less than that quarter and that was taking down inventories as we had a successful SAP rollout, We built them in the first quarter and then actually in Q4. And so we really reduced inventories.", "It's really dramatically four days in Q2 versus Q1. And we also had lower sales in our WellChem business. And so that's really the sum total of why you didn't see a little daylight between gross margin this year versus last year.", "So we see raws holding getting marginally better, pricing continued. So we have a good deal of confidence that we'll see improvement for the year in gross margin estimating call it around 50 basis points plus-minus for the year.", "Your question is to what we've got pluses and minuses in the year, we always do you identified a couple interest income is a plus versus what we expected raw materials or a minus plus as we sit here today. Of course that can change, but as we look will it be a minor plus versus our plan, but then you've got volume negative really just in the Upstream business and really principally in WellChem.", "And so that's the negative they sort of neutralize each other. There is certainly some of the margin increase is just a function of little lower sales. As a consequence of WellChem volume coming down, which by itself is a lower margin too. So, I think we feel we have a very balanced outlook we're continuing very significant investments in the business, we are undertaking and finalizing SAP the high risk stuff is all behind us 100% of the US supply chain is on it now. Well, the key parts.", "And so we feel like we're in very good shape in a number of areas and we are forecasting midpoint like a 12%. So it's a good year and importantly we feel we'll have very good momentum exiting the year." ] }, { "name": "Dan Dolev", "speech": [ "Great. Excellent results . Thanks again." ] }, { "name": "Douglas M. Baker", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of Gary Bisbee Bank of America. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey guys, good afternoon. Doug. As we exited last year, the sales momentum is built, and I think the expectation was that, that momentum will continue, and yet things have slowed a bit year-to-date. I realize energy is a big component of that. And I guess to certain extent Institutional you've walked away from some low margin business, but how are you thinking about sales momentum overall, and is this 4% or 5% type of number the last two quarters, is that pretty good number to think about going forward? Or is there a case that there could be some acceleration from here in the back half of the year. Thanks." ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I think you touched on the two issues. I mean, one is Upstream sales are softer than expected and softer than last year and institutional losses, if you exclude the Upstream business we have 6% sales, 5% organic and that it would include the Institutional losses this year, so I think underneath we feel good. I mean we were growing organically in Water at 8%, I highlighted a number of standout divisions and I think this 5% organic would easily be 6% with the normalized losses in Institutional, which we will see beginning first quarter of next year.", "So, I think we're in good shape there, we continue to drive pricing at the same time and manage a number of other initiatives. I don't think there's ever any satisfaction here with whatever the print is on our sales number, we always want another point or another two. But, I don't believe that's an issue at this point in time. And importantly, then the net new business results are accelerating, particularly in Institutional, which is the best leading indicator we have of future results." ] }, { "name": "Gary Bisbee", "speech": [ "Great, thanks. And then just a quick follow-up. Any how are you seeing the macro, thinking about the macro these days a lot of headlines about slowing in China. Obviously, Europe remains relatively weak, is that having much impact on the trending in revenue or is it not changed that much from your vantage point? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I agree with the headlines. I mean we see some of it in China too, but for the year, we're estimating mid-to-upper single digit growth in China. And China is -- size, it's $0.5 s billion, so it's not going to have a huge seesaw effect on our overall results. Yeah, I don't think the economy is hitting our results right now, there is significant share in front of us, we can continue to drive it. There are economic conditions obviously that can impact us. We're not bullet proof, but we tend to perform better than most in poor economic times, but at this point in time, I wouldn't blame the economy. I think all in all we're doing what we need to do to continue to push sales and push pricing and the other things forward. And I think the environment is favorable enough to allow us to do that." ] }, { "name": "Gary Bisbee", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Tim Mulrooney with William Blair. Please proceed with your question. Mr. Mulrooney, your line is open for questions." ] }, { "name": "Tim Mulrooney", "speech": [ "Sorry about that. Good afternoon, Doug. The performance in your Water business has been outstanding over the last, call it four quarters or a little more, maybe, I know the strong organic growth is a combination of many different factors, but in terms of share gains, if you look at the light business and the heavy business, you look at the different geographies, can you talk a little bit about where your product innovation is really having an impact with respect to new business wins, etc." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. There have been a number of areas, obviously as you just highlighted, I mean the Water business is strong across many fronts, which is one of the secrets, its particular strength recently is an initiative that we had really coupling what I would call our food-safety hygiene business with Water particularly in the Food & Beverage area. We've had a number of just huge wins in that area because there's real synergy when you combine the two, we have a unique ability to do and deliver value in that way versus competition, so we have significant competitive advantage, i.e, we can bring outsized value to customers that others can't.", "And as a result, we've seen dramatic share wins there, but this isn't the only area that we can do that, we're now taking it into some core parts of the institutional arena where we also believe the combination can have significant impact as we move forward. But the fundamental business, how they're executing, how we're looking at leveraging 3D TRASAR, how we digitize much of the business and give us much more visibility -- gives us much more visibility and in turn allows us to do much more for customers. All these things are helping drive share gain." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay, that's helpful, thanks. And then my second question on your digital business, are there any quantifiable metrics, if you could share with us with respect to your digital innovation efforts to give us a better idea how the program is moving along, maybe in terms of the number of users today or pilot programs in the field or data scientists on staff, anything you can point, to say \"Hey, we're in a different place than we were two years ago?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, we certainly are I would say a couple of years ago. I mean we probably tripled sales that we call digitally enabled over the last couple of years, we've had a bunch of sizable wins this year as the technology and the investments we've been making over the last few years are now bearing fruit because they're marketable if you will. What we will do is spend real-time in the Investor Day meeting that we have coming up in September quantifying and discussing this in more detail, that will obviously be webcast so even those who can't make it in person can certainly hear and we are working in developing, we have a number of internal metrics that we've been refining what we want to do is make sure we have the right metrics to point our investors too, i.e, the ones that we think are best indications of leading wins and leading results. And so we've been doing a lot of work there.", "So certainly it's digitally enabled sales, it is number of people on hand, but it's number of units that we're touching type of information that we're pulling etc. All those things are moving in the right direction, we feel good about the efforts, but this is a area where you can't move fast enough and I think the more we learn, the more we know we have to learn and also the better we feel about the upside potential and this technology represents for our ability to make a difference with our customers. So it's all good, but we're going to do, it's been some real-time on it in September." ] }, { "name": "Tim Mulrooney", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. Good afternoon. Doug, obviously your sales pipeline to be I think gives you confidence that the macro environment that everyone's worried about may be doesn't impact in the near to medium term, but I guess a couple of years ago when GDP was in that 1% to 2% range, your top line wasn't that fast. Is there something I guess the changes made over that period of time today, does that give you more confidence that you'd probably be able to outpace that with your sales pipeline the way it's executed the last two years?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I mean the only safe answer is, look, I think we've done a number of things to further strengthen competitive advantage, the digital conversation that we just talked in that area certainly one of the areas. With that said, and I mentioned this, we're not bullet proof, so if the economy drops dramatically, it's going to impact us, but I don't believe it pulls us negative and really has it, even if you go back to the '08, '09 episodes, we kept our nose above water albeit barely during that period of time.", "So we do a good job during the downturn. So lot of it is the nature of what we sell, how we go to market, the trade we ask from customers, i.e, invest in our technology and you're going to get two and three times back in returns. It's a very effective story even in difficult times. So, I don't want to say that it's not going to have any impact, that's not our history, but I think it's a muted impact versus other companies." ] }, { "name": "Manav Patnaik", "speech": [ "Okay, got it. That's fair. And then just on margin side, I mean obviously the guidance implies that second half margins will have kind of an outsized period, assuming raw material costs are in check or as expected, should we expect next year to have kind of a similar showing on the margin side or are there other moving pieces we should be considering." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I was getting a little wary of talking about the next year, so early in this year, but I guess what we've alluded to, once we introduce the accelerate cost savings initiative there are conversations if you read back, we did indicate if we normally run call it a 40 to 50 basis point improvement, accelerate should be additive to that, we acknowledge that this year we had expect OI margins to create over a 100 basis points, all things being equal. I don't, I don't think it's a one-year phenomenon, but there's a lot that I don't know about next year, i.e, FX, raw materials, economic environment, etc, so I'm a little wary of coming out too strongly on that but what we're working hard to do is set up the scenario where, that's the type of capability we have from a delivery standpoint, i.e, when I referenced in my upfront comments leaving the year with momentum. We want both top line and margin momentum as we leave the year because then you have a lot of tools to deal with whatever the environment is going to be." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. All right, thank you, Doug." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Laurence Alexander", "speech": [ "Good afternoon. I guess two questions. One, could you give us a -- what the sort of longer term run rate and then the recent growth rate in the RemainCo Energy. The piece that you're keeping? So we can think about what a benchmark is for the next few years? And secondly, from where you sit now is there a way to leverage the digital platforms into Healthcare to accelerate the business there or how is your thinking evolved around the need for scale in that business to improve the top line growth?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, so I'll just touch on Healthcare first. The Healthcare team's been one of our leaders in digital innovation in their business. And already has significant sales, we have a really I think the best in class hand hygiene system -- monitoring system for acute care adoption rate continues to pick up and move forward there.", "We've got great technology and monitoring and measuring our ability to knock down healthcare acquired infections, which is a big and important measurement. So there are a number of areas where there has been real innovation and I think the team as they become more aware of capabilities are starting to drive this through other parts of the program.", "So our Healthcare business in the quarter was 4% 3% organic, it was 6% organic in Europe and double-digit in other regions, North America US in particular was flat, but I think what the team's doing well is they are identifying where they have really strong growth opportunities, medium and long-term and they are increasing their focus on those areas and getting after them. And that includes some of the digital efforts that I spoke to. The other question you had around downstream. So there are three components to our Energy business today. There is oilfield, chemicals, there is WellChem, those two comprise Upstream that's it's being spun and downstream is remaining with the company and being folded into the Industrial businesses.", "It will be still a stand-alone business, but it will report up into the Industrial Group, the downstream businesses about a $1 billion in size. It grew last year at mid-single digits. It grew same in Q2 it's expanding margins this year around 200%, as its pricing is catching up to raw materials this year as well. It's well above average in terms of OI margin for the corporation.", "A great return on capital. It's a very similar business to our other Industrial businesses, the mid-single-digit is sort of what we expect out of that business when we're executing well and we've got advantage technology there. We have leading share. And we continue to gain share in the market with that business." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. And nice quarter, is it fair to think about the pest business Pest Elimination is a leading indicator for the Institutional segment in that pest is a little bit more discretionary. So the fact that it's performing so strong for so long argues well for the momentum in the Institutional business?" ] }, { "name": "Douglas M. Baker", "speech": [ "I would say the pest business. Look, it's the largest component will be an I", "nstitutional, but it's got a fairly sizable share in Industrial to, what similar about the two businesses is execution matters quite a bit. And what the pest team has really done over the last, I'll call it five, six years has stepped up their execution considerably.", "We went through a few years you may recall, where it was low single digits, everybody was kind of what's wrong with pest, we put it into the shop, it came out and it's really done incredibly well growing at high single digit organic growth rates for really several years now on a roll.", "I don't know what if it's a perfect proxy or not, I would say our Institutional business. I am not worried about it from a long-term standpoint. I wish it was growing faster this year. Yes, that would align me with every member of the Institutional team. With that said, I think they're doing exactly what they need to do they are driving sales, they are driving innovation and driving execution particularly in Europe, we are seeing positive signs. This is up double-digit in Institutional and the innovation focus and the execution focus is starting to show results in Europe, albeit slowly, but we expect Europe to improve toward the second largest Institutional business we have in the world, we need to get that thing moving.", "And we still have such significant upside in this business. It can be product penetration in the more developed markets we have new Water opportunities in this business, which I alluded to, but also ones that don't really involve Nalco Water per se, but are significant we think upside potential for the business we have sizable share and execution opportunities globally.", "So we look at this and we talked about being on track to exit the year. I'll remind everybody, I mean like on 1231. I believe we're going to be at a 4% to 5% run rate in that business as the new business continues to kick in. And most importantly, as the loss business is lapped and all the fundamentals point to that direction. So we're just asking the team to keep doing what they're doing. We believe time heals this thing and that we're going to be in very good shape moving into 2020." ] }, { "name": "John Roberts", "speech": [ "And then secondly at the National Restaurant Association meeting you previewed a lot of digital activities over in the Institutional segment. Is the Industrial segment, as rich in digital opportunities? And obviously the NRA show is focused toward the Institutional markets. So we didn't talk about Industrial there, but I don't if you can give us a perception of how balance the digital effort is across the two?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I'd say, if anything, the Institutional side has been playing catch up to the Industrial side, we started a lot of this work in Nalco Water in particular part because we had a head start with the acquired technology 3D TRASAR which was connected to our system assurance center in Pune, India. But as we continue to develop that technology develop our capabilities. That was the first place that we really kind of use that as a tip of the spear for digital innovation because we had knowledge there that we could go leverage.", "We've taken a lot of the learnings there. And that's really the base of knowledge that we're applying in other businesses, and then obviously customizing it for the challenges at hand. So if anything, and I think you'll see that clearly in September, we have huge significant innovations there, many of which are being commercialized right now that we're quite, quite excited about, just like we do on the Institutional side." ] }, { "name": "John Roberts", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of David Begleiter with Deutsche Bank. Please proceed with your questions." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Doug, just on pricing, given some raws are now flattening out coming down. Is there some potential for your pricing to also decelerate in the back half of the year?" ] }, { "name": "Douglas M. Baker", "speech": [ "We don't expect it to decelerate in the back half of this year. Obviously if you get significant raw material give ups, it does have an impact on our ability to get pricing. We don't typically go negative on pricing as you've watched over the years and we don't expect too in the future, but for this year, we expect to have strong pricing throughout the balance of the year." ] }, { "name": "David Begleiter", "speech": [ "Very good. And just on with the SAP implementation done. What do you expect tailwinds to be for you guys from that fully in place now?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I mean as I, as I said, we've got still some work to be done in a couple of divisions to bring on, but the big divisions and the big risk is really what I would consider behind us. Not in front of us. And we didn't -- this is kind of the most mentioned, we've had in the quarter, mostly because we don't have any negative to tell you and we're largely done I -- look, there is a number of things, when you go through this. One, we know we had increased costs during implementation. Some of these are starting to come out, but there is more that we've got to go get out, you have to shift production, you have to build inventory you have a lot more intercompany freight than you do when you're not doing this you have extra shipments because your service levels are naturally impacted as a consequence of this significant shift, our product supply team I thought did a heck of a job managing through this, but you can't say it didn't have any negative consequences, we know it did. So we know we're going to see some margin come back as we go through this, but most importantly it's a visibility that it gives us going forward. And the reason to make this investment isn't just defense, it's also offense.", "So our ability to look at our business understand trends do a better job managing things like freight, things like customer delivery do a better job delivering and do it with less money, all of which is even more important today given the escalation in freight pricing that we've seen the last few years, I think it's going to have a number of benefits as we go forward.", "Now, of course, we build that into our forecast, but it's these kind of cost savings opportunities that we want to continue to build, because these are the levers that we want to have to manage through whatever 2020 throws our way. If it's a similar environment as this year, we're in perfect shape if it's even worse we're in good are decent shape. And that's the type of situation we try to put ourselves in." ] }, { "name": "David Begleiter", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you very much, Doug, just if I could ask you for little more detail on Institutional, last quarter we talked about, there were some customer inventory issues that you thought would reset over 2Q and 3Q couldn't exactly tell the timing, so if you could just update us on where we stand on that it would be great?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, we got some of it back in the second quarter, we would expect some more coming back in the third and fourth. But, I expect this business really to kind of bounce around this 3% level for the balance of the year, it's a little better in that if you adjust for losses and stuff like that, but at that level it is very easy for us to get to the four to five exit rate that I've talked about. So that's what we see and some of that is inventory naturally coming back as it does." ] }, { "name": "Vincent Andrews", "speech": [ "Okay. That actually gets me the right question for Dan, which is just looking at the cash flow from operations for the first six months year-over-year is up quite nicely and ahead of the net income gain. So and there were some conversation about the inventory builds around SAP and so forth. Maybe you can just give us a sense of how working capital should trend in the back half of the year, and how we should be thinking about overall free cash flow for the year?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Sure. Thank you. So you're right, when we were on the first quarter call right, taking questions about what was a relatively weak at least year-on-year cash flow performance, clearly that slipped in the second quarter as we expected it to and communicated that it would. And year-on-year, a big part of that is improvement in working capital trends and inventory in particular, if you look at the second quarter last year, as Doug indicated, we were really building inventories in anticipation but also sort of a security for the SAP go-live, clearly we flipped that and in year-on-year comparison, inventory is significantly favorable to cash flow, as in fairness is accounts receivable and AP and so it was all in all a very strong quarter for cash flow.", "If you look over the full year, I guess I would continue to say what I said last time, which is we -- there continue to be opportunities to improve working capital performance somewhat, so we expect inventory balances to come down, but if you drop all the way down to year-to-date free cash flow, the metric that I focus on is where you started, which is we expect to be delivering very strong free cash flow something like 90% conversion of net income and that will be dependent of course in on other activities that we take that's the number that I would focus on for the full year. So great quarter feel good about our position to deliver strong free cash flow for the full year in line with business results. Okay." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Jeff Zekauskas with JPMorgan. Please proceed with your question." ] }, { "name": "Jeff Zekauskas", "speech": [ "Thanks very much. On your consolidated income statement, your product and equipment sales were up 1% year-over-year and your service and lease sales were up six, why was product and equipment so slow in service and lease are growing so quickly?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, the product was really a consequence of WellChem because WellChem doesn't really have service component per se and so as a consequence, when it's down it has an outsized impact on the product component. I will also say and I'll probably get kicked by my CFO and others we're not big fans of this product service split internally, we manage and look at the business in different ways, because we don't believe it's the best indicator now Dan didn't create as you'll also remind me it was foisted upon us, but we don't believe it's the best way to go work, but the issue you're talking about was really driven by WellChem volume being down which distorts the picture." ] }, { "name": "Jeff Zekauskas", "speech": [ "It's also the case that the margins in service and lease lifted 240 basis points and product and equipment cost of -- and the product and equipment piece maybe dropped to 120 basis points, can you talk about the margin differential why the one was lower and the other one was higher?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, well, the product is back to the earlier conversation which is -- we made less product in the quarter, so absorption was a negative as we took down inventories really four days from Q1 to Q2 and WellChem was down, so you had those double impact and absorption, it was the single biggest issue raws are about what we expected pricing was what we expected, etc. The surface component one we've got initiatives, it gets a little outsize in terms of what the actual impact was in service I would say.", "As we look at it, we don't believe it best illustrates what's going on in the business and when we look at it, we would say overall gross profit combined was if you take out the inventory move was flat year-on-year, roughly and we had improvement in SG&A across the board, G&A and S and we don't price this stuff separately, we do bundled pricing so separating these things is a bit of an artificial game for us." ] }, { "name": "Jeff Zekauskas", "speech": [ "Okay, great, thank you so much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Christopher Parkinson with Credit Suisse. Please proceed with your questions." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you. When you break down your Industrial business by platform, so commercial F&B, utility, chemical etc and you just look at all of your longer-term opportunities on a global basis as well as the relative end market growth rates pricing power capabilities, can you just comment broadly on the longer-term margin drivers in terms of mix, your expectations just any sense we could get a on where this business could go over the long-term would be appreciated. Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I'd say Water across the board -- while we say we're the market leader it's a very similar story to the balance. We are still relatively low in share and the wind, if you will or the occurrence in the water area are very favorable, they're not favorable for the world but they favorable for those with technology like ours, i.e, water pressures are going to increase we know water scarcity is only going to worsen something like 70% of the world's GDP is going to be in water scarce areas as soon as 2030, they're going to be a 40% mismatch between freshwater supply and demand as a consequence of growing middle class and finite water supply.", "So all those things lead favorable macro environment, and then we sit here with what we consider best-in-class technology and capability helping our customers reduce water consumption dramatically. This in turn reduces their carbon footprint and energy bill, so they end up saving money at the same time they end up saving water. Water itself is too cheap, but because it starts saving energy to, you end up with significant savings.", "This is true in virtually every industry that we or every vertical as you discussed, we compete in. And so as a consequence, we feel very good about our positioning in water and our ability to continue to execute. Digital will give us more capabilities in terms of shining a light on the difference that we can make, enabling customers to see where they stand in a given industry and what their opportunities are and what types of investments could be made to get what types of returns. All these things we think long term are favorable to us and then it's incumbent on us to execute and that's really what we believe the name of the game here is in Water, we bought it because we thought it was going to be an important issue for our customers, we knew it already was and all we've done since is learn that is even more important than we probably felt and the latent technology and I would say coupling of Ecolab know how has been a very potent mix." ] }, { "name": "Christopher Parkinson", "speech": [ "Great, thank you. And just as a quick follow-up on the enterprise selling initiative. Obviously, this has been going on for some time. Can you do a self-report card on how you think you've done the ongoing opportunities as well as, the opportunities still to come, it's clearly been successful in F&B certainly recently, but what are the areas Institutional, Pest Elimination and Specialty. Do you still see the largest opportunities? Thank you." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, with the time of the merger and I'm going back and my memory is not flawless, but I believe we said that we were chasing a $0.5 billion in terms of synergy sales and we've more than delivered against that objective. And I would say if anything, what we've learned across the way is how, how many and how significant the opportunities are. The next chapter here is continuing what I would call development synergistic development, i.e, where one innovation on let's say F&B and another innovation on the water side, when coupled together bring even more outsized advantage for customers who choose to buy both from us, we have the same opportunity in Institutional and a number of market segments as well.", "And as we crack that code. We believe we're going to have even more success going forward, but it's still early. I would say, look, we chase a $120 billion market opportunity conservatively and were $14 billion, $15 billion. And Water is a single largest opportunity of all. And so we are not sitting here worried about running out a green space in terms of the ability to go generate new business, it's really making sure that we execute and do it well so that we capture it." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Rosemarie Morbelli with Gabelli & Company. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. And congratulations on the strong quarter. Looking at at F&B, Doug. The industry was flat, and yet you reported a strong growth excluding acquisitions, corporate accounts, share gains price etc. Can you talk about in more details. What's the trends you are seeing in the different sub-segments like dairy, beverage, brewery food?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, I would say overall, what's happening. Our F&B business is one we're gaining share and we've had outsized share gains, particularly in the beverage and brewing parts of the business over recent trends and so those have been, probably the most importantly fastest growth segment our beverage brewery food is about on par 4% etc, but dairy is also quite strong at 10% and it's not exactly an ideal market for dairy.", "So what we're doing is helping customers produce more with less, with less water and less energy. This brings outsized savings to them and when they're in a flat market savings are very important and they get to do this without any sacrifice i.e, food safety, measurements. I'd say operational efficiency measurement all are equal or better under these scenarios and you get the result in savings in water and energy and also a story line around sustainability because it's real.", "So it's that formula that the team is developed in partnership in concert with the Nalco Water team and that's leading to our ability to drive success in a relatively flat business." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thanks. That is helpful. And I was wondering looking at beverage. I mean there is a lot of noise around plastic bottles and they seem to be an increase in the use of aluminum cans versus plastic bottles at least for Waters and other soft drinks, how do you fit in that particular category. Are you going to be hurt. If we, if the industry moves to substantially more cans versus plastic bottles?" ] }, { "name": "Douglas M. Baker", "speech": [ "No, I'd say, first, our position is let's all collectively do what's smart for earth and we will all have to adjust our business with said a trade in plastic bottle to either milik-type cartons and-or aluminum cans, will not have a negative impact on our business." ] }, { "name": "Rosemarie Morbelli", "speech": [ "So you are in both categories." ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Mike Harrison with Seaport Global. Please proceed with your question." ] }, { "name": "Mike Harrison", "speech": [ "Hi, good afternoon. Was wondering within the Water business, you mentioned some new business wins in mining. I was just wondering if these are new mines and the fills associated with the new mines. Are you taking share at existing mines. I guess I was under the impression that it's typically difficult to take share from existing mines as that tend to be pretty sticky business?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, look there are two things going on in mining. But the biggest is a mining rebound broadly. Right. It's a cyclical industry. But we've also had some success with new business in mining. We're targeting and trying to move increasingly away from coal which you might find obvious into areas like phosphates and the others. These strategies are working and so some of it just reflects moves that we're taking to better position the business long-term." ] }, { "name": "Mike Harrison", "speech": [ "All right. And then I wanted to also ask about the Healthcare business, can you talk about what profitability looks like in that business and maybe how that has been changing or evolving over time?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah. Healthcare, we would expect OI for the year to be roughly flat, but it really reflects decisions to invest in the business. The Anios acquisition that we made a couple of years ago in France, which really gave us even stronger beachhead in Europe. But most importantly, an avenue in a number of other markets around the world has proven to be a great acquisition. And so we continue to invest in real strong growth opportunities and we're happy to do that in Europe, as I mentioned earlier, we're seeing 6% organic growth in the Healthcare business and will feed that." ] }, { "name": "Mike Harrison", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of P.J. Juvekar with Citi. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "Hi, Doug, this is Eric Petrie on for P.J. Historically, food and beverage and Water growth rates are in the mid-single digits. But now with your digital investments and market share gains. Do you see this upper single digit sustainable into 2020?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, look we are working hard to always increase what will consider normal. And I think there's a lot of legs, I mean Water has got quite a bit of momentum. We've got good momentum in F&B. We don't see anything, sitting here today, that's going to make us change our view that's what we should be growing, that's the rate we should be growing the business. I also don't know what 2020 is going to bring us. So, I don't want to sit here and commit to 8% on Water organically as our terminal value. With that said, there's significant upside in that business. We got a great team, great technology and they're executing well, so I would expect that growth rate to be above average for the company." ] }, { "name": "Eric Petrie", "speech": [ "Okay. Secondly, I wanted to ask about your M&A pipeline and what you're seeing in terms of valuations and does your guidance, EPS guidance of 10% to 14% include any bolt-on deals in second half?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, look, it does include any bolt-on's obviously anything that probably comes on the remainder of this year is -- is likely to be dilutive if it is accretive, just because there's not much time left in the year, but that doesn't stop us from doing the deals. We really look and focus on do we believe we're going to get a good return for shareholders out of a deal, not immediate accretion, dilution. But all of them would be incorporated in our forecast, already.", "Our pipeline is large. And I would say so our multiples. And so as a consequence, we're going to remain discipline. We are doing deals, we are buying companies where even with the price is higher than we might like, we know we have such significant upside that we can turn it into a very good return deal for our shareholders and we'll continue to do that, but we're going to exercise discipline as you would expect us to." ] }, { "name": "Eric Petrie", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Andrew Wittmann with Robert W. Baird. Please proceed with your question." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, thanks for taking my question. I guess I just wanted to dig into the margin profile, a little bit more by looking at what seems to be the two biggest factors which are raw material costs, as well as, the cost savings program that you guys have been undergoing here and hoping that you could quantify the increase year-over-year in raw materials that you saw, as well as, the amount of cost savings that you recognized in the quarter or maybe the exit -- the annualized exit rate, just so we could a sense of what's driving your very good margin improvement in the quarter?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yeah, for cost savings, it was a little over $20 million year-on-year in terms of what it what is delivered in the quarter, in terms of raw materials are fairly benign in Q2 following a fairly hefty bill in Q1. Let me just get to that. So I don't give you the wrong number. Yeah, raw materials were just up modestly in -- in Q2 and we expect them to be below next year or below last year in the second half. So -- but it wasn't a material impact on Q2, one way or another, it just wasn't positive or a significant negative." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, thank you for the color. That's all I had." ] }, { "name": "Operator", "speech": [ "Thank you. At this time, I'll turn the floor back over to Mike Monahan for closing remarks." ] }, { "name": "Mike Monahan", "speech": [ "Thank you. That wraps up our second quarter conference call. This call and the associated discussion slides will be available for replay on our website. Thanks for your time today and participation. And best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2020-07-28	[ { "description": "Senior Vice President, External Relations.", "name": "Michael J. Monahan", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker", "position": "Executive" }, { "description": "President and Chief Operating Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "Boenning and Scattergood -- Analyst", "name": "Ryan Connors", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Chris Parkinson", "position": "Analyst" }, { "description": "BMO -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Shlomo Rosenbaum", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "G Research -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Baird -- Analyst", "name": "Andrew Wittmann", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Eric Petrie", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the Ecolab Second Quarter 2020 Earnings Release Conference Call. [Operator Instructions]", "At this time, I'd like to introduce your host, Mike Monahan, Senior Vice President, External Relations. Mr. Monahan, you may now begin." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's second quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO; Christophe Beck, our Chief Operating Officer; and Dan Schmechel, our Chief Financial Officer.", "A discussion of our results, along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials stating that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release. Starting with a brief overview. Second quarter results reflected the impact from COVID-19 on our businesses and were generally consistent with our expectations. Sales and earnings were strong for our Life Sciences, Healthcare and Specialty businesses as they benefited from favorable fundamental trends and our increased cleaning and sanitizing demand.", "Our Industrial segment saw a modest sales decline but strong earnings growth, while our Institutional and Pest Elimination businesses experienced significant sales and profit declines due to the substantial negative impact on restaurants, hotels and entertainment facilities as they felt the brunt of the March, April global shutdown in travel and dining.", "Second quarter adjusted earnings per share from continuing operations were $0.65 compared with $1.27 a year ago. Results reflected the COVID-related volume declines and negative operating leverage as well as certain COVID-related impacts, including second quarter equipment lease billing suspensions of approximately $0.10 per share to support customers, a[$0.06 per share reduction in institutional distributor inventories and increased bad debt expense of $0.07 per share. Looking ahead, we believe we are in a strong position to manage through COVID-19 and are confident we will emerge from 2020 in a stronger competitive position with a more robust offering. Our focus remains squarely on maximizing our post-COVID traction to drive growth.", "While we have near-term challenges that we are addressing within our Institutional business, we continue to have substantial opportunities in all of our businesses and the right strategies to achieve them. Clearly, Ecolab's leading capabilities in food safety, clean water and healthy environments is more important than ever, and they have positioned us well as an important and effective partner in this world crisis and beyond. As a significant part of this, we have continued to work aggressively to partner with our customers to solve their problems, and in doing so, further improve our customer penetration and new business wins by providing the critical product service and consulting support our customers need to ensure their operations are safe and functioning effectively as COVID restrictions evolve and their operations adapt to the new sanitation requirements. As a result of these actions and our new sales initiatives, we have won new business. And along with gradually improving markets, we have seen sales across our business, including Institutional, improved since their lows early in the quarter.", "While COVID-19 creates a short-term challenge, it also creates long-term opportunities. In a world challenged by COVID, our food safety, clean water and healthy environments positioning has become even more important. We believe that our long-term growth opportunities remain robust driven by our huge remaining market opportunity, our leading global market positions, our focus on providing our strong customer base with improved results while lowering their water, energy and other operating costs and our strong financial position with resilient free cash flow. We believe looking beyond the near-term uncertainty and focusing on these sustainable long-term business drivers will yield superior long-term performance for Ecolab and our investors.", "And now here's Doug Baker with some comments." ] }, { "name": "Douglas M. Baker", "speech": [ "Thanks, Mike, and hello, everyone. So just a couple of overview comments on Q2. We'll turn it back to Mike and then to Q&A. So our Q2 results were obviously significantly impacted by COVID-19. They were though in line with our expectations going in, which is probably a minor miracle because it's a very difficult environment to predict. The impacts were most acutely felt in our Institutional business as the balance of our businesses collectively grew both sales and income during the period. Healthcare and Life Sciences had record growth. Our Industrial businesses had extremely strong margin performance, driving strong income gains. And our specialty portion of our Institutional reporting segment also realized strong growth. Our Institutional division, though, was directly impacted by the COVID-19 shutdown of travel and dining early in the quarter. This was a one-off event in the history.", "Now this event was further exacerbated by the resultant distributor inventory reductions and the decision we made to suspend Q2 dish machine lease payments as a means of supporting the foodservice industry during this incredibly traumatic period. In total, these two items hit sales by $82 million in Q2 and OI by roughly $60 million. Importantly, we spent no time or effort postponing pain or managing Q2 for optics. Trade inventories fell, and we left them. The dish machine market needed support, and we gave it. Reserves and inventory, we took our full dose. Team size, we maintained and investments, we actually increased through the quarter. This is what we said we would do, and we feel it's a smart play. We will manage through the near-term pain in a way that maximizes our potential long term. While the pain will continue, we believe Q2 was the low point. So while the short-term pain from COVID-19 is obvious, the long-term impact is becoming clear. Hygiene standards will increase in every market we serve, they have: Industrial, Healthcare, Life Sciences, Institutional and Specialty. New opportunities are presenting themselves every day in large space disinfecting and hand care, in water safety in clean rooms and data centers, etc.", "We chased a $130 billion market at the end of 2019, and it will be bigger going forward. And we're even better advantaged to get after it. We've been out-investing our competition for years and are -- clearly this year, our digital and antimicrobial investments in innovation give us significant advantages. Customers' water, food safety, safe environment and operating efficiency needs are only growing in importance, and our cleaner, safer, healthier positioning is spot on. Probably most importantly, our team has never so clearly felt the power of our mission and is doing a great job, supporting customers, jumping on opportunities and rebuilding momentum.", "So with that, I'll turn it to Mike, who will open up Q&A." ] }, { "name": "Michael J. Monahan", "speech": [ "Thanks, Doug. That concludes our formal remarks. Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And our first question is from the line of Tim Mulrooney with William Blair." ] }, { "name": "Tim Mulrooney", "speech": [ "Good morning, Doug. Good morning, Mike." ] }, { "name": "Douglas M. Baker", "speech": [ "Hey, good afternoon." ] }, { "name": "Tim Mulrooney", "speech": [ "So the Institutional division was down, I think, about 50% organically in the second quarter. Can -- and this is my only question today. But can you just walk us through how the monthly performance trended through the second quarter, Doug? And how that compares to what you've seen in July so far?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. Let me -- I'll give you a perspective on Institutional, and we'll address your specific question while doing it because I know there are going to be questions, obviously. I mean, Institutional was where COVID impact was most acutely felt. It's obvious when you look at the results. And as I mentioned in my opening, the rest of the business collectively did quite well. Now there are ups and downs within that group, but that's normal. In Institutional, though, being down 50%, is quite notable. So the sales for that reporting sector were down 35%, and it was really driven by the decline in Institutional. Specialty was pretty strong. It was really driven by FRS sales of plus 31%, and QSR was flat for the quarter.", "The Institutional decline really was driven by a couple of things. The most notable was that huge decline or the huge shutdown in April of literally global travel and dining. And we've never seen anything like this. Transactions fell in April, 80%. Now transactions have climbed back. They were 80 down in April, 50 down in May and down 30 in June. We've also seen our business move back from this 80% type decline up through the quarter, and we've seen it continue in July, to your question. But we had other issues here, the distributor inventory rebalance, which is always a natural outcome, particularly when you have a severe shock like this. So we mentioned it's $50 million. And the dish machine lease suspension, which we took on because we felt it was a smart thing to do for an industry which has supported us for many years. And we need to be in there with our customers who've been decade-long partners with us to let them know that we understand the pain they're going through. That was a $37 million decision at both sales and OI because it's a complete pass-through. Now we asked for a trade there when we gave relief for the quarter, and it was just a Q2 relief program. It ends or has ended. What we also went and traded for was an extension of existing contracts and new agreement for the dish machine lease program. We believe it's going to be a great deal for both our customers and for us long term. Now the inventory is largely behind us. I think it's behind us.", "If you start taking the 40 -- actually the inventory rebalance is $45 million. If we take the $45 million and think is it a 30-day inventory or 20-day inventory, it's a significant expectation of reduction in sales. That's larger than we think you need to do, but that's always the way this thing goes. And we also know for sure that the lease suspension is behind us for sure. As a result, we're pretty confident that the worst is behind us, particularly in Institutional, which really, as I just said, is a driver for the main challenge in Q2 for the overall company. Now I don't think we're going to see Institutional back in growth until you have a vaccine. People are not dining out for several reasons. In some states and some countries, they're not allowed to. But even when they're allowed to, we've seen them slowly return because there still exists significant fear of becoming contaminated or catching COVID-19. And until that fear dissipates, I don't think you're going to see a huge change or growth in the Institutional business. With that said, it's come back significantly from its low point. May was better than April. June was better than May, and we've seen continued progress in July as well. So we aren't going to be hanging up the same levels that we saw in Q2, but don't expect growth in the next couple of quarters. We don't think that's realistic.", "Now with that said, our team is all over a number of things, which we think, long term, are going to position us terrifically in this market. We're already helping customers accelerate successful and safe reopening. If you've seen, there have been over 50 large chains that have mentioned us in either their public statements or releases. We're also reengineering or engineering a plan to what I'll call overrecover. So the goals here are to increase our penetration in existing customers by 20%. And we also want to do that while continuing to drive increases in the number of units. We had, interestingly enough, very strong new business performance in Q2. In all of our businesses, but including in Institutional, we picked up a number of pieces of business that we've been chasing literally for decades because they understand our expertise, our coverage and how vital it is when you are moving through a pandemic situation like COVID and into recovery and into a world where everyone expects hygiene to be a much more heightened piece of the puzzle for all of these operators. So we're also introducing what we're calling the Ecolab science certified program. It's really designed to drive heightened hygiene standards and outcomes within our customers but also to create comfort for our customers and their guests and meanwhile, drive increased penetration of Ecolab programs in these customers to get these better outcomes.", "So this is going to be a big campaign and a big program that we believe will position us for even more significant share gain and, frankly, help our customers recover quicker. Now we also have accelerated the new technology in the field for Institutional. This will help the team's efficiency and effectiveness via routing, remote service, online ordering and opportunity identification programs embedded in this technology. We're clarifying the roles in our field organization to create the focus needed. And frankly, we can do it now because we can leverage this new field technology that we've invested in. So our Institutional team is all over this. They clearly went through shock when he had to live through April and start seeing sales declines they've never experienced. I'll remind everybody the last Great Recession was in 2009. Our Institutional business globally was down 2%. This is not because there's an economic slowdown. This is completely pandemic-related, shutdown-related, very unique steps that need to be taken in a pandemic. It's got nothing to do with consumer spend or some minor economic recession for them. That has never fazed us and wouldn't fazed us now.", "What does faze us is when you're not allowed to go into restaurants. It hurts sales, no doubt about it. Now we do know this. Our goal is not to recover. It's to create a step function change in growth while we're moving through COVID and then obviously setting ourselves up post-COVID. And I've to say this, the opportunity is huge. So if you just look at the U.S. and you look at our penetration opportunity within our existing customers, there is a $1 billion opportunity in existing customers alone. So it's not like we are short of opportunity. Globally, this market will still be near a $20 billion market post-COVID. So the opportunity exists. What we have today is called necessity, necessity to make change, to drive change and to get on the recovery path, and the team is all over this. The new technology we're launching, we got new antimicrobials that have been worked on for years coming out here shortly. Timing is perfect. We've got this new field technology, the right products. I think we have the enablement and the teams all over this." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay, that's it from me. Thanks. Thanks for all the color. Doug." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Manav Patnaik with Barclays.." ] }, { "name": "Manav Patnaik", "speech": [ "Yeah. Thank you, Doug. just to kind of follow-up on that. You talked about the Ecolab science certified program. You talked about the 50 or so, I guess, hotel chains, etc, using the program. We've also seen, obviously, in a lot of airlines and companies using the Clorox, Lysols of the world as branding, like does that consumer brand so forth matter in order to make the consumers, I guess, comfortable going in there? Or do you need to pick up kind of the PR or marketing around the Ecolab brand for that? Just curious there." ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I'd offer a couple of things, and I'm going to give it to Christophe for some comments, too. Number one, yes, I think there's always an opportunity to build. Ecolab is a great brand. It's really well-known in the industries that we serve, but it's not very well-known in consumer land, simply because we're a B2B business. So there's certainly opportunity if you do it smartly to, I think, increase our awareness and help increase and drive Ecolab penetration. The other fact that we know is we've done a lot of consumer research. We've done them over the years, and we've reconfirmed it recently. So really, when you ask consumers what makes them more comfortable, establishments using hospital-grade disinfectant, which is what we sell, or consumer-type products. They are overwhelmingly in favor of hospital-grade disinfectants. It's not close. And I would say our customers understood -- understand this intuitively. And the consumers are right. I mean, disinfectants in a hospital-grade level kill more, and they do it much quicker.", "In many instances, we're doing things in 30 and 45 seconds, which the products in consumer doing in three and four minutes. And so that just doesn't work as well in the business-to-business environment. And so I mean, I think this is well understood. So efficacy is not equivalent, and customers understand this. Consumers do, so do our customers. And so building programs around these advantages, communicating these program advantages we think is an important part of the program. And I'll throw it to Christophe to give a little more color on Ecolab science certified." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Doug. And we've also understood that especially in the U.S., 2/3 of the people have voted number one, so cleanliness as the main reason to go or not to go in our restaurants during this COVID-19 times as well. And beyond what Doug just said, that hospital-grade disinfectant have a much better perception so with guests versus retail products. We've also understood that people need to see safe in a restaurant or in a hotel in order to feel safe. And it's bringing those three things together. I need cleanliness to go in a restaurant, I need to see clean when I go in a restaurant, and I need to make sure that the right products have been used over there have led to that idea of the Ecolab science certified, which is not saying that the restaurant is doing 100% right, but is using ultimately our standards, our protocols that we've developed with them, our programs as well. Doug mentioned as well as some innovation.", "We've launched it a few weeks ago as well. So smart power disinfectant, which is killing viruses within 30 seconds, which is a world record, by the way, out there as well. And then we can audit those restaurants. And when they pass everything, they get the seal as well, which is this Ecolab Science Certified that guests when they come in, can feel in a better place than in a restaurant that would not have that." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. That's helpful. And maybe just my second question. Obviously, here in the U.S., you read about all the hotspots and so forth. But you guys are clearly a much more global business. So I was just hoping for some perspective on like in terms of the trends you're seeing to guide the improvements, like, I guess, I'm not sure maybe how notable or sizable are these hotspot areas that we're reading about versus the rest of the world for you guys?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. Well, we've certainly seen because you had, say, the pandemic started, obviously, in Asia and China specifically earliest. And so they're further along. And we've seen improvement -- continued improvement in our Chinese -- in our sales in the China market. In fact, in June, they were positive in total, and we expect that to continue in July moving forward. But that's been a climb back from fairly significant decline as well, but they're months ahead. And I would also say they have a different mix. It's more industrial than institutional than the balance of the world. So you're going to see some of that mix play out favorably as you go forward. But if you look at Institutional specifically within China, we've also seen significant improvement over the period of time as well as COVID has abated there somewhat, restaurants have reopened and travel is reopened. With that said, it's not been a stampede back onto airplanes, into hotels nor into restaurants. People are still waiting for, I think, finality for this thing, which I think is in the form of a vaccine, ultimately. And we don't believe until then that you're going to see complete market recovery in industries most hard hit by COVID. Now it will improve, but we don't think improved completely." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of John Roberts with UBS." ] }, { "name": "John Roberts", "speech": [ "Thank you, Any way to gauge how much of Institutional is being supported by outdoor dining right now? Because as we move into the fall, we're going to lose that outdoor dining kind of leg to the Institutional market." ] }, { "name": "Douglas M. Baker", "speech": [ "John, it's hard for us to have exact -- I would say, I think what's going to happen in the Institutional, I agree. Outdoor -- we live in Minnesota, outdoor dining maybe over the next week or so. Winter comes quickly here. But I would say, I think you see a transition, which is assuming we start getting after masks and start doing things, and if you get this thing back under control, you'll probably see fairly steady dining results. But you're going to see a transition to what I will call modest in-dining going forward. But that's why I'm trying to be a little circumspect about how far this recovery will go. We do not believe you're going to see a repeat of Q2 in Institutional sales by any means, but you're not going to see a 5% growth rate in Institutional until COVID's gone for any number of reasons." ] }, { "name": "John Roberts", "speech": [ "And then institutional customers have had to train their employees on new cleaning protocols. Did your lobster.com acquisition help with providing customers with additional training support?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. It's starting to. I would say, what we're learning is how to utilize that technology most effectively. There's obviously been a lot of work done on food safety programming. When we bought Lobster, they had a fairly good breadth of portfolio around hospitality -- excuse me, around lodging specifically, the food safety program that's coming on, and we're utilizing that, yes." ] }, { "name": "Operator", "speech": [ "Thank you. Next question is from the line of David Begleiter with Deutsche Bank." ] }, { "name": "David Begleiter", "speech": [ "Thank you, Doug, just on the margins in Industrial and Healthcare and Life Sciences, they were clearly exceptional in Q2. How should we think about them in Q3 and the back half of the year?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I'll hand it to Christophe. I mean, Industrial was up about 450 basis points. I would say half of it -- well, 200 of it was really T&E and bonus, right, take back as a consequence of slow sales in that segment even though it's got outstanding. I would have said, if you didn't have COVID, you would have the same level of earnings, they would have just come a different way. But with that, let me give it to Christophe. I mean he knows the Industrial business cold, and Healthcare, Life Sciences is also performing quite well." ] }, { "name": "Christophe Beck", "speech": [ "Good. Thank you, Doug. So David, if you comment on the very good progression on margin, which is, by the way, a continuation of what we've seen as well prior to Q2, not at the same level. It's true that almost half of the improvements has been driven by variable cost, so travel and entertainment and commission bonus. Those traditional things, obviously, that happened when people travel less and sell less as well at the same time. But the true formula, so for the margin improvement in Industrial, is the outcome of many years as well of work. If you've seen the pricing, it's close to 2%. We were at 3% a year or two ago and leading toward probably more to the one or in the future, which is our steady course. But having 2% in an environment like that is quite remarkable. And how do we get there? It's ultimately out of two main drivers, David. The first one is the type of innovation that we can provide, obviously, to customers. They pay more and always more for product and programs that keep improving, and we invest a lot for that.", "And second is the fact that we commit as well to our customers for operational improvements or total cost of operation reduction. Basically saying if you work with us, your total cost is going to go down. And we take part of that improvement as well into our pricing. And the second driver is the fact that raw materials have been reasonably benign over the past quarter. So if you bring it all together, that's driving some good margins for Industrial. And the story is very similar in a different environment, especially so in Life Science, which is kind of an Industrial business as well. So a similar approach in Healthcare as well with pricing that's a bit lower than in Industrial. It's closer to than the two in Industrial, but the formula is quite similar." ] }, { "name": "David Begleiter", "speech": [ "The new business wins, you mentioned that were a result of COVID-19. Can you give a couple of examples of exactly what those accounts were and how they progressed during this crisis?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. We don't give names and haven't in the past, and I'm probably not going to set a new precedent today. I'll give you some examples or what drove it. I mean, one is a very large operator in the lodging environment. And this is a piece of business that we hadn't been able to secure for honestly 15 years. And it was several things. But most notably, it was just this understanding of the capabilities that we had and the needs that they had and how important it was to partner with somebody who can help you through the most difficult challenges.", "And so I think it was this recognition. And I will say, when the team shared with both Christophe and I that they had won this business because both of us had our crack at running the Institutional business individually. We never got it done, but they did, and it was really a quite significant win. It was also a huge blow to a key competitor in a number of ways. There have been then many other instances of businesses that we haven't really been in that suddenly, we have fairly large stakes going because of their need for disinfection at a different scale in a different way. And so when I mentioned earlier in my comments, large space disinfection. There is this need and clearly in many of our customers, think hotels and others, and we've got technology to do that. But we also have a technology in Bioquell, which is an acquisition we made in the last 18 months, that enables us to do very unique things from a disinfecting standpoint very safely. And so that technology is now moving and expanding fairly aggressively out of its home environment, which was historically Life Sciences, into new markets who understand and see the need and are learning how this technology can help them disinfect when they have a contaminated site, do so quite safely without any people involvement. So there's a number of these things that are occurring. It's not just occurring in our sphere.", "But that's why I say this market, so we're going to have some market changes. And I think our $130 billion may turn into $140 billion. It's not like every market's going to go up equally X percent. You'll have some markets that are a little impaired. But in total, in hand care alone, you've got a market that's going to probably triple and then settle down to doubling on a long-term basis. We're going to see hand sanitizer everywhere for a long period of time. In hand sanitizer sales, if you can make it, you can sell it at this point in time. And so we know there are big changes, and these changes are going to have lasting -- they're going to have legs going forward, maybe not an exact peak, but there is certainly going to be more sanitization, more concern, more awareness going forward. And we recognize that, and we're making sure we're positioned to capitalize on it." ] }, { "name": "David Begleiter", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Gary Bisbee with Bank of America." ] }, { "name": "Gary Bisbee", "speech": [ "Hi, thanks guys. Interesting that you're targeting 20% increase in penetration. I think that was related to Institutional clients. So maybe it was more broadly on the other side of this. And I guess, can you help us understand what the components would be to deliver that? And really, what I'm trying to think through is like how much larger can unit level sales be on the other side of this when customers are following a higher hygiene standards." ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. The 20% I referred to with the goal of increasing unit penetration was Institutional. I mean, everybody has the goal of increased penetration. I get asked the question a lot or have over the years, what percent of our growth do we want to come from new units or from penetration. Right now, in Institutional, we want a disproportionate coming from penetration. It's something we can control. It's stuff we can get after. You know that if you end up with a larger penetration, you automatically start overwhelming all kinds of economics if you improve the shop per drop. I mean, how much you're selling per service call, per delivery, per everything else, all the economics improve. It's sitting there.", "And I would say the team has got very clear view of what needs to get done. So certainly, Ecolab Science Certified is the umbrella idea under which it's going to help drive penetration. But the field technology also ultimately enables us for each call to identify every time one of our people pulls up to an account what the opportunities are in that account because it's tied to our ERP system. And so just being able to manage differently. How do we think about structuring our deals at the chains? How do we end up structuring our agreements at distribution? And how do we end up structuring our deal at the end unit in terms of encouraging more of our product in our sale? Now this deal doesn't work if it doesn't work for the customer. So this has to translate into customer benefit. You can't trick them. You've got to have a deal that when they buy more from us, they're going to have cleaner outcomes and better operating income as a consequence of this, which is what Christophe described in Industrial. It's the promise we've been delivering in Institutional for years, but it's reengineering that program specifically around a greater array of products and programs to deliver that outcome in foodservice and lodging." ] }, { "name": "Gary Bisbee", "speech": [ "Okay. Then a follow-up, if I could just follow-up on the earlier question on margins at Health and Life Sciences and Industrial. I understand the drivers of the discretionary costs being a portion, but as we think to the next few quarters, does some of those costs come back in? Or anything to help us understand how those could trend? I mean, Health and Life Sciences is up 800, 900 basis points. It's just a massive move, right? Should we think that spending comes back in? Any color would be helpful." ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I mean, Life Sciences. I mean, it's a little bit of the magic. You saw the other side of it. When you're up 50%, good things happen. A lot of money flows through, right? I mean just drops through. When you're down 50%, I guess we proved this quarter, bad things happen, right, in the opposite. So I think Life Sciences has been a profitable business, will remain a quite profitable business. We would not say that, that's our terminal run rate, the 50 top line or the 800 basis point at the below. But what we do know in Life Sciences is they got very momentum, a lot of very smart new business programs that they're driving. They've have a few one-offs here as a consequence of some of the Bioquell sales that we've had, that we don't believe repeat long term. But with that said, they're going to have very healthy growth. On the Industrial side, I'll give it to Christophe to answer." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thanks, Doug. So Gary, what's important is to look at a little bit pre-COVID as well, so the evolution that we've had. This is the type of underlying margin improvement that we're going to continue to see here. You're right. That discretionary spend is going to go up as people start to travel again, not as much as before, but it's going to be variable. So it's going to go up. But at the same time, the leverage as well, the volume leverage in our operations is going to improve because that was a negative obviously during that time. And ultimately, it's important to keep in mind, so this pricing momentum that we have between this 1% and 2%, which has been so positive for a very long time, and we have no intention to see drop below 0 for sure not. So to keep it between one and two. So as long as we can get that and that raw materials remain as they are now, the leverage and the discretionary will compensate for itself, which will lead to similar type of improvement we had pre-COVID." ] }, { "name": "Gary Bisbee", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Ryan Connors with Boenning and Scattergood. Please proceed with your question." ] }, { "name": "Ryan Connors", "speech": [ "Great, thanks for taking my question. It's a big picture question, and I really wonder whether you can kind of talk about kind of the big picture of the federal response to COVID. I mean, obviously, the shock and awe that we saw from the Fed and from Congress was really key to stabilizing things, in particular, for many of your Institutional customers. But there seems to be an emerging debate about the unintended consequences of that and how that kind of subverts the natural creative destruction and the culling of the herd, so to speak. So what are your thoughts on that in terms of how that impacts your industry and your business, both in terms of competitors who may have been price-based competitors who would have been vulnerable, but now they can hang around through PPP money or whatever, and they don't become acquisition opportunities or they don't maybe go away? And then also in terms of customers, are there small mom and pops that compete with your strategic accounts that maybe would have gone away that now will hang around and prevent your strategic accounts from gaining share." ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. That is a big question. I would say this. I think even when you -- look, I think a lot of the early federal response was, frankly, much more right than wrong. i.e., fund the businesses, and they get to keep the funds as long as they keep employing folks. I mean, if all you do is fund people, the problem is there's no employers left to reemploy them post event. And so I think they took a page, frankly, out of Germany when they went through the crisis back in the 2000s, and I think it was a smart way to go. Hopefully, there's more of that in tranche 3. In terms of does it keep the walking wounded alive? I don't know. I think you're seeing a lot of people opening and really just opening to ultimately go bankrupt into walk down. So I think you're going to see enough creative destruction as is as a consequence of COVID in many industries, not just in foodservice and lodging, but retail and others as you go through. And so I think the third tranche needs to go consider this.", "But the biggest driver, I believe, is really fear. And if you start looking at what's really going on, and I alluded to this in China. So China has this under control in many respects, I mean, all the reported respects. And you still don't have the same level of activity in retail or in dining or in travel, and that's not driven by government programs or anything else. It's really driven by people's fear that they could contract COVID again and their reluctance to do so. So the big thing that needs to happen, I mean, the government's got to do smart policy to figure out how you keep the economy moving and on life support at minimum, I agree with that. But we need a vaccine. And we need better treatment, which is calm, but ultimately, until I think communities feel confident that they can start gathering again, you're not going to see a normalization or a renormalization of the economy period. You'll see recovery, but it's going to get stalled at X point. Now that's what I believe. So I think that's the big piece. So if the government can do anything, work and make sure the vaccination development is moving and that we are prepared to make billions of doses once it's available. So there you go." ] }, { "name": "Ryan Connors", "speech": [ "That's really helpful perspective. Thanks for your time." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Chris Parkinson with Credit Suisse." ] }, { "name": "Chris Parkinson", "speech": [ "Great, thank you. So Doug, you mentioned your $130 billion market at the end of '19, which will likely be bigger in the years to come. Can you speak to your own assessment of your positioning for that growth? Is the focus still on a few key initiatives, just broad initiatives such as enterprise selling and digitization and customer stickiness? Just trying to get a sense of how you're rethinking or how you're further evaluating customer contract growth and the opportunity to expand there with them?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. Well, certainly, the ones you mentioned are remaining as top initiatives. We know -- I mean, the digital work that we've done, think how we invested in digital the way we did, and any company that did has been really prospering as a consequence of this. And I mean when Christophe just walked through what's going on in Industrial, a lot of this stage has been set over the last several years where they've worked very hard to better wire customers remotely and also equip the field with technology that enables them to provide service they couldn't before. Same is true in Institutional. We are doing amazing things remotely that we couldn't have done just two and three years ago. And the ability to do this has given us great advantage.", "I'd also say it's given us great insight is where we need to continue to drive digital innovation. Innovation in antimicrobials, which has been a prime focus of ours for 15 years, where we identified we had a major hole, to be quite honest, that's proven to be invaluable. We have the best portfolio. We have new technology. Christophe just alluded to one, and we've got another launch coming up here in weeks that really is -- couldn't be better timed in terms of ease of use, simplification, kill and kill time. And so all these things matter terrifically as we go through. But value capture, making sure that we are able to articulate the benefits of buying from us, not only environmentally, operationally, but economically. And the big advantage we have, the way we go to market, is while we create huge environmental sustainability benefits, we do it while simultaneously delivering huge economic benefits. So when you get into rough economies, it's the reason we've historically continued to sell successfully.", "We may start talking about economic benefits in advance of environmental benefits, but they're the same. They're of the same DNA in the way we go to market. And so we believe, ultimately, that is a pretty resilient way and operating model to execute no matter what the environment is." ] }, { "name": "Christophe Beck", "speech": [ "Got it. And there's been a lot of focus, obviously, on some of the big areas In institutional, full-service restaurants and lodging, etc. Based on how the strategies you just articulated to me, can you sit on there are some other areas like facilities, long-term care, food safety you have thrown in there, test and Healthcare, I think you already spoke about it a little bit. How are those trending in the back half of the year? Because obviously, there's an argument that those will actually gain momentum versus some other businesses, which obviously will be more subjective to the actual macro rebounds pre vaccines. So just what are your thoughts on that as well?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. No, our appetite and interest in the Institutional markets, including some of the segments you talked about, catering as well as lodging as well as foodservice as well as long-term care had anticipatedoneiota. So they're going to be and remain huge opportunities. We have outsized advantage in those markets. We believe clearly that we will be setting record sales in OI in those markets in the years to come. So they believe and we believe those are terrific opportunities for us. They are going through like a legendary impact as a consequence of the pandemic. And we'll see this through. They'll see it through. But I don't know this imagination that somehow, nobody is going to be dining out any longer long term where it's literally a tradition that's thousands of years old and only built over time, I just don't buy.", "Do I think that lodging may take a while to recover? Yes. It's 7% of our portfolio as a company, right? We can overcome some dense in some parts of our portfolio. We have to deal with it all the time through these things. But we are -- absolutely every intention is staying absolutely laser-focused in the Institutional market. We think our advantages here are going to grow, not shrink." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of John McNulty with BMO." ] }, { "name": "John McNulty", "speech": [ "Thanks for taking my question. You spoke in the beginning and in the release around kind of the lever that you're pulling in terms of the equipment leasing and how that's going to -- that should be a positive for you as we kind of look to 3Q. Are there other cost levers that you're actually looking at in terms of tailwinds that we might be able to think about as we go into 3Q? Or are you really just more focused about the service side and at least for now, kind of the costs maybe aren't as big of a focus?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I think, as I mentioned, I would say this. I think there's 2, if you're just looking at sequential, I mean, certainly, there's a $37 million lease suspension costs that will not repeat in Q3. I mean, the other is inventories have been largely taken down in the Institutional business. We certainly wouldn't expect to see a repeat of a $45 million takedown in distributor inventories in Institutional. And you've got the tailwind in Institutional of coming off the April lows, right, which progressively increased and improved through the quarter. So even if you just stalled at June 30, you'll have significantly better outcomes in Institutional as a consequence of that. So I mean, those are three factors. And then the other businesses, we think there are similar tailwinds, headwinds as you go through that quarter. New business has been productive in all of them. We would expect once we can get into an install to continue to see the benefits from that as the year progresses as well." ] }, { "name": "John McNulty", "speech": [ "Got it. And then and maybe just a question. In the deck, you had highlighted on the full-service restaurant side, about 80% are open, but they're operating at 50% dining capacity. I know your products aren't necessarily a 1-for-1, but I guess, how should -- if there's a restaurant -- a typical full-service restaurant that you're servicing, and it's now running at 50% capacity, what does that mean for Ecolab products? Again, barring you selling more to them or what have you in terms of targeting them for different avenues? Like how should we think about how much of a step down that would actually be?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes, it'd be less than 50%, call it, 65%, 70% of sales, if you had 50% less business or like a 30% hit in sales roughly. You've got -- just turning on the dish machine and running it all day consumes chemical. You got to clean the kitchen at the end of the day, whether you serve one meal or 1,000 meals, right? So there's a number of fixed pieces, but a big piece is obviously variable. If you're not dirtying tables, you don't have to clean them. If you're not dirtying tablecloths, you don't have to clean them. If you don't have many dishes, you don't run the dish machine sheet at the same rate, but it's not a one-to-one on the way down." ] }, { "name": "Vincent Andrews", "speech": [ "Got it. Thanks for the color." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Vincent Andrews with Morgan Stanley." ] }, { "name": "Vincent Andrews", "speech": [ "Thanks, and hi everyone, A couple of quick ones for me. Just to close the loop on Institutional. If I add back suggested the inventory dish leasing and presumably a good portion of the bad debt expense, that theoretically gets me to a base level of earnings in the second quarter. And then if I think about adding volume back in the third quarter, just trying to understand whether the incremental margin should be on the volume that comes back sequentially?" ] }, { "name": "Douglas M. Baker", "speech": [ "Why don't you just send, Mike, your spreadsheet. Exactly. Look, I can't -- put it this way. It's more than OI that falls down. I don't know, giving you a specific percent because I don't know everything that you've moved in there. I mean, you got components of it. It would be part of the total. So I don't -- I think it's not safe for me to go give you like a specific percentage on that type of question. I apologize." ] }, { "name": "Vincent Andrews", "speech": [ "No worries. I'll beat Mike up on it later. And then just as a follow-up, just on the working capital. Obviously, you talked about what happened in inventory, but receivables and payables, you didn't make much progress on in the second quarter. I'm just wondering if there's a plan for that in the back half? Or we should just sort of assume current percentage rates?" ] }, { "name": "Douglas M. Baker", "speech": [ "I'll have Dan answer this." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yes, sure. Thank you. So let's talk about it maybe in part. So on the accounts receivable, yes, the total number didn't change dramatically, but there was a lot of dynamism, I guess, if you look at what drove it. So unquestionably, we saw increased aging of the accounts receivable portfolio as customers paid more slowly. Some of that, likewise, was behind the increased calculation of accrued bad debt expense, which we've noted. We got a big benefit, though. I mean, if sales start to come down, you get a significant volume favorability in accounts receivable. So although it didn't look on a net basis like it was a very exciting space, it was when you looked into the details of it. And let's just say, we've talked at length about expectations of volume and where we think we are in the recovery. From a rate perspective and our collection efforts, I will say again what I said on the first quarter call, which is I think we're all over it.", "Look, we've made -- think about this lease billing decision that we made. We have made concessions to customers where we think that they were smart and necessary. They were predicated on customers who agreed to be current, right, and which is important point to be made. Similarly, just to be very blunt, we expect to be paid for the value that we provide. And so what you will see going forward in the third quarter, for example, my expectation is, is that as volume ramps, that will consume cash in the receivable base. And that will be partly offset by our continuing effort to collect and to improve the performance of that portfolio from a rate basis. On the payable side, look, it's a much smaller cash flow to begin with. I think that we did the right thing, similarly, to stretch the payments as we had the opportunity to do it. We want to be good customers for essential providers at the same time. So the net of it all is, I think, that we've been responsible, prudent, fair minded and fair to our customers and to our vendors at the same time." ] }, { "name": "Vincent Andrews", "speech": [ "Very clear. And I agree. Very thank you for your response." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Shlomo Rosenbaum with Stifel." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Hi, thank you for taking my questions. Hi. Doug, are you seeing any difference in the appetite for hospitals to do more program buying? That was always like an issue in terms of the Healthcare growth, but that was just a change for the way that they were always looking for the lowest cost. And you guys sell on the best value overall. With what you're selling and your ability to service some of the stuff and just the increased interest in hygiene and sanitation, is that changing the mentality over there? Or is it too early to tell?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I think it's too early to tell, like as COVID changed, and I will say this. Pre-COVID, we're having more success driving programs. They continue to grow faster than the business, underlying business rate even now, but a lot of that is because of programs that we put in place, right, as we went in pre-COVID. I guess what we believe in the Healthcare, the acute care space, in particular, is, certainly, their sensitivity to hygiene is at an all-time high, and we do not believe it falls to pre-COVID levels post-COVID that it, too, with heightened hygiene awareness standards and frankly, we'll be spending more on outcomes. We think all of that as a positive for us going forward. I would also say, I mean, our team, as you recall, we had a recall that was in December of last year in our European business, our Anios business. And that team did a great job working through that recall, getting back to, and frankly, accelerating production levels beyond what they had prerecall and getting through all the government expectations and moving forward.", "And what we've seen is, I would say, great appreciation from our Healthcare customers because we're able to meet their needs, I think a larger appetite for better technology as you move forward. And if you really are spending more in hygiene, you're going to even be more concerned about doing it wisely, which benefits program selling." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay. Great. Just for my follow-up, can you talk about how broad-based the pricing was? Just 2% pricing in this environment seems really good. And if you could talk about what the different puts and takes around that?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I mean, we had 2% in our Institutional segment, reporting segment, 2% in our Industrial segment. Healthcare was, as I think already mentioned, around half that rate as we went forward. Life Sciences was around 2%. So it's pretty widespread. As we've talked, we expect this if raw materials remain benign, which is probably more likely than not, given just Industrial situation globally. This probably moves down to 1% over a period of time, but we don't like 0% or negative." ] }, { "name": "Operator", "speech": [ "Thank you. Next question is from the line of Scott Schneeberger with Oppenheimer." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, good afternoon. First one for me. With regard to capex, you mentioned a quarter ago, you cut that by about 50% this year. Just curious how you're trending, and so I think it was one of the supplementary pieces that you anticipate cash flow to net negative this year. So just wondering how you're thinking about that in that context and how you're progressing on that new plan?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. Well, I would say two things. We ended up in the quarter to be down about, I don't know, 35% versus last year and more like 40% to 45% of plan. So what happened was, honestly, there's a number of good ideas, and we learn things. And we wanted to invest in them, and our cash flow in the quarter was proving to be better than, let me just say, some of our most severe models, for sure. And we're quite confident we will be successful with positive cash flow through the balance of the year each quarter. So we're through what we believe is likely going to be the biggest stress test on cash flow being this quarter given the dramatic decline in Institutional sales, particularly in April and then the ramp back that we've talked about. Going forward on capital, capital is going to be down year-on-year. Let's just assume it's in the same level because we've already approved a number of what I would call, we think, smart investments.", "And what we don't want to do is underinvest in this business, given our optimism for what post-COVID world looks like. And we don't want to be sitting there flat-footed when it occurs. One of the huge advantages we have versus competition, we've been out-investing them. I think we've been out-innovating them, and we want to continue that plan because this type of stress makes people pull back. Some don't have any choice because they will have negative cash flow, given their, if you will, customer portfolio much different than ours. And as a consequence, we want to take full advantage of being in a position to meet customer needs going forward with the innovation they need post-COVID." ] }, { "name": "Scott Schneeberger", "speech": [ "Great. Appreciate that. And then a quick follow-up. To pick up on something you had mentioned earlier, Doug, and you kind of left off. You talked about Bioquell as obviously mentioned as a lead driver in the quarter in Life Sciences, and you said that it's transferable to a lot of other end markets and uses. And I was just curious if you could take that a little bit further, anecdotally have heard that people have stayed in hotels and had something that they perceived is similar to what I perceive it to be. And they said, oh, that made them feel very comfortable in the COVID environment. So I'm just curious how broad or what type of potential TAM that could be relative to the pre-COVID world?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, I'll answer it broadly. I mean, will it be exactly Bioquell technology or other technology that we offer space disinfection? I'd say, time will tell. We're doing a lot of work on both. But certainly, the Bioquell-specific technology has applicability outside of its typical or legacy home market of Life Sciences. We've already seen it used broadly in Healthcare. We've seen it used, and we've got inquiries in a number of Institutional markets and other places. And so I don't want to get into specifics and customers and everything else. But it's fairly broad. But we also have other technologies that we think may play a role in some of these markets, too. They would be potentially less expensive, right, to use in smaller spaces than Bioquell. And so we know it's not going to be a singular answer, but it's going to be a broader answer, and I think the team has been very smart. We have a lot of individual initiatives, and we're working to tie it together to make sure that we have a collective view of what's available around the company to go meet these needs. But to us, it spells real and significant opportunity going forward." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Thank you. Next question is from the line of Laurence Alexander with Jefferies." ] }, { "name": "Laurence Alexander", "speech": [ "Hello, Two quick questions. So first, on the Institutional margins, can you get back to the 2019 levels [Indecipherable] below sales? Or do you need to get back to [Indecipherable]?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I would say, I don't think we've seen our peak margin in Institutional, right? I mean, we're not going to get back there this year, that's for sure. And it's going to take a while to go march back there. But there's nothing I know that says that Institutional don't have the ability to set record sales, record margin, record income levels going forward." ] }, { "name": "Laurence Alexander", "speech": [ "Right. But I guess what I'm trying to get at is, can you get to the same margin as last year at a lower sale run rated last year? Or do you need to get back to within 5% or so to get the same margin?" ] }, { "name": "Douglas M. Baker", "speech": [ "No. I would say some of this, look, I'll answer a theoretical question with a theoretical answer or answer it. And I don't mean to be cute on this. It's -- some of this in what we've been doing is making sure we understand sort of what the situation is going to look like in our markets before we take real action. Now we're doing a bunch of things to equip our businesses to be much more agile in the field, and I talked about field technology, the acceleration that we're doing in Institutional as we've done in Industrial and other places. This gives us the ability to do a number of things. But if you wanted a theoretical and you told me that I was going to live in a world with less units, OK, if I sell more per unit, I will make more money, period. And I don't need to get exactly to the same level of sales simply because everything I do becomes more efficient.", "So there's always ways to engineer the business, if you will, to overcome whatever it is that the world is going to throw at you. What we need to make sure we understand is, what is it that the world is throwing at us. What is the market change? We have a lot of guesses out there, but what we want to watch and make sure we understand it, and we will design to win in that market. So we could do it with less volume and make the same amount of money, which would be a higher margin. You can't do it at half the volume, but you can certainly do it in any normal expected potential pain you might realize post-COVID for a short period of time or even a couple of years." ] }, { "name": "Laurence Alexander", "speech": [ "And then I guess in that context, can you talk a little bit about what you've seen in the Chinese recovery? What you've learned? And so is that where you've started to sort of narrow down the guesswork, so to speak?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. The reason is -- I'll say what we've seen. I mean, we've seen recovery. We haven't seen exactly the same volume per unit. So we're adding units. I mean, the big difference between the Chinese market and the U.S. market for us is just share. And so we're solving a lot of the problems there because we do know the lay of land. We got really small share, and we need to grow it. So we're adding new customers. And I would say the environment lends itself to that because of our what I would say, our reputation, capabilities, etc, are lending themselves and playing well in that given environment. So -- but that's going to be a little different situation than you would have, say, in North America, where you may have higher share in a more fully developed market. And there, we may have to call a different play depending on where we think the market settles, right?", "We have a better idea today than we did three months ago, but we will know a lot more in three months than we do today. And what we want to make sure we do is the right move. And we are doing the right steps to enable the few moves we think are going to be possible and probable. But being premature on this thing, we think, would be a mistake." ] }, { "name": "Laurence Alexander", "speech": [ "Okay, great, thanks." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Rosemarie Morbelli with G Research." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. While we are looking at the Institutional business not growing at 5%, obviously, anytime soon, at least I don't think so, how much of an improvement on do you require in terms of hotel occupancy in order to actually be flattish, return to being flattish? And if they operate at 40% capacity utilization or occupancy rather, can you -- do they concentrate all of the rooms in one particular corner. And therefore, they only clean, 40% of that facility?" ] }, { "name": "Douglas M. Baker", "speech": [ "Well, there's not a complete -- there's not an easy answer like 59%. I would say -- I think two things are going on. Certainly, there's been temporarily demand destruction in the lodging and dining markets. I mean, it's indisputable. And now part of that has also been overcome by increased spend within these places on hygiene. So if you walk into a hotel today, you are going to see, and Christophe alluded to this when he talked about the Ecolab Science Certified program. Part of what people want to do is they want to see clean. So interestingly, where before people would hide cleaning public areas from the public and not do it until off hours, they're now doing it 24 hours. They want the public to see this happening, and they're increasing cleanliness frequency in virtually every part of the establishment. So that's going to, if you will, mean you can get back to same sales at lower occupancy.", "What that exact math is, I mean, we're all learning. I mean, we're literally weeks into this thing as we go through there. With that said, we saw, I would say, better recovery in U.S. lodging in the second quarter than I would have guessed going in. And it was quicker in some regards than other markets, which is an interesting outcome. And so we'll all watch this, but we don't need to get back to the same exact level that have the same, if you will, spin per location." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay. And then looking -- you are emphasizing hospital-grade disinfections. But as we all know and that you know about hospitals, your hospital experience, if they are not choose properly, it really doesn't matter what they use. So are you training them? Is there some kind of a certification? And would you be held responsible if you certify that what they are doing is going to end up with a clean area?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes, absolutely. And I'll have Christophe give some color. Yes. When -- yes, a key component of the Science Certified program is in unit training of employees. And some of this is going to be done through Lobster-type technology, and much of it like it's done historically is also in-person training and development. But you're absolutely right. I mean, if you don't take a disinfectant out of the bottle, it doesn't kill any germs. So you need to do it properly. What the advantage we have with our accelerated kill time is it's much less sensitive to procedure. If you have 4-minute requirement for dwell time, that is a huge training obstacle because it's not natural. It's not what we do. People don't spray things and leave them on there for four minutes, right, to kill. That's just not what we all believe is necessary, even though it is actually the requirement, and I'm going to ask Christophe to give more color if he wants to around some of the training and certification efforts around Science Certified." ] }, { "name": "Christophe Beck", "speech": [ "Yes. Thank you, Doug. So the idea of Science Certified is really that you can audit it at the end. And we know that it's a point in time. We should be going every day in order to make sure that everything is right. But what we want to make sure, it's like in a company, if the accounting standards have been defined, well, you expect the people to follow them and then to audit them. That's a little bit of the same approach in a more volatile world, obviously, so in a kitchen and in a restaurant. But it's really defining with them what are the standards? What are the protocols? How do we train the people? What are the programs? And as Doug mentioned, so we're trying to have programs as simple to use as we can with the maximum impact in terms of kill time and in terms of efficacy as well and at the end of the day, so to have this audit. And at the same time as well, having our territory managers who is coming as well regularly in that restaurant to make sure that things are being done the right way.", "So it's really sort of protecting the unit with the right procedures. And at the same time with Ecolab Science Certified seal that you will see on the door that the guests coming in get some level of comfort as well with this see clean versus just a feel clean." ] }, { "name": "Operator", "speech": [ "Next question is from the line of Andrew Wittmann with Baird." ] }, { "name": "Andrew Wittmann", "speech": [ "Thanks. My questions have been asked and answered." ] }, { "name": "Douglas M. Baker", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of P.J. Juvekar with Citi." ] }, { "name": "Eric Petrie", "speech": [ "Doug, it's Eric Petrie on for P.J. How often do contracts come up for renewal in the Institutional market? And in terms of your new business wins, are customers more willing to source incremental product from Ecolab? Or is there still a mentality to diversify supply?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I would say there hasn't been one then the short answer is, I mean, they're anywhere from three to five years on average, right, our contracts. I always say this. I don't ask investors to take a lot of comfort in that. We don't. I mean, if a customer wants to leave us because we're poor performing then we do not sue. I mean, there's a few exceptions if we give capital upfront and do some other things, and we have spilled out requirement. But we operate like every one of these contracts is renewed every day. It's the only way that you continue to grow share in these industries.", "I would say customers typically -- I mean, we have very good penetration in a number of our chains, wide and deep. And so there is not, I would say, a built-in reluctance in the industry to do this. I think what we need to do is continue to sharpen the way we articulate the benefit of doing it, of having the product portfolio ours because in every chain, there's always a gap or 2. So every place we go, we know we can sell more as we do it. But it's not a simple thing of they have this purchasing mandate of having two suppliers. That's not the situation we see. We address security supply, which is a very real and valid concern, by making sure that we manufacture in multiple sites, that we have multiple avenues to supply customers even when we're in sole supply so they can't be victimized by a bad event, say, an unfortunate hurricane or tornado or some other natural disaster that knocks them out and us." ] }, { "name": "Eric Petrie", "speech": [ "Okay. For my follow-up question, how many customers in the Institutional business currently use the hospital-grade disinfectant? And where do you see the market opportunity to grow that to? And related, would you see a mix benefit?" ] }, { "name": "Douglas M. Baker", "speech": [ "Yes. I would say the roots of the disinfectants we use in those businesses are hospital, right? I mean, one of the real advantages we've had being in the Healthcare market is you see the emerging pathogens first there. And so you learn how to treat them and deal with them and then it helps you as they start migrating in other institutions around the world. So the base is there. But as Christophe alluded to in a recent launch and I talked about earlier, we have several new, very important developments in that space that is just in the process of rolling out, which enables us, I think, to help customers have more resilient programs because the kill time is faster. So it's less procedure sensitive. So those things are just starting to roll out literally now." ] }, { "name": "Operator", "speech": [ "At this time, we've come to the end of our question-and-answer session. And now I'll turn the floor back to Mike Monahan for closing comments." ] }, { "name": "Michael J. Monahan", "speech": [ "Thank you. That wraps up our second quarter conference call. This conference call and the associated discussion and slides will be available for replay on our website. Thanks for your time and participation, and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Comments]" ] } ]
ECL	2021-04-27	[ { "description": "Senior Vice President, External Relations", "name": "Michael Manohan", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Christophe Beck", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "William Blair -- Analyst", "name": "Tim Mulrooney", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Manav Patnail", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "G Research -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "Oppenheimer & Co. Inc. -- Analyst", "name": "Scott Schneeberger", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "Robert W. Baird -- Analyst", "name": "Andrew Wittmann", "position": "Analyst" }, { "description": "Stifel -- Analyst", "name": "Shlomo Rosenbaum.", "position": "Analyst" }, { "description": "JP Morgan -- Analyst", "name": "Jeff Zajkowski", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Mike Harris", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Eric Petrie", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the Ecolab First Quarter 2021 Earnings Release Conference Call. [Operator Instructions]", "It is now my pleasure to introduce your host, Mike Monahan, Senior Vice President, External Relations. Thank you, Mr. Monahan. You may now begin." ] }, { "name": "Michael Manohan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's first quarter conference call. With me today are Christophe Beck, Ecolab's CEO; and Dan Schmechel, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter's result are available on Ecolab's website at ecolab.com/investor.", "Please take a moment to read the cautionary statements in these materials, which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview, the first quarter showed continued sequential business improvement that was offset by the Texas freeze. Adjusted EPS were $0.81. That EPS included the impact of short-term supply chain and customer disruption from the freeze that were estimated to be $0.10 per share. Healthcare and Life Sciences segment showed further strong sales growth. The Industrial segment experienced a modest sales decline as its growth was offset by the freeze impact. The Other segment significantly narrowed its sales decline from the fourth quarter and the Institutional & Specialty segment sales decline narrowed slightly from the fourth quarter, as sales trends within our U.S. institutional business improved through the end of the first quarter.", "Our markets are broadly improving and increasing rate of vaccination along with the easing of social restrictions provides further support for the global economic recovery. We expect that broad improvement leveraged by our investments and the work we have done to further our critical innovation, service and digital business drivers as well as our cost efficiency measures will help drive strong comparison against 2020 results over the balance of the year and result in 2021 adjusted earnings per share that exceed 2019 adjusted earnings per share from continuing operations, excluding the estimated $0.15 per share impact from the Texas freeze.", "Over the past year, we've seen the value of Ecolab's premium product and service expertise once again underscored through continued strong new business growth as well as our strengthened customer relationship, despite the difficult market conditions. Our position as a leader in food safety, clean water and healthy environments has become even more important, we believe this position along with our strong, long-term growth opportunities remain robust, driven by our huge remaining market opportunity, our leading global market position, our focus on providing our strong customer base with improved results while lowering their water, energy, and other operating costs and through that our ability to help them meet their growing ESG ambition. We believe the sustainable long-term business drivers will continue to yield superior long-term performance for Ecolab and our investors.", "And now here's Christophe Beck with his comments." ] }, { "name": "Christophe Beck", "speech": [ "Thank you so much, Mike, and good afternoon, everyone. I'm very pleased with our first quarter, which was right in line with our expectations. Excluding the Texas freeze which we discussed earlier, our business continue to show solid fundamental improvement that gives us confidence in our full year outlook. Our underlying business momentum as well as margin development kept improving across the board, leading to strong results in the first quarter. Excluding the short-term impact of the Texas freeze, our Q1 adjusted EPS showed a significantly narrowing decline versus the prior year, continuing our improving quarterly trends.", "It's also ahead of what we delivered in Q1 2019, which is a good indication for our expected full year delivery. We did all this while continuing to invest in our major growth initiatives and in our global team capabilities to leverage our position as the markets reopen. Excluding the freeze, all segments stayed strong or showed continued sequential improvement. Our fundamental business strengths kept gaining momentum, especially in our Institutional division, which saw a definitive pickup as we exited March. Our Industrial segment, which was most impacted by the Texas freeze delivered improved underlying growth trends versus the fourth quarter of 2020 and continue to further strengthen its margin.", "Healthcare & Life Sciences maintained their strong double-digit growth and solid margin improvement. This good start strengthens our confidence for the full year and beyond. Our general market outlook remains largely unchanged versus what we said in previous calls. North America and China are moving ahead of our previous expectations, while Europe and several emerging markets remain behind as they recover from extended lockdowns and are still impacted by a rather slow pace of vaccination.", "So while the exact timing of the global reopenings might shift a few months, which might also shift some of the recovery into Q3, we expect strong growth in the second quarter driven by improving end markets and accelerated underlying growth momentum. We expect these trends to continue in the second half of the year.", "Our objective has been to start the year in a position of strength and Q1 shows we clearly achieved this. Our net new business pipeline increased to a record high and our global market shares are strengthening. Our differentiated innovations are continuing to help our customers protect their consumers and our world-class programs help them preserve vital natural resources, while generating very attractive financial returns. And with our new Ecolab Science Certified assurance program we have become the brands that reaasures customers and consumers in times they needed the most. All this underscores our confidence that we are on a path to deliver full-year '21 adjusted EPS ahead of 2019 EPS, excluding the estimated $0.15 impact of the Texas freeze.", "Looking beyond the pandemic, our longer term position is better than ever. In a world where hygiene standards are rising, where food safety and infection risk awareness has reached new levels, where the expected gap between water supply and water demand is wider than ever, our differentiated value proposition as the global leader in water, hygiene and infection prevention services and technologies positions us uniquely to capture this accelerating growth trend. The combination of these unmatched value proposition and the breadth of our comprehensive offering makes us the obvious partner for global companies to help them deliver on their most ambitious sustainability commitment.", "Our ability to serve customers at 3 million locations in 170 [Phonetic] countries with 25,000 dedicated on the ground experts in 40 industries allows us to deliver the same standards of quality and performance anywhere around the world. And our new business pipeline breakthrough innovation, unmatched digital footprint, world-class scientific expertise and passion for exceptional execution will continue to lead to sustained growth momentum and continued double-digit earnings growth for the years to come.", "I look forward to your question. So, Mike, back to you." ] }, { "name": "Michael Manohan", "speech": [ "Thank you. That concludes our formal remarks. As a final note, before we begin Q&A, we plan to hold our 2021 Investor Day on Thursday, September 16, in St. Paul.", "Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] Our first question will be coming from the line of Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Tim Mulrooney", "speech": [ "Good afternoon." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Tim." ] }, { "name": "Tim Mulrooney", "speech": [ "Hi, Christophe. I know everyone is expecting a strong recovery in the Institutional segment in the second quarter, and particularly given the easy comparison that you have with last year, but I'm curious if you could maybe talk about how the recovery in that segment is unfolding on a global basis? How is U.S. Institutional performing recently relative to some of your other major global markets and how do you see that playing out through the second quarter?" ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Tim. So on Institutional, net-net it's happening as expected. We had the U.S. and China that are ahead of our expectations as we can read as well in the news. And on the other hand, so we have Europe and a few emerging markets that are behind, as we can see with restrictions, with lockdowns, with the slow pace of vaccinations, especially in Europe as well. So that's the balance that we are trying to manage.", "When I think about how Institutional did during the first quarter, we saw a nice pick-up in March. It's been confirmed in April right now, in the second quarter. So net-net Q2 should be more or less as expected. If there is one caveat might be so the timing of reopening in Europe and some of the emerging markets that might shift some of that growth in Q3, but for the full year, I confirm the outlook, the way we described it in the previous call." ] }, { "name": "Tim Mulrooney", "speech": [ "Okay, that's great, thanks. And as my follow-up, can you just talk about within the Institutional segment, how your customers that are open, how they're spending? I know this has been a common theme that folks have asked on a conference call, but curious on your updated thoughts. Are customers spending more than they were relative to pre-COVID levels on things like hard and soft surface cleaners, where I know that there is maybe some elevated demand. And do you think eventually that demand returns to pre-COVID levels or do you think that it settle somewhere above pre-COVID levels given the emphasis on virus protection and the like. Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Good question, Tim. So our focus, as you know is on our corporate account, so those are chain customers, regional or global customers, those are the ones who have weathered the pandemic better than others as well most of them are investing in new units or in the refreshing of current units as well, which bodes very well. So for our business for today and for tomorrow.", "To your question on the hygiene products, basically the way we think about it is that, it's going to be a bit less than during the pandemic, where the measures obviously are going to be a little bit less strong than what we've experienced over the past 15 months, but it's going to be higher than what we've experienced so pre-pandemic as well. So net-net, we think that our position in Institutional has strengthened and the customers that we serve are going to be in a better position as well." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnail", "speech": [ "Yeah. Thank you. Good afternoon. I just wanted to touch on the -- on your comments around Europe, if you could just elaborate a bit more in terms of -- I know pre-pandemic it was structurally I guess just a lower growth area and there was some competitive dynamic. So I was just curious if you see any of that changing once we do get this rebound or reopening?" ] }, { "name": "Christophe Beck", "speech": [ "Hi, Manav. So to your question on Europe. So Europe had a good year last year. So in 2020 we had flat sales overall. We had -- our profit margins that went up as well. So overall, I was very pleased with the business development that we saw in that critical region, so for us. and if I look at '21, it's kind of an on-off approach that they are having. So first, I'd like to put on the side to the U.K., which has partly reopen as we know so way ahead in terms of vaccinations versus Continental Europe. So U.K., we saw good development over there. Continental Europe, so most of the countries are in complete lockdown, so most of the large countries had curfews even as well that's true for Germany and for France for instance as well.", "So most, if not all of the restaurants and hotels are for the most closed, which is something that's going to change hopefully before the summer. They're all talking about reopening in order to protect the summer season. I hope that that's going to be true, it's going to be a bit later than what I had expected ultimately here, but then it's going to drive a rebound, which is going to be positive in Q3. So, as mentioned before, we might have some of the growth, we were expecting in Q2 shifting into Q3. But all-in-all, so for the full year, it's going to be similar than what we had thought." ] }, { "name": "Manav Patnail", "speech": [ "Okay, got it. And then the other question I just had for Christophe is on water, I know it was 3% growth backing out the Texas freeze, but just given just the water scarcity issues out there, I was just curious what -- can water grow just like Life Sciences and Healthcare is growing, just given the need out there or are there any limitations there to get to that kind of growth rate?" ] }, { "name": "Christophe Beck", "speech": [ "Yes for water. So you mentioned it's 3% ex. the Texas freeze. It's important as well to keep in mind that within water you have light industries, heavy industries, both are growing ex-Texas are in mid single plus, which is very good. In Q1 and you have mining, which is still in the negative territory since we exited some of our coal business, but even mining is going to come back in a nice way I think in the next few quarters and years for sure. And to your point on water scarcity, we see always more customers are coming to us and asking us how to help them reach their net zero objective that they have for 2030 year or for 2050, which is right in-line with our ESG promise as a company and offerings of our customers and that's going to feed as well I think the momentum so for water in the years to come." ] }, { "name": "Manav Patnail", "speech": [ "All right, thank you very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Manav." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is from the line of David Begleiter with Deutsche Bank. Please proceed with your questions." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Christophe, can you discuss the pressure from raws you're seeing and the pricing you need right now to offset that and when that might equalize prices versus raws?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah, hi, David. On the raws, it was pretty benign in Q1 as we've shared. But if we look at the full year, if we look at the indices that you read too, it's obviously much more than what we had expected initially. But when I step back and look at the overall picture, it's roughly, kind of a mid-single growth in terms of cost for our overall raw spend, which is more than what we had expected, but something that we had experienced in the past as well we know and we had the capabilities to price for that in a good way. You know that we price to our customers based on value that we create as well, so for them, which means that we do that as well over time, it's not so rapid shift over a month, take it some time.", "And just as a reminder, we tried to get the dollar value. So within 12 months back and the margin in percent in 24 months so the second year. So, the way we look at it today, for '21 might be a slight net negative, but I'm not even sure about that. Our teams are good in doing it and what we're seeing right now is nothing exceptional versus what we've experienced in the past." ] }, { "name": "David Begleiter", "speech": [ "Very good. And can you just discuss the competitive intensity in the marketplace. You have a -- one of your competitors is now public, talking about your share gains you saw in Q1 and what you expect as you go through the year versus perhaps to do a more public profile to competitor?" ] }, { "name": "Christophe Beck", "speech": [ "So I'm really happy with the share gains that we are having in most if not all businesses actually where we're tracking the number of units that we are serving, the number of solutions that we serving to existing units as well. And we've talked about that over the past few quarters. That was an objective for the whole team during the pandemic to gain share that when it reopens we can leverage obviously that that pick up and that's happening as we expected, which is really good and you're right. So one of our competitors has become public over the past few weeks. We're very familiar with them, we've been competing with them for many, many years. We respect them a lot as well.", "And I would say they make us better because we need to be better than them and when you think about it. So we overlap in less than a third of our end markets, we're 5 times larger, we invest 10 times more in R&D and digital than they do as well. So I feel really good about what we can do for our customers and how we're gaining shares versus them on the marketplace." ] }, { "name": "David Begleiter", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Rosemarie Morbelli with G Research. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone." ] }, { "name": "Christophe Beck", "speech": [ "Good afternoon, Rosemarie." ] }, { "name": "Rosemarie Morbelli", "speech": [ "So Christophe if -- what would be the likelihood that you could be close to the 2019 level of 5-12 including the hit from the freeze and outside of Europe recovering or do you need Europe to open its doors to all Americans vaccinated. And we are all going there in order to help you guys, what do you need in order to do better than what you are looking at currently?" ] }, { "name": "Christophe Beck", "speech": [ "So right now I feel very good about delivering this 2019 adjusted EPS, excluding the Texas freeze as you mentioned. The Q1 delivery saw has increased our confidence to deliver that. As mentioned before, there might be some shift between Q2 and Q3, because of the timing of reopening in Europe, as you mentioned. But overall with everything I know right now, I think that the delivery as we described it is the right target. If things improve in Europe better than we all think, well, we will definitely try to gain more momentum, but for now, I think that the 2019 EPS delivery would be a good target excluding Texas." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Okay, thanks. And then looking at F&B, could you talk a little bit in more details of the different segments areas in that particular segment?" ] }, { "name": "Christophe Beck", "speech": [ "So F&B we had a good year last year. It's one of our best businesses, as you know. So good growth, good margin, good margin improvement at the whole Industrial and segment obviously did as well. F&B had a strong start in 2020 when the pantry loading was happening in the first quarter and a little bit beyond as well, so we have some comparison challenges right now, but underlying, I feel good about where F&B is going. It's a little bit different by end market.", "So we had the milk products that were impacted for a while because of schools being closed. That's improving progressively, which is good. We see beverage and brews, beers improving in some places, especially in the U.S., but we're very strong in Latin America where everything is closed. So that's going to be good for the future. That's a little bit less good right now, and in the Food segment that's where we have strong comparisons versus the previous year where it pressures a little bit of the year-on-year comparison. But net-net, Q1 so it feels a bit softer because of the comparison, but underlying and especially when I look at the new business being generated in F&B the next few quarters are going to show some good delivery as it used to be as well in the past." ] }, { "name": "Rosemarie Morbelli", "speech": [ "All right, thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Rosemarie." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Gary Bisbee of Bank of America. Please proceed with your question." ] }, { "name": "Gary Bisbee", "speech": [ "Hey, guys. Good afternoon. I guess, the first question, can you just give us an update on where we are with the cost savings program, sort of, what have you achieved to-date, what's likely to be achieved in 2021 and then how much savings are left from those big programs for beyond 2021? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Gary, I'll pass it to Dan, who has the details, but generally likes of the progress that we've made in our cost savings program, which are all meant to strengthen our performance post pandemic as well. So if anything things have progressed better than we had expected. But with that, Dan, maybe some more details." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Sure, Gary. Thank you. Just for common reference may be, it' probably helpful again to build up the pieces of our cost savings program, which you'll recall was originally announced far back in 2018 as accelerate 2020. This was the initiative to capture the investments in our digital offering with a $200 million cost savings target. We expanded it. At the time we announced the ChampionX then to cover things like stranded costs and anticipated costs related to ChampionX, we expanded it again to cover some aspects of supply chain Industrial business and most recently to cover some restructuring, really some reshaping maybe of our Institutional business to improve principally field delivery.", "So, you add all that up and we have targeted cost savings of about $365 million, some of that is in gross margin, the big bulk of it is in SG&A. Year-on-year, the incremental piece that we expect to capture in 2021 is in the neighborhood. If you look just at the SG&A piece $120 million-ish range, that's a big help in 2021, mind you there is a lot of -- $91 million [Phonetic] I'm sorry. There is a big piece that is after -- but the net of it is that we think that this entire program will essentially be delivered by the end of 2021 and there will be pieces of the Institutional program that's still to 2022, but the bulk of it will be fully accrued and fully delivered by the end of 2021." ] }, { "name": "Gary Bisbee", "speech": [ "Okay, great. Thanks. And then the follow-up question, just how are you thinking about multi-year growth beyond 2021 as we get more normal performance for the business post pandemic? Historically you'd laid out a number of long-term aspirational target, should we think back to those as appropriate or just can you give us a sense how you're thinking about the multi-year..." ] }, { "name": "Christophe Beck", "speech": [ "Gary, just to make sure I understand your question. So you mean in terms of sales growth and earnings growth, right?" ] }, { "name": "Gary Bisbee", "speech": [ "That's right, yeah, yeah. So, I know you got easy comps, and there's a lot of moving parts, but over the two, three, four years are those..." ] }, { "name": "Christophe Beck", "speech": [ "Yeah." ] }, { "name": "Gary Bisbee", "speech": [ "Historical target still reasonable? Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Yeah. Our ambition, Gary has not changed. It's really -- so the 6% to 8% organic, meets the 13% to 15% EPS, that has been true for many, many years and it's not going to change in the future. If anything, our position has strengthened. Out there, when you think about the rise of hygiene standards, the search for most companies to improve their profile in terms of ESG delivery, net zero in water consumption, so being one of them, the need for digital solutions as well. So those are all things that are improving our position going forward. So no change in terms of growth expectations for the future. If anything, our position has improved." ] }, { "name": "Gary Bisbee", "speech": [ "Great, thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Gary." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of John McNulty with BMO Capital Markets. Please proceed with your questions." ] }, { "name": "John McNulty", "speech": [ "Yeah, thanks for taking my question. In the Institutional business, specifically, can you speak to the number of accounts that you served this quarter versus the prior quarter and how that may have changed? And then I guess to that, are you starting to see any early signs of new account or I guess potential customer launches at this point, or is it a little bit early, given where we are in the pandemic kind of stages at this point?" ] }, { "name": "Christophe Beck", "speech": [ "So, good question, John, except that we don't share obviously the exact number of accounts, or solutions per accounts that we're tracking on a monthly basis, for a long time actually, for competitive reasons, so for the most part. But what I can say is that the number of accounts keep going up, which is good, months-after-months, which is giving us confidence, obviously for the growth of our business going forward, because it's hard to grow without having more customers buying program from us.", "So more accounts, buying more solutions and one thing I'd like to add as well is the Ecolab Science Certified program that we launched a year plus ago in Institutional requires customers to buy most of our solutions in order to qualify for the certification and this is driving as well, penetration of solutions in a good way and it's helping as well with the retention as well going forward.", "So not only we are gaining number of accounts and solutions, but we keeping them as well longer because customers are interested in keeping the certification at the same time." ] }, { "name": "John McNulty", "speech": [ "Got it. And is there a way to think about on the Ecolab Science Certified program? The difference in total value that you're getting from a specific customer verse first one that's not tied into the program? If there is -- looking at like a like-for-like customer, obviously." ] }, { "name": "Christophe Beck", "speech": [ "So it depends, obviously, where they're starting from. If they just bought one solution, the gap is way bigger or the opportunity is much bigger. In some cases with some of our long-term customers, well, they're buying everything from us everywhere around the world, in that case the opportunity is much smaller. But when I think about it Ecolab Science Certified was a program we did not plan to launch pre-pandemic. That came as an outcome of the pandemic where we really recognize that our customers needed some help in order to make sure they could protect their guests and at the same time guests coming in a hotel or in a restaurant all looking for more reassurance and that's going to be true for the quarters to come.", "So we measuring as well the number of locations that are certified by Ecolab Science Certified. It's pretty large, actually. We are not disclosing that number, but it's by far the number 1 program in the U.S., right now. It's generating incremental sales, which is pretty significant as well at the same time and as you know, we supporting that as well as the brand in the media, which gets always more recognized by consumers or guests, as we call them in that industry.", "So all-in-all, this is really good to grow our market share in Institutional." ] }, { "name": "John McNulty", "speech": [ "Got it. Thanks very much for the color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. Does it matter that COVID isn't significantly transmitted on surfaces or it doesn't matter, because cleaning in theater is more important?" ] }, { "name": "Christophe Beck", "speech": [ "Infections can be transmitted, John, in so many different ways. As we know, can be the air, it can be what you, it can be what you touch, it can be what your drink, the hands that you're shaking, obviously. So it's true that COVID is mostly transferred through the air, but many other illnesses are transmitted through surfaces or human contact as such. And when I think about infection prevention, while short-term we all think COVID-19, but mid to longer term, we think about any infection that could happen out there and surfaces like human contact are a big vector as we know. One example is that in hospitals, the number one vector of infection is through the hands as well, not for COVID, but for many other infections as well. So overall, making sure that you reduce the number of infection in a public setting done, well you need to have surfaces as disinfected as you can." ] }, { "name": "John Roberts", "speech": [ "Okay. Good answer. And Healthcare was 5% excluding one-time sales and 12% including, could you talk about that difference?" ] }, { "name": "Christophe Beck", "speech": [ "The main difference -- first of all, I'd like to say Healthcare used to have underlying sales of 3%, 4%, so pre-pandemic getting toward this underlying 5% plus is a good step up and you've seen the margins went up as well in a good way, which is all very encouraging for this business. Now the difference between the 5% and the 12% is solely driven by significant deals that we've made with some governments around the world during the pandemic to address obviously the infection risks in the U.K., in Germany, in Australia, in New Zealand in many countries around the world. This is COVID-19 related, so it's tapering off right now. So you start to compare as well against very high growth last year, and that business is going to be reduced, we knew that and then we will get back to the underlying growth of this 5% as you said." ] }, { "name": "John Roberts", "speech": [ "Great, thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, John." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you. Dan, can I just ask you about the working capital and how you're thinking about free cash flow this year. Just noticing inventory was up about $100 million, $120 million in the quarter versus last year even though sales were down. I think you mentioned in the prepared remarks that you're building inventory ahead of the recovery, but just how should we expect working capital to trend overall and then ultimately when that's going to translate into free cash." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Vincent. Yeah, I'll pass it to Dan just in a second. You've mentioned in right. So on one hand very happy with the cash flow delivery in the first quarter. And on the working capital piece, it's really -- so for us, we want to make sure that we can produce enough product for the reopening that's happening in the various states and markets around the world and that has an impact obviously on working capital. But with that, Dan, would you add some comments on that?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "Thank you, Christophe. And that might be the answer to the core of your question. So inventory look internally, we've been very clear that mistake that we are not going to make is not going to have product, the right product in the right place to serve our customers as their path reopening accelerates. Okay. So you're right, we built significant inventory versus the same time last year also versus year-end 2020 and my guess is that we will continue to, because we'll have the right stuff where we and our customers both need it.", "If you think about the recovery of the business generally rebuilding the balance sheet means that there will be some pull on inventory, accounts receivables too, which are in very good shape from a payment perspective, but as people buy more stuff we'll have more on the balance sheet and accounts receivable. We'll continue to manage our vendors and what we purchase with appropriate discipline. But there'll be an investment in working capital as the business rebuilds, which is to be expected and completely appropriate.", "The net though of our cash flow delivery through the full year, even including the higher level of capex that we will continue to invest in the business in 2021. Our cash flow will continue to be bigger and also it will be, if you think about the metric that matters most to me in terms of conversion, it will continue to be in the mid 90% range, which I think is a very good number for the company and for the model. Okay?" ] }, { "name": "Vincent Andrews", "speech": [ "Okay, thank you. And maybe Christophe, any comments on where you are with sort of the bolt-on M&A pipeline?" ] }, { "name": "Christophe Beck", "speech": [ "For the M&A pipeline that's always a difficult question. Obviously, we have a very rich pipeline, we've been working quite a debt during COVID, we've done less transactions for the obvious reasons, but we've done a lot of strategic work, we have built a lot of relationships with targets we have out there. So, I feel good about the pipeline we have. I want to absolutely invest in places that are driving higher growth and higher margins and making sure that we can do that at valuations that are good for us and for our shareholders. So, I feel good with what's to come." ] }, { "name": "Vincent Andrews", "speech": [ "Thanks very much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Vincent." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Scott Schneeberger with Oppenheimer. Please proceed with your question." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much. Good afternoon. On -- just with regard to the Texas freeze, it looks like that lost revenue came at a higher decremental margin if my numbers are correct. Could you please elaborate on just how that impacted? And now that we're near the end of April, have you seen the full $0.15 impact or is this going to drag on through -- the follow on through the second quarter, possibly third, just curious, what type of lag there is occurring? Thanks." ] }, { "name": "Christophe Beck", "speech": [ "Yes, Scott. So the Texas freeze, we expected this $0.15, which seems to be the right number as we speak, $0.10 had impacted Q1 as we communicated and we expect the remaining $0.05 to impact Q2. We see things really moving behind us. It's not a perfect sign. As you can imagine what froze, what was closed, when it reopens. This is something that we can't control as such, but what I like is that things are really back in operations. That's true for our customers, it's true for us and our suppliers as well. The only issue we had was impacting mostly March and April, which was obviously across two quarters, but $0.15 the total number, $0.10 in Q1, $0.05 in Q2 and it's happening as expected." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks, Christophe. And the peers of ours in the Industrial segment where if I back that out, the weather impact very elevated margins, just curious what incremental upside do you see in the segment going forward? It looks very strong since the onset of the pandemic and strengthening. Thanks." ] }, { "name": "Christophe Beck", "speech": [ "You're right that the margin work in Industrial has been remarkable. Over the past few years, it was over 300 basis points in 2020, while sales were slightly declining. As you know, in Q1, ex-Texas that will also a double-digit operating increase, which was good as well. And going forward, I believe that that's a winning business. There will be times with raw materials and pricing were up quarter-over-quarter, things might lag a little bit, but generally margins will continue to improve in Industrial, especially because the value that we provide to our customers is unmatched.", "As mentioned before, most of the customers are coming to us, especially in our water business is to help them reach the ESG commitments that they've made for 2030 or 2050, while there is no one else that can truly help them as we can. This is something that is driving growth and it's driving margins as well for us, because they need better technology, which is where we invest most in research as well. That's where we had the highest margin. So it's good growth driven by good natural impact, which is driving, as well our margin. So the short answer to your question, margins in Industrial are going to keep improving." ] }, { "name": "Scott Schneeberger", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Laurence Alexander", "speech": [ "Good afternoon. Just following up on the margin discussion and the price versus raws as you look at 2022-2023, should margins be for the entire firm be hitting a new high?" ] }, { "name": "Christophe Beck", "speech": [ "It's a great question. So it's hard for us to know exactly how it's going to be in '21. So knowing '22 and '23, so will be even a harder. The way we drive pricing is really driven by the value that we create for our customers. In other words, how much savings we help them deliver on a year they invest 10% in our services and they get 20% or plus back as a return. This is the way we price, it's basically sharing value we create of our customers.", "Obviously, when there are raw material increases like we are, and will be experiencing in the next quarters and probably years to come. Well, we add that to the equation. We've been quite successful over the past few years in doing that, that's been one of the reasons why margins have improved so well over the past few years and especially as well last year. So I don't know how raws are going to be in '22 and '23, but I know that our pricing is going to keep being in the 1% to 2% plus range depending on how the raw materials market are, but it's never going to go down. So all-all it's going to be up in price and it's going to be driving margins up as well over the long-term." ] }, { "name": "Vincent Andrews", "speech": [ "And then are there any end markets where you have been surprised at the elasticity of demand and where you're seeing a clear trade-off between pricing and organic growth?" ] }, { "name": "Christophe Beck", "speech": [ "You mean in a negative manner?" ] }, { "name": "Vincent Andrews", "speech": [ "Just -- I mean, has anything changed in your framework over the course of the COVID related disruptions? Have you learned anything new about kind of the end market behavior, where you're like, OK, that was not expected." ] }, { "name": "Christophe Beck", "speech": [ "No, if anything, it's more interest on one hand driven by this increased trend of ESG, of sustainability commitments. So what we do for customers becomes even more critical, and customers are ready to invest more in order to get more return from a financial perspective, but also from a image perspective because they make commitments as well out there. But on the other hand, it's also in times where performance -- cost performance becomes more important. Think about some of the end markets are economically challenged right now. Well, our solutions usually are very handy for those customers because it helps them improve their cost competitiveness, because you can do the same work, the same outcome, a better outcome with much less labor or creating less waste or using less natural resources as well. So it's a good financial deal.", "So on both sides for customers in most segments while they need more of what we do in order to reduce the impact on the environment. And while they do so, they reduce their cost as well, which is even more important in difficult economic times in some of the specific end markets. In both cases, this is a good story for us." ] }, { "name": "Vincent Andrews", "speech": [ "Thank you." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Andrew Wittmann with Robert W. Baird. Please proceed with your questions." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, thanks for taking my questions. You've had a couple of questions on margins, I wanted to -- if you do another one, you had the one on the Industrial segment, you had the consolidated margin question, but I had a kind of a two-part question, here. On the Healthcare segment to start out with, obviously, you talked about some of the large governmental orders and other things that probably helps your fixed cost leverage in that segment over the past 12 months. I was just wondering, as those comparisons are now stiffer and the business starts to normalize above historical levels, but starts to normalize from last year, at least, if you think that some of the fixed cost leverage goes away. If that's the appropriate way of thinking about that segment's margins in the 12 months ahead.", "And then secondarily, just maybe a little bit more detail on the Institutional segment margins. Obviously, the volume declines were significant, and that all make sense what happened to the margin so far, but on the way back up with the cost reductions and programs that you've put in place, do you think that when the revenue level back -- gets back to 2019 levels, is there any reason to think that the margins would be any different in that business than they were pre-COVID? Just recognizing that the customer base is probably going to be somewhat changed, maybe not yours so much to the national accounts, but a lot of changes to hospitality and food service. So, wanted to get your thoughts on that. Sorry for the long question." ] }, { "name": "Christophe Beck", "speech": [ "No, that's good. Thank you, Andy. Maybe starting with Healthcare. Very different dynamic, obviously, than in Institutional. So, in Healthcare, first of all, very pleased with the underlying growth performance moving toward this 5%, which was an objective for a long time. It's taken us many years to get there and COVID has helped because the infection prevention awareness of customers and patients in that case, well, has gone up very clearly during COVID-19, which is good. So, underlying growth solid in Healthcare and that's here to stay.", "Second on margins, very good improvement last year. In some cases helped partly with the one-off those government deals that we talked about earlier. But I feel really good that margins is going to keep improving in '21 and in the future as well. So this is here to stay. So a good story in Healthcare and for me that's not the end of the story. It's clearly up to us to improve it further. That's on Healthcare.", "Institutional, very different story, especially coming out of 2020 which is the business that's been impacted the most in our company, 90% plus of the COVID impact at Ecolab was on Institutional division as we all know, which is 20% of our overall company as such. So when I think about the margins, I'd say two things, Andy. The first one is, every quarter it's going to improve and we're going to get a lot back from what we lost in 2020 and we'll get close to where we were in 2019 pre-pandemic. So probably not at the end of this year, but early in 2022.", "And the second part of your question, so post pandemic, if I can call it that way, well, we've invested in our organizational development/restructure, we've invested as well in field technology that's going to help as well, the performance. So if anything the margins of Institutional over the mid-term should improve versus what we have seen pre-pandemic." ] }, { "name": "Andrew Wittmann", "speech": [ "Thank you very much. Have a good day." ] }, { "name": "Christophe Beck", "speech": [ "Thank you. You too, Andrew." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question is coming from the line of Shlomo Rosenbaum with Stifel. Please proceed with your question. Mr. Rosenbaum, your line is live. You may proceed with your question." ] }, { "name": "Shlomo Rosenbaum.", "speech": [ "Oh, sorry. Christophe, maybe you could talk a little bit about -- the discussion used to be before the pandemic, a lot more about the investments that were being made in digital solutions. I know the company didn't want to pull back on investments through the pandemic. Can you talk about what has happened over the last year? Where there have been areas of adoption that have been accelerated because of the pandemic and where there might be areas of lag?" ] }, { "name": "Christophe Beck", "speech": [ "Good question. Thank you, Shlomo. Digital has been an important priority for us for many, many years, it started 30 years ago, actually. Was called differently obviously back then that was true when we did remote monitoring of pools and spa in Institutional and that was especially true, which really trace our industrial water business as well. And if I fast forward, ultimately for 2020 things have accelerated because in many instances, we could not go to customer locations for obvious reasons related to COVID so customers and our teams have embraced digital solutions even more than before. Keep in mind as well that we've invested over the past five years over $150 million a year in digital. So we were ready for that moment during the pandemic that was more luck than genius, obviously as such, but it came very handy, as well as such.", "So when I think about the three main drivers for us in digital at Ecolab, the first one is to drive customer value. So its subscriptions. It's lead general prevention programs for instance as well. They're all driven by digital technology. We sell that technology. This is growing very nicely. The second one is our field solutions. In order to improve the productivity and the value created by our 25,000 people around the world, Institutional has rolled out everywhere around the world their new platform during COVID and that's going to help us as well. So for post-pandemic, that's what I just answered as well before, which is one of the reasons why our performance in Institutional will improve.", "And the last pillar is the customer experience e-commerce for instance that has gaining -- that has gained traction in 2020, also because of the remote nature of the customer relationship that we had during the pandemic. So on all three fronts, good progress in 2020 and when I look at the progress we're making in digital in 2021, our digital enabled sales are roughly $1.5 billion and growing double-digit as we speak. So, a very good story all-in-all." ] }, { "name": "Shlomo Rosenbaum.", "speech": [ "Okay, great. If I could follow-up, is there any progress to note in when the new verticals is going to be kind of the data center area. Is there anything to report on that over the last year or quarters?" ] }, { "name": "Christophe Beck", "speech": [ "Well, it's been a great story because we've all ended up working remotely on whatever is your system or preference, WebEx, Teams, Zoom and so on remote monitoring of applications as well or plants. It's an industry that has been booming. As you can see as well from the numbers from the tech industry that we serve. Early last year which was also pre-pandemic, we created our global data centers as a dedicated business, which came luckily enough so very handy for the pandemic, and since then, this business has been growing strong double-digit, operating income improvement, very strong as well. And interestingly enough, so the customers that we serve, which are the tech companies, the ones are owning those data centers operations at the same time have made big commitments in terms of water and carbon savings.", "Well, this is the work we do for them because that's ultimately where they use the water or emit CO2 because of the energy that they need to use for the computers as such, which has brought them back to us. You've heard from Microsoft as well. They've shared it openly publicly. So it's not a secret that they've committed for the net zero water by 2030 and that's a plan that we've developed with them. That's all driving the growth in that new vertical, which is very promising." ] }, { "name": "Shlomo Rosenbaum.", "speech": [ "Thank you so much." ] }, { "name": "Christophe Beck", "speech": [ "Thank you, Shlomo." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Jeff Zajkowski with JPMorgan. Please proceed with your questions." ] }, { "name": "Jeff Zajkowski", "speech": [ "Thanks very much. When you think about the restaurant and hotel business going forward is the restaurant of the future going to be different than the restaurant of the past and the hotel of the future that is there may be distancing rules, there may be other factors? Does the Ecolab institutional business go back to where it was in 2019 in a normal environment or does it go to a different place, is it better, is it worse?" ] }, { "name": "Christophe Beck", "speech": [ "It is a great question and a fundamental question and it's not going to go back to where it was in 2019. I think it's going to be better if I think about our end markets, it's not going to be true for everyone. For the independents, it's going to be -- it's been difficult obviously for individual restaurants during the pandemic financially so to survive. Those once had a more hardship than the chain customers, which is the vast majority of our business. So corporate account customers as we call them or the chains are the ones who have well survived, the ones who have invested in the operations, and the one who are expanding as well in terms of units. This is all we serve first and foremost. So that's a good situation to be in for us.", "Then your question on the restaurant or the hotel of the future, don't know exactly how it's going to be. It is hard to tell. But a few things we know, on one hand, so the hygiene standards expected by the guests will be up versus 2019. It's going to be a little bit lower than during the pandemic, thank God, but it's going to be higher than 2019. That's pretty sure and we are asking guests or consumers all the time in order to understand what's happening in their mind and they are clearly telling us that they're expecting higher hygiene standards, more theater up clean. They want to see cleaning action in order to feel safe, which is good.", "Second, the labor shortage is going to become a bigger issue. It was an issue pre-pandemic. It's going to be even more so going forward as we read in the newspaper. Well, our solutions are helping them deliver more with less labor, which is good as well. And the last thing, which is harder to grasp completely is how much the take out, the delivery is going to grow. It's going to keep growing for sure, and those are new opportunities for us, because those are new businesses as well. We haven't figured it out completely, but I see that as upside. So net-net for our customers, the chain customers it's going to be different than 2019. But it's going to be better for us as a company going forward." ] }, { "name": "Jeff Zajkowski", "speech": [ "Okay, thank you for that. And what percentage of raw -- of cost of goods sold raw materials for you?" ] }, { "name": "Christophe Beck", "speech": [ "It's roughly 45%, but obviously depends a lot by business. Pest elimination is much lower as you can imagine and in some industrial businesses, it might be higher but in average it's 45% for the company." ] }, { "name": "Jeff Zajkowski", "speech": [ "Thank you so much." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Mike Harris with Goldman Sachs. Please proceed with your questions." ] }, { "name": "Mike Harris", "speech": [ "Good afternoon and thanks for taking my question. Just a quick follow-up for Christophe. Earlier you mentioned that the first quarter results gave you confidence that you could surpass the 2019 earnings level. I was just curious what happened in the quarter that was I guess a positive surprise to your internal expectations that kind of boosted your confidence?" ] }, { "name": "Christophe Beck", "speech": [ "Well, thank you, Mike. The bigger question for us for Q1 was when especially in the U.S., the states would reopen. And as you remember, in Q4 the lockdown went backwards in Q4 versus Q3. Well, that was not exactly a great thing and still we improved our performance in Q4 versus Q3. So the question was, how is it going to continue in Q1 and that we didn't know obviously. So as we started our year '21. So we are hoping that things would be improving and ultimately they did, but they did not in January or February, they did in March. So we were thinking Q1 would be a difficult quarter compared versus Q4, so modest improvement ultimately ex-Taxes it was better than what we felt in Q1. So if I look at that the reopening in the U.S. states is a good news, obviously, so for us going forward, China has been good since the beginning of the year. So those two markets are really on the positive side of the ledger.", "On the other hand, so you have Europe and some emerging markets like Brazil or India that are in a more difficult situation. So net-net it's basically as expected. And the last thing that I would say is that because of the timing of the reopening in Europe that's going to happen. So toward the end of Q2, some of the growth that we had expected in Q2 might shift in Q3, but all-in-all I feel that net-net, the trends are as expected, our cost structure is expected. The timing might be a little bit different than what we had in mind initially, but at the end of the year it ends up this full year delivery that's ahead of the EPS '19, excluding this Texas impact." ] }, { "name": "Mike Harris", "speech": [ "Okay, thanks for that color." ] }, { "name": "Christophe Beck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Eric Petrie with Citi. Please proceed with your question." ] }, { "name": "Eric Petrie", "speech": [ "Hey, good morning, Christophe." ] }, { "name": "Christophe Beck", "speech": [ "Hi, Eric." ] }, { "name": "Eric Petrie", "speech": [ "How much of your overall sales are to infection prevention, and if you could give a breakdown between the Institutional and Healthcare?" ] }, { "name": "Christophe Beck", "speech": [ "So it's roughly 10% for the company, what we call sanitizing product. As such, it had very good growth last year that was especially true in Healthcare, which has a higher percentage as you would expect obviously disinfection is a bigger part of what we do in hospitals than what we do in hotels or restaurants as you can imagine. But in both segments, it grew double digit, and we expect the growth that we delivered in 2021 overall to maintain the overall number that we got in '21, which is a combination of more customers buying more of the sanitation product, but at the same time, with a little bit lower consumption. So much higher than what we had pre-pandemic, close to what we had in 2020, and close to the 10% for the overall sales." ] }, { "name": "Eric Petrie", "speech": [ "Helpful. And then as a follow on, how much of your infection prevention chemistries or sanitizing products are based on chlorine, alcohol or peroxide? And have you seen any attrition to accelerated hydrogen peroxide?" ] }, { "name": "Christophe Beck", "speech": [ "Yeah. It's one of the applications that we have. So, we don't disclose too much obviously the formula that we are using as such. If you think about the 15 seconds of COVID kill, that we launched in the market as well last year. This is an absolutely unique differentiated application. No one kills COVID-19 in 15 seconds or less than us. So that's been very unique and patented, obviously on the market, but what you mentioned with the accelerated hydrogen peroxide, that's one of the solutions, we like it as well, we use it as well. But for us, we're going beyond that as well." ] }, { "name": "Eric Petrie", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. At this time, we've reached end of our question-and-answer session. I'll hand the floor back to management for further remarks." ] }, { "name": "Michael Manohan", "speech": [ "Thank you. That wraps up our first quarter conference call. This conference call and associated discussion slides will be available for replay on our website. Thank you for your time and participation and best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
ECL	2018-10-30	[ { "description": "Chairman and Chief Executive Officer", "name": "Douglas M. Baker, Jr.", "position": "Executive" }, { "description": "Chief Financial Officer and Treasurer", "name": "Daniel J. Schmechel", "position": "Executive" }, { "description": "Senior Vice President, External Relations", "name": "Michael Monahan", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- -- Analyst", "name": "Gary Bisbee", "position": "Analyst" }, { "description": "William Blair -- -- Analyst", "name": "Timothy Mulrooney", "position": "Analyst" }, { "description": "UBS Securities -- Analyst", "name": "John Roberts", "position": "Analyst" }, { "description": "Barclays Securities -- Analyst", "name": "Manav Patnaik", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Laurence Alexander", "position": "Analyst" }, { "description": "Deutsche Bank Securities -- Analyst", "name": "David Begleiter", "position": "Analyst" }, { "description": "Robert W. Baird & Co. -- Analyst", "name": "Andrew Wittmann", "position": "Analyst" }, { "description": "Morgan Stanley & Co. -- Analyst", "name": "Vincent Andrews", "position": "Analyst" }, { "description": "BMO Capital Markets -- Analyst", "name": "John McNulty", "position": "Analyst" }, { "description": "Credit Suisse Securities -- Analyst", "name": "Christopher Parkinson", "position": "Analyst" }, { "description": "Stifel, Nicolaus & Company -- Analyst", "name": "Shlomo Rosenbaum", "position": "Analyst" }, { "description": "Citigroup Global Markets -- -- Analyst", "name": "Scott Goldstein", "position": "Analyst" }, { "description": "Macquarie Capital -- Analyst", "name": "Hamzah Mazari", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Michael Harrison", "position": "Analyst" }, { "description": "Gabelli -- Analyst", "name": "Rosemarie Morbelli", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Greetings, and welcome to the Ecolab third quarter 2018 earnings release conference call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press *0 from your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce Mike Monahan, Senior Vice President, External Relations. Thank you, Mr. Monahan, you may now begin." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. Hello, everyone, and welcome to Ecolab's third quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO; and Dan Schmechel, our CFO.", "A discussion of our results along with our earnings release and the slides referencing the quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements on these materials stating that this teleconference, the discussion, and the slides include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described under Item 1A, Risk Factors, of our most recent Form 10-K and in our other posted materials. We also refer you to the supplemental diluted earnings per share information in the release.", "Starting with a brief overview of the results, Ecolab's solid growth momentum continued in the third quarter. New business gains, accelerating pricing, and product innovation drove strong third quarter acquisition-adjusted, fixed-currency sales growth in all of our business segments. That strong top line growth, along with cost efficiency and a reduced tax rate yielded the third quarter's 11% adjusted earnings per share increase.", "Moving on, some highlights from the quarter, and as discussed in our press release, acquisition-adjusted, fixed-currency sales increased 7% with strong growth across all business segments. Regionally, sales growth was led by North America and Latin America. Adjusted fixed-currency operating income rose 6%, continuing the acceleration shown throughout 2018. The operating income gain, along with a lower tax rate yielded the 11% increase in third quarter 2018 adjusted diluted earnings per share.", "We continue to work aggressively to drive growth, winning new business through our innovative new products and sales and service expertise, as well as driving pricing, productivity, and cost efficiencies to grow our top and bottom lines at improved rated. We also continued to see solid underlying sales volume and pricing across all of our business segments.", "However, after offsetting the bulk of $0.75 per share of increased delivered product cost and currency exchange headwinds since our initial 2018 forecast, we expect the fourth quarter will see further significant increases that leave insufficient time to offset them this year. We now expect 2018 adjusted diluted earnings per share to rise 11% to 13% to the $5.20 to $5.30 range, as volume and price gains offset the impact of higher delivered product cost and business investments.", "Fourth quarter adjusted diluted earnings per share are expected to be up 8% to 15% to the $1.49 to $1.59 range. Work on the previously announced $200 million cost savings initiative, which is leveraging our recent technology and systems investments, is making good progress and will benefit the fourth quarter.", "In summary, we expect continued strong top line momentum in our business over the balance of the year, to more than offset higher costs and deliver operating income growth. And along with cost efficiency actions and the lower tax rate, yield 11% to 13% adjusted diluted earnings-per-share growth this year. Importantly, despite the significant headwinds, we are continuing to make the right investments in key areas of differentiation, including product innovation and digital investments to develop superior growth for the future, and we expect to sustain momentum as we exit the year. And now, here is Doug Baker with some comments." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Thanks, Mike. In short, I'm happy with our business performance. I'm not happy at all that we had to lower our guidance. But the story isn't very complicated. The business results are strong. Volume growth, pricing, innovation, new business, cost savings -- they're all meeting our ambitious targets. Organic sales were +7% for the third quarter. We expect equal or better in industrial, institutional, and other in Q4 compared to their Q3 results. The exception will be energy, which is mostly a comparison issue. It's going against a 12% Q4 last year, which we had said at the time was one-time driven.", "Pricing also accelerated again in Q3 across the board, and will again in Q4, so we will leave the year at a 3% clip. Everything else operationally is in line also, including cost savings. The unexpected was principally raw material costs, which continue to define gravity, indices, and certainly our projections. In total, raws were $0.11 more than we had last forecast, and FX piled on for another $0.04; nearly three-quarters of this hits Q4. So time is the enemy here. Short-term moves like flashy investments or halting our U.S. SAP rollout would be foolish. We are not doing it.", "Instead, we continue to focus on pricing, cost savings, and volume growth. But these don't spike to match raws, so it takes more than a quarter, which brings me to my next point. We are winning. We're winning in the marketplace. We're winning against inflation. Clearly, we're outpacing market growth across industrial, institutional, energy, and other segments. And even with the dramatic raw materials and transportation inflation, our pricing, volume, and cost saving efforts are leading to improving results, with OI accelerating over the last three quarters, and expected to continue in Q4, even at our new forecast. Also, adjusted EPS for the year remains double-digit.", "Perhaps most importantly, we enter 2019 with significant volume, pricing, and cost savings momentum. All of this puts us in a good position to continue building our earnings momentum in 2019, and throughout the year, even in an environment where we have continued high raw material inflation, which is how we are planning for it. With that, I'm going to turn it back to Mike." ] }, { "name": "Michael Monahan", "speech": [ "Thank you, Doug. That concludes our formal remarks. Operator, would you please begin the question-and-answer period?" ] } ]	[ { "name": "Operator", "speech": [ "Yes, thank you. We'll now be conducting a question-and-answer session. We ask that you please limit yourself to one question and one brief follow-up per caller so that others will have a chance to participate. To ask a question, you may press 1 on your telephone keypad, and a confirmation tone will indicate that your line is in the question queue. You may press 2 if you would like to remove your question from the queue. For participants that are using speaker equipment, it may be necessary to pick up your handset before pressing the * keys. One moment please, while we poll for questions.", "Thank you. Our first question is from Gary Bisbee with Bank of America Merrill Lynch." ] }, { "name": "Gary Bisbee", "speech": [ "Hey, guys. Good afternoon. I guess the first question, if we assume that raws and FX remain relatively around where they are right now and project that forward, would you anticipate adjusted operating margins increasing in 2019 before benefits from the $200 million cost reduction program? I guess just trying to think through operating leverage outside of another meaningful step up in raws." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I guess, Gary, I mean, not to get detailed. Meaning certainly if raws stop increasing and stayed at the elevated Q4 levels, you would start seeing gross profit improvement very early in the year year-on-year. Our forecast is more conservative than that at this point in time, which is not consistent with the indices or the published indices. We're looking at making sure that we perform in even a more difficult environment. And there it might delay it until Q2, Q3, where you'll start seeing margin even without the $200 million because most of that's going to be SG&A, not in cost to goods. So that probably is the best way to answer the question.", "Obviously, we're not going to go forecast the year right now; the environment is fairly dynamic but we're working hard to take hard looks at what the sensitivities are around raw materials, etc. and put ourselves in a position to deliver no matter what." ] }, { "name": "Gary Bisbee", "speech": [ "Great. Then the follow-up, obviously pricing accelerating has helped revenue, but the last year you've had much better volume in mix growth than you'd had in the prior several years, really. I guess how sustainable do you think that is? I know you've seen it pretty broad-based, but is there anything in particular you'd call out for driving that improvement in the volume side of revenue growth? Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, it's always a combination of a couple of things. Certainly, I think our own efforts have a lot to do with it. But we're also in a fairly good economy. To not note that I think would be misleading. Our new business productivity, our innovation, I would say our capabilities around leveraging the combination of water with F&B and increasingly with institutional has only enhanced, and we're having great success there as well.", "I think those things are going to be quite resilient in all economies because what we're ultimately demonstrating is that you can get best-in-class results and save money because of our capabilities around reducing water and the corresponding energy related to it. So it ends up to be a very economic story too, which will still resonate if the economy slows. I would expect that the vast majority we will have strong results moving forward. Barring any -- I don't expect an '08, '09. I reserve the right to change everything if that's what we see. I think our expectation next year is the economy will be fairly good, albeit a little bit slower than this year." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from the line of Tim Mulrooney with William Blair. Please proceed with your question." ] }, { "name": "Timothy Mulrooney", "speech": [ "Good afternoon. Can you guys, Doug, can you just give us an update on your institutional business? How does the competitive environment look? What are your thoughts on pricing and volume as you work your way through the fourth quarter here?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, our forecast, as I mentioned earlier for all the businesses except energy is that they'll be equal or maybe even a little stronger in Q4 than they were in Q3. That includes institutional. On the institutional business we had forecast at the beginning of the year would be accelerating to about 5%. That would be an exit growth rate for the year. We're there. We expect to stay there in Q4.", "The competitive environment for institutional, we're going through another wave where we have a very aggressive price competitor -- Diversey. They have been quite aggressive on several accounts. Some we have, frankly, allowed to move or stopped competing because the price got to such a point that it doesn't make any sense to do the business. We don't like to buy work, if you will. So we've gone through this a number of times before. In some cases, the business finds its way back to us within a not terribly long period of time. I don't know if that's going to happen here or not.", "But with all that said, if you look at our net wins and losses against Diversey for the year in total as a company, we remain considerably up. It's not like we're not continuing to win there, but they've had a couple of big wins because they're doing it at prices that don't make a lot of sense to us, and we don't believe they have any cost advantage. With all that said, our institutional business is improving. It has improved. Certainly we'll have to walk through this, but we'll fight it the old-fashioned way. More new business innovation.", "I would say as we've been looking institutional, we also believe we have real cost savings opportunities. Nothing to do with people, but a lot to do with product line and some other opportunities that we're going to go capitalize and take advantage. So we would expect institutional to be a good performer again next year." ] }, { "name": "Timothy Mulrooney", "speech": [ "All right. Thanks for all that color. As my follow-up, I'll pivot to your water business, which had great performance in the third quarter. For water, was there an uptick in light industrial or is the acceleration in growth primarily being driven by heavy industrial and mining?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "All of them are performing well. We had improvement in the heavy business, which we've been talking about because the heavy team, really starting a year ago, was really strong and accelerating new business. It always takes a little while for this to show up in the results, but you're seeing it now. Mining, which is not a huge business for us, has also turned around, and the light business continues to perform well also. As I mentioned before, I think we've talked about this. I think the water business underneath the covers has been doing quite well for a while. We're just out of a lot of the exiting business and the other stuff that we were doing. We weren't trying to be optically perfect, but we were doing things that we thought would enhance the business. The water team has been executing very, very well." ] }, { "name": "Timothy Mulrooney", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from John Roberts with UBS. Please proceed with your question." ] }, { "name": "John Roberts", "speech": [ "Thank you. Healthcare was the second lowest growth segment after textile care. I thought some of the new penalties around hospitals having infection rates and public disclosures of infections were going to help that business accelerate. Maybe you can take us through where you are with that." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "John, as we talked the last couple of calls frankly, healthcare had a really rough start this year. While you're right in analysis, second lowest growth, I would also say it's considerably better than it was in the first two quarters, which is what we had said we expected to happen, i.e., acceleration in the second half. So we're seeing the beginnings of that.", "To the point of your question around I'd say incentives in the healthcare industry, there's still not as straightforward as I think all of us would either design if we were designing it. It's simpler, I suppose, if you don't have any of the details to deal with. But right now, the economics still don't line up as straightforwardly as we would like.", "What we've adjusted and moved to is also not only talking HAIC reduction, where we're doing quite a good job, but also being much more transparent about how these economics show up, even in the world where you're still reimbursing for extra hospital stays and everything else, which is still what's happening. I think the team is getting clearer about how they talk to our prospective customers in light of a game where it's not quite as clear as we would like it to be.", "Additionally, there's still a lot of room to grow in healthcare. We are using our Anios acquisition in France to expand more aggressively around the world, in many cases using the Anios brand for several reasons, but it's been quite successful. We'll continue to do that. We're also putting stakes in the ground for Ecolab, if you will, branded business in key markets as well. I remain bullish on the healthcare business. It grows in lumpily, but they're getting some underlying organic traction which we expect to continue." ] }, { "name": "John Roberts", "speech": [ "Then secondly, I thought actually at some point you might discontinue the other segment and move pest elimination into institutional. Instead, now you've added this colloidal technologies business unit. Maybe you could tell us where you're going with that." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "With colloidal?" ] }, { "name": "John Roberts", "speech": [ "Yeah, you've got now two businesses in other." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Some of this is just rule-driven from an accounting standpoint. When businesses are different than the other businesses, you need to put them in an other segment. It's SEC other. So what happens with pest, given the nature, there's really not a product component like there is in our other businesses. It finds its way into other. Colloidal is a different business for us as well. It has virtually zero SG&A. I think it's got a total of 25 people in the whole business. As a consequence, it's viewed as an other business as well, and that's why those two are in that segment. It's as simple as that." ] }, { "name": "John Roberts", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Manav Patnaik with Barclays. Please proceed with your question." ] }, { "name": "Manav Patnaik", "speech": [ "Thank you. Good afternoon. I just wanted to touch back on the pricing with this cost equation. I think you said you mean that as the raws get worse, I suppose, or keep increasing next year, you talked about being at the 3% clip on pricing. I guess compared to historic periods, how high can you push pricing? Is there a point at which you're going to have to find other ways to help offset those raw increases?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I would say there certainly is, of course, a ceiling. We have competition out there. We don't expect that we can go get -- we can probably get 10% pricing for a year or two, but we would be on everybody's blacklist and ultimately they would choose to leave us. We've always said that we take a longer term view on executing pricing. Our customers don't like big, lumpy price increases. We don't either, but we are not immune to them. We can help them manage through it. If you look at history, if you go back, you know, so raws this year were up in the 9% range. If you go back, obviously, to the severe '08-'09 period, they were up 11% in '08. We got 3% pricing as a combined unit in both '08 and in '09.", "Right now, we're going to be, as I said, exiting the year. So that was a full-year pricing story. This year, it's going to be just around 2% or a little north of 2%, with a 3% exit rate. So we think there's still upside in pricing from what we delivered in 2018. And so we are going to continue to push. We have to, given this environment. We don't think we're at the end. We are already seeing exit rates. We're at 4% in the industrial businesses. Around 2% to 3% in institutional. Energy is around the 3% rate and that's got to move up as we go throughout the year. We're continuing to push. Have upside from here, but it's not infinite." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. And just as a follow-up, in terms of other costs, particularly labor rate, so forth, are you seeing any noticeable trends there that maybe add more pressure on top of the raws?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I would say we continue to see wage inflation, but it's not inconsistent with what we've experienced in the past. Traditionally, the way we view this is we use a lot of our, what I'd call normal productivity work to offset wage costs and healthcare costs and the like. We've continued to do that. And so we use pricing to really go after spiky costs like raw materials, transportation, etc., and make sure that those can serve to offset there.", "The incremental $200 million that we announced last call is really sort of on top of our normal efforts; it's not in place of our normal efforts." ] }, { "name": "Manav Patnaik", "speech": [ "Got it. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Laurence Alexander with Jefferies. Please proceed with your question." ] }, { "name": "Laurence Alexander", "speech": [ "Hello. Could you give a little bit more color on what you're seeing regionally? Particularly in Europe. Then secondly, to the extent that you're pushing the price in the institutional markets, where you're seeing any areas of actual volume pressure or pushback, if at all, as opposed to just being theoretically you can't do it for a couple of years? But are you seeing any pushback currently?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I mean, the simple answer is there is always pushback whenever you seek price in virtually every situation. It always begets a discussion, and we need to demonstrate why it's important to price, and why we are still a valued supplier delivering economic benefit, even with the new price. So that's always an ongoing discussion. It takes real time from our sales team to go do this and execute. Also, you get better with practice. We're in an environment where there's a number of people who are being impacted by price, sort of not the only guys in the waiting room, if you will.", "In terms of what we're seeing regionally, I would say our Europe business continues to perform decently. A little over 3% sales growth is what we're seeing there. We expect that to be more or less the trend going forward. So certainly slower than balance of the world, but better than, if you will, sort of our darker days in Europe. In China, we continue to see strong results, basically double digits almost across the board. Latin America is relatively strong coming off I'd say a little easier base, but having good results in Latin America. The balance of Asia is doing pretty well as well.", "So we don't see a lot of softness in the business at this point in time. We're not usually a harbinger of this, so we don't take a lot of follow-ups. We're watching and looking. But I would also say just underlying trends don't indicate a big downturn in the economy, certainly not one that would match the volatility in the markets." ] }, { "name": "Laurence Alexander", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of David Begleiter with Deutsche Bank. Please proceed with your question." ] }, { "name": "David Begleiter", "speech": [ "Thank you. Doug, just on raw materials, which ones inflated the most to drive the guidance reduction here?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "In the latest period?" ] }, { "name": "David Begleiter", "speech": [ "Yes." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, I mean, for the year we've got propylene, ethylene, and caustic are stars, if you will. Recently, it's [inaudible] and basically plastic for pails, etc., HDP." ] }, { "name": "David Begleiter", "speech": [ "Got it. Just again on Laurence's previous question, are there any signs of either de-stocking or slowing in any of your key end markets? More on the industrial side I'm thinking about here." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "No, we've not seen any material change in behavior in our industrial segments." ] }, { "name": "David Begleiter", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Andrew Wittmann with Robert W. Baird. Please proceed with your question." ] }, { "name": "Andrew Wittmann", "speech": [ "Thanks for taking my question. Doug, last quarter you talked about the $200 million cost savings plan. At the time, you suggested that you had a sense of it, but it wasn't fully nailed down. It sounds like it's probably still evolving a little bit, but I was just hoping you could give us an update on your thoughts about how well developed the plan is here today, maybe versus last quarter and where it could be by the end of the year? And then just maybe talk about the phasing. Previously, you suggested it would be kind of linear over that three-year path. Has that developed to deliver any more benefits sooner or are any benefits needed sooner from the SG&A line, given that the raws are being an incremental headwind here?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, well we have done a lot of work since then. We aren't final, if you will, because we're also looking at ways to tweak the organization to reduce some layers, increase speed of decision making, which is really the fundamental goal. It will probably also have the benefit of reducing costs and doing other things as well. So we're still doing some of that work. In the end, sitting here today, we're quite confident in our ability to deliver. We talked about a third, a third, a third over the three years. The first year was not going to be a challenge. If you're going to take a number, you take the over, not the under. But we're still finalizing that. When we announce and give a range for our 2019, we'll be very explicit on what we expect from the $200 million at that time." ] }, { "name": "Andrew Wittmann", "speech": [ "Great, thank you. That's all I had for today." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Vincent Andrews with Morgan Stanley. Please proceed with your question." ] }, { "name": "Vincent Andrews", "speech": [ "Hi, thank you, everyone. Just a question on cash flow. It looks like you made up a little progress versus where things were at the second quarter. But how do you think you'll straighten the year out? Is the raw material pressure just going to keep pushing working capital higher going into year end or is something else going to happen?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, Dan gets cash flow." ] }, { "name": "Daniel J. Schmechel", "speech": [ "Yeah, thank you. Sure. This is Dan. Thank you. Q3 I think was a much improved quarter from trend. So we saw in the quarter something like a little north of 100% conversion, bringing our full-year benefit up to close to 90%. We target about 95%. You're correct that from a working capital perspective, higher cost tends to inflate inventory. I'll point out also that higher pricing tends to benefit us from a working capital perspective on accounts receivable. So I feel good about the quarter. It is an improvement from trend. I think that we feel fine about the fourth quarter, and expect to deliver a full-year cash flow more or less in line with our expectation as a comparison to net income. I'm thinking in the maybe $1.3 to $1.4 billion range, toward the higher end I would expect. No real surprises, and encouraged by Q3." ] }, { "name": "Vincent Andrews", "speech": [ "Thanks. Just as a follow-up, I had a question on energy. I apologize if you've answered this already. The supplement talks about in the 4Q compared against a strong last year due to some production business sales. Can you just remind us what that was?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Last year when we announced the fourth quarter, energy sales in Q4 were 12% last year. It was after -2% and a 4% and a 5% from the prior three quarters. We had said that wasn't a run rate. It included fairly significant, likely roughly, maybe just a little under half of one-time sales, equipment and other things. I don't have the exact verbiage. I thought it was even in the Middle East, but it wasn't a run rate. We're annualizing against that. If you take that out and look, it would be like high single digits in Q4, which is not inconsistent with what you saw in Q3." ] }, { "name": "Vincent Andrews", "speech": [ "Okay, great. Thanks so much." ] }, { "name": "Operator", "speech": [ "The next question is from the line of John McNulty with BMO Capital Markets. Please proceed with your question." ] }, { "name": "John McNulty", "speech": [ "Thanks for taking my question. On the $0.75 of raw material headwinds that you expect to see this year, how much of it do you expect to recoup back by the end of the year? And then how much of it is something that we'll see you catch up on in 2019?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "The $0.75 includes FX as well. That was really raw materials and FX versus our original plan. If you look at year-in-year impacts, it's going to be -- I'll get you the expect numbers in a minute. We're going to basically recoup, if you will. So DPC versus plan and FX versus plan are around the $0.75, and pricing is going to be just under $0.30 or so over plan. So we've upped pricing this year versus what we expected to deliver in response to higher-than-forecast raw materials, and ultimately FX. But we weren't able to recoup all of it because it moved very late in the year on us. Ultimately, we think we will recoup all of it. So we are already, if you will, pricing dollars-for-dollars over the incremental raw material bill, including in the fourth quarter, but now we've got to recoup margin, which we always say is typically year 2 work." ] }, { "name": "John McNulty", "speech": [ "Got it. No, that's helpful. Then thinking about the raw materials, it looks like some of the raws that you have exposure to, whether it's caustic or propylene have actually started to come off a bit, I guess, in the last month or so. How quickly do you see that? Like how long do we have to wait before, let's assume these prices are for real in terms of how they've dipped a bit? How long before you actually start to see the benefit of that?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, it's different in the U.S. than outside the U.S. because the accounting rules are different. So in the U.S., it comes through fairly quickly. Outside the U.S., you've got inventory, maybe a couple months." ] }, { "name": "John McNulty", "speech": [ "Got it, perfect. Thanks very much." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Christopher Parkinson with Credit Suisse. Please proceed with your question." ] }, { "name": "Christopher Parkinson", "speech": [ "Thank you. Just on energy margins, recovery is moving in the right direction, but it does appear slower than many investors were expecting. As you've already taken out the net cost following the [inaudible] the last few years, how should we think about the development of U.S. onshore to offset some of the potential shortfalls across the globe and even think about the production rebalance in the Middle East given the potential void of Iranian sanctions? What are the best ways to think about your company's specific outlook given where the energy markets are likely heading into '19? Thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, well, I mean, you've touched on a few, right? So Iran's going to get turned off. Permian will get turned back on ultimately. They're probably the two big shifts. Then you've got the slow leak in some other markets because they haven't the capital or the ability to maintain production values. I think by and large it bodes well for us. We don't have significant Iranian share, given that we had to walk out. And Permian is an area that we've done well in. So as we see this shift, it will bode well for us." ] }, { "name": "Christopher Parkinson", "speech": [ "Got it. You did allude to this a little with your comments on Diversey, but given the industry changes over the last few years and the changes in the competitive landscape pretty much across a bunch of our major segments, can you just comment on if you believe that these changes have had in any shape, form, or fashion an effect on the various areas of industry pricing disciplines and/or your ability to act in a timely fashion over the last year or so? Just any color on how that may have factored into the pricing? And so it wasn't a big deal, obviously all good?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I would even put the Diversey activity is not inconsistent with history. So we've always gone and they've always been quite price aggressive. In our minds, not always in the most intelligent fashion, as we look at P&Ls of customers. But it's always easier because you have more information than the person competing for the business, because you're doing it. You know what the costs are. You know what the consumption is. And the others are guessing. So that's not even new. We've been dealing with this on and off for 30 years.", "I would imagine we'll continue to do so, or I mean, there's only really upside in terms of pricing behavior for most of our competition. I'd say Baker Hughes, it's come under the GE Energy umbrella, appears to be, I would say more price. It seems like they're pricing more intelligently based on cost and other things. I don't know if that's going to last or not; I can't predict. I would also say Suez, we haven't seen dramatic change from Suez." ] }, { "name": "Christopher Parkinson", "speech": [ "All right. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Shlomo Rosenbaum with Stifel. Please proceed with your question." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Hi, thank you very much for taking my questions. Hey, Dan, maybe you could help with this. If you leave current FX rates constant from where they are today, what would be the FX headwind to 2019 numbers? So I'm not asking for guidance or anything, but what does it represent as a headwind to next year?" ] }, { "name": "Daniel J. Schmechel", "speech": [ "If you just read next year's FX exposure are current spot rates, we would see a headwind of about $0.10. So plus or minus 2% of EPS." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay, great. Then what would be the growth rate in the quarter if your normalized for that hurricane that was kind of an easy comp in the third quarter? Would you still be at 7% or would that have come down to 6% or something?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "The hurricane was probably 60 basis points. So you'd probably end up above 6%, but probably not rounding to 7%." ] }, { "name": "Shlomo Rosenbaum", "speech": [ "Okay, great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of PJ Juvekar with Citigroup." ] }, { "name": "Scott Goldstein", "speech": [ "Hi, this is Scott Goldstein on for PJ. So it looks like in textiles caring, it's growing meaningfully slower than your other industrial businesses. What are your longer term expectations for that business and do you still view it as a core part of the portfolio?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "We expect textile to accelerate from here. That's a business that's forecast with sound reasoning behind it. Someone is just going through some customer transitions and others, but we would expect that business to accelerate. But it's going to be a mid-single-digits growth business. It's not going to be a business in the 6% to 8% organically. But it's a good business. Yes, it's part of our portfolio and we'll continue to invest in it to grow and to win." ] }, { "name": "Scott Goldstein", "speech": [ "Okay, thanks. Just checking. Have the tariffs had any impact on how you're thinking about your supply chain or distribution?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, we are somewhat fortunate in the tariff world, if anybody is, in that we've historically had a supply chain strategy which is make where we sell. It was originally borne because of mitigating FX. We didn't want foreign exchange to become a strategic issue, right? It's a translation issue, but if you only made in the U.S. and the dollar got strong, you're suddenly not as competitive from a price standpoint.", "Hence, our strategy to go make in markets or in the currencies we sell in. As a consequence, we don't have big exposure. In China, for instance, like 92% of what we sell in China is made in China. So we don't have significant imports into the market that are going to be affected by tariffs. The bigger impact for us will be British Exit. That one, it depends. So we're assuming that it's a hard exit. We have to follow the WTO rates and that's the way that we're managing and looking at it. Anything better than that will mitigate, but I think even there we don't plan to have this as a big talking point in our quarterly calls." ] }, { "name": "Scott Goldstein", "speech": [ "Got it. Thank you for the detail." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Hamzah Mazari with Macquarie Group. Please proceed with your question." ] }, { "name": "Hamzah Mazari", "speech": [ "Good afternoon. Thank you. The first question is just on the paper business. It had a nice ramp. If you could just touch on the sustainability of that growth. Is it largely just a cyclical rebound? Anything you're doing differently in that marketplace?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Well, a big piece of the ramp was price. That's a business that has a lot of price plus contracts. You're starting to see the price take up. Where we don't have those contracts, our team has been aggressive recouping raw material increases that have occurred over the last couple of years. The other half of the sales is volume. So that's a tick up as well. That's really been driven by new business and new innovation that's been introduced there that's helped drive successful new volume, both existing and new customers. So the team's on the price equation. They know they've got to go back and rebuild margin so that we continue to invest in new technologies. It benefits everybody in the industry and that's exactly what they're doing right now." ] }, { "name": "Hamzah Mazari", "speech": [ "Great. Just to a follow-up question on international. Are there any sort of structural reasons why the mix of international shouldn't look like the U.S. longer term? Whether it's more institutional, more QSR? Just any big picture thoughts on that, thank you." ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "I don't know if it will on average. The U.S. has got an outsize food service market, given it's population and compared to, if you will, like dollars spent per head. With that said, I think institutional is undersized and is low share versus our potential in our non-U.S. markets. So it has certainly significant upside from where it is today, but it likely won't be the same percentage of the total enterprise as it is in the U.S. on the balance of the world." ] }, { "name": "Hamzah Mazari", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Mike Harrison with Seaport Global. Please proceed with your question." ] }, { "name": "Michael Harrison", "speech": [ "Hi, I was wondering if you could talk a little bit about the margin performance in the energy business? There was just a tiny bit of sequential decline despite some improvement in the top line. Can you talk a little bit about some of the puts and takes in the margin performance and energy and also provide some thoughts on the cadence of margin over the next few quarters?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I mean, the blip would've almost certainly been just propylene. They have fairly sizable exposure to propylene. And so as it moves up and down, you'll see the 10-20 basis point blips in their margin. But, I mean, the real energy story needs to be continued pricing, recouping raw material input cost inflation. It didn't occur just this year, but also in prior years. The team is on it. They're doing it. They're doing a much better job driving enhanced mix, etc., and driving new innovation and customers. All these things will help drive and rebuild margins, which we still believe will be in the middle teens." ] }, { "name": "Michael Harrison", "speech": [ "All right. And then was wondering going back to the paper conversation, can you comment on how the Georgia-Pacific acquisition has been progressing relative to your expansion? Are you seeing benefits in the paper segment related to some industry consolidation that's happened over the past year, as well as the past several years?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, well the acquisition you referenced is off to a great start. It's above on virtually every one of our targets. In case the team is listening, this is Year 1, and we often do this Year 1. We plan to hold it for 40 years, so we've got to continue the performance. So it's been off to a good start. In terms of consolidation, I would say generally the period of consolidation can be unsettling, but typically consolidation in industries benefits us. We prefer consolidating customer sets and fragmented competitive sets. That's almost one of the preconditions for us to thrive. Long-term, we would view that as a positive." ] }, { "name": "Michael Harrison", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question is from the line of Rosemarie Morbelli with Gabelli. Please proceed with your question." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thank you. Good afternoon, everyone. Most of my questions have been answered. Could you talk about the environment for M&A? What are you looking at? The valuation seems to have come down for all potential properties?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, I would expect, Rosemarie, that we will have a couple more deals done before year-end. I'd say the environment generally, I would agree with you, seems to be getting a little better. We're going to remain committed to doing smart deals. This means it's going to be a bit seasonal. Not like spring/winter/fall. It may be there are some years where we're going to be more successful than others because we really don't want to force it by paying too much. We think we're in a position where we can do this. So that's the way we view it. With that said, yeah, I would expect that we'll have a few near-term. And if we look at what we're looking at, who we're talking to, I'd say the list is getting better and stronger." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Any particular size that you are targeting specifically?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Look, I think the only size limit or parameter we have is doing too little of a deal can be a real waste of time and money because it almost takes the same amount of effort, if you will, to buy a $5 million company as a $50 million or a $500 million. So we try not to do really tiny deals. Other than that, we don't really have a size preference. The preference really is around does it make sense strategically? Can we get a return on it? Are we the rightful owner? I mean, those are the big things that we look at. In financial terms, it's a return. We're investing shareholder money. We've got to be able to look at shareholders and say, you're going to be really happy with this return. It's the gest way we can invest the money." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Thanks. That is helpful. And if you could update us on your technology and digital investments?" ] }, { "name": "Douglas M. Baker, Jr.", "speech": [ "Yeah, we have not blinked there at all. In fact, we're investing more this year than last year. I think we're starting to get at a point where it's not going to call for dramatically more money in the near term. We've got to really do a great job with the money we're already investing. We've had -- look, we're out in the marketplace with some very large customers. We're learning, developing. As I've said repeatedly, I think the digital world is great for us. We are advantaged.", "We have 3 million customer sites, virtually all of which are collecting data today. A fraction of which are connected to the cloud, but technically that's not that complicated. The cost to do it is dropping. We have unique know-how, unique streams of information, and are the only people able to act upon what we learn through the digital world. Once we find out there are problems in units, we can actually get in there and help our customers fix them. I think that whole combination is a great advantage for us long-term, and we're working very hard to make sure we don't squander this advantage." ] }, { "name": "Rosemarie Morbelli", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. Mr. Monahan, there are no further questions at this time. I would like to turn the floor back over to you for closing comments." ] }, { "name": "Michael Monahan", "speech": [ "Thank you. That wraps up our third quarter conference call. This conference call and associated discussion and slides will be available for replay on our website. Thank you for your time and participation. Our best wishes for the rest of the day." ] }, { "name": "Operator", "speech": [ "Ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. You may now disconnect your lines and have a wonderful day." ] }, { "name": "Rosemarie Morbelli", "speech": [ "More ECL analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
EOG	2019-02-27	[ { "description": "Executive Vice President & Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "William R. Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Lloyd W. Helms", "position": "Executive" }, { "description": "Executive Vice President-Exploration and Production", "name": "Ezra Y. Yacob", "position": "Executive" }, { "description": "Executive Vice President-Exploration and Production", "name": "Kenneth W. Boedeker", "position": "Executive" }, { "description": "SunTrust Robinson Humphrey -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Macquarie -- Analyst", "name": "Paul Grigel", "position": "Analyst" }, { "description": "KeyBanc -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Stifel Nicolaus -- Analyst", "name": "Michael Scialla", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Paul Sankey", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources Fourth Quarter and Full Year 2018 Earnings Results Conference Call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions I would like to turn the call over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thank you, and good morning. Thanks for joining us. We hope everyone has seen the press release announcing fourth quarter and full year 2018 earnings and operational results.", "This conference call includes forward-looking statements. The risk associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. Definitions as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "Some of the reserve estimates on this conference call may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to US investors that appears at the bottom of our earnings release issued yesterday.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Billy Helms, Chief Operating Officer; Ken Boedeker, EVP-Exploration and Production; Ezra Yacob, EVP-Exploration and Production; and David Streit, VP-Investor and Public Relations.", "Here is Bill Thomas." ] }, { "name": "William R. Thomas", "speech": [ "Thanks, Tim, and good morning, everyone.", "Our long-term game plan is simple: be one of the best performing companies across all sectors in the S&P 500. Our goal is to deliver double-digit returns and double-digit growth throughout commodity price cycles. In addition to high returns and disciplined organic growth, our goal is to generate free cash flow that supports a growing dividend, an impeccable balance sheet and allows the Company to take advantage of other opportunities such as bolt-on property additions that meet our strict premium reinvestment standard or potential opportunities to repurchase shares when value accretive.", "In 2018, EOG accomplished our goal by delivering 15% return on capital employed, organically growing oil production 19% and generating $1.7 billion in free cash flow. Our 2018 performance places EOG among the very best, in line with top performers in any sector of the market.", "Last year, we earned a Company record adjusted net income of $3.2 billion. Our 2018 15% return on capital employed at $65 oil surpassed our 2014 return on capital employed when oil prices averaged significantly higher at $95. It's clear; our permanent shift to premium strategy three years ago has had a dramatic effect on the profitability of the Company. EOG's premium standard requires investments to earn at least 30% direct after-tax rate of return at $40 oil and $2.50 natural gas. Consistently applying this standard to our capital allocation decisions has reset the Company to be successful throughout commodity price cycles.", "In addition to double-digit returns and growth in 2018, we also generated a Company record $1.7 billion in free cash flow, increased the dividend rate 31% and reduced our net debt to capitalization ratio from 25% to 19%. Delivering high return organic growth, producing free cash flow, returning cash to shareholders by increasing the dividend and reducing our debt is a significant achievement. This combination is rare, not only in our industry, but in the broader market. Our ambition is to make this level of performance the norm for EOG Resources.", "Consistent with our long-term game plan, our 2019 $6.3 billion capital program is forecasted to deliver 12% to 16% US oil production growth. We're excited about 2019 because we're building on our cost reduction momentum from last year. Per barrel cash operating costs are expected to go down again this year. We continue to both improve well productivity and lower well costs and estimate that the average 2019 well will generate $6 million net present value at $55 oil. These improvements are expected to increase our capital efficiency by more than 10%. As a result, the price of oil needed to fund our 2019 capital and the dividends with discretionary cash flow is less than $50. With oil at $55, we expect to generate significant free cash flow.", "Our 2019 disciplined growth in capital program will allow the Company to increase returns by discovering and applying new technological breakthroughs, improving operating efficiencies and continuously reducing cost in every area of our business. Accordingly, we are spending a bit less this year on growing oil and a bit more on opportunistic proprietary new horizontal potential. Applying our proprietary knowledge, we believe the new prospects have the potential to meaningfully improve the quality of our drilling inventory and improve our future returns.", "Today, it takes oil prices in the mid-50s for EOG to generate double-digit return on capital employed, and in the foreseeable future, we see that price dropping into the 40s. It would be incorrect to assume that EOG is permanently shifting into a lower growth mode. Our goal is to continue to lower our breakeven costs, improve margins and reset the Company to sustainably deliver double-digit returns and double-digit growth throughout commodity price cycles.", "EOG continues to be the peer leader in return on capital employed and disciplined growth. We are rapidly becoming one of the low cost producers in the global energy market and we embrace a strong commitment to sustainability. Our goal of double-digit returns, double-digit growth and free cash flow puts EOG in line with the best companies across all sectors in the market. We are truly excited about 2019 and our ability to continue to improve and to deliver significant long-term shareholder value.", "Next up is Billy to review our operational performance in 2018 and provide details on our 2019 plan." ] }, { "name": "Lloyd W. Helms", "speech": [ "Thanks, Bill.", "Our high return production growth in 2018 is a result of investing in our diverse inventory of premium drilling across 11 plays in six different basins. EOG's 2018 performance illustrates the perseverance of our operating teams to continually get better by improving both well productivity and reducing cost, the two key components that drive sustainable improvements in capital efficiency. In the fourth quarter of 2018, we made the decision to maintain activity and retain top performing service providers in order to accomplish these two specific goals.", "As a result, and in the face of increasing oil prices and service cost inflation throughout most of 2018, EOG achieved a 3% reduction in the average well cost by the fourth quarter. To be clear, the cost improvements are not from decreases in service cost. Instead, the lower cost are due to more efficient operations from faster drilling speeds, increased completion stages per day, reduced sand cost, water recycling and infrastructure projects. In addition, you can see the improvements in well productivity across our plays, with the fourth quarter well results provided in the presentation slides.", "Our 2019 program is built upon these already proven results of the existing domestic program. Furthermore, our operating teams continue to deliver results consistent with the well cost and productivity achieved last year. As a result, the momentum carried from 2018 gives us confidence that we can achieve the 2019 plan objectives. In addition, by retaining these services we have secured about 65% of our anticipated services and materials requirements for 2019.", "We negotiated terms that both lock in service cost and maintain flexibility to adjust our activity level depending on market conditions. However, it is important to note that we will not increase capital should oil prices increase. We forecast our 2019 $6.3 billion capital program will deliver 12% to 16% US oil production growth. Every one of our major plays is expected to contribute to that growth.", "The plan is designed to generate significant free cash flow and is balanced below $50, meaning we can cover our capital and dividend with discretionary cash flow. The 2019 plan includes slightly more capital for gathering and processing and other facilities, which largely consist of additional water and oil gathering infrastructure in our major plays. In Trinidad, we allocated a small increase as well for its drilling program in 2019.", "Our domestic development program spend will be slightly lower, but much more capital efficient due to advances made last year. In addition, we continue to make progress in advancing new completion technology that we believe will further improve well productivity and reduce completion cost. Early results indicate measurable increases in production performance.", "In addition to what is assumed in our 2019 plan, we have set further ambitious goals, including reducing total well cost another 5%, lowering all-in finding cost 10%, improving well productivity through the application of new technology, 90% of wells drilled meeting the premium definition and adding new premium inventory at a pace faster than we are drilling it.", "Finally, our 2019 plan includes more capital for exploration of new drilling potential. Here's Ezra to update you on those efforts." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Thanks, Billy.", "Our decentralized structure allows our asset teams to identify high quality unconventional reservoirs and capture acreage as the first mover with low entry costs. Our ability to capture the sweet spots of these plays is the most significant reason we consistently drill top tier performing wells. Currently, we are leveraging proprietary knowledge from numerous plays across our portfolio and have identified multiple opportunities. We are focused on applying our technical knowledge of horizontal drilling and completions to higher quality unconventional reservoirs and we'll be leasing acreage and drilling our initial test wells in 2019.", "Our goal is to increase the quality of our inventory with new plays that can deliver higher production at lower costs, providing a vehicle for continued improvement of our finding costs, DD&A rate and ultimately ROCE. By focusing more resources to these new innovative play concepts, we are taking advantage of market conditions to opportunistically add low cost, high return inventory to our portfolio.", "I'll now discuss our Delaware Basin results where we produced more than 220,000 barrels of oil equivalent per day in 2018, making it our fastest growing asset for the third year in a row. Oil production grew nearly 50%, averaging 127,000 barrels of oil per day with more than 260 net wells going to sales. In addition, we more than replaced those wells, identifying 375 net new premium locations last year. We also made significant progress blocking up our acreage through trades adding 600,000 feet of premium treated lateral, which is the equivalent of about 85 well locations.", "Last year, we focused our attention on developing larger packages, drilling longer laterals and increasing our operational efficiency across our 400,000-plus net acre position in the Delaware Basin. The results of this effort includes a 31% increase in completed lateral feet per day, a 9% decrease in completions cost and an 18% reduction in drilling days per well.", "We also continued strategic expansion of our oil, gas and water infrastructure. In 2018, we put into service an oil gathering system and terminal across the core of our acreage position. This system and terminal will ultimately have up to five connections to downstream markets where we've secured firm capacity to Cushing and Corpus Christi. In 2018, we flowed about half of our oil production through this system, resulting in over $22 million in transportation savings. We will realize increased savings in 2019 as additional wells are connected to this oil system. Our current target is to have 85% of our oil production on pipe by year-end.", "The first half of 2018 was also marked by extensive learnings from spacing tests, both horizontally within one target and staggered vertically across multiple targets. From our tests, we gathered a tremendous amount of drilling completions and production data and have applied those learnings to our development program. Optimizing our target spacing and completions designs based on local geology resulted in an increased well performance during the second half of 2018.", "Our Delaware Basin program last year highlights our ability to quickly transform data collection and the analytics into better well productivity and lower well cost in order to optimize the returns and NPV of this world-class asset. Using what we learned in 2018 to refine our spacing and staggered development patterns combined with new completion technology, we expect to continue to improve well productivity throughout 2019.", "Next up is Ken to review highlights on our Eagle Ford and Woodford Oil Window plays." ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Thanks, Ezra.", "2019 marks our 10th year developing the Eagle Ford. This workhorse asset remains EOG's premier oil play, delivering a consistent performance year-after-year. The Eagle Ford grew oil production by 9% last year to 171,000 barrels of oil per day, representing 43% of EOG's total crude oil production. Even after 10 years, we continue to learn and improve well productivity, find efficiencies and lower costs.", "We extended laterals another 7% from 2017, primarily on our western acreage where there is less faulting. In fact, we drilled a record 65 wells with laterals over 10,000 feet in 2018. We continue to push the limits of lateral length, setting a record with our Slytherin C#3H at 13,500 feet of treated lateral length. Wells in our western acreage produce lower IPs but have slightly lower decline rates and are more cost efficient. In 2018, we updated our premium inventory for the Eagle Ford, adding 145 net locations through infills, acreage bolt-ons and longer laterals. We're confident we can continue to drive sustainable cost efficiencies in our effort to convert the remaining inventory of our total 7,200 net locations to premium status.", "In 2018, we also continued to see very positive results in our secondary recovery efforts in Eagle Ford. Results to date are in line with our early expectations for this enhanced oil recovery process and we have approximately 150 wells in various stages of injection and production. We are continuing to refine our technique and expect this project to grow in the future. We have found that this process works best when infill development has been completed throughout the area. So we're focusing our efforts in 2019 toward finishing primary development of nearby units before expanding our secondary recovery footprint. In 2019, we plan to complete 300 net wells in the Eagle Ford. Due to capital efficiency gains, we expect to spend almost 10% less capital for a similar number of wells as 2018.", "In the Anadarko Basin Woodford Oil Window, we are building operational momentum. We introduced this play at the end of 2017, ramped up our development in 2018 and more than doubled production. The Woodford Oil play is a concentrated sweet spot of moderately over pressured high quality permeable rock located primarily in McClain County, Oklahoma. These wells are low decline, low GOR and produce an average of 42 degree API oil. We made significant improvements in well cost last year by improving our operational efficiency and we expect to carry those improvements forward into 2019 with a new target well cost of $7.6 million.", "A highlight from activity during the fourth quarter of 2018 was our GALAXY 2536 well. This well's estimated ultimate recovery is 1.5 million barrels of oil equivalent. In its first 30 days, it averaged 1,400 barrels of oil per day and 1,950 barrels of oil equivalent per day. Based on spacing and targeting tests last year, we believe the right distance between wells is less than 660 feet. In 2019, we'll conduct additional targeting tests and continue to use new completion technology that we expect will allow for closer well spacing. Our initial resource estimate of more than 200 million barrels of oil equivalent was based on 660 foot spacing. So there is additional upside in this play. We're very optimistic we can expand our current inventory of 260 net premium locations. In 2019, we plan to slightly increase Woodford Oil Window completions to roughly 30 net wells and expect we'll more than double production again.", "Now here's Billy to review our Bakken and Rockies plays." ] }, { "name": "Lloyd W. Helms", "speech": [ "Thanks, Ken.", "The Bakken remains an important asset in EOG's diverse portfolio of plays, providing flexibility for reinvestment at our premium return hurdle rate. Over the last several years, we've made significant progress in the Williston Basin on precision targeting, the drilling and completion efficiencies. Between better well production and tremendous cost improvements, our Bakken program delivered over 70% direct well level returns.", "In 2019, we'll continue to focus our 20 net well plan in the Bakken core and expand our development of the Antelope Extension. The Antelope Extension is part of our Williston Basin core acreage, and the area now benefits from additional midstream infrastructure and takeaway capacity, driving better economics through reduced transportation cost and LOE. We are also testing new completion technology and are optimistic that it will improve productivity and lower cost.", "2018 was an incredible year for operational improvements in our Rockies plays in the Powder River and DJ Basins. We increased our completions efficiency dramatically, achieving a 38% improvement in feet of treated lateral per day. Our cost to drill average just $100 per foot and drilling days declined 20%. Rockies I would either meet or beat all of our cost targets for the year by the end of the first quarter of 2018.", "In the Powder River Basin, our core acreage doubled to more than 400,000 net acres following the 2016 Yates merger. In 2018, we added more than 1,500 premium net drilling locations and nearly 2 billion barrels of oil equivalent of net resource potential through the addition of Mowry and Niobrara shale plays and new locations identified in the Turner sand. Furthermore, as we continue to block up our acreage position, we see significant upside to add to our premium inventory over time. During the fourth quarter, two Powder River Basin Mowry wells came online, delivering an average 30 day initial production of more than 2,000 barrels of oil equivalent per day. In the Powder River Basin Turner, we completed four wells that averaged 1,400 barrels of oil equivalent per day for the first 30 days.", "Last year, we moved the DJ Basin into full development and produced record volumes of nearly 30,000 barrels of oil per day. But the bigger story in the DJ was drilling performance. Our average drilling days were already an impressive 4.4 and we reduced it another 7% to 4.1 days. Due to lower pressure, the IP rates aren't as flashy some other plays, but these are some of the lowest cost wells in the Company and they consistently deliver premium level returns. The sustainable improvements we have made to the cost structure of the Powder River Basin and the DJ Basin over the last year, combined with moderate decline wells, drove record low finding cost and record high returns in 2018. Performance from our Rockies plays are highly competitive with our largest premium assets.", "Here's Ken to review our year-end reserve replacement and finding cost." ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Thanks, Billy.", "We had a great year for reserve replacement, more than doubling what we produced during the year. Our proved reserves increased over 400 million barrels of oil equivalent or 16% year-over-year to 2.9 billion barrels of oil equivalent. We replaced 238% of our 2018 production at a low finding cost of $9.33 per BOE, which excludes positive revisions due to commodity price improvements. Since the start of the downturn in 2014, we have reduced finding cost 30%. Our ability to consistently add reserves at low cost demonstrates the tremendous capital efficiency gains we made through the downturn from our permanent shift to premium drilling and laser focus on cost reductions.", "Every year, EOG engages DeGolyer and MacNaughton to perform an independently engineered analysis of our reserves. This year, they evaluated nearly 80% of EOG's proved reserves and for the 31st consecutive year, they were within 5% of our internal estimates.", "I'll now turn it over to Tim Driggers to discuss our financials and capital structure." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ken.", "EOG further strengthened its financial position in the fourth quarter. The Company generated discretionary cash flow of $2.1 billion, invested $1.3 billion in exploration and development expenditures and paid $127 million in dividends. Free cash flow was $637 million in the fourth quarter and totaled almost $1.7 billion for the full year 2018. Proceeds from asset sales for 2018 totaled $227 million, which was predominantly the UK sale including the Conwy field.", "Cash on the balance sheet at December 31 was $1.6 billion and total debt was $6.1 billion for a net debt to total capitalization ratio of 19%, down from 25% at the end of 2017. Our goal is to repay $3 billion of debt from 2018 through 2021. We took a step in this direction by repaying a $350 million borrowing that came to maturity on October 1st. In 2019, we have a $900 million bond scheduled to mature on June 1st. We will determine the funding for this bond replacement closer to the date of maturity, whether from cash on hand or other sources, based on the Company's financial condition at that time.", "EOG is currently unhedged for the price of oil or gas for 2019, with the exception of some contracts protecting the price differential between certain sales points. Historically, EOG has hedged up to 50% of our expected production. While our best hedge position is being a low-cost producer, we will continue to evaluate hedging opportunities with the objective of prudently managing our business and providing our shareholders upside to commodity prices.", "I'll turn it back over to Bill for closing remarks." ] }, { "name": "William R. Thomas", "speech": [ "Thanks, Tim.", "In conclusion, our goal is simple: to be one of the best performing companies in the S&P 500. Our business model of high return organic growth is driven by our culture of return focused decision making, low-cost operations, innovation, technology and a first mover advantage. We have a pleased but not satisfied mindset that motivates every fiber of our Company to continuously improve. EOG's core business acumen, organic exploration, low cost operations, advanced information technology and sustainability, powered by our never satisfied innovative culture, means EOG has not remotely peaked. We are excited about our future and our ability to achieve our goal of delivering double-digit returns, double-digit growth and free cash flow throughout commodity price cycles.", "EOG's premium combination is rare in the energy sector and places EOG in line with the top performers in any sector of the market. It is a unique and compelling combination we expect to demonstrate again this year and over the long term to create significant value for our shareholders.", "Thanks for listening, and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you, sir. The question-and-answer session will be conducted electronically. (Operator Instructions) And the first question will be from Neal Dingmann of SunTrust Robinson Humphrey. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning, guys. Great details. My question is just you guys have done a great job continuing to bring out another of these distinct premium plays. Just as you continue to look at some of your exploration opportunities, your thoughts about the potential for -- potentially another one of these rolling out this year or next?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Neal, this is Ezra Yacob. As we discussed in the opening remarks, and I think it's -- you can see a good illustration on slide 11 on the presentation, we're really focused on adding higher quality plays to the inventory as we've done over the past couple of years as opposed to just increasing the quantity. We're utilizing a lot of data captured over the last few years in the Permian and the Powder and the Woodford to develop some new horizontal play concepts. And we're really focused on applying our horizontal drilling and completions techniques to a higher quality on conventional reservoir some that we've identified, and as we said, we'll be leasing and drilling some test wells in those in 2019. And so the important thing -- the way to think about it really is, since we're just kind of leasing and testing those this year, we probably won't have a potential exploration announcement. But we'll be able to update you as we gather more data on these." ] }, { "name": "Neal Dingmann", "speech": [ "Okay. And then just sticking with that for my follow-up, just on that slide 11, with total locations. How do you all think there's been some diversion out there, some folks are thinking about more of an ROR focused, up-spacing versus others thinking there's still maximizing units by downspacing to get more locations. So again, I'm just wondering sort of your philosophy these days and how that might impact total locations?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Neal, this is Ezra, again. I think it's a combination, not really up-spacing. What we try to do as far as converting existing non-premium wells into the premium status is really through two different mechanisms. The first is lowering well costs and dominantly doing that through sustainable kind of operational efficiency gains, but then also making strides on both the high grading of our targets and especially in 2018, advancing our completions technology where we can actually improve the well productivity. And so, again, it's a combination of increasing well productivity and lowering cost to get those to cross our premium threshold." ] }, { "name": "Neal Dingmann", "speech": [ "Great. Thanks, Ezra. Thanks for some great details." ] }, { "name": "Operator", "speech": [ "The next question will be from Arun Jayaram of JPMorgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning. My first question relates to Delaware Basin. One of those mid operators yesterday commented how children well recoveries were lagging parent wells by 15% to 20%, which was a delta relative to the Street. I was wondering if you can comment on EOG's published type curves as well as Billy's commentary on some of the new advances in completion that you've announced as well as the improvement in Delaware Basin, the well productivity in the second half of the year." ] }, { "name": "Lloyd W. Helms", "speech": [ "Yeah, Arun. Thank you for the question. As you see, the data we released, our well productivity is beginning to improve significantly in most of the plays in the Delaware. And we have been tackling and addressing the parent-child relationship for a number of years and where we have made significant improvements. I think the Company's ability to absorb data real-time and to make changes very quickly in our drilling programs in our well patterns has really paid off. So the new completion technology that we're using conducts more rock and it also reduces the offset depletion effects and we've also improved our targeting and our spacing. And to go back what Ezra talked about just recently, we've been able to do this and not really reduce -- we've actually increased the recovery and we've increased the NPV and we've increased the rate of return, all at the same time. So we made tremendous progress on solving the parent-child relationship." ] }, { "name": "Arun Jayaram", "speech": [ "Great. Just -- and my follow-up, Bill. Could you maybe discuss the trade-off before -- between investing in premium locations today versus new plays? It seems to us that you're investing early to prevent an inventory situation down the road so -- and also so you wouldn't have to make expensive M&A in order to preserve your turns. But I'd love to hear your thoughts on that." ] }, { "name": "Lloyd W. Helms", "speech": [ "Sure, Arun. Yeah, the total focus on the new plays is to add better inventory. We have 9,500 premium locations right now. So we really don't need more, we just need better. And so we're -- as Ezra talked about, we are targeting rocks that have better ability to produce oil and be able to respond to these new completion techniques that we're coming up with and to reduce our cost and increase our returns and make the Company better in the future. So our total focus on all that is to add a lot better inventory than we have right now. And we are being able to add it or able to add it at very, very low cost. So we're actively leasing in plays at like $500, certainly less than $1,000 an acre and that's certainly much, much better than trying to compete in these hot areas through M&A." ] }, { "name": "Arun Jayaram", "speech": [ "Great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "The next question will be from Paul Grigel of Macquarie. Please go ahead." ] }, { "name": "Paul Grigel", "speech": [ "Hi, good morning. Referencing slide 13, could you please provide color on the methodology on how the corporate decline rate was derived and adding in additional color for any variations by major basin and how does this on the corporate decline rate and the capital efficiencies compare historically prior to 2018?" ] }, { "name": "Lloyd W. Helms", "speech": [ "Yeah, Paul. This is Billy Helms. Thanks for asking about slide 13. It's a new slide that we put in to illustrate the confidence we have in improving our capital efficiency year-over-year. We've made tremendous strides on both lowering our well cost and improving the productivity of the wells and it's starting to dramatically show up. And this slide is based on not forecasting additional cost reductions but based on our results we're seeing today in the wells we're completing here at year-end. So we're very confident, and basically the way you calculate the decline from that, if you go back and look at the production year-over-year, you can see that production in 2017 to 2018 and the capital number there, $5.9 billion divided into those differences will give you the --and the capital efficiency number will give you the decline rate in 2018. And you do the same mechanism for 2019, using the midpoint of our guidance compared to the 2018 production volume. With that capital efficiency number you can back into the decline rate of 31% as it illustrates here on the slide. Year-over-year, our capital efficiency is improving. But as we grow volumes, those first year volumes of course are -- have a steeper decline than the base production, so year-over-year, the base decline did increase from 2018 to 2019, and that's just simply because the volumes are getting much bigger. So that tells you that we're adding -- for the same amount of dollars we're adding a lot more new oil at our capital efficiency rate that we have today. So that's the implication." ] }, { "name": "Paul Grigel", "speech": [ "Great. Appreciate the color there. And then could you also provide your latest thoughts on the Austin Chalk and if that falls within the premium program category or in the exploration spend, and what's the driver of moving to 15 completions in 2019 in the Austin Chalk, down from 27 in 2018?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Paul, this is Ezra again. So the Austin Chalk in South Texas that we've talked about is -- is considered part of our premium plays there where it overlies with our Eagle Ford development program. As far as -- it's been documented out there that we've got some other exploration opportunities there in Austin Chalk and that part of it would be considered in the exploration spend. As far as the well counts there in Austin Chalk and the Eagle Ford area, that's just kind of simply the wells that we put to -- the wells that we're forecasting put to sales this year are with respect to where we're at in our development program there. As you know, geologically, as we've talked about, it's a bit of a complicated -- a little more complex than the Eagle Ford down in South Texas. And so, we're really moving a little bit slower on that and making sure that the premium wells that we're drilling on there are of the quality that will be additive to our program." ] }, { "name": "Paul Grigel", "speech": [ "Thanks, Ezra." ] }, { "name": "Operator", "speech": [ "The next question will be from Leo Mariani of KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys, just wanted to follow up on a couple of your prepared comments here on the call. I guess you guys previously had kind of talked about in the last year sort of 15% to 25% oil growth at $50 to $60. Bill, I think you said in your prepared comments that you're not really moving away from that over the next couple of years, but growth is a little bit lower this year; it's sort of 12% to 16%. Can you provide a little bit more sort of color is this maybe just a little bit lower year due to more uncertainty around oil prices? Kind of what's driving you to move toward the low end of that range in 2019 here?" ] }, { "name": "William R. Thomas", "speech": [ "Yes, Leo, this is Bill. We are not shifting into a low double-digit growth mode. That needs to be really clear. We're not really shifting down into a lower mode than maybe we -- people might think. Specifically, this year, we're allocating a bit less capital to growing oil and a bit more capital to drilling for new potentials, so that affects this year's rate a little bit. But, certainly as we've demonstrated in the past, we have tremendous ability to grow. It's really easy for EOG to grow with our capital efficiency so high and such a huge deep high quality inventory. But we said governors with our disciplined growth strategy -- investment governors -- and so the first one is we want to generate free cash flow every year and the second one is we want to grow at a pace where we can take advantage of the learning curve and continue to increase our returns and capital efficiency. So as we continue to get better and increase efficiency and add new higher -- even higher quality inventory than we have right now, it will become easier for us to grow and to sustain and deliver strong high return growth. So don't count us shifting into a lower mode." ] }, { "name": "Leo Mariani", "speech": [ "Okay, that's great color. And I guess just wanted to also follow up on a comment that you guys made. You certainly are focused on continuing to improve ROCE at EOG, clearly want to lower that over time. Given that you're spending more money on kind of some newer domestic plays this year, and as I kind of think about that, I guess I would maybe assume that maybe the newer plays would initially have a lower ROCE, but might sort of pay off in the longer term here. So just trying to get a sense of how to square that up with having a really long inventory already. Clearly, you guys have said you got well north of 10 years of premium oil drilling even at an accelerated pace over time. So I guess can you provide a little bit more color on sort of the need to kind of target some more of these plays with more new exploration dollars here in the short term?" ] }, { "name": "William R. Thomas", "speech": [ "Yes, Leo. This is Bill again. That's certainly what we're focused on with our exploration effort is to improve our ability to deliver return on capital employed. And because we're able to acquire these positions at very, very low cost, $500 and $1,000 an acre, and they're in areas where there is infrastructure. We're not in remote areas that -- and not going to be difficult to connect to really good markets. They're in areas where we have very capable operating efficiencies with our seven domestic divisions in the Company. And so we can move on them and we can test them very quickly and evaluate them and then pretty quickly, within a year or so we could put them in a pretty strong development mode. And so we're taking our advantage of being first movers in these plays and getting there before other people may realize the potential of them. And we're focused on better rock than we have right now. And those -- that combination of low cost and better productivity, we believe, could meaningfully improve the returns of the Company and down the road will improve our ability to deliver oil at even lower prices and generate return on capital employed at even lower prices." ] }, { "name": "Leo Mariani", "speech": [ "Okay. Thanks. Great color." ] }, { "name": "Operator", "speech": [ "The next question will be from Charles Meade of Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Bill, to you and your whole team there. I'd like to start with a kind of a big picture question, and this may go over some old territory for you guys. But looking at slide 14, it looks like the way you guys built your capital program is you decided -- you picked an oil price and said, OK, we want to be able to fund our dividend and so our CapEx has to be something less than our cash flow minus our dividend there. And I get the picture that free cash flow will just -- will accrue as oil prices perhaps roll in higher than that. But can you offer I guess color on whether that is the way that you built your capital program and if that is the right read on it? Could you give some insight to the process of how you picked that $50 oil or whatever that planning price that seems to be the kind of the organizing data point behind the whole thing?" ] }, { "name": "William R. Thomas", "speech": [ "Yes, Charles, this is Bill. Yea, we use multiple parameters to set our program every year, but certainly one of the first ones is we want to build a program based on our view of the macro, certainly what oil prices might be and put us in a position to generate free cash flow every year. So that's the first one. And so over the last several years, $50 has been a good rule of thumb for that and it's worked really well for us. And then our goal is to set the capital allocation at a rate that will continue to improve our returns so that we can take advantage of the learning curve and continue to get better every year and continue to improve our capital efficiency. So with that in mind, we set the program to give us a good chance to generate significant free cash flow to do the things we've talked about reducing our debt and certainly being able to have the ability to work on the dividend on a much stronger rate than we have in the past years and to get better at the same time." ] }, { "name": "Charles Meade", "speech": [ "That's helpful, Bill. I think I'm picking up what you guys are putting out there in that respect. And then going back to just some of the prepared comments I believe by Ezra about the improvements in the Delaware Basin (inaudible). I know you guys have talked on this a little bit, but you talked about optimizing the spacing and staggering. Can you give a bit more detail as does that mean that you guys have gotten closer or rather wider on your Delaware Basin well patterns?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Charles, this is Ezra. Really when you look at it over the bulk of the year between 2017 and 2018, I think on average our spacing was pretty consistent. As we've talked about in the past, it really is going to change across that base and depending on how many of our specific targets that we're aiming for in developing and co-developing. And we aim to target as we've talked about before any targets that are kind of within maybe a couple of hundred feet of each other. And so as we talk about the improvements and optimization of spacing vertically and horizontally, it's as if you think about it in a stacked and staggered manner. And so we've definitely tested as we highlighted on one of the earlier calls last year, the tight (ph) is 400 -- approximately 400 foot staggered spacing pattern, and obviously we've targeted much wider than that. I think at the end of the day, what we're seeing is, there's a lot potential upside there to our announced resource potential. As you recall, our type curve in the Wolfcamp oil window is based on a 660 foot spacing in just one Wolfcamp target across the whole of our Wolfcamp oil acreage." ] }, { "name": "Charles Meade", "speech": [ "Okay. Thank you for that added color, Ezra." ] }, { "name": "Operator", "speech": [ "The next question will be from Michael Scialla of Stifel. Please go ahead." ] }, { "name": "Michael Scialla", "speech": [ "Good morning, everybody. Based on your comments that the exploration ideas are really targeting better quality rock, is it fair to say that you're really not looking at kind of the massive traditional shale plays like the Eagle Ford or the Bakken, I'm thinking maybe more along the lines of tight sand or carbonate resource plays -- I mean, you admitted, I guess the Chalk (ph) over in Louisiana is one of them. But is that more the type of play that you're looking at with the exploration ideas?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Michael. This is Ezra, again. That's a great question. Without giving too much away, what I would say is, just reiterate again what we talked about and I think you're on the right track with it, is we are targeting -- we're looking to apply our horizontal drilling and completions technology to in general just better rock quality in these unconventional reservoirs. It's a variety of different things that we're looking at and really it comes from combining datasets, as I said, that we've collected over the last few years in development in the Permian, in the Powder and including the Woodford also. And so the way to think about it really is that the actual rock quality is going to be better than what we've traditionally targeted horizontally. And I think that's what -- really we want to -- it's going to help us increase the quality of our inventory and it should hopefully shallow the decline that these unconventional plays are kind of known for, and really that should help reduce our finding cost, lower our DD&A and play into helping us achieve our long-term goals of double-digit growth and double-digit returns." ] }, { "name": "Michael Scialla", "speech": [ "Okay. Thanks. And Bill, you said in your opening remarks that you would be willing to buy back shares when accretive. I'm just wondering what metrics you're going to be looking at there to decide if that's an accretive opportunity or not? Is it simply NAV or something else?" ] }, { "name": "William R. Thomas", "speech": [ "Michael, as we stated, on free cash flow our priorities are to target -- to be able -- to be in a position to target a stronger dividend increase than we've been doing in the historical past, which has been 19%. And then, we certainly have outlined a very strong debt reduction as Tim talked about earlier. And we've got about $2.65 billion in the next three years to -- we want to reduce that. And so our priority to maintain a strong balance sheet has put us in a position where we have the flexibility to take advantage of opportunities down the road in the future such as high-return, low cost property additions, particularly things that could go in conjunction with these new plays that we're talking about and it puts us in a position to consider potential share buyback. So share buybacks could be an option when our senior management and our Board identify a value accretive opportunity in the future. So we continuously consider all the options, what is in the best interest of the shareholder and our primary focus is on creating the most value for shareholders in the future. So we'll continually consider, on a quarterly basis, free cash flow availability and what is the best allocation of capital to create the most value." ] }, { "name": "Michael Scialla", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from Doug Leggate of Bank of America Merrill Lynch. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thank you, and good afternoon everybody. Or good morning, I should say. I'm actually in Europe right now. So sorry about that, Bill. A bit of a philosophical question if I may, and it really relates to your comments about being one of the best companies to compete with the S&P. No question, you guys have knocked it out of the park against the E&P sector, but the big difference between the focus on returns and competitive growth is that the S&P obviously has been dramatically better than the E&P sector over the period that you're focused on premium locations, the big difference being that they pay out a lot more of their cash flow for -- those competitive growth companies, think biotech, think technology. So if you're really talking about all sectors, what do you feel, what do you think about that -- that your relative performance to the S&P obviously isn't delivering that with the current strategy, what makes you think you will do so in the future?" ] }, { "name": "William R. Thomas", "speech": [ "Yes, Doug. Certainly, you've identified two of the key things is -- return on capital employed, we think we can be competitive even through the commodity cycles with double digit and we believe on growth that we can be competitive with any sector through the commodity cycle. And as we work on lowering the cost basis of the company and our capital efficiency, we will target free cash flow and as we continue to generate free cash flow and get better at doing that, that allows us to return more cash to the shareholders, certainly first we'd pick through dividend. We've already outlined our debt reduction, and then down the road, it comes to where we have -- a situation where we can have accreted value through share purchases, we'll consider that too. So we're committed to making the Company better in every means and we certainly believe that our culture and our business model has the ability to compete with any company in any business." ] }, { "name": "Doug Leggate", "speech": [ "No, I understand the philosophy. I'm just trying to understand what -- how it changes as it relates to the comment about the relative performance story within the broader market when your cash distributions are so much lower. I guess that's what I was getting at. But my follow-up really if I may, is also kind of a high-level question and it really is related to the same thing because we're all wrestling with this. Let's be honest (inaudible) performance over the last several years, and it really is -- the issue is that the one thing that's different, obviously, with oil and gas is you're dealing with a commodity and the volatility of that commodity. You guys are a very large company. On the high end of your prior target range, 25% at $60 oil, your growth in oil is 10% of global demand growth. And we know the growth isn't rare but growth with cash returns is. So I'm just, again, trying to reconcile why not grow at a slower rate and step up the cash distribution because you can't control the oil price, and if you can grow at that rate and the rest of the industry (inaudible) then obviously we've got a problem with the commodity. So I'm just wondering how you address that circular volatility, and I'll leave it there. Thanks." ] }, { "name": "William R. Thomas", "speech": [ "Well, Doug, as -- if you consider the metrics that -- and the value that we're creating by drilling approximately 700 wells this year as I stated in the opening call, the net present value -- discounted net present value is about $6 million per well. So our drilling program this year is creating more than $4 billion of value. That's a significant thing. And so you can obviously -- when you're reinvesting at super high rates of return and creating that much value per well, that is an exceptionally good -- there's not many businesses in any business that can create that kind of value. And then second of all, we truly believe that we can be among the low cost producers in the energy market. So that gives us a competitive advantage. We have a lead we believe versus our competitors in cost and being a low-cost producer and we also have the culture to get better faster than most of our competitors. So we have a long-term sustainable business model and our goal is to create tremendous value and be able to -- through growth and returns, and be able to do that sustainably for a long period of time." ] }, { "name": "Doug Leggate", "speech": [ "I agree with that. I'm going to close out there but just with (inaudible) comment on -- while it's been your strategy for four years, and if you really believe that much value is being dislocated from your share price, which is flat, why not go ahead and buy back your stock? And that's really all I'm saying is that if the value creation isn't being recognized at the market, then that means something has to change." ] }, { "name": "William R. Thomas", "speech": [ "Again -- thank you. Again, we'll continue to evaluate what's best for the shareholders on a quarterly basis and make the appropriate decisions going forward." ] }, { "name": "Operator", "speech": [ "The next question will be from Paul Sankey of Mizuho Securities. Please go ahead." ] }, { "name": "Paul Sankey", "speech": [ "Good morning, everyone. I'm in the uncomfortable position of supporting the previous couple of questions. They were actually very much in line with what I was going to ask about, particularly the accretion definition, which I know is always difficult, but also the balance between growth and returns relative to the stock price performance. One further one I would just add is, do you have a terminal notion for your premium inventory life, which seems to be steadily rising? I wondered if there was a point which there was no need to raise it anymore now that you (inaudible) beyond 13 years. Thanks." ] }, { "name": "William R. Thomas", "speech": [ "Paul, this is Bill again. We were not focused on this, the size of it. We're really focused on the quality of it and that's why -- of course we're, as we talked about, that's why we're working on these new play concepts. And so we believe that our inventory, even the lower tier part of our inventory is probably comparable, maybe even better than, much of the inventory that's been drilled in the US and that has a lot of value in the future. So we'll continue to work on getting value for that. We've sold quite a bit of property over the last few years like over $6 billion over the last five years or so. So we'll continue working on paring off the lower quality and adding on to the higher quality and improving the overall metrics of our inventory." ] }, { "name": "Paul Sankey", "speech": [ "Yeah, again, further to that, firstly on further potential to increase your definition of premium inventory and so accretive returns through a higher hurdle rate. Even -- I accept that your hurdle rate is impressive, but as you're constantly growing potentially you could skew toward more returns over growth through that. And secondly, I completely hear what you're saying about disposals, but you do seem to becoming more and more spread in more and more areas, potentially -- the potential for increased disposals I guess would be an additional logical continuation of that strategy. Thanks." ] }, { "name": "William R. Thomas", "speech": [ "Yeah, that's correct, Paul. I think we're a bit more decentralized than most other companies. And that decentralized structure is a huge advantage in the Company because we can execute on each one of these plays with a very dedicated strong group of people that can learn quickly and apply the technologies, the learnings that we're getting across the Company and we share those. And so we can, with our scale, with our ability to share data and learnings, we can execute each one of those plays in a very efficient manner. And when you have multiple plays, you can take each play slower so that you can take advantage of the learning so you don't have to go so fast on any of them, and it makes all your plays better. So -- and it gives you a very stable, high return and high growth portfolio to continue to build the Company on." ] }, { "name": "Paul Sankey", "speech": [ "Sure. Okay, thanks. I mean, the problem does remain that the stock is not competing with the S&P in the way that you want it to. I think that's what we're driving at. Thank you." ] }, { "name": "Operator", "speech": [ "And ladies and gentlemen, this will conclude our question-and-answer session. I would like to turn the conference back over to Mr. Thomas for his closing remarks." ] }, { "name": "William R. Thomas", "speech": [ "In closing, EOG's results in 2018 were the best in Company history due to the excellent work by everyone in EOG. We're headed into 2019 with tremendous momentum, so we're very excited about the year. EOG has never been in better shape. We are pleased, but not satisfied, so we fully expect to continue to get better. Our goal is to be one of the top performers in the S&P 500 with double-digit returns and double-digit growth through commodity cycles and deliver significant long-term shareholder value. Thanks for your support and thanks for listening." ] }, { "name": "Operator", "speech": [ "Thank you, sir. Ladies and gentlemen, the conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines." ] } ]
EOG	2022-05-06	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources first quarter 2022 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release and EOG's SEC filings. This conference call also contains certain non-GAAP financial measures.", "Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website. This conference call also include estimated resource potential, not necessarily calculated in accordance with the SEC's reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chief executive officer; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, VP, investor and public relations. Here is Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. EOG's cash return strategy demonstrates our commitment to deliver long-term shareholder value. Yesterday, we declared a second special dividend for the year of $1.80 per share following last quarter's $1 per share.", "Combined with our peer-leading annualized regular dividend of $3 per share year-to-date, we have announced $3.4 billion in cash returned to shareholders in 2022. EOG has a strong history of cash return. Since we began trading as an independent company in 1999, we have delivered a sustainable growing regular dividend. It has never been cut or suspended, and its 23-year compound annual growth rate is 22%.", "Since the transition of premium drilling in 2016, our dividend compound annual growth rate has been even higher at 28%, including doubling our dividend last year. Today, our regular dividend not only leads our E&P peer group, it is more than competitive across all sectors of the market. More recently, we have supplemented our regular dividend with significant special dividends, reflecting our commitment to both capital discipline and returning cash to shareholders. While we are proud of our cash return track record, we acknowledge shareholders' desire for more transparency and predictability.", "To provide both, we recently formalized and yesterday announced our cash return commitment of returning a minimum of 60% of annual free cash flow. Going forward, our intention is to evaluate and pay the regular dividend and consider options for additional cash return every quarter. The addition of quantitative guidance to our cash return framework reflects our confidence in our business. The pandemic-driven volatility in the oil and gas market is stabilizing.", "However, the macro environment continues to evolve with the war in Ukraine and other geopolitical events. We have proven to ourselves over the last several years that our business is resilient through the cycle, including unprecedented shocks to the industry. Credit for EOG's resilience for the steady improvement in our ability to generate free cash flow in any environment and the ability to make this free cash flow commitment to our shareholders goes to our employees, who embraced our premium return hurdle rate six years ago, which requires that all investments earn a minimum of 30% direct after-tax rate of return using a $40 flat oil and $2.50 flat natural gas price. Last year, we doubled the minimum return to 60%.", "Both the premium and now double premium hurdle rates have positioned the company to have an outstanding year in 2022. In spite of the ongoing inflationary and supply chain issues facing our industry, our employees outperformed during the first quarter and are positioned to deliver on our annual capital and volumes plan. We have decades of low-cost, high-return inventory that support the consistent financial performance that our shareholders have come to expect and that drives long-term value. Our inventory spans multiple assets across oil, combo and dry natural gas basins throughout the country, which enables us to pursue the highest netbacks by diversifying both our investment and sales market options.", "We also continue to explore. A year and a half ago, we announced Dorado, a premium dry natural gas play, where we've captured 21 Tcf of resource potential net to EOG. In a moment, Ken will update you on the progress we've made on well performance and well costs in what we believe is the lowest cost and lowest emission source of natural gas onshore U.S. Our organic exploration program has grown our premium inventory by more than three and a half times since the premium metric was introduced in 2016.", "So our exploration program isn't focused on adding more. We are looking for better inventory. New players, like Dorado, and the potential we see in our current exploration pipeline gives us confidence we will continue to grow and improve our double premium inventory in the future as we have done in the past. While we have earmarked and committed to return a minimum of 60% of annual free cash flow, our long-standing framework and priorities for total free cash flow are unchanged.", "A sustainable growing regular dividend, a pristine balance sheet, additional cash returned to shareholders through special dividends and opportunistic stock buybacks and low-cost property bolt-ons. Sustaining and growing the regular dividend remains our highest priority and reflects our confidence in the long-term performance of the company. A pristine balance sheet is a strategic advantage functioning as a shock absorber that also provides the flexibility to exercise a buyback when the opportunity arises and to take advantage of other countercyclical investments. Additional cash returns through special dividends and buybacks complement our other priorities.", "And together with our free cash flow minimum return guidance, support our goal to create significant long-term shareholder value. Now, here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. Our ability to refine our long-standing cash return framework by providing quantitative guidance is made possible by EOG's outstanding operational and financial performance. In the first quarter, EOG earned $2.3 billion after adjusting items or $4 per share. We generated $2.3 billion of free cash flow.", "Capital expenditures of $1 billion were near the low end of the guidance range, while production volumes and total per unit cash operating cost finished better than targets. Our confidence is further bolstered because we finished the quarter in an incredibly strong financial position. Total debt on March 31 was $5.1 billion. This includes the current portion of debt of $1.25 billion reflecting a bond that matures in March 2023 that we intend to pay off with cash on hand.", "Cash on March 31 was $4 billion for a net debt of $1.1 billion. This yields a debt to total capitalization ratio of 4.8%. The $4 billion cash balance excludes $2.4 billion of collateral for hedges held by our counterparties. The amount of collateral fluctuates with oil and natural gas prices.", "These short-term timing differences in cash flows are not considered in our calculation of free cash flow and do not influence our decision on the timing or amount of cash return to shareholders. To that end, EOG has declared special dividends so far this year totaling $2.80 per share on top of the regular dividend of $3 per share on an annual basis, totaling $3.4 billion. Our objective in establishing our cash return guidance was to make it simple, yet dynamic so that it is easily communicated and understood, while remaining suitable under a range of commodity price scenarios. The actual amount of cash returned each year is a product of our long-standing free cash flow priorities.", "These have not changed. The size of our regular dividend is now the largest of our E&P peers and the strength of our balance sheet supports our ability to return a large portion of free cash flow back to shareholders going forward under a range of scenarios. The $1.80 special dividend declared yesterday along with the $0.75 regular quarterly dividend demonstrates significant progress toward our commitment to returning at least 60% of our 2022 free cash flow to our shareholders. Subject to commodity prices, the amount of free cash flow available and the board's discretion, our intention is to return cash through special dividends or stock buybacks on a quarterly basis going forward.", "Here's Billy." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. We've had a great start to the year. Our first quarter volume, capital expenditure and total per unit cash operating cost performance exceeded our forecasted targets. We're also pleased with our progress to date offsetting inflation and managing well costs.", "Our drilling teams continue to reduce drilling days and generate consistent performance improvements. Use of self-sourced downhole tools as well as minimizing downtime and mud losses remain areas of focus to improve performance. For example, drilling times in our Eagle Ford oil play continue to improve, decreasing 28% in the last 5 years. The average well is now drilled in less than 5 days.", "On the completion side, we have increased the amount of treated lateral per day by about 10% over the last year as we further deploy the Super Zipper technique. We are now using this technique on more than half of the wells completed in the company and expect to increase its use further as we progress through the year. In addition, our self-sourced sand program is providing a tremendous advantage that we expect to further offset additional inflation throughout the year. When we established our plan at the beginning of the year, we knew the unusually tight supply constraints initially sparked by the economic recovery from the pandemic would present a unique challenge.", "Taking these headwinds into account, this year's plan was devised with known efficiency improvements that would maintain well costs flat with last year. While we have since seen increased steel and fuel prices directly associated with the war in Ukraine, we are confident we can still deliver on the capex and volume targets in our original plan. Rather than accept inflation as a given, our employees remain proactive. We have a track record of lowering cost and developing efficiencies through periods of economic expansion and other drivers of inflation.", "Our operating teams are ever more diligent in their quest to identify new areas of performance enhancements that will lower well cost. EOG's advantage lies with our people and our culture. Today's challenges are met with innovation and value creation in the field through our multiple basin decentralized approach. This period of inflationary fuel prices is the primary driver of the 2% increase in our full year per unit cash operating costs versus our previous guidance.", "However, higher commodity prices also presented an opportune time to enhance our workover program, which will be reflected in LOE expense. These additional workovers bring on low-cost production, they pay out within weeks and increase the long-term performance of our assets. All in all, we are thoughtfully managing our assets to offset a small effect from inflation. While we have flexibility to adjust our plan in any given year to respond to unique or extreme marketing conditions, such as the pandemic in 2020, our capital plan is thoughtfully planned across all our assets to support the pace of operations that is optimal for each individual asset to continue to improve.", "We believe we have the best people, assets and plan to mitigate any headwinds and continue to improve the company for the long term. Here's Ken to discuss the incredible improvements we made in our premium gas play, Dorado." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. A year and a half ago, we announced a major new natural gas discovery in South Texas, we named Dorado. It's a dry gas play with 21 Tcf of resource potential net to EOG across stacked pays in the Austin Chalk and Eagle Ford formations. Our breakeven cost in Dorado is less than $1.25 per Mcf, which we believe represents the lowest cost of supply of natural gas in the United States.", "Dorado is the most recent double premium play to emerge from our organic exploration program. We began technical work on Dorado back in 2016, captured a large acreage position in the core of the play as a first mover during 2017 and 2018 and drilled test wells in late 2018 and 2019. After pausing during the downturn in 2020, we moved Dorado into active development last year and completed 11 net wells. This year, we anticipate completing 30 net wells, nearly tripling activity.", "Since last year, we have doubled our production rate out of Dorado, producing 140 million cubic feet per day in the first quarter of 2022. We are leveraging our proprietary knowledge built from prior plays to move quickly down the cost curve as we increase activity at a pace that allows us to incorporate learnings and savings. We completed seven net wells during the first quarter of 2022 while keeping well costs flat compared to similar designs in the first quarter of last year, successfully offsetting inflation. Since our first wells drilled in 2018, we have reduced well costs over 35% and are approaching our target well costs faster than we anticipated.", "In addition, well performance is improving. Productivity from recent wells is significantly beating our initial forecast. Refined completion techniques and a focus on targeting have increased our performance projections on a per foot basis. This year, we have also moved to longer lateral switch, combined with the improvements to per foot productivity have resulted in an 80% higher two year cumulative production volume than our 2018 wells, compounding our capital efficiency.", "Our preliminary plan for the play was to focus initial development on the Austin Chalk formation and then follow that with development of the Eagle Ford so it would benefit from well cost reductions as well as water and gas gathering infrastructure installed for the Austin Chalk. With the dramatic improvements to our Eagle Ford formation well results, we now expect to codevelop it with the Austin Chalk, which will provide additional opportunities to lower costs through scale and simultaneous operations. As a dry gas play in close proximity to multiple markets, we expect Dorado's gas will have a lower emissions footprint compared to other onshore gas supplies in the U.S. In addition, we continue to leverage companywide expertise to build out an operationally efficient and low emissions field.", "As we expand development of Dorado into a core asset, it will contribute to lowering EOG's companywide emissions intensity rate. Combined with EOG's low operating costs and advantaged market position located close to several major sales hubs in South Texas, including access to pipelines to Mexico and several LNG export terminals, Dorado is in an ideal position to supply low-cost, low emissions, natural gas into markets with long-term growth potential. Now, next up is Ezra for concluding remarks." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Ken. I'd like to note the following important takeaways from the call today. First, formalizing our cash return strategy demonstrates our commitment to our free cash flow priorities that, along with high return, disciplined reinvestment, offers significant long-term shareholder value. Second, EOG is realizing another tremendous year of improvement.", "We are set to deliver outstanding returns while demonstrating capital discipline within an inflationary environment, delivering on both volumes and capital as announced at the beginning of 2022. Third, our most recent organic exploration announcement, Dorado, has positioned us with over 20 Tcf of low-cost natural gas with access to multiple markets. Our progress in Dorado is on pace to make this North America's lowest cost of supply. Thanks for listening.", "Now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question today comes from the line of Doug Leggate with Bank of America. Doug, your line is open." ] }, { "name": "Doug Leggate", "speech": [ "Well, thank you. Good morning, everybody. Ezra, I think I would speak for everybody in saying we're delighted to see the framework you've introduced for cash returns. I do have a question around this, however.", "I'm just curious what's changed to move you in that direction? And I wonder if I could ask you to -- you're obviously talking about a percentage of free cash flow. So I wonder if you could frame some similar parameters around how you think about reinvestment rates or the planning assumptions that go around that so we can get some kind of idea as to what free cash flow ultimately looks like versus the level of spending, if you see my point." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. I sure do. So let me start with the what is now -- why now. And simply, we feel that this is the right time for our business to come out with the additional guidance.", "We've got the regular dividend increased to be competitive with the broad market. We've got the balance sheet in a very strong position. And we're basically emerging stronger from the downturn and confident that we can deliver this minimum amount of cash return going forward. It's consistent with our long-term free cash flow priorities.", "So it's not really a change in strategy. In fact, in 2021, we returned about 49% of free cash flow, and we paid off a $750 million bond. So when you combine those, that was about 60%. And so it's a range internally we've discussed and the announcement really just provides a bit of transparency.", "Now on the second part of your question with regards to how do you think about -- how are we thinking about the reinvestment growth and to get to free cash flow, one thing -- one reason we have given this guidance as a minimum of 60% return on free cash flow is because it's a guide that can be consistent and long term in nature through the cycle, like how we manage the business. Basing the guide off of a free cash flow puts us in what we feel is the best overall position to create shareholder value through the cycle. So nothing's really changed in the reinvestment strategy. It's first always based on returns and our ability to get better each year.", "There's -- as we've said in the past, there's no reason to invest in growth if you're not generating high returns and you're not doing it with an ability to improve the underlying business year after year. And what that means is not chasing free cash flow just because the high prices if you're investing in something that's eroding the business long term. You can take today, for example. We could increase activity today into these high prices, but in the inflationary environment, that's going to erode our capital efficiency.", "And then the second piece that we've talked about as far as reinvestment or growth is based on the macro environment and market fundamentals. Does the market really need the barrels? What's supporting the global supply and demand fundamentals? Ultimately, investing in premium and double premium, as you know, has made us somewhat price agnostic basing those decisions on $40 oil and $2.50 natural gas. And so it's really -- the capital discipline comes down to what can we do and are we investing at a pace where each of our assets can get better year after year and ultimately, improve the overall returns and company profile." ] }, { "name": "Doug Leggate", "speech": [ "I appreciate the answer, Ezra, on that. As I said, we all welcome what you've done. My follow-up is hopefully a quick one. So some years ago, you guys pivoted away from natural gas.", "Dorado obviously is the exception today, but you also took a write-off of a lot of your legacy gas assets. The world has obviously changed. So I'm just wondering within the company, is there any effort or I guess, initiatives to pivot back to some of those legacy. Some of the legacy gas assets that are obviously still in your portfolio in light of what's going on as it relates to LNG expansion longer term, how we get there? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. As you said, the world's changed a lot and the company has changed quite a bit. The biggest thing for us is that introduction of the premium and now double premium reinvestment hurdle rate. So all of our gas assets now are judged at $2.50, a flat natural gas price for the life of the well.", "And that really high grades our reinvestment opportunities into any of our assets, but especially the natural gas ones that we're talking about right now. Ultimately, what we see with Dorado is that we've captured a very significant resource, geographically in the best spot we think onshore U.S. with access to multiple markets. And we're very excited about being able to focus in on really that asset that we have.", "We think it's going to be the premier asset in North American natural gas." ] }, { "name": "Doug Leggate", "speech": [ "Impressive for sure. Thanks for taking my question. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Charles Meade with Johnson Rice. Charles, your line is open." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Ezra, and to the whole EOG team there. Kind of picking up on the point you just made, I'm curious, I get that you evaluate all your projects at $40 and $2.50 and that service is the best oil projects and best gas projects. But is there any concern or discussion inside EOG that maybe evaluating projects that something so far below the strip is actually giving you a suboptimal relative ranking across oil and gas assets?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Charles. The way we look at it is we've been fortunate. We've been in unconventional North American exploration here for nearly two decades, honestly. And what that's allowed us to do is put together a multi-basin portfolio of what we think is really the deepest and highest quality asset inventory.", "When we switched to premium, it was really taking a long-term look at that $40 price, $2.50 natural gas price to not only help the immediate returns, the rate of return, the IRRs upfront, but really thinking about longer term through the cycles, what does it mean to really build a company where based on a commodity price, you can still be successful and create value through the cycles. Ratcheting that up to double premium in 2020 was really a reflection of our ability to have grown our premium inventory three and a half times through organic exploration since 2016. So actually, I think the focus on double premium drilling and that reinvestment hurdle rate, actually provides us with an optimal way to rank our assets." ] }, { "name": "Charles Meade", "speech": [ "Thank you for that, that insight. OK, and perhaps going back to Dorado, it was -- I caught during the prepared comments that I think that the two-year cume is 80% higher than your 2018 case. And part of that is longer laterals. And I think the base was -- the 2018 case was 9,000 for the latera.", "So am I making -- am I in the right ballpark to thinking that if 80% higher two-year cume, some of that's longer laterals. So we're looking at maybe 40% or 50% higher productivity per lateral foot in the Dorado play versus the earlier case?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Charles, this is Ken. We haven't really given out a number on how much higher the productivity is. If we look back to those 2018 wells, they were shorter laterals in the 6,000 to 7,000 foot range. We've now have some extended laterals even past our original 9,000 foot range that we thought we'd get.", "And those things both the improved performance and the lower costs have really driven that finding cost down to almost the $0.40 target that we're showing on Slide 11 there." ] }, { "name": "Charles Meade", "speech": [ "But no -- don't care to offer any comments on the productivity per lateral foot, I guess, that's fine. Thank you." ] }, { "name": "Ken Boedeker", "speech": [ "I guess, Charles, just what I would say is it is -- our wells are beating our type curves that we have, and those type curves do have a fairly low decline over the first several months of production. So we are seeing them beating our type curves. And if you look at it, we've really only drilled 30 of our 1,250 wells in that place, so we're continuing to learn." ] }, { "name": "Charles Meade", "speech": [ "Thank you, Ken." ] }, { "name": "Operator", "speech": [ "Our next question comes from Arun Jayaram with J.P. Morgan. Your line is open." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah. Good morning. My first question is just on the supply chain. You guys are holding the line on capex.", "A number of your peers have raised capex expectations. So I was wondering if you could comment what's unique about the way you're managing the supply chain to give you confidence on delivering the $4.5 billion capex budget. And do some of these supply chain headwinds we're seeing within the industry, how does that influence your thoughts about 2023, given shortages of OFS equipment, labor and just broader -- just challenges on things like OCTG?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Arun. This is Billy. Let me start by providing maybe an overview of how we're managing the year's capital program, then I'd like to get Jeff to add some color, and then I'll circle back to 2023. But let me first start by saying that we kind of look at each year the same way.", "As you know, we would -- I would tend to bucket this in maybe three or four different areas. One, we self-source a lot of materials that insulates us from a lot of the supply chain issues. We also do a lot of innovation and efficiency gains. The third bucket might be the pace of the adoption of these new efficiencies across the company.", "And then maybe finally, flexibility with our multi-basin approach. So just to elaborate on that a little bit more. At the beginning of the year, we constructed our plan certainly recognizing the inflation that we saw from the recovery of post COVID. And we were confident in looking at that, that we could offset inflation and maintain flat well cost.", "What we didn't anticipate was the war in Ukraine and that additional pressure and the increased inflation we saw in commodities, such as fuel and steel. But we're still working to offset this additional inflation through our efficiencies and new innovations. These improvements and efficiency gains are certainly happening largely in the areas where we have most activities, such as the Delaware Basin and the Eagle Ford. But I would also say that the pace of the adoption of these new technologies, the rapid adoption of the Super Zipper technology across the company is happening faster than we expected.", "So we also had the advantage of being in multiple basins. So that gives us a lot of flexibility to shift activity between areas. So we're very comfortable that we can maintain our plan and delivering our original volumes within our stated capex goals that we laid out at the start of the year. So with that, maybe I'll turn it over to Jeff to give you some more details." ] }, { "name": "Jeff Leitzell", "speech": [ "Yeah. Good morning, Arun. This is Jeff Leitzell. So as Billy stated, our ability to counter these inflationary pressures and some of the supply chain constraints that you talked about.", "It's really just a huge credit to our team's operational execution, their innovative culture and really continuing to improve on the efficiencies. So just to give you a little bit of color and some examples, start off with our drilling operations. Our teams continue to increase their efficiencies. And that's primarily with EOG's in-house motor program and our proprietary bit cutter development, which we can kind of design both of these uniquely around all the formations we drill in each of our plays.", "And our Eagle Ford operations, they're just a perfect example of this. We've increased the drilled footage per day by over 17% this year. And this is one of our more mature plays that we've been drilling in for 13 years. So really to EOG, no matter how far along we are in development, there's always improvements that can be made.", "And then on the same topic there with the Eagle Ford, they've just done an outstanding job of reducing their drilling fluid costs also, even as diesel prices have risen, and that's primary base in those fluids. We've done this by optimizing the density and the additives in the drilling fluid in each area really to try to reduce those fluid losses, which has resulted in a per barrel savings of about 20% so far in 2022. And then just a couple more basic examples in completions. Our field team, they continue to see really good improvements there, and they've increased their overall completed lateral per foot day by 10% compared to 2021 for the total company.", "And as we've talked about in the past, one of the main drivers in this is really our continued implementation of Super Zipper operations. So we've talked about last year, we're about a third of our activity with Super zipper. And this year, we had a goal of trying to get 60%, and we're just about there right now. So this is really significant because pretty much every additional well that we Super Zipper, we realized of up to $300,000 per well or that equates to about 5% of the total well cost.", "Another kind of new process on the innovation side that we've been implementing in testing is something called continuous frac pumping operations. So just a little bit of a rundown. Typically, in any completion operations, you have some unplanned maintenance. And in order to be proactive, our field teams have started planning some of that scheduled maintenance periods of about three to four hours every three days.", "And what this has helped us do is really minimize any of that unplanned maintenance and really greatly increase our overall efficiency. So in the past quarter, really primarily in the Eagle Ford, we've started some testing in the Delaware Basin, but we've been able to increase our completed lateral foot per day by roughly 30%. So that's really just a huge time and cost savings there. And what we plan on doing is as we optimize this process, we'll continue to roll it out to all of our operating areas.", "And then lastly, more on the supply chain and material side of things. I just wanted to touch on a couple of our savings from the water and the sand cost side of things. In the Delaware Basin, our team continues to reduce their water costs by optimizing the reuse process, which right now is approximately 90% of all their source water. And they're really doing this just through increasing the automation of all of our infrastructure and reducing the overall treatment cost per barrel, which we realized about a 9% reduction in each barrel of reused water for 2022.", "And this is pretty significant, not just for capex, but also on the operating expense because every barrel we're allowed to reuse is one less that we have to dispose of. And then finally here over on the sand logistics side, EOG, we've been in the sand business in self-sourcing for about 15 years now, and we continue to reduce those costs across the company. For example, out in the Delaware Basin, we continue to advance our abilities to get that sand closer to the wellhead and ultimately reduce the amount of trucking needed. And plans are we're going to open up a second plant in the second half of next year, and we really anticipate to see some pretty good savings from Q1 through the rest of the year of about 20% per pound.", "So these are just a few of the many examples of how our operations team is just performing and really giving us great confidence that we'll be able to counter a lot of these inflationary pressures and supply chain constraints through 2022 and, as Billy will talk about here, 2023." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Arun, just to summarize, maybe, I know that's a lot of detail for you. But obviously, we're very proud of the efforts of our employees to continue to fight against the rising well cost in this period of inflation. As we move into 2023, it's really early to talk about specifics about next year, but let me just kind of give you an overall impression of how we think about going into any year. Certainly, we have a long history of managing through inflation to maintain our lower well cost that gives us confidence to be able to meet our goals.", "And we have two fundamental things that we think about. One is our contracting strategy and how we approach that. As for example, this year, just a reminder, we have about 50% of our well costs secured with contracts with service providers that provide about 90% of our drilling fleet and about 60% of our frac fleet locked up under existing contracts. Not all of those service contracts are set to expire at the end of this year.", "So we try to stagger those as we go through a year to make sure that we have some continuity going into the preceding year. And then the lastly would be, as Jeff mentioned there, innovation and efficiency improvements. So we are already confident we're seeing ideas that we can continue to push and explore to continue to reduce cost and offset inflation going into next year. So we're always chasing those kind of things.", "I know that's a lot of color, but it's certainly something that we're very proud of our employees and their efforts, and I just want to make sure you fully understand it." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah. I appreciate the detail, Billy. My follow-up is maybe for Ezra or Tim, you guys have now committed to a 60% minimum return of free cash flow kind of framework. I wanted to get your thoughts on the other 40% bucket and what the priorities are between the balance sheet, additional cash return and the bolt-ons.", "I know last quarter, Tim did message EOG's intention to build more cash on the balance sheet for countercyclical opportunities at other points in the cycle. So I wondering if you could give us some updated thoughts on that." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Arun, this is Ezra. I can start right there with where you left off. Let me say that we're just thrilled to be in a unique position here to be able to strengthen the balance sheet and return $2.4 billion to shareholders in the first half of 2022. But ultimately, with the remaining 40%, it comes back to the fact that we're committed to delivering on our free cash flow priorities and doing the right thing at the right time to maximize long-term shareholder value and it does include that balance sheet.", "And some of the things with the balance sheet we've discussed in the past is to have cash available just for running the business for operations to have cash for the small bolt-on acquisitions, as you mentioned, to have cash available for the $5 billion stock repurchase authorization, which we've said we prefer to look at that as an opportunistic repurchase rather than something more programmatic. And then the last thing with regards to our balance sheet and cash on hand would also be our commitment there to retiring a bond, a $1.2 billion bond that's coming due here in the first quarter of 2023. So really, as we started off with the guide of returning a minimum of 60% of free cash flow, it's really not a change in strategy by any means. It's just to provide a little more transparency, a little more clarity.", "We've heard some of our shareholders who have asked for a bit more transparency and clarity on the cash returns, and that's really what the change in messaging is, but our strategy remains very consistent." ] }, { "name": "Arun Jayaram", "speech": [ "Great. Thanks, Ezra." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Jeanine Wai with Barclays. Jeanine, your line is open." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Good morning, everyone. Thanks for taking our questions. Our first question, maybe if we can just hit back to Dorado, nice update on that.", "In the slides, you highlight potential export markets. Can you talk about how much midstream capacity EOG has currently or maybe what you see down the line in order to get Dorado gas to the sales points?" ] }, { "name": "Lance Terveen", "speech": [ "Yeah, Jeanine. Good morning. This is Lance. Yes, as you think about Dorado and takeaway there, we're very well connected.", "I mean, you can see that on Slide 11. Obviously, you can see the proximity to market. But as we talk about capacity, we have sufficient capacity there, plenty of running room as we look forward. And just really want to highlight too, as you think about the proximity to those markets, and especially the demand growth that's expected to see in the potential that's equally important, and what we're excited about as you think about the proximity, less than 100 miles to get to the Agua Dulce market and then the connectivity that we have even to get up into the Katy Houston Ship Channel market.", "As you look forward on over the next 5 years, you have the potential to see an additional potential of like 5 Bcf a day of new demand growth. So the proximity, the connectivity that we have and obviously, as you've seen, as evidence to our other plays, as we think about capacity, we're always very forward looking and making sure that we have enough ongoing capacity as we think about our program." ] }, { "name": "Jeanine Wai", "speech": [ "OK, great. Thank you. And then maybe just following up on Arun's question. Ezra, we appreciate all the details you just provided about the cash build up there.", "I guess just generally speaking, and I know it's never the simple about back solving to a cash number, but is net cash -- or is that like a suboptimal place for the business? Or would you be perfectly fine with the balance sheet getting to that point? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Jeanine. No, we don't believe that's a suboptimal place in an industry like ours that's proven to be cyclical in nature, obviously, and at times very volatile. Even our current cash position, I'd say the cash on hand as a percent of market cap places us roughly in the upper half of that S&P 500. And we think that's a fantastic position to be in, especially when you think about a cyclical industry like ours." ] }, { "name": "Jeanine Wai", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Leo Mariani with KeyBanc. Leo, please go ahead with your question." ] }, { "name": "Leo Mariani", "speech": [ "I guess, wanted to follow up a little bit on the gas macro here. Obviously, very topical these days. In the past, I know EOG has spoken about kind of longer-term oil growth target, kind of 8% to 10% per annum. Do you guys feel that at this point in time, just given the changes in the world that U.S.", "gas is really just going to be higher for longer, and you think it would be appropriate to maybe do something similar on the gas side as well. And obviously, you kind of talked about the accessibility of your gas to LNG markets down there as well. So just wanted to get a sense if you guys are actively working on perhaps expanding activity over the next few years at Dorado in trying to get that gas to international markets." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo, this is Ezra. Let me maybe make a few comments and then Lance can follow up on some more detailed LNG perspectives. In general, what I would say from the macro perspective, I know this will sound a little bit repetitive, but we base our decisions on investment in gas, the same as we do on investment in oil, and that's on the premium price deck. So for us, it really comes down to the first question is returns, how quickly can we invest in an asset and still generate high returns year over year still continue to improve upon the asset.", "And what that means is lowering the finding and development cost every year and bringing -- adding lower-cost reserves to the base of our company. That's how we dropped the cost base of the company and basically expand the margins going forward. With regards to global supply and demand, that comes in second, same as on the oil side. I wanted to say that we have an optimal level growth because, obviously, there's associated gas, but then we've got these pure dry gas plays.", "So we look at them a little bit agnostically. Long term, how we do feel going out longer and thinking about the long-term global energy solution, we do feel that gas is going to play a significant role in that. And that's why we're very committed to the $2.50 price that we evaluate the reinvestment on because we think that's globally going to be a very competitive and compelling price to be able to base the investments on. Lance?" ] }, { "name": "Lance Terveen", "speech": [ "Yeah. No, Ezra. Leo, good morning. Maybe just add a little bit more color too, as you think about just LNG and kind of LNG offtake, but I mean, it's an exciting time.", "And it's been excellent having some exposure, especially as you think about our JKM exposure and the first mover advantage that we have because the pendulum, like you're saying, you're seeing in the environment today that pendulum is swinging and you're seeing more of a demand pool. And so as we think about that, especially from a customer standpoint, I mean, we're very well positioned. I mean the way we think about it, there's really three important components of it. And one of them that's critical is investment-grade status and the pristine balance sheet that we have that absolutely puts us and differentiates us.", "And then as you think about the control that we have with our firm transportation when we think about LNG offtake, it's not just from Dorado, but we have firm offtake that can get us from each of our major plays. And then also, when you think about supply flexibility, too, I mean, we have a lot of scale and a lot of flexibility. And so we're excited about it. Obviously, you saw the deal that we've done with Cheniere, that's expanding and increasing our sales that we have there.", "We feel that, that's very strategic that helped commercialize Stage 3, which we're anticipating hopefully by the end of '25, I think expected maybe in early '26, all kind of in line with what we've been talking about for a long time. We've been working LNG since 2017 and entered into our first agreement in '19 and then just recently expanded that again. So yes, we definitely have a constructive view as we think about LNG and all those components that I just talked about earlier, we feel puts us very advantaged because we can transact quickly, and we can move with scale because we have the supply flexibility as well." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's helpful. Definitely sounds like you guys are looking at more deals. Also just wanted to ask about the earlier target that put out kind of pre-Ukraine flat well costs year over year.", "I'm certainly aware that you guys have efficiencies and working really hard on this. But at this point, and you think that's still a realistic goal, just given inflation, I think I heard you say that you got about 50% of the well costs locked up in 2022." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo, this is Billy Helms. Yeah, we tried to address that certainly in the last answer we had, but I guess the bottom line is we're very confident we're going to be able to keep our well costs flat this year, and we're going to work hard to do it next year. So it's early to say what next year is going to be, but we just have line of sight on so many improvements we can continue to make in our business to fundamentally offset inflation. So we're very confident in this year's capex and volume targets." ] }, { "name": "Leo Mariani", "speech": [ "OK. Appreciate. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from Neal Dingmann with Truist Securities. Neal, please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Yes, thank you. My first question, Ezra, maybe on exploration. I'm just wondering, what would it take -- would it take initial success maybe on a large acreage position, such as wet gas or whatever for you to announce another play or really just a broad question, what generally do you all like to see before publicly rolling out and talking about the next, next best opportunity you'll have?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neal. We like to have confidence in what we're talking about and bringing out to the public. And what that means for us these days, and we've talked about it a little bit before, is these days, it's not just a matter of trying to find oil or gas, that has become relatively not too difficult. The challenge for us is to make sure that it's additive to the quality of our inventory.", "Like I said earlier, we believe we've got really the highest quality and deepest inventory across a multi-basin portfolio as far as North American E&P companies go. And so trying to add to that, trying to add to the double premium rates of return program is challenging. And what it takes is long -- some longer-term production results before we going back to Dorado and the Powder River Basin before we announced those basins to the public, we had some pretty significantly long production results to really make sure that we had captured what we had anticipated capturing. The last thing we want to do is mislead anybody.", "And so especially looking at some of the new players that we're talking about with these hybrid reservoirs. These things are relatively new in nature to the industry. And so gathering some longer-term production results and appraisal wells to really define the extent of this place is very important and critical before we'd be comfortable talking about them." ] }, { "name": "Neal Dingmann", "speech": [ "Got it. Great details. And then my follow-up, either for you or Billy, just on OFS inflation and maybe logistics. You all continue to do a great job of mitigating even better than most OFS inflation.", "I'm just wondering on when you look out the remainder of this year into '23, if things sort of stay like they are now. We've heard some issues of sand and different things in the Permian, maybe bring it up now Northern White from Wisconsin, could you talk about are you all -- I guess, two questions here. One, are you all locking in and continue to do sort of longer term, whether that be on the sand, pipe or other side? And then number two, just wondering, would you -- when you think about -- would you have -- if you have opportunities like you did like a year or two ago about drill pipe, if those persist, I assume you'll continue to go after and do some opportunities like that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Neal. This is Billy. Certainly, it's a very dynamic situation that we're dealing with here. But part of the reason we have so much confidence in being able to offset inflation, especially the inflation that the industry is seeing today really goes back to the involvement or engagement of our employees and how committed they are to achieving the goals that are set out.", "And you might, for example, talk about sand, especially sand in the Permian, and Jeff kind of went through some of this in detail earlier. The big overlying reason that we have so much confidence is we took ownership. We took control of that many, many years ago, I want to say, about 15 years ago. And certainly, through that taking ownership, we've learned a lot in the past.", "And we continue to look for ways to reduce that cost. And lately, it's been by getting sand closer to the wellhead. As we move to locate near, near wellhead, so kind of close to the end user sources of supply, we can move closer and closer and continue to reduce our cost, both on the cost of the sand itself, but also transportation to the wellhead, all the logistics that you see are diminished. We take trucks off the road.", "It's just good in many, many different ways. We also stay very engaged on the material side, tubulars and those kind of things, who work with mills really across the globe directly. We don't really go through distributors per se. We work directly with the mills.", "And that way, we are able to establish the relationships and capture opportunities at the right time. So it's just that further engagement in all aspects of our business that allows us to do that and the creativity of our employees that allows us that opportunity. So that's why we still remain so confident." ] }, { "name": "Neal Dingmann", "speech": [ "Very good. Thank you, Billy, for the details." ] }, { "name": "Operator", "speech": [ "Our next question comes from the line of Neil Mehta with Goldman Sachs. Please go ahead, Neil." ] }, { "name": "Neil Mehta", "speech": [ "Thank you. Tim, I have one micro question and then one macro question. The micro question is, as you think about your growth assets, the Delaware, the PRB and Dorado, how do you think about the relative capital allocation? And how would you prioritize them based on returns and cost of supply?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neil, this is Ezra. It's great to have such high-quality inventory across multiple basins. It makes our job with capital allocation, portfolio management exciting. The way we approach each of them is looking at where they're individually at in the life cycle of the play and basing it off on returns.", "And so even throw the Eagle Ford in there, certainly not a growth asset anymore. But by rightsizing that program last year, and I think we highlighted this in February. Last year, we turned in the highest rate of return drilling program we ever had in that play. When you think about a play like the Eagle Ford, that's really a trailblazing type of asset for the entire industry to see how to continue to make one of these resource plays, long-life resource plays even better year after year after 12 or 13 years of drilling it.", "So when we think about the Delaware Basin, the Powder River Basin and Dorado, just at the high level, we would say the Delaware Basin is kind of in the sweet spot as far as drilling activity, our knowledge-based infrastructure, and the PRB and Dorado are a little bit behind that. We definitely slowed down, as Ken had mentioned. We paused drilling in Dorado during 2020, and we did the same in the Powder River Basin. And so we're early in the life on those plays.", "And so the capital allocation of those two really progresses with the build-out of infrastructure and at the pace at which we can incorporate our learnings and continue to make the wells better." ] }, { "name": "Neil Mehta", "speech": [ "That makes a lot of sense. The second, Ezra, is a big picture question. You guys are doing a lot of work on the oil macro, and it's obviously a very dynamic environment, but there are two questions associated with it. One is what do you think the long-term implications of potentially structurally lower Russian production capacity will be for the U.S.", "producers and for global oil producers? And the second is, how are you thinking about exit-to-exit U.S. oil production this year given some of the constraints that you talked about earlier on the call?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neil. I'll start with the second one and reiterate our position on exit-to-exit U.S. oil hasn't really changed since February. When you look at kind of the range of forecasts that are out there, we're on the lower end is the way that we said it in February, and that's what we would stick to today.", "We think the supply chain constraints and the inflationary issues, the discipline that you're seeing in North American E&P sector, we think that the U.S. exit-to-exit oil production growth is going to be on the lower end of most of the forecasts. Longer term, with the structural implications for Russian capacity for U.S. and global and how that plays in, we're watching that the same as everyone else.", "We have -- it's a volatile situation. There are things developing as we speak, including the sanctions that are being discussed. And how are those Russian barrels actually continuing to flow? And how are they getting discounted and where are they showing up? And what is that doing? Ultimately, I'd take a bigger step back and just say for the last few years, Neil, we've been pretty consistent with our model that chronic underinvestment in exploration and in our industry is really going to lead to generally lower supply -- undersupplied for the global supply and demand market longer term. That's why we continue to explore, and we continue to explore for lower cost, higher return assets.", "And we think that really, as we've said in the past, there's only a handful of North American E&P companies that have the asset quality, the size, the scale to compete on a global scale with that cost of supply and on top of that, deliver the barrels with a lower environmental footprint. And in the future, those are the companies that the world is going to want to fill in additional barrels. And especially with our operational results in this first quarter, we think we know we feel that EOG is a leader of that group of North American E&Ps." ] }, { "name": "Neil Mehta", "speech": [ "The underinvestment point is definitely playing out. We appreciate that answer." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Neil." ] }, { "name": "Operator", "speech": [ "We have time for one more question today. And our next question comes from Paul Cheng with Scotiabank. Paul, your line is open." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning. First, two quick questions. One, I think you sort of follow-up to Neil's question.", "So does the Russian invasion in any shape or form change the way how you look at the global market and perhaps that your production outlook or a development plan for the company. I think you've been saying that you guys will be ready to grow if you think there's a need from the market, and you will be growing at maybe in the future, 8% to 10% annual kind of growth rate on the maximum. So wondering if those kind of views have been changed in any shape or form because of the recent events. The second question that you talked about Powder River Basin.", "So what will it take for that development pace to accelerate?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Paul. This is Ezra. I think I can answer both of those questions almost in the same manner. When we came out with the 8% to 10% growth, which was gosh, maybe close to 20 months ago now, that was -- and I think we said at that time, that it's dynamic.", "At that time, that 8% to 10% model was reflective of what we could do to optimize near-term and long-term free cash flow with the current inventory and our current knowledge base. And as you can see, things continue to change for the better for us. We continue to drive down costs. We continue to drive forward each of our, let's call them emerging plays with the Powder River Basin and Dorado.", "And so when we talk about what's a good growth rate going forward, it comes back to those two things that I started off the call with Doug with. The first is optimizing our returns, investing at a pace where we can really create long-term shareholder value. And you do that through adding lower cost reserves to the base of the company, so driving down the cost base of the company while also reinvesting so that you can turn your cash over quickly. Our wells this year at strip price since we based it on a $40 investment, what that really translates to are wells that pay out on average in two to three months right now in the strip price.", "So it's a fantastic place to be, and it's really strengthening the base of the business and the company going forward. With regards to the PRB, it falls under the same type of line. It all depends on how we build out our infrastructure in that basin and moving at a pace to be able to incorporate our learnings to drive down the well costs. Last quarter, I think we highlighted we had dropped the Niobrara well cost pretty significantly over the past year, 2021, which was just tremendous results.", "And as we continue to see progress like that, we feel more confident to go ahead and allocate more capital to that portfolio, to that basin." ] }, { "name": "Operator", "speech": [ "That is all the time we have for questions today. So I will now hand the call back to Mr. Yacob to conclude." ] }, { "name": "Ezra Yacob", "speech": [ "We'd like to thank everyone for participating on the call this morning. And thanks to our shareholders for your support. We especially want to recognize each of our employees for their commitment to excellence and on delivering such an outstanding start to the year for EOG." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2022-11-04	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "MKM Partners -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Johnson Rice and Company -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "AllianceBernstein -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Pickering Energy Partners -- Analyst", "name": "Kevin MacCurdy", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources' third quarter 2022 earnings results conference call. As a reminder, this call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to the chief financial officer of EOG resources, Mr. Tim Driggers.", "Please, go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release in EOG's SEC filings. This conference call also contains certain non-GAAP financial measures.", "Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website. This conference call also may include estimated resource potential, not necessarily calculated in accordance with the SEC reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chairman, and chief executive officer; Billy Helms, president, and chief operating officer; Ken Boedeker, EVP exploration, and production; Jeff Leitzell, EVP exploration, and production; Lance Terveen, senior VP marketing; and David Streit VP investor relations. Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. The quality of EOG's diverse, multi-basin, and portfolio high-return assets continue to grow and improve. Yesterday's announcement of the large position we captured in the Utica Combo play demonstrates yet again that EOG's robust exploration pipeline delivers results.", "Over the last two years, our organic exploration efforts have brought forth Dorado, our premium dry natural gas plant in South Texas, the emerging Northern Powder River Basin oil player in Wyoming, and now the emerging Utica Combo play in Ohio. The value of our multi-basin portfolio can't be overstated. With the addition of the Utica Combo, we are now positioned to operate seven premium resource basins, which reinforces several of EOG's competitive advantages. First, our decentralized cross-functional operating teams innovate independently but collaborate to compound the impact of learnings and efficiencies across the company.", "Second, our flexibility to allocate capital optimizes reinvestment across our portfolio, enabling us to develop each asset at the right pace to maximize returns. And third, our geographic and product diversity gives us the ability to plan around base and level market dynamics. Our goal is to expand and improve the overall quality of our portfolio by identifying higher-return inventory. Our approach is to build a diverse portfolio of premium assets predominantly through low-cost organic exploration, which adds reserves at lower finding and development costs and lowers the overall cost basis of the company.", "The end result is continuous improvement to EOG's companywide capital efficiency. Our track record of successful exploration, coupled with strong operational execution, is how EOG has continued to improve over time and position the company to create shareholder value through industry cycles. We demonstrated our confidence in EOG's improving cost structure yesterday by increasing the regular dividend by 10%. Our peer-leading annualized dividend is now $3.30 per share competitive with the broad market.", "We also delivered on our commitment to return at least 60% of annual free cash flow to shareholders with our fourth special dividend of the year. By year-end, we will have returned $5.80 per share special dividends. Combined with the regular dividend, we will return 8.80 cents per share or $5.1 billion in cash to shareholders, which exceeds our 60% cash return commitment using current forecasts. Looking forward, we expect 2023 will remain dynamic with respect to the supply chain, oil and gas prices, and other global macro drivers.", "Our diverse low-cost asset base puts us in an excellent position to capitalize on opportunities no matter the environment. EOG continues to consistently execute, lower our cost structures through innovation and efficiencies, and grow the quality of our portfolio to improve capital efficiency and free cash flow potential. Our transparent cash return strategy is anchored to a sustainable, growing regular dividend and backstopped by an impeccable balance sheet. EOG is in a better position than ever to deliver value for our shareholders through industry cycles and play a leading role in the long-term future of energy.", "Next up is Billy with an early look at our 2023 plan, followed by Tim, who will review our financial performance. Ken will then provide background and details on the Utica Combo play. Here's Billy." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Ezra. Once again, EOG delivered outstanding results in the third quarter. We exceeded midpoints of production guidance while capital expenditures beat forecasted targets. I'd like to thank our employees for their perseverance and execution to beat expectations, realized oil and natural gas prices also beat their target benchmarks in the third quarter.", "Our marketing teams are doing an excellent job executing our long-term strategy of diversifying across multiple transportation outlets and sales points. This strategy is also enabling the company to navigate the recent bottlenecks in transporting natural gas out of the Permian. We all have significant transport positions with the ability to move up to a Bcf a day out of the basin. In total, less than 5% of our domestic gas production is exposed to Waha pricing in the Permian.", "In fact, we anticipate fourth quarter realized prices to remain strong for both natural gas and crude oil sales overall. Our crude oil and natural gas export capacity is serving us well in this regard. In the fourth quarter, we expect to sell over 250,000 barrels of crude oil per day at Brent-linked prices and 140,000 MMBtu per day of natural gas at JKM-linked prices both on a gross basis. Year-to-date through September, export-based pricing of crude oil and natural gas has added nearly $700 million of revenue uplift compared to the alternative domestic sales.", "One of the major topics of the year continues to be the inflation story. The price pressure we are seeing on steel, fuel, and labor continues to be persistent. Our employees are maintaining their focus on finding ways to mitigate inflation through innovation and efficiencies in our operations. Through their efforts, we now expect our average will cost to increase by a modest 7% as compared to last year.", "As a result, we have narrowed our full year capital guidance from $4.5 billion to $4.7 billion. Given the elevated and persistent inflation pressures, we have experienced this year, I am proud of our employees' efforts to mitigate a majority of this impact on our capital plan. We continue to evaluate and shape our plans for 2023. Production growth and infrastructure investments will remain guided by capital discipline.", "We expect low single-digit oil growth similar to this year. We currently forecast oil equivalent growth, including gas and liquids at a low double-digit rate, somewhat higher than this year, largely driven by increased activity in our highly productive Dorado gas dry gas play. Once again, we plan to leverage our activity across multiple basins to secure services and manage cost pressures. Our initial plan includes a modest increase in activity utilizing the order of 28 to 30 drilling rigs, including one offshore rig in Trinidad.", "This would be accompanied by 8 to 10 frac fleets. This would represent a slight increase of 2 to 3 rigs and 1 to 2 frac fleets over 2022 activity levels. We are seeing opportunities in different basins to lock in services at favorable rates for next year and currently expect to secure 50% to 60% of our wealth cost by the start of the year. This is within our typical range and compares with 50% of the cost secured for the start of 2022.", "All in all, we expect higher capex in 2023, driven by four key factors. First, we are assuming the persistent inflation pressure continues with the cost of materials and services increasing, our initial 2023 budget is likely to reflect another 10% well cost increase on top of the 7% increase we expect this year. We will continue to work to identify additional savings and efficiency improvements to offset the impact of inflation, just as we did this year. Second, we see several opportunities to advance the development of particular assets in our portfolio in areas that are less exposed to the most severe inflation and supply chain pressures.", "The increase in activity in emerging plays like Dorado, the Powder River Basin, and the Utica Combo are examples. Third, we expect to accelerate some infrastructure projects to take advantage of market opportunities. In Dorado, we've begun construction of a new 36-inch gas pipeline from the field to the Agua Dulce sales point near Corpus Christi, Texas. This will ensure long-term takeaway, fully captures the value chain from the wellhead to the market center, and aligns with our focus on being a low-cost operator.", "Fourth. We plan to continue to progress our investments in environmental projects, including the expansion of our Carbon Capture and Storage or CCS projects. Our first CCS project is progressing and we expect to begin injecting CO2 early next year. This is yet another step toward our goal of being among the lowest cost, high return, and lowest emission producers of oil and natural gas.", "We recently released our latest sustainability report for 2021, which highlights our progress. We achieved our near-term 2025 methane emissions percentage target of 0.06% last year, an 85% reduction from 2017 levels. We captured 99.8% of natural gas produced at the wellhead meeting our 2021 gas capture target. We discussed our latest initiative to further reduce methane emissions through our continuous leak detection system named iSense.", "We improved our safety performance with lower total recordable and lost time incident rates, and we reduced our freshwater intensity rate by 55% since 2020. We are proud of our employees, and progress on our sustainability goals, but we still see tremendous opportunities for continued improvements. Altogether, infrastructure spending, including environmental projects, typically amounts to 15% to 20% of our capex budget. This year is running right about the midpoint of that range, whereas next year we expect it to be toward the higher end of that range.", "We continue to develop our 2023 plans as we approach the new year and provide a more detailed, complete outlook in February. Now here's Tim to discuss our financials." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Billy. We were very pleased to increase the regular dividend by 10% to $3.30 per share annual rate. This increase reflects two things. First, the improvements we've made to the cost structure, efficiencies, and technology continue to sustainably improve EOG's capital efficiency.", "Furthermore, we expect the advantages of operating in multiple basins will drive additional improvements to EOG's cost structure and returns in the year ahead, lower the cost of supply and lower the break-even oil price to fund the dividend. Second, this dividend increase reflects our confidence in EOG's expanding portfolio of premium plays to grow the company's future income and free cash flow potential. Over the last several years, our success in organic exploration continues to add low-cost reserves and consistently drive down our DD&A rate, enabling EOG to create value through industry cycles. We also remain committed to returning at least 60% of free cash flow to shareholders each year.", "As a reminder, we look at this on an annual basis, not quarter to quarter. Based on current commodity prices, we estimate the $1.50 special dividend declared yesterday, will bring free cash flow returned to shareholders to about 67% for 2022. We will start 2023 in an exceptionally strong financial position. We ended the third quarter with $5.3 billion of cash on the balance sheet against $5.1 billion of debt.", "We generated $2.3 billion of free cash flow during the quarter. Along with inflows of another $1.3 billion of cash from working capital, primarily from the drawdown of hedge collateral. Now, here's Ken." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Tim. We're excited to announce our new oil and natural gas combo acreage position in Ohio's Utica shale. We've accumulated 395,000 acres in this play, predominantly in the volatile oil window across a 140-mile trend running north to south. Our cost of entry was less than $600 per net acre for leasehold, demonstrating the benefit of organic exploration.", "One of our most distinct competitive advantages. Capturing highly productive rock through our organic exploration and leasing efforts is the primary way of improving the quality of our premium inventory at low cost, which leads to a lower companywide cost basis. The Utica is a well-known and prolific gas resource to the east of our acreage. Several years ago, our exploration team operating out of the Oklahoma City office took a fresh look at the basin from a petroleum system perspective.", "We knew there was an oil rim with varying gas-to-oil ratios present. Using our experience in other basins and our technical workflows and proprietary reservoir engineering modeling tools, we anticipated that this could be an area that would be additive to our inventory when we considered our advancements in precision targeting and simulation technology, along with our low-cost drilling and completion operations. It became clear that this area had the potential to compete with our premium and double premium plays across the company. Through leasing and acquisitions, we acquired 18 legacy wells with varying geologic and production data, which supported our assessment of the area.", "Over the last 12 months, we've confirmed our model and the economic viability of this prospect by drilling three delineation wells in the northern part of our acreage and one in the south. These first four wells already earn premium and double premium returns when normalized to our development plan, which assumes 3-mile laterals. As a reminder, our premium hurdle rate assumes $40 oil, $16 NGL, and $2.50 natural gas. These exceptional results are due primarily to the high productivity of the interval and a large amount of liquids in the product mix from the volatile oil window.", "In addition to the well performance, we also want to highlight our embedded mineral interest in the southern portion of the acreage. We've acquired 100% of the mineral rights across 135,000 acres of our leasehold for about $1,800 per acre, which is in addition to the $600 per net acre for the leases. This mineral interest significantly enhances the value of this play by adding 25% to our production and reserves stream for no additional well costs or operating expenses. This area is also where we've drilled our most prolific well, which initially produced over 2,500 barrels of oil per day and 3,500 barrels of oil equivalent per day from a 12,000-foot lateral.", "The total value of this mineral interest across our southern development area is significant, especially since EOG will dictate the pace of development as an operator. Next year, we plan to drill approximately 20 wells in the northern and southern areas and utilize our multi-basin experience to climb the learning curve faster by leaning on the best targeting, drilling, and completion techniques that apply to this area. We expect our 2023 Utica Combo plan will accomplish two goals. First, to deliver double premium returns, while second further delineating the play to help asses resources and inventory.", "We will invest in incremental gathering infrastructure to be to prepare for a larger development program and anticipate being able to take advantage of existing processing infrastructure in the area for the foreseeable future. This is the advantage of the timing and economic efficiency of successfully unlocking potential in an existing basin. EOG's entry into the Utica Combo play is a textbook example of why our decentralized organization that operates in multiple basins with wide-ranging geology lends itself to successful additions to the upper end of our premium and double premium inventory. We applied what we learned over the past decade in developing our portfolio to identify and unlock this overlooked resource.", "Now, here's Ezra to wrap things up." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Ken. The takeaway from today's call is centered on EOG's fundamental value proposition. First, EOG's multi-basin organic exploration focus continues to improve the quality of our inventory. Capturing Tier 1 acreage across multiple high-return opportunities provides geographic diversity, product diversity, and the flexibility to allocate capital across each asset at the correct pace to optimize returns.", "Second, EOG is a low-cost operator. We use technology to increase operational efficiency and capture select pieces of the value chain to keep both capital and operating costs low, thereby helping to reduce our breakevens and increase our free cash flow and income-generating potential. Third, Tim highlighted our financial performance and commitment to financial discipline that results in a 10% increase to our peer-leading regular dividend, a commitment to additional cash return with our announced special dividends, and a best-in-class balance sheet. Fourth, our recently published sustainability report illustrates our progress to reaching near-term greenhouse gas and methane emissions intensity goals and our commitment to developing new technologies and piloting new projects such as our CCS project to help reduce our environmental footprint.", "And fifth, it is EOG's employees and unique culture that continue to drive our success. Thanks for listening. We'll now go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] The first question comes from the line of Neal Dingmann. You may proceed." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning, Ezra and team. And congratulations on a nice result. As my first question is on jump right to it the Utica Combo play specifically looking at that Slide 10 of yours, it appears and you've talked about this, some of you guys talked about this already that the primary focus looks like it's on that about oil section or window. I'm just wondering if you all identified this is how the economics look at this window and sort of why focus here? Secondly, maybe just talk about the takeaway situation for you all there." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Neal, this is Ezra. Thanks for the question. I'll maybe make a couple of comments and then hand it to Ken to shed a little more light on the economics.", "And then, Lance will provide a little more commentary on it on the takeaway. When you think about this basin, it's been a bit of a sleepy basin. Everyone knew that there is a liquids window there, obviously, and it hasn't really been revisited in a number of years as part of our recent exploration efforts, we went back in and really applied as Ken said some of our data from outside from other basin and some of the things that we've learned in the past few years. We really evaluated it from a geologic level, looking at the way that the process manifests itself between the north and the south, the mechanical stratigraphy that we've talked about before how our completions interact with the rock.", "We had better data to better define the GOR and the phase across this area. And then, really we made a lot of progress modeling the overpressure across the play. And when you combine that obviously with technology on the operational side, that's what gets us so excited about the opportunity here. And it's really almost reminiscent of what we saw nearly a decade ago happening in the Delaware basin, where it's a bit of a sleepy basin with a lot of shale wells.", "It really required some industry and EOG technology and knowledge kind of brought in from the outside to really make things work. Ken do you want to, you want to talk a little more about the wells?" ] }, { "name": "Ken Boedeker", "speech": [ "Sure. As Ezra mentioned where we are in the vault oil window and we do expect, oil, gas, and NGL production will vary some across that window. Both from north to south, but more so from the east, which will have a higher gas cut to the west, which is oilier. On an ultimate recovery basis, we expect that there will be 25% to 35% oil and similar percentages for natural gas, liquids, and residue gas.", "So, when you think about that this play is really focused on 60% to 70% liquid development. And from that, as far as the economics go, it gives us premium and double premium numbers. That's $40 oil, $16 NGL, and $2.50 gas. the other thing to note on these wells is it's early, but we are expecting depending on where we're at in the play, 2 to 3 million barrels of oil equivalent for a EUR with a 3-mile lateral.", "So that type of performance really leads us to a low finding cost and it'll definitely be additive to our cost basis." ] }, { "name": "Lance Terveen", "speech": [ "And -- hey, Neal, good morning. This is Lance. So I'll comment a little bit for you. I'll start at a high level, too, and maybe kind of drill down for you just as you think about kind of infrastructure and also takeaway.", "But really, when we think about our plan, it's going to follow the same strategy that we've done in all of our plays. And I mean, one marketing is always aligned and integrated upfront and all of our exploration efforts. You've heard us many times talk about just multiple connections as critical. We want to have controlled the market and then firm offtake.", "We're always disciplined in that matter that is going to be very commensurate with our plans. But when you think about the nat gas and especially like evacuating the nat gas, you got to remember like Ken just highlighted, the Utica wells will have less gas volumes in the oil window. As the liquids-rich play like Ken highlighted, 60% to 70% liquids. So when we look out here, we looked up front there is a significant available capacity that's just adjacent to our play.", "And also, if you remember, it's been built out for a long time. Much of it has been overbuilt, I would say, like in the last 10 years. So this also allows for opportunities. So we've really aligned ourselves with the current midstream operators that are in the area very strong.", "We have great relationships with those. We've developed strategic relationships into the interstate pipelines to the plant tailgates. And I can tell you the liquidity is very strong in this area. It's much different and you can look into the Marcellus, but when you get into this area, liquidity is very strong.", "And so we don't see any issues at this time with sales on a go-forward basis." ] }, { "name": "Neal Dingmann", "speech": [ "Good. Fantastic details, guys, and great people. See you coming back there. My second question.", "Maybe just a bit on capital allocation specifically, I realize you won't have detailed '23 guides for three more months. I'm just wondering if you all have talked a bit -- I think on the plan talk today about maybe a bit more activity next year. I'm just wondering, is that just to keep production stable? Or are you still kind of considering a maintenance plan next year? And I'm wondering if you would consider a bit more growth if prices continue to be as strong and maybe cost would back off a little bit? Thank you." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Neal, this is Billy Helms. Like we had said in the prepared remarks there, it's still early to talk about what we think 2023 actual specifics will be. But the prepared comments also mention the fact that we will have more activity.", "We do anticipate growing our oil production somewhere in the similar this year, somewhere in the low single digits. And on the equivalent growth, it'll be probably in the low double digits. So that's kind of how we see the plan shaping up as we as today with the macro environment, we see today that one company, that would entail probably adding two or three rigs over and above this year's activity level, in general, would probably another 1 to 2 frac fleets. So it kind of gives you an outlook of what that might look like.", "So I guess, maybe just to scale it up on the capex side, where we kind of gave you some guidance this quarter for what we think our capex burn rate will be. And if you, kind of normalize that through next year and then add the cost of a little bit more activity and some infrastructure costs to kind of get you directionally where we're thinking." ] }, { "name": "Neal Dingmann", "speech": [ "Thanks, Billy. Thanks, team." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Dingmann. The next question comes from Leo Mariani. You may proceed." ] }, { "name": "Leo Mariani", "speech": [ "All right. Why don't you dig a little bit more into Utica? Y'all talked about a well that had a 2,500 barrel-a-day rate. I guess it was 3,500 on an equivalent basis to the south. I just wanted to clarify, is that like a 24-hour rate? Is that more of a 30-day rate? And then also, I guess that's one of the four wells, can you perhaps provide a little bit of color around the other three, in the basin there as well? And, you talked about kind of 2 to 3 million BOEs recoverable on a 3-mile lateral.", "Can you also help us out with maybe what you think the eventual targeted well cost would be there, the 3-mile lateral?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Leo, this is Ken. As far as that 2,500 barrel-a-day rate that we highlighted there. We produced that for a couple of weeks.", "So we're very comfortable with that rate. As far as the other four wells go, they had varying lateral lengths. We can move those to a 3-mile -- when we move those to a 3-mile development plan, they're definitely double premium type economics. That 2,500 barrels a day well that's got the 12,000-foot lateral is the longest lateral we've drilled to date.", "The others do have a shorter lateral as we drilled them. One thing I really wanted to highlight on the 12,000-foot lateral well is the operations team that we have in Oklahoma City. It was the longest well that we've drilled. And once they got into the lateral, they drilled that 12,000 feet in a little over 6 days and stayed 99% in an 8-foot target.", "So just outstanding operational performance there. As far as well costs go, we've really just highlighted that we anticipate being less than $5 a barrel on the F&D cost." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's helpful. I wanted to follow up a little bit on Dorado. So you all mentioned that you're constructing a 36-inch pipe.", "That's obviously a pretty good-sized pipe. So it sounds like you've got some pretty grand plans for that play. And it sounds like it's driving a lot of growth in 2023. I'm just curious as to when you think that pipe is going to be ready and imagine could take a little while to get constructed.", "And perhaps there is an even kind of larger wave of growth out of Dorado as we get toward mid-decade. And I'm assuming that maybe there are some LNG-type ambitions associated with that. So any color would be great." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Leo, this is Billy Helms. Let me maybe start with an answer, and then maybe Lance can give some more color to it. So the 36-inch pipeline, yes it's an effort to try to not only get that gas to market but also make sure we continued our focus on keeping our cost as an operator low.", "So that's part of our longer-term plan. We've recognized that the value of installing infrastructure is really helping lower the long-term cost basis of the company. And so this is just another step in that vein. The 36-inch pipe will be constructed over a couple of years.", "So it's not all being done in one single year. It's important to be taking it to the market center where we are. And then, the LNG, we're starting to recognize the value of having the gas in these areas. Since South Texas is where all the LNG demand is.", "So it's advantageous from that standpoint. So that's kind of how this kind of works into the overall market dynamics with this play. So I'll let Lance maybe add a little bit more color to the pipeline itself in the market." ] }, { "name": "Lance Terveen", "speech": [ "Yeah, sure. Hey, Leo, good morning. It's Lance. I think rides out onto what Billy talked about as well.", "It's just it is very complementary and it's an integration of our operations. But again, like you heard in one of my answers earlier, controlling the market is very important. And so as we build out this infrastructure into the Agua Dulce market, we will have we're anticipating four downstream market connections. And I know you kind of asked a little bit about LNG, but I think the bigger point is just the demand pool that's anticipated out of South Texas.", "There could be up to 5 Bcf a day just from kind of the South Texas region. When you think about the power gen industrial load and also Mexico and the demand pool is really real, right? You've heard us talk about Corpus Christi Stage 3, we're going to have a 720,000 MMBtu per day sale. Once that's kind of in service. We've got 140,000 that's today.", "But you also have Golden Pass that's under construction and several other facilities that are getting very, very close to [Inaudible], which is excellent. And so maybe one other thing to add is that we've also contracted for a large transport position on an interstate pipeline expansion. Allowing us to reach essentially all the LNG demand pool along the Gulf Coast from South Texas to Louisiana. And that will have a direct connection off of our 36-inch.", "So we're thinking very tactically, and strategically and setting up Dorado for the long term." ] }, { "name": "Leo Mariani", "speech": [ "That sounds great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Mariani. The next question comes from the line of Doug Leggate. You may proceed." ] }, { "name": "Doug Leggate", "speech": [ "Thanks. Good morning, everybody. Guys, I wonder if I could jump on the Utica as well. I'm just curious about -- I guess the back story as to how you accumulated this position because there are clearly a lot of players, I guess a little east of you guys, some of which might characterize their acreage as non-core.", "I know M&A is not your bailiwick typically, but a little background as to how you established this position and whether you'd be looking to continue to expand it. And I've got a follow-up on that, please." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Doug, this is Ezra. Thanks for the question. Like anything, we allowed our geologic model to kind of drive where we're interested in acquiring acreage.", "We were able to get in there and put it together in a variety of different ways. Probably the most noticeable one is that we were able to purchase the minerals down to the South that kind of highlighted earlier. It's about 135,000 acres of minerals that we purchased as part of a transaction. But in general, I'd say it fell right in line with our strategy of identifying where we want to be in the basin, trying to capture Tier 1 and Tier 2 acreage countercyclical, if you will, so we can continue to have a low cost of entry, which of course is critical is not only as you get out and delineate the place.", "But also obviously as you really think about full cycle economics and in these resource plays." ] }, { "name": "Doug Leggate", "speech": [ "Thanks, Ezra. I know -- you guys have typically been organic in the way, of course, these things. But my follow-up is really about capital allocation and I guess to follow up to Leo's question about the Dorado, or the pipeline you're building, now you've obviously taken out -- I guess you could say, another step back to gas with Utica. What is your thinking in terms of -- is this pivot back to gas in terms of how we should think of capital allocation? I know you're typically agnostic on that.", "I'm just curious if we're seeing a bit of a pivot back here." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Doug. The short answer is that we're agnostic based on our premium prices at the $40 and $2.50 natural gas pricing that we use to measure our investments. But in general, I'd say we do have a bullish view, long term on natural gas and NGL.", "Obviously, on oil as well, but specific to Dorado, and some of these Combo plays we're seeing natural gas, we think will continue to see increased demand from power gen, some of the coal switching that we've seen this year. And also it's going to have, in the upcoming years continued exposure to the international markets with LNG development there along the Gulf Coast. NGL obviously, span the entire broad spectrum of the economy from plastics and rubber to heating to fuel blending and so on. And that's not to say those two won't experience volatility at times when supply is potentially outpacing demand.", "And, likewise, demand has to be outpacing supply. But that comes back to our approach as a disciplined operator. First, we evaluate like we just talked about based on the premium price deck that we use internally, and that means that we're investing based on returns first and foremost. Second, we evaluate the macro supply and demand fundamentals for short, medium, and long-term signals.", "And, I'd say it's one reason we are excited about the way we enter some of these positions, especially the Utica by owning the 135,000 acres with the minerals, we can control the pace of development and the remaining leasehold, and that play is dominantly held by production. And so that again is another lever that allows us to really optimize our pace of development and investment." ] }, { "name": "Doug Leggate", "speech": [ "We'll look for news at the end of the month. Thanks. Thanks, Ezra. Appreciate it." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Leggate. The next question comes from the line of Scott Gruber. You may proceed." ] }, { "name": "Scott Gruber", "speech": [ "Yeah, it's a good morning, and congrats on the organic resource play addition. Generally, what's the rough split of the Utica acreage that's perspective for a double premium versus a single premium? And generally what spacing assumption are you guys using across the acreage?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Scott, this is Ken. As far as the split, it's really early in the development of Utica. We have four wells in it.", "We want to do some additional drilling and testing across the acreage before we really come up with some kind of a resource, a well count, or a wells spacing estimate. As far as premium versus double premium, we actually think that we have double premium potential across the entire acreage position. So we're really just excited about the play and look forward to developing it next year." ] }, { "name": "Scott Gruber", "speech": [ "Got it. Just back on the capital allocation question, just, over the medium to longer term, how are you thinking about, ramping the Utica? It's a little bit further down on your kind of development curve and obviously of optionality in Dorado and PRB. But it is just relative to the younger players, you'll be ramping up. How do you think Utica fits in?" ] }, { "name": "Billy Helms", "speech": [ "Well, as Ken -- this is Billy. As Ken just mentioned, the Utica, we're very excited about the potential of the play to be double premium. And so it definitely competes from a capital allocation standpoint, but we are early in the play. So as we see things today, we'll plan on drilling some more in the order of 20 wells next year.", "And then from that, determine how what the go-forward plan looks like. As far as capital allocation for next year we're still early and still developing our plans, but as we see things today, the benefit of having these multiple basins is it gives us a lot of flexibility to move capital between the different basins. We don't have to leverage all of our activity in one basin. In particular, we're going to try to keep from seeing a lot of activity increases in areas where we're seeing the most inflation and supply chain constraints that exist mostly in the Permian Basin today.", "So I would expect our activity levels there to remain pretty consistent with what we're seeing -- what we're doing today. We can pull levers in the other plays to meet whatever objectives we set forth as we move toward the end of the year." ] }, { "name": "Scott Gruber", "speech": [ "Got it. Appreciate the color. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Gruber. The next question comes from the line of Charles Meade. You may proceed." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Ezra, to you, and the whole team there. I'd like to ask about these four wells that you drilled in Utica. Can you talk about what you did differently, perhaps from previous operators, whether it's up you're targeting a zone or your completion designing? And also perhaps, did you test different concepts across those four wells?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Charles, this is Ken. As far as what we've done differently in this area really has to do with having, a number of years of experience in all of the other basins that we can bring to bear here in Utica. If you think about it, it boils down to four main things.", "One of them is targeting being able to identify the target across the acreage position. The other one is understanding the phase, looking at that phase, not getting into the gas window, and not getting too far into the black oil window. The third one is pressure and how that pressure varies across our acreage position. And then the other is the operational execution that we can bring.", "That's both the drilling and the completions design that we see. That all roll into what I would call the geo mechanics. And when you're all that together, it really gives us confidence in that in that area that we'll be able to develop that, with that low finding cost and double premium returns basis." ] }, { "name": "Charles Meade", "speech": [ "Got it. Got it. That's helpful detail. And 20 wells next year.", "That looks like it's -- maybe, should we be thinking about two rigs with the -- since it might take a while to drill these 3-mile laterals in an overpressure setting?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Charles. Really? Right now, these wells aren't taking that long, the 20-well program would really be done with one rig at this point in time. We may end up having two rigs if they're available at some point and then not at another time. But the average would be one rig for next year." ] }, { "name": "Charles Meade", "speech": [ "Got it. Thanks for the added detail." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Meade. The next question comes from the line of Bob Brackett. You may proceed." ] }, { "name": "Bob Brackett", "speech": [ "Good morning. I had a higher-level question, and then, I'll get some nitty gritty on the Utica. The higher-level question is you all, versus your peers, have run a fairly aggressive exploration budget this year, call it $450 million or so. What are your thoughts for 2023 and beyond and keeping the scale of that exploration budget, given that it's yielding results?" ] }, { "name": "Ezra Yacob", "speech": [ "Good morning, Bob. This is Ezra. Yeah, this year -- you're right. We've -- as we talked at the beginning of this year, we had a number of different exploration plays that a number of different places and evaluations.", "This year we're drilling some initial wells, kind of wild cats in the play. Some of the plays are a bit further along and we're trying to delineate because remember our exploration program, it's not really about producers and dry holes. It's really about how or if these prospects are going to be additive to the quality of our existing inventory. That's what we're really looking for here.", "Depending on how you bucket size, the 20 wells we're talking about here in Point Pleasant are probably the most important thing. It'll basically be another delineation type of year for us across the 400,000-acre position that we've put together. Outside of those 20 wells that'll be the biggest part of next year's kind of exploration delineation type program if I put it there. We have some ongoing prospects in other areas we've talked about in the past some of those other ones, again, extents similar types of areas, places that have been sleeping in the past, places that are in known oil and natural gas producing areas, places where we're trying to bring modern technology.", "Our advancement of horizontal drilling and completions technologies and combining them with our rock, the understanding of the geologic environment, and seeing if we can turn those into premium and double premium types of plays that would be additive to us. And we'll just continue to evaluate as they go. To give you a hard number, right now though, it's just a little bit early, as Billy said, but we'll break that out in February." ] }, { "name": "Bob Brackett", "speech": [ "Very clear. And then, kind of a bit nitty gritty. You mentioned the importance of targeting. You mentioned staying in an 8-foot zone.", "Is it a stretch to say the secret sauce here is staying in Point Pleasant?" ] }, { "name": "Ken Boedeker", "speech": [ "No, I mean -- Bob, this is, Ken. We do stay in that Point Pleasant. I think the secret sauce here is really a combination of everything. It's a combination of what we've learned in our other plays and then being able to operationally perform on that.", "So getting the right petrophysical model to understand that targeting and understand how that targeting varies across the area. And then looking at the 8-foot window that we've kept it in really speaks to being able to perform, where this really goes back to just our culture. It really is about the people. And it's about our ability to always, attempt to get better, to work on getting better, and try to make the next roll better than the last.", "So you put all that together. And that really is the secret sauce for our entire company, let alone our exploration effort." ] }, { "name": "Bob Brackett", "speech": [ "It's clear. And I'll just sneak in a third one and I apologize. You mentioned the importance of pressure. In the old days, reservoir energy in Utica was always something that was a challenge.", "How have you overcome that? And is there may be a different artificial lift strategy out there to keep that tail-producing?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Bob, I think that's why we're in the volatile oil window. We have enough gas in the volatile oil window to help us lift our wells. At this point in time, we don't see that we'll need much artificial lift through the life of these wells. It's being right on that -- the right portion of that phase window." ] }, { "name": "Bob Brackett", "speech": [ "Perfect. Very clear. Thanks so much." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Brackett. The next question comes from the line of Jeanine Wai. You may proceed." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Good morning, everyone. Excuse me. Thank you for taking our questions.", "Our first question. Maybe just following up on Bob's question here. You've disclosed 7 premium operating basins, which is fantastic. The decentralized model has worked very well for EOG, so far.", "But from an organizational perspective, how many basins would be considered too many basins because you're clearly still evaluating other opportunities? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Jeanine. This is Ezra. That's a fantastic question. And here it really speaks to what we think is one of our core competitive advantages.", "And that's the fact that we run a decentralized organization. That's what allows us to kind of cross-pollinate ideas between divisions. In any industry, the success of running a decentralized organization is being able to push decision-making and accountability down to the employees who are kind of touching the wells and closest to the value creation every single day. When you break it up that way and you think about it that way, we have eight operating teams, and each of those has operated as kind of a fully functioning oil company in a lot of ways if you will.", "They have a full complement of geologists, engineers, accountants, land mines, marketing people, and so on, and so forth. Each of these individuals and asset teams can really handle working across multiple basins and in fact, to a different type of scale, you see the same type of leverage and benefits that we see at the corporate level that exploring different basins really adds to kind of their understanding. I go back to how Ken started this, the Point Pleasant or the Utica play is actually being looked at currently by members of our Oklahoma City team who are quite familiar with the Woodford. The overpressure, the oil window, and the Woodford play and that play really landed a lot of expertise to our understanding of mechanical stratigraphy.", "Again, to reference what Ken was talking about and how the rocks actually break and interact with our completion strategy. And that's -- some of the key characteristics that have helped unlock a number of our unconventional plays." ] }, { "name": "Jeanine Wai", "speech": [ "Great. Thank you. And then for our second question, in terms of operational momentum, are you able to provide any color on what activity looks like heading into year-end and early '23? We noticed that for Q oil guidance is flat at the midpoint quarter over quarter, capex is up, but that sounds like it could be timing related." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Janine, this is Billy Helms. You're exactly right. It's just the timing factor.", "We're currently running all the rigs that we plan to carry into next year. We'll start looking at adding rigs in different places to go into next year. Based on our outlook for the '23 budget, which will firm up as we get closer to that time. The quarter-over-quarter volume growth is pretty flat, and that's just a function of completing wells late in the quarter that will really roll into next year and that's going to happen in several different plays.", "The Permian probably, the Dorado play, and a little bit in the Eagle Ford as well. So that's just a function of the timing of those completions." ] }, { "name": "Jeanine Wai", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you, Ms. Wai. The next question comes from the line of Kevin MacCurdy. You may proceed." ] }, { "name": "Kevin MacCurdy", "speech": [ "Good morning. And just getting back to Utica, trying to do some back-of-the-envelope math on spending there next year. Would a 3-mile lateral cost in the ballpark of around $15 million? And I guess if you did 20 wells, that would kind of put you at around a $300 million spend rate in Utica next year. Is that kind of the right assumption for a rig next year?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Kevin, this is, Ken. What we're talking about now? Those are two 2 to 3-million-barrel wells that we've talked about and less than a $5 F&D cost. We really haven't given out a number as far as what our development costs will be because we have some additional testing and we really do want to drill some of our wells on pads and drill them in packages to see what that ultimate development cost will be.", "So, you can use the $5 F&D and the 2 to 3 million barrels to get a reasonable estimate for well cost." ] }, { "name": "Kevin MacCurdy", "speech": [ "Great. And digging into the marketing strategy a little bit in Utica. I mean, you mentioned that you had plenty of gas takeaway locally, but do you guys have a plan to get that gas out of the basin? And just kind of thinking about the knock-on effect of if the Utica grows, that might have an impact on Southwest PA basis. And is that a concern for your returns?" ] }, { "name": "Lance Terveen", "speech": [ "Yeah. Kevin. This is Lance, too. Good morning and thanks for your question.", "I'd say, even -- like I talked about earlier, like the marketing component of it is integrated very early on. So I mean, we recognize then that gas-like realizations are weaker. But still, when we look at our overall portfolio and then how the Utica combo competes, it's very competitive. And so your earlier question was just as it relates, when you think about just kind of downstream takeaway in that, again, it comes to just the liquids focus that we have anticipation, I think there's some misconception on kind of the gas race that things are going to look very similar to like the dry gas wells to the east and other competitors that are in the region.", "When we're going to see lower gas rates that are going to come out of our development. And so when we look at that on a go forward and with the relationships that we have, with the capacity that we see on the processing side, the gas sales, and the takeaway, we're not foreseeing an issue right now." ] }, { "name": "Kevin MacCurdy", "speech": [ "Great. Thank you for taking my question." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. MacCurdy. The next question comes from the line of Anon Narayanan. You may proceed." ] }, { "name": "Neil Mehta", "speech": [ "Hi. This is Neil Mehta. Can you hear me OK?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Neil, we've got you." ] }, { "name": "Neil Mehta", "speech": [ "OK. I'm sorry about that. Yeah, it's Neil Mehta here from Goldman Sachs. So, Ezra, I had more of a macro question here, which is we haven't seen US oil production, at least in the weekly move since April of 2022.", "They've been kind of hanging around this plus or minus 12 million barrels a day range. And are you surprised that we haven't seen the pickup in US production that a lot of people are anticipating? And I want to tie that into Slide 9 of your deck, which is showing relative maturity of some of the oil plays like the Bakken, increasingly the Eagle Ford, and even the Delaware. Are we getting to the point where shale is going to have a tougher time growing and we should be thinking about peak shale production in the United States in the foreseeable future?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Neil, it's a good question. Let me take it one piece at a time here. Since early in the year, we've been talking about how we were anticipating a little bit less US growth this year than what many people were forecasting. The reason for that, is clearly there's a little bit of inventory exhaustion going on.", "These basins have been drilled for a number of years. But the biggest thing we based our models on this year was really what we're seeing with, again, what's turned into, inflationary pressures throughout the year. It's the rig counts, the frac spreads, and really the people side of it. There's definitely North American discipline in the E&P sector out here.", "But there are also supply chain constraints that have continued to kind of be felt throughout the entire year this year. I do think coming out of the pandemic, we've had a consolidation across the industry. What we've been left and this is something we've talked about quite a bit too, are you've been left with less companies, and those companies that have the size, the scale, balance sheets, things of that nature to be able to continue to drill and operate. And the majority of those companies are drilling and investing in a way that's more disciplined than what was in favor prior to the pandemic.", "So I think it's really three or four different things that are that have kind of come together to limit US growth. And quite frankly, a lot of those things that I've talked about are not necessarily transitory in nature. Some of these things will really continue into 2023 as well. And so that's why I'd say, entering 2023 again, I suspect our forecast on the oil side will probably be a little bit to the low end of many of the numbers that you're seeing out there." ] }, { "name": "Neil Mehta", "speech": [ "Yeah, that's helpful. And it helps if it's on the balance sheet. You guys clearly have a fortress balance sheet position in a net cash position now, let's talk remind us again how you're thinking about minimum cash balances and what is the parade optimal capital structure. If you think about your leverage profile." ] }, { "name": "Ezra Yacob", "speech": [ "Yes. Neil, thank you for bringing that up. It's something that we're we're exceptionally proud of. And we've always said that in a cyclical industry such as ours, the best thing you can have is not just a strong but a real pristine balance sheet.", "There's never really been a cash target for us and there's not one now. We're thrilled to be, as you, kind of said, in a unique position where we're able to strengthen the balance sheet this year, but at the same time return just over $5 billion, $5.1 billion to our shareholders. We've -- as far as the ultimate balance sheet, we have a couple of strategic things. We do have a $5 billion buyback authorization.", "We've talked about using that opportunistically. That's a compelling strategy to go ahead and carry a little more cash on the balance sheet than what we've done historically. But really the strategy, overall for the company is aimed at creating value in the long run, and managing the balance sheet to make the countercyclical investment is a big piece of that. We've talked about having operational in reserve cash just to stay out of commercial paper, but at the end of the day, when we think about a cyclical industry like I said, the balance sheet provides a lot of optionalities to create value.", "We're committed to delivering on our free cash flow priorities and that's -- it's founded and growing and it is a sustainable regular dividend. But it also contemplates the minimum commitment of 60% of free cash flow. And both of those are supported by having a very strong balance sheet and, just in general, being focused on doing the right thing at the right time to maximize long-term shareholder returns." ] }, { "name": "Neil Mehta", "speech": [ "Makes sense. Thank you, Ezra." ] }, { "name": "Operator", "speech": [ "Thank you for your question. That concludes the question-and-answer session. I will now pass the call back over to Mr. Yacob for final remarks." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you. We want to thank everyone for participating in the call this morning. And we especially want to thank our employees. They've delivered another outstanding quarter for all of EOG's shareholders.", "Thank you for listening." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2018-01-28	[ { "description": "Chief Financial Officer", "name": "Timothy K. Driggers", "position": "Executive" }, { "description": "Chairman, Chief Executive Officer", "name": "William R. Thomas", "position": "Executive" }, { "description": "President", "name": "Gary L. Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Lloyd W. Billy Helms", "position": "Executive" }, { "description": "EVP, Exploration and Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "EVP, Exploration and Production", "name": "David W. Trice", "position": "Executive" }, { "description": "VP, Marketing", "name": "D Lance Terveen", "position": "Executive" }, { "description": "VP, Investor and Public Relations", "name": "David Streit", "position": "Executive" }, { "description": "Citigroup Global Markets, Inc. -- Analyst", "name": "Robert Scott Morris", "position": "Analyst" }, { "description": "National Alliance Securities -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "RBC Capital Markets LLC -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "Deutsche Bank Securities, Inc. -- Analyst", "name": "Ryan Todd", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "Heikkinen Energy Advisors -- Analyst", "name": "David Heikkinen", "position": "Analyst" }, { "description": "Guggenheim Securities -- Analyst", "name": "Subash Chandra", "position": "Analyst" }, { "description": "Tudor, -- Pickering -- Holt -- Co. -- Analyst", "name": "Sameer Panjwani", "position": "Analyst" }, { "description": "-- Capital One -- Analyst", "name": "Phillips Johnston", "position": "Analyst" }, { "description": "", "name": "More EOG analysis", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources Fourth Quarter and Full Year 2017 Earnings Results Conference Call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Timothy K. Driggers", "speech": [ "Thank you. Good morning. Thanks for joining us. We hope everyone has seen the press release announcing fourth quarter and full year 2017 earnings and operational results. This conference call includes forward-looking statements. The risk associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. The reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "The SEC permits oil and gas companies in their filings with the SEC to disclose not only proved reserves, but also probable reserves, as well as possible reserves. Some of the reserve estimates on this conference call and webcast may include potential reserves or other estimated reserves not necessarily calculated in accordance with or contemplated by the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S. investors that appears at the bottom of our press release on the investor relations page of our website.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Gary Thomas, President; Billy Helms, Chief Operating Officer; David Trice, EVP, Exploration and Production; Ezra Yacob, EVP, Exploration and Production; Lance Terveen, Senior VP, Marketing; David Streit, VP, Investor and Public Relations.", "An updated IR presentation was posted to our website yesterday evening and we included guidance for the first quarter and full year 2018 in yesterday's press release. This morning, we'll discuss topics in the following order: Bill Thomas will review 2017 highlights; Billy Helms, Ezra Yacob, and David Trice will review our 2018 capital plan, review operation results, and year-end reserve replacement data; I will discuss the new tax law, EOG's financials and capital structure; Bill will provide concluding remarks.", "Here's Bill Thomas." ] }, { "name": "William R. Thomas", "speech": [ "Thanks, Tim. EOG is driven by returns. Our goal is to earn return on capital employed that is not only the best among our peers in the E&P industry, but also competitive with the best companies outside our industry. Premium returns and capital discipline are how we reach that goal. Furthermore, by executing our premium capital allocation standards and practicing capital discipline, we believe we can sustain competitive ROCE throughout the commodity price cycle. Earning sustainable ROCE is how we deliver long-term shareholder value.", "First, I'd like to discuss our premium capital allocation standard. As a reminder, for a well to be classified as premium requires a 30% direct after tax rated return at a flat $40.00 oil price. Premium wells have low finding and development costs, or BOE, and the premium reserves we've been adding are beginning to make a significant difference in our bottom line results.", "In addition, the full benefit of our current inventory of premium locations has not been fully realized. As we continue to drill premium wells and add low cost reserves, our DD&A rate will continue to fall. We also believe we will continue to reduce completed well costs and operating costs in 2018, which Billy Helms will update you on shortly. As a result, we are in a position to generate healthy, financial returns, even at a moderate oil price environment. When you couple this with increasing oil prices, like those we are seeing today, the potential for generating higher ROCE accelerates.", "Second, EOG's capital discipline governs our growth. Disciplined growth means not adding overpriced or poor performing services and equipment in order to grow. Disciplined growth means not growing so fast that we outrun the technical learning curve and leave significant reserve value in the ground. Disciplined growth means operating at a pace that allows EOG to sustainably lower costs and improve well productivity instead of growing so fast that costs go up and well productivity goes down.", "EGO's disciplined growth is driven and incentivized by returns and not growth for growth's sake. Our strong growth is an expression of generating strong returns first. Finally, EOG's disciplined growth maintains a strong balance sheet we will not issue new equity or debt to fund capital expenditures or the dividend.", "In 2017, we grew high return U.S. oil production 20%, paid the dividend, reduced our debt, and generated over $200 million in free cash flow. Remarkably, we delivered those results while oil prices averaged a modest $50.00. Throughout the downturn, out goal was to reset the company to be successful in a lower oil price environment. We shifted to premium drilling in 2016, and the power of our premium drilling is now evident in our 2017 bottom line results. We believe this sets EOG apart as one of the most capital efficient and disciplined growth companies in the U.S.", "Here are more highlights from 2017. Our premium well level returns are reflected in our bottom line results. We significantly improved net income, cash flow, and ROCE. Our commitment to expiration driven organic growth drove increases to premium net resource potential of 2.2 billion barrels of oil equivalent from an additional 2,000 net premium drilling locations, which is nearly four times the number of wells completed in 2017.", "We increased proved reserves 18%, replacing more than 200% of last year's production at low finding and development costs, which lowered our company DD&A rate by 12%. Due to sustainable cost initiatives, we continue to lower total well costs and operating costs. Additionally, as a result in the board's confidence in EOG's future performance and expiration prospects, we approved a 10% dividend increase.", "2017 was just the start of realizing the full benefit of premium drilling. In 2018, we'll improve in every category we use to measure performance internally. Capital efficiency is up. All in rate of return and PVI are better. And, all in finding costs are lower this year than last year. In 2018, we expect to earn double-digit ROCE, deliver disciplined organic production growth, and substantial free cash flow. EOG is a high return organic growth company. We have expanded our industry lead in both returns and growth, and we are excited about the future.", "Up next, to provide details on our operational performance in 2017, and preview the 2018 game plan, is Billy Helms." ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Thanks, Bill. The progress we've made on our capital cost structure, operational cost structure, and overall capital efficiency these last three years during the downturn, has been phenomenal. EOG has never been more efficient in its history. Surviving a downturn is always challenging, but it also creates many opportunities for improvement. Like many in the industry, we realize the benefits of lower service costs, but the bigger opportunity was to lower our cost structure through operational efficiencies. It never fails, when EOG enters a downturn, we resurface on the other side as a more efficient, leaner, and better company. It's the one reason to get excited about a down cycle. We slow down and take a critical look at how we can improve every aspect of our business.", "In 2018, we expect to deliver 18% oil growth, 16% total equivalent growth, with a $5.6 billion capital program. Our 2018 capital plan includes tests of several new plays and expansion of our more recently announced emerging plays. We've increased activity in each area at a deliberate pace designed to maintain our capital efficiency achieved in recent years. We will not increase activity if it means eroding our operational performance or increasing our well costs.", "In 2017, we set our sights on drilling longer laterals and larger well packages, determining the most efficient number of wells to drill and complete together is essential to maximizing the recovery and net present value of the whole asset. Those efforts will expand in 2018. Our average lateral will be 8% longer this year, and we expect the average size of our well packages to more than double.", "Larger well packages and increased use of multi well pads increase the inventory of wells needed to stay ahead of our completion crews. Therefore, activity and inventory will build, particularly in the first quarter, and there will be fewer wells brought online in the first half of the year compared to the second half. More specifically, only 27 net wells were brought online in January, so first quarter volumes were down sequentially. However, the pace of volume growth will be fairly balanced for the remaining three quarters.", "During 2017, we opportunistically contracted with the most efficient service providers and secured a large portion of our 2018 services during favorable market conditions. This was a rate of return decision, to lock in low cost as we move into a year where we expect to see increased industry activity and potential price inflation. We secured 85% of our drilling rigs at very favorable rates compared to the current market. And, under these agreements, we maintained flexibility with our favored vendors to adjust should market conditions dictate.", "We locked in 80% of our casing needs with prices 15-20% below the current market. We also locked in 60% of our frack fleets below current market prices. We have more diverse and local sources of fracks end, and sand unit costs are expected to decrease by 15% year-over-year.", "Beyond contracted service costs, we are confident we can further improve operational efficiencies in a number of areas. During the downturn, we took the opportunity to upgrade our rig fleet to one of the most modern and efficient in the industry. On the completion side, we expect to complete 5-10% more wells per frack fleet this year, despite longer laterals.", "We also continue to expand our water infrastructure and reuse program, which is expected to reduce well costs in some areas by another $100,000 per well. Through these and other efforts, we are building on our momentum from last year, when we reduced well costs 7% across active areas. This year, we expect to reduce completed well costs an additional 5% across the board. This is unique in the industry, as I expect that we are one of the few companies that will decrease well costs in both 2017 and 2018.", "We also expect to see downward pressure on our unit operating costs, reducing LOE, transportation, and DD&A driven by infrastructure, information technology, and a relentless focus on operating efficiency. 2018 will be another great year for improvements to EOG's capital efficiency, maintaining our position as the low cost, high return leader in the E&P industry.", "I'll now turn the call over to Ezra, who will update you on the Eagle Ford and Delaware Basin plays." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Billy. The Eagle Ford continues to be the workhorse and centerpiece of EOG's oil production portfolio of assets. Consistent well performance, combined with sustained low well costs and operational costs, contributed to the Eagle Ford achieving the best overall returns in the company in 2017. Well costs in the Eagle Ford continued to decrease, averaging just $4.5 million for a 5,300-foot lateral. Lower cost wells, longer laterals, and precision targeting are driving increased well productivity, and let do the addition of 500 net premium locations, more than two times the number completed in 2017 (sic).", "We expect to make additional operational improvements in 2018, and plan to complete 260 net wells, targeting record well costs of $4.3 million per well. We continue to increase the size of our well packages and extend lateral lengths, while being careful to maintain per foot recovery. The goal of these measured improvements is to maximize the NPV per section of this consistently prolific asset.", "Our 582,000 net acre position is now 99% held by production. Exploration work will continue in 2018 to delineate areas that can support multiple targets in the Lower Eagle Ford and delineate where the Upper Eagle Ford can produce premium rates of return. The Eagle Ford continues to be a growth asset for the company that we expect will contribute premium return production and reserve additions.", "On our Eagle Ford acreage, we also drilled some of the most prolific and high return wells in our history in Austin Chalk. The average 30-day production from the 28 net wells completed in 2017 was well over 3,200 barrels of oil equivalents per day. Furthermore, well costs average $4.9 million for laterals ranging from 4,000-6,000 feet. We expect to complete another 25 net wells in 2018.", "Last year, we identified a sweet spot in Karnes County through an integrated exploration effort. Precision targets within Austin Chalk respond extremely well to EOG's high density completions. We continue to combine our geologic database, created through our Eagle Ford development with recent core data from the Austin Chalk to delineate additional sweet spots across our Eagle Ford acreage. The Austin Chalk is geologically and stratigraphically complex, so our continued exploration effort will take time.", "The Delaware Basin is setting up to be our fastest growing asset for a second year in a row, after almost doubling crude oil production last year. We made tremendous progress during 2017. We continued mapping the geologic complexities of this mile stick column of pay. We tested multiple spacing patterns to determine how best to develop stacked pay that maximizes recovery and NPV perception. We delivered recording breaking well results and phenomenal returns for the company.", "Furthermore, we added 700 net premium locations within our existing targets -- the Wolfcamp, Second Bone Spring, and Leonard -- through well productivity gains and cost reductions. We introduced a fourth premium target, the First Bone Spring, adding 540 net premium locations for a combined total of more than 1,200 net locations, a 35% increase year-over-year. We lowered completed well costs in the Wolfcamp 9%. We increased lateral lengths about 20%, lowering cost per foot, and more importantly, without losing per foot reserves.", "In 2017, we drilled and completed 24 net wells associated with our merger and acquisition with Yates Petroleum at the end of 2016. As previously highlighted, much of this acreage was hand-in-glove fit with EOG's legacy acreage position, and this resulted in the opportunity to drill extended laterals and the ability to utilize much of our existing infrastructure in our core area.", "The wells tested multiple targets, and approximately 50% of the wells were drilled outside of our core acreage position. The results exceeded our initial expectations. Overall, this 24-well program delivered a 97% direct after tax rate of return.", "Most of our drilling in the Delaware Basin targeted the Upper Wolfcamp, which will continue to be the case in 2018. The Wolfcamp earned some of the best rates of return in the company and has the added benefit of giving us a look at shallower Bone Spring and Leonard targets. We also expect to lower Wolfcamp costs, and we'll continue to increase operational efficiency through longer laterals and longer packages of wells.", "In 2018, we plan to complete 205 net wells in the Wolfcamp, ten in the First and Second Bone Spring, and 15 in the Leonard. Our drilling program in the Delaware Basin totals 230 net wells. While we brought online an average of two wells per package last year, we expect to average about five wells per package in 2018. We'll also continue to test both well spacing and well timing to maximize recovery and NPV.", "Lastly, our team has done an exceptional job positioning our Delaware Basin asset for key takeaway capacity away from the Permian Basin at low cost. Our existing gas and water gathering systems controlled by EOG drive low LOE and transportation costs. Also, a new oil gathering system and terminal will begin service for EOG this quarter. From the new terminal, EOG will ultimately have up to four market connections to downstream markets where we secured firm capacity to Cushing and Corpus.", "Furthermore, our team has been very active on the residue gas front. We've secured significant transportation away from the Permian Basin and Waha Hub. We started this process in 2015 and have tactically layered in firm capacity over time to match up with our drilling program. This capacity provides diversified marketing options and potential pricing advantages over those waiting on new build pipelines. This asset is one of, if not the best, tight oil play in North America and we are excited about its tremendous growth potential.", "Here's David Trice to review the progress we've made in the Midcontinent and our Rockies, Bakken, and international activity." ] }, { "name": "David W. Trice", "speech": [ "Thanks, Ezra. Last quarter we introduced a new premium oil play in the Eastern Anadarko Basin, the Woodford Oil Window. This play is a concentrated sweet spot of moderately over pressured, high quality rock located primarily in McClain County, Oklahoma. The well we highlighted when introducing the Woodford, the Curry 21, is a fascinating well that continues to demonstrate a very low decline rate, particularly considering that it is a shale reservoir. The average 150-day rate of the Curry is over 1,100 barrels of oil per day, which is a low decline compared to its initial 30-day rate of about 1,500 barrels of oil per day.", "The Curry Well is solidly in the Oil Window, as opposed to many SCOOP/STACK wells that are in the gas condensate window. It produces a 43-degree API oil with a gas/oil ratio of approximately 1,000. This premium well is earning over 100% direct after tax rate of return at today's strip. Currently, we have one rig working in the Woodford Oil Window and plan to add another rig later this quarter. We expect to complete 25 net wells in 2018 and have planned a number of spacing tests.", "Our current inventory of 260 net locations assumes an average of 660 feet between wells. We expect to test spacing down to 330 feet. The addition of the Woodford play demonstrates EOG's ability to consistently add premium quality rock and inventory. Plays like the Woodford enhance the diversity of our portfolio and provide the flexibility to consistently grow production while maintaining capital efficiency for years to come.", "The Powder River Basin has become a core asset for EOG. We have massed 400,000 net acres following the merger with Yates in late 2016, and we are consistently drilling low cost, moderately declining wells that compete with the best in the company. Last year, we stepped up activity, completing 39 net wells, nine more than our initial plan. Completed well costs for an 8,000-foot lateral dropped 10%, helping driving returns in the Powder River Basin that are highly competitive with returns from our largest premium assets, the Eagle Ford and Delaware Basin.", "In 2018, we expect to complete 45 net wells, targeting well costs of $4.5 million. Our focus will be blocking up acreage, testing spacing, and mapping the Powder River Basin's mile-deep column of pay to delineate acreage that is prospective for various targets. We continue to see significant premium inventory potential in the Powder River Basin.", "We're also stepping up activity in the Wyoming DJ Basin, doubling our activity to 35 net wells in 2018. DJ Basin well results are less flashy than our basins; however, they produce consistent low decline results and are the fastest to drill and the lowest cost wells in the company. We routinely drill 18,000-foot wells in three to four days while remaining in a tight target window. We average $4.5 million for 9,000-foot laterals in 2017. This year, we expect to average just $4 million. Additionally, robust water and gas gathering infrastructure is driving down operating costs.", "In the Bakken, last year's activity was focused on drawing down our inventory of legacy drilled but uncompleted wells, which didn't have the benefit of our latest precision targeting techniques. Once we completed our inventory or ducts, we completed a few fantastic wells in both the Bakken and Three Forks targets.", "In 2017, the top well of a package of four new wells in the Antelope Extension produced almost 3,200 barrels of oil equivalent per day in the first 30 days. After 120 days, production was holding up, averaging over 2,500 barrels of oil equivalent per day. Now that our pre-2016 duct inventory is depleted, we are excited to get a fresh start for our 2018 drilling program and take advantage of the significant progress made on our Bakken cost structure.", "In the past two years, we've cut completed well costs by more than a third, to $4.6 million for a long 8,400-foot lateral. Furthermore, we expect to continue lowering costs through a recently implemented seasonal drilling and completion program. Wells are drilled year around, then completed mostly during the summer. This program will eliminate the additional expense incurred by handling water during the freezing winter months and dealing with road restrictions during breakup.", "This is a great example of how EOG can continue to increase capital efficiency. Our deep, premium inventory in multiple basins provides flexibility to adjust to changing operational conditions in any given basin.", "In 2018, we'll focus our 20 net well program in the Bakken core and Antelope Extension. We'll also drill a number of step out wells in the Bakken line and other areas to continue testing and refining our latest precision targeting and advance completions outside our core operating areas. Our lower cost structure in the Bakken generates highly competitive premium returns and we're optimistic it will drive additional sources of premium inventory over time.", "We had an eventful year in Trinidad Division during 2017. We brought on seven natural gas wells across our Sercan, Banyan, and Osprey areas. The outperformance of these new wells allowed our Trinidad division to produce 15 million cubic feet of gas per day, more than initially forecasted in 2017. We also finalized a new gas contract with the National Gas Company of Trinidad and Tobago. Beginning in 2019, that supports and extends our 25-year partnership.", "Looking ahead, 2018 is going to be an exploration year in Trinidad. Our exploration efforts are focused on leveraging new seismic data to identify prospects to drill in 2019 and beyond in order to maintain natural gas production and supply the domestic Trinidad gas market for many years to come.", "Here's Billy to review our year end reserve, replacement, and finding costs." ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Thanks, David. We replaced more than 200% of our 2017 production at a very low finding cost of $8.71 per BOE, which excludes positive revisions due to commodity price improvements. The proved developed finding costs, excluding leasehold capital and revisions due to price, was $10.73 per BOE. Improving well productivity and sustainable cost reductions drove positive reserve revisions. As a result, our proved reserves increased 300 million barrels of oil equivalent, or 18% year-over-year.", "Our ability to consistently add reserves at low cost demonstrates the tremendous capital efficiency gains we made through the downturn from our permanent shift to premium drilling and laser focus on cost reductions.", "I'll now turn it over to Tim Driggers to discuss the new tax law, financials, and capital structure." ] }, { "name": "Timothy K. Driggers", "speech": [ "Thanks, Billy. The tax law enacted near the end of 2017 had a number of effects on EOG's results of operations, cash flows, and consolidated financial statements. I will discuss a few of the more significant items. You can find details on these and other items related to the new tax law in Note Six of EOG's annual report on Form 10-K, which we filed yesterday with the SEC.", "EOG recorded a non-cash reduction in the fourth quarter in full year 2017 income tax provision of $2.2 billion, related to the remeasurement of its net deferred tax liability for the lower statutory tax rate, or the new law. The reduction in income tax expense caused an increase in net income and shareholders' equity by a like amount.", "In addition, the tax law repeals the corporate alternative minimum tax and allows AMT credit carryovers to be refunded over four years, beginning in 2018. EOG estimates that its AMT credits being carried over to 2018 will total $798 million.", "The tax law provides for a tax on deemed repatriation of accumulated foreign earnings for the year ended December 31, 2017. EOG estimates it has a deemed repatriation tax liability of $179 million, which can be paid over eight years. The tax law also makes fundamental changes to the taxation of multinational companies, including a shift to a so-called territorial system. Under this new regime, EOG does not expect to pay any significant amount of U.S. federal income taxes on its foreign operating earnings beginning in 2018.", "Finally, the tax law preserves the immediate deductibility of intangible drilling costs as well as expands and extends bonus depreciation. All of these amounts are estimates which EOG believes to be reasonable, but could change based on further analysis, new IRS guidance, and other factors.", "A strong balance sheet is an important part of EOG's strategy. This is appropriate in a capital intensive cyclical industry. This financial strength enables us to maintain a low cost structure and strategic relationship with out service providers by funding a steady CapEx program, make commitments for low cost services and supplies at opportunistic times, often when oil and gas prices are depressed, and similarly, make opportunistic acquisition of acreage or other assets.", "We are very pleased that EOG weathered the industry downturn without an equity offering or cutting the dividend. Financial leverage is measured by net debt to total capitalization, that has declined from 34% at its peak in June 2016 to 25% at year end 2017.", "We estimate that, with $60.00 oil in 2018, EOG can generate over $1.5 billion of free cash flow after paying the dividend. We intend to repay with cash on hand a $350 million bond that matures in October of this year. In addition, the board increased the dividend by 10% this week, affirming our commitment to the dividend. Beyond that, we continue to further strengthen the balance sheet this year.", "Now, I'll turn it back over to Bill." ] }, { "name": "William R. Thomas", "speech": [ "Thanks, Tim. In closing, I will leave you with a few important takeaways. First, the size and quality of our horizontal assets are unmatched in the industry. In 2018, we have active drilling programs across nine high-quality premium plays. EOG has the unique flexibility to allocate capital to maximize returns by adjusting to changing market conditions and managing each asset's development pace with technical and cost reduction discipline.", "Second, in 2018, we have a robust exploration program under way in multiple basins with more capital allocated to this process than in recent years. Our long history of horizontal drilling and vast proprietary database combined with the innovative EOG culture are working together to make EOG the leader in organic generation of new and better premium inventory.", "Third, EOG is a leader in capital discipline with a relentless focus on returns. We are committed to delivering industry leading high return organic oil growth, committed to our dividend, and committed to reducing debt while generating significant free cash flow in 2018.", "Finally, the power of premium has placed us among the low cost producers in the global oil market. Our potential for financial returns, operational performance, and overall capital efficiency is much better today than before the downturn.", "In 2018, we are poised for strong disciplined growth. More importantly, we are positioned to reach our goal of returning to double-digit ROCE performance, which is competitive not only with our peers in the E&P industry, but also with the broader market.", "...", "Thanks for listening. And now, we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. The question and answer session will be conducted electronically. [Operator instructions] We'll take our first question from Leo Mariani with Nat Alliance." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. On the Eagle Ford, I was noticing that your oil volumes didn't really grow in 2017. I think they were down a little bit versus the prior year. You guys signaled this was a growth asset in your prepared comments. I know you're drilling more wells this year. Is there anything else that's changing there technically, other than just drilling more wells this year? Is this expected to be a growth asset for many years to come?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Yeah, Leo. This is Billy Helms. The San Antonio Division, our Eagle Ford Division, operates both Eagle Ford and Austin Chalk. If you look at the two combined, oil volumes were up slightly for both Eagle Ford and Austin Chalk. The Eagle Ford position is a growth asset for the company, and we expect that to grow into 2018. But, last year, the mix of the wells was balanced between the Eagle Ford and the Austin Chalk. Together, they did grow." ] }, { "name": "Leo Mariani", "speech": [ "Following up on your comments around free cash flow. Clearly, you guys plan on putting out some pretty significant free cash flow if oil holds at $60.00. You talked about the $350 million debt paydown, as well as the 10% dividend hike. Clearly, there are going to be proceeds beyond that. What else is EOG potentially planning to do with the money? Could there be a ramp up in more exploration activity than you've already talked about, or more acreage purposes? Just any color around that, please." ] }, { "name": "William R. Thomas", "speech": [ "Leo, this is Bill Thomas. Yeah, our priorities haven't changed. Our first priority is to use free cash flow and reinvest in the high return drilling. We think this is the best way to continue to improve the company, to increase ROCE, and the shareholder value. The one caveat on that is, we're not going to ramp up spending at the cost of returns. We want to maintain the efficiencies in the costs that we built into the system. In fact, we want to continue to improve. We want to go at a place that our well productivity continues to improve. It's improved this year over last year, and our rates of return in our 2018 plan are improved this year over last year. That's because we continue to reduce costs and increase productivity. So, we want to continue to do that and continue to reinvest. That's our first priority.", "The second is, we want to continue to firm up our balance sheet. Our goal is to have an impeccable balance sheet, and we're going to pay off the bond this year. As we go forward, we want to incrementally continue to reduce debt and firm up the balance sheet. This gives us so much flexibility. It served us so well during the last downturn. We didn't have to issue equity or cut the dividend. We want to be a consistent deliverer of shareholder value throughout the commodity cycles.", "And, it does position us to take advantage of opportunities for maybe an acquisition. We continue to look at those. But, also, we're a very organic, prolific, generating company and we have a lot of exploration and step out testing going on this year. We collect a lot of core data. Our goal with all of that is to find better and better inventory than we currently have. We think that is investments into the future of the company, and those are very, very important to us getting better. We want to be able to take advantage of that.", "Our third priority is our commitment to the dividend. We have a strong commitment to the dividend. We've increased it 17 times over the last year. As we said, we increased it this quarter, and our board is committed to continuing to increase our shareholder value through better ROCEs and our commitment to the dividend. Those are all of the priorities we have and we're going to stay focused on that and on getting better a we go forward." ] }, { "name": "Leo Mariani", "speech": [ "Thanks, guys." ] }, { "name": "Operator", "speech": [ "We'll go next to Scott Hanold with RBC Capital Markets." ] }, { "name": "Scott Hanold", "speech": [ "Thanks. Can you guys give a little bit of color on some of the increased pad sizes you're expecting. Is it primarily mostly in the Permian? What was the pad size you did last year versus what you're looking at this year? A little bit of color on that and the Eagle For as well." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Scott. This is Ezra. We're increasing the package size of these wells in both the Eagle Ford and Permian. We're increasing this -- the focus really is on maximizing NPV of the sections and returns. When we planned these packages, we wanted to plan them large enough that they take advantage of the increased operational efficiency and cost savings that come with that. But, at the same time, we don't want to increase them to the size and scale where they take so long that we cannot incorporate learnings from one set of wells to the next.", "As you know, we like to collect an awful lot of real time data and incorporate that into the next wells that we drill. It's a balancing act between those two things. As we highlighted in the Permian, we'll be more than doubling the size of our average package size of wells from two to five." ] }, { "name": "Scott Hanold", "speech": [ "Okay. Specifically with that, when you look at the slower start in January, that was a big part of it? Those increased pad sizes, specifically in the Permian?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Yeah, Scott. This is Billy Helms. Basically, as we ramp up activity there in the first half of the year, and start drilling longer laterals in these bigger packages of wells, it requires that we build inventory for our completion crews more so than we've seen in the past. So, that delay is what's effected our first quarter's production." ] }, { "name": "Scott Hanold", "speech": [ "Understood. As my follow-up, you did talk about uses of cash flow priorities and not wanting to push it where it impairs returns. What is the trigger point that you start seeing things degraded? Is it more service cost rising? Is it lack of infrastructure? What is the bottleneck on using some more capital to invest currently?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Scott, it's a couple of things. One is service cost. We're not interested in paying high prices for services, so we work really hard, live we've done this year, to mitigate increases. Actually, we're going to decrease them this year. We're going to decrease total well costs by locking in strong services at below market rates. The other thing is going too fast and outpacing our technical learning curve. In every one of these plays -- and we've been doing this for two decades now -- we've learned to take a systematic approach and not really switch in to what some people would call a manufacturing mode. We want to continue to learn and to get better.", "If you just lock yourself into a manufacturing mode, you could be locking yourself into drilling a large amount of wells in the wrong way. So, we continue to learn to place the wells at different spacing vertically and laterally. Our goal is to maximize the NPV on those. So, that can only go at a certain pace, too. We're very careful. Everything we do in the company is driven by increasing returns. That is the focus of EOG and what's we're doing." ] }, { "name": "Scott Hanold", "speech": [ "That's good. Appreciate that. Thanks." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Ryan Todd with Deutsche Bank." ] }, { "name": "Ryan Todd", "speech": [ "Thanks. As a follow-up to what you were just talking about on learnings, we've seen a few companies over the course of this quarter walk back spacing expectations a little bit in the Permian Basin. How have your views evolved as you've continued to get more data out of the basin, and maybe thoughts on how you're thinking about your evolving base case in terms of spacing or wells per unit?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Ryan. This is Ezra. In the Permian Basin, we continue to -- it's still relatively early in the play development. We're testing a lot of concepts on spacing and staggering of our targets. It's area dependent and target dependent. But, as we've said in the past, in the Wolfcamp Oil Window, we're seeing good results of spacing from 500- to 660-foot spacings. It's a little bit different down in our Wolfcamp combo area, where spacing ranges from more like 800- to 1,000-foot spacing. Before we really come out with any greater detail on that, the slowdown in activity slowed down our data collection on that. But, we continue to push forward with it." ] }, { "name": "Ryan Todd", "speech": [ "Thanks. Can you talk about the trends in lateral length in the Permian in 2018? You're targeting a little over 6,000 feet, which are a relatively wide range across some of your wells. What's the limiting factor in you guys going higher?" ] }, { "name": "Ezra Yacob", "speech": [ "Again, this is Ezra. We're able to extend our lateral length 20% year-over-year, and we're anticipating another 10% increase here in 2018. As we continue to make acreage trades and block up our acreage across the basin, you'll continue to see those lateral lengths getting longer and longer. At this point, that's the limiting factor." ] }, { "name": "Ryan Todd", "speech": [ "Okay. Thanks. I'll leave it there." ] }, { "name": "Operator", "speech": [ "We'll go next to Subash Chandra with Guggenheim." ] }, { "name": "Subash Chandra", "speech": [ "Thank you. As you double the package size in the Permian, two to five as you said, do you think at some point you have to get to a cube style development, for lack of a better term, and the benefits and costs of doing that? Do you think that's necessary or can you more moderately increase the package sizes over time and accomplish your objectives?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. No, I think the last part that you said is right. We can more moderately expand the package size. It's a real balance there of trying to get the package sizes large enough so that your maximizing the operational efficiencies that exist with multi well operations. We definitely don't want to get them so large that we have to sacrifice the flexibility to integrate real time data collection and learnings and/or our subsequent well packages. And then, we also don't want to get into situations where you end up overbuilding facilities to try and solve temporary issues or anything like that. We're much more focused on integrating our learnings from well to well.", "The last thing to think about, as Bill mentioned previously, and being cautious not to get in a manufacturing mode, the size of these packages are going to be very area dependent. It's complex geologically and we focus a lot of precision targeting and working out the stratigraphy and complexities of the geology, to make sure we're putting these wells in the best targets." ] }, { "name": "Subash Chandra", "speech": [ "Thanks. In the Wolfcamp or Delaware, you've sidestepped all the issues that have hobbled some of your competitors -- sand, takeaway, inflation, etc. I think what you've messaged on this call is that your real hurdles are internal in managing IRRs, learnings, and the like? Did I hear that correctly? Are there some speedbumps that you're concerned about that are external, whether it's water or some other things that we haven't considered?" ] }, { "name": "Ezra Yacob", "speech": [ "I think you're correct, Subash. We're in great shape in the Permian -- sand, water, takeaway, and all of those things. The real thing we're focused on, and what makes a difference in our well productivity versus the industry is our ability to execute in a complex geologic setting and continue to stay flexible, learn, and continue to focus on cost reduction. Those are things that we've been fortunate to learn over our two decades in drilling horizontal wells. We're putting those to good use in the Permian." ] }, { "name": "Subash Chandra", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Bob Morris from Citi." ] }, { "name": "Robert Scott Morris", "speech": [ "Thank you. Bill, looking at Slide 13, on the Wolfcamp six-month production from the wells. You extended the data out through July versus November before. I noticed the average rate dropped a little bit here. I know some of that's in moving more of your wells to Reeves County. How much of that is just the child/parent relationship, particularly as you go from two to five well packages? How much of that are you seeing and how much is the degradation on going from ungrounded, or parent, wells to child wells in that situation?" ] }, { "name": "Ezra Yacob", "speech": [ "Bob, this is Ezra again. I think you hit the nail on the head. That's more of a reflection of increasing the percentage of wells drilled down in our combo play in Reeves County. I think the issue of parent/child well performance isn't anything new. It's a challenge that operators have been faced with since horizontal resource plays have been developing. We've been collecting data on the topic for almost 20 years now throughout our multiple basins and multiple plays. There is not really a single variable to eliminate the issue. The way we approach it is it begins with the well planning -- that's to say the spacing, the targeting, and making sure you get that right for the geology that you're in. Different targets respond differently to how much they effect that parent/child relationship. Also, there are things you can do on the completions and production side. Certain techniques and designs to alleviate some of those issues." ] }, { "name": "Operator", "speech": [ "We'll go next to Brian Singer with Goldman Sachs." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning. I wanted to start in the Eagle Ford. I think, in your comments, you mentioned the Eagle Ford is where you saw some of the best rates of return in the company during 2017. I wondered why not shift more activity there relative to the Permian Basin? I think the increase in the rig counts about one in the Eagle Ford a little bit more substantially in the Delaware. Can you talk a little bit more about that capital allocation decision and how the rates of return inflationary pressures and ability to execute compare in the Eagle Ford relative to the Delaware?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Brian, this is Billy Helms. In the Eagle Ford, we're very pleased with the rate of return and the program. This last year was a good year for them, where they continue to learn and develop our learnings there quite a bit over the last year. The growth there in the Eagle Ford, look at the Eagle Ford as a pretty stable platform for us to continue to slightly grow over the time, as we develop that. But, we have some of these other areas that we're also very interested in growing and applying our learnings to, to continue to benefit from the learnings that really started in the Eagle Ford.", "We're also, as a result of the activity in Eagle Ford, improving our well costs. The well count is actually going up more so than rigs in Eagle Ford versus that. The other thing that's important to note on Eagle Ford, remember that 99% of our acreage there is HBP. We have a lot of flexibility in how we manage our activity levels in Eagle Ford." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you. My follow-up question is in regard to well costs and efficiencies. You've highlighted your expectations for well costs to fall in a couple of these key basins. Some of the reasons for that you mentioned are because of below market contracts. How much of this is timing, i.e. would go away all else equal in 2019, and your costs would rise versus a sustainable example of EOG's skill that could continue beyond 2018?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "Brian, this is Billy Helms again. The thing that's unique about EOG in some aspects is that we did lock in services at low costs. A lot of people are able to take advantage of the service cost declines. But the thing that's a little bit unique in EOG is our culture of continuous improvement, that we focus relentlessly on improving every aspect of our business -- our drilling times, lowing our completed well costs by completing more of the lateral with each stage. We also self-sourced 25-30% of our well costs. So, we do a lot of things that enable us to continue to make steady improvements in our well costs. We can't be more proud of our operational teams as they continue to strive to do that." ] }, { "name": "Ezra Yacob", "speech": [ "I'd just like to add to what Billy said. I think historically -- I've been with the company 39 years now. I don't remember many years when oil costs were going up in the EOG. I think we have a lot of confidence in our ability to continue to hold and even reduce costs as we go forward." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "We'll go next to Phillips Johnston with Capital One." ] }, { "name": "Phillips Johnston", "speech": [ "Hey, guys. Just a follow-up on the topic of parent/child wells. A few operators have recently highlighted a decline in per well productivity in the URs as infill drilling has occurred. I think you guys have previously talked about seeing similar trends in the Bakken as infill drilling has occurred. I want to get a sense of what you're seeing in the Eagle Ford. I realize that per well productivity as a whole play has continued to improve throughout '17. What are you seeing in areas where the number of wells per section is approaching your 16-well target?" ] }, { "name": "William R. Thomas", "speech": [ "I would say, Phillips, we have continually learned to have variable targets as we develop the Eagle Ford. We have the Lower Eagle Ford, the Upper Eagle Ford, and multiple targets. We continue to learn to place those better. We also are learning to manage the parent/child relationship, even down to wells as close as 200 feet apart. It's managing the pattern sizes, the timing of the completions, the targeting, and the way that you spatially locate the targets and w-patters. We're really proud of our folks in San Antonio. They continue to make really strong technical learning in the Eagle Ford and our costs are going down, too.", "So, our Eagle Ford returns consistently, every year, are going up. That's the way we want to develop all of our assets, to where we're constantly improving and making them better." ] }, { "name": "Phillips Johnston", "speech": [ "Great. That's helpful. On the return on capital employed target, nice to see the projected uptick to 10% or higher this year. What does that number look like if you ran the same price deck of 48x270 that you showed for the last three years on Page 4 of the slide there?" ] }, { "name": "William R. Thomas", "speech": [ "We're not going to give a number out on ROCE. But, we feel very good about that double-digit ROCE. The company's in a great position this year and we're really confident that we're going to be able to deliver that number." ] }, { "name": "Phillips Johnston", "speech": [ "Okay. Thank you very much." ] }, { "name": "Operator", "speech": [ "We'll go next to David Heikkinen with Heikkinen Energy Advisors." ] }, { "name": "David Heikkinen", "speech": [ "Good morning, guys. Thanks for taking my question. Thinking about your cash margins and your differential guidance, early in the year, you're benefited by LOS, but your full year guide -- is that incorporating a wider differential for things like the Delaware as that grows? Can you talk some about how you think about your long-dated differentials as other regions beyond the Eagle Ford start dominating growth?" ] }, { "name": "D Lance Terveen", "speech": [ "David, this is Lance. As we look at our guidance, we take all of those considerations. 100% of our Eagle Ford is all priced on LOS. You look at that for curve. We've priced that into our guidance. And then, as you think about the Delaware Basin, with our transportation capacity that we have, we talk a little bit -- you'll see on Slide 24, 20% of that we're able to get into the Corpus market. We see it as a brand or LOS type marker. We factored all of that into our guidance, what you're seeing today, for the full year '18." ] }, { "name": "David Heikkinen", "speech": [ "So, do you think a range at the end of the year should carry forward in that more similar to the full year '18 as opposed to where we are this early in '19 and '20 free cash flow generation? Is that what becomes important?" ] }, { "name": "D Lance Terveen", "speech": [ "The crystal ball, so far, in terms of -- when you look at the Ford curves and where that's trading. We look at '19 and the same thing for gas, like the crude. We've got the guidance out there for '18 and we bake that all the way through in terms of for crude and for gas. Everywhere from the Rockies to the Delaware Basin, and even into the Eagle Ford -- that's all factored into our guidance. We've been very positive about -- as you've seen, the Rockies has definitely strengthened. Across the board, when you look at all of our divisions and our domestic oil production, we're seeing strength in all of the divisions." ] }, { "name": "David Heikkinen", "speech": [ "Alright. Thanks." ] }, { "name": "Operator", "speech": [ "We'll take our last question from Sameer Panjwani with Tudor, Pickering, Holt." ] }, { "name": "Sameer Panjwani", "speech": [ "Good morning. I wanted to get a bit granular on the CapEx budget. I was looking through it. It looks like the exploration development budget of $4.5-4.8 billion, just taking an average out over the 690 wells implies $6.7 million. When you go back to 2017, the average works out to $5.9 million. I know there are a lot of moving parts in terms of longer laterals and you guys are lowering normalized lateral well costs.", "I'm just trying to figure out what exactly is causing this shift. I think a big piece of it is you guys are shifting more activity to the Delaware, which is a higher per well cost, and that might be bringing up the average. But, I wanted to get your thoughts there." ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "This is Billy Helms. I think what you're seeing is a result of the increased activity there in the Delaware Basin relative to the overall program. We're increasing our activity mostly to grow the potential we see in the Delaware. So, the mix of wells within the capital budget is different. The other thing in our capital budget is, we are testing some new plays. Early on in new plays, we do collect some science data cores -- micro seismic in places, 3D seismic -- those kinds of things add into our capital program that would not be typical in just a normal development program." ] }, { "name": "Sameer Panjwani", "speech": [ "Okay. That's helpful. On Slide 19, outlook through 2020 looks like you can achieve this at roughly $5.00 per barrel lower based on the 2018 capital efficiency that's being implied. Is this the right way to think about it? Do you have any plans to update this outlook going forward?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "You're looking at it correctly. We're getting better every year. 2017 metrics versus the 2018 metrics. The 2018 metrics are better in every way. So, we're able to deliver very strong growth at lower oil prices going forward. You're looking at that correctly. We have a very strong, incredible, high return inventory in place and we believe our quality of our inventory is going to increase over time and our costs are going to continue to go down. I think you can look for us to keep updating this 2020 outlook that we have, and we're very hopeful that we'll keep outperforming the outlook guidance going forward." ] }, { "name": "Sameer Panjwani", "speech": [ "Great. If I can squeeze in one last one, you guys talked about 27 wells online in January. Any additional color you can provide on the expected total for the first quarter?" ] }, { "name": "Lloyd W. Billy Helms", "speech": [ "We haven't really looked at how many wells per quarter. I just know that the well count in the first quarter is low relative to the rest of the quarters. It's due to the ramp up in activity that we see at the start of the year. Drilling these larger packages and longer laterals, and getting the inventory back in where we need it for this level of activity, you just have less wells coming online in the first quarter relative to the rest of the year. We're very confident in our plan and the volumes that we've laid out and the guidance we've given. We expect to be able to deliver that without our program we've laid out." ] }, { "name": "Operator", "speech": [ "And that concludes our question and answer session. I'd like to turn the conference back to our speakers for any additional or closing remarks." ] }, { "name": "William R. Thomas", "speech": [ "In closing, 2017 results were outstanding, and we believe 2018 will be even better. The company is driven by strong returns and is poised to deliver in 2018 and beyond. We have a sustainable business model and we're excited about EOG's ability to create long-term shareholder value. Thank you for listening and for your support.", "..." ] }, { "name": "Operator", "speech": [ "Thank you, everyone. That does conclude today's conference. We thank you for your participation. You may now disconnect." ] }, { "name": "More EOG analysis", "speech": [ "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
EOG	2019-05-03	[ { "description": "Chief Financial Officer, Executive Vice President", "name": "Timothy Driggers", "position": "Executive" }, { "description": "Chairman of the Board, Chief Executive Officer", "name": "William Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Senior Vice President Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Kenneth W. Boedeker", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "SunTrust Robinson Humphrey -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Tim Rezvan", "position": "Analyst" }, { "description": "Macquarie -- Analyst", "name": "Paul Grigel", "position": "Analyst" }, { "description": "KeyBanc -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Tuohy Brothers Investment Research -- Analyst", "name": "Jeffrey Campbell", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "Simmons Energy -- Analyst", "name": "Ryan Todd", "position": "Analyst" }, { "description": "JP Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone and welcome to EOG Resources First Quarter 2019 Earnings Results Conference Call. As a reminder, this call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Timothy Driggers", "speech": [ "Thank you. Good morning and thanks for joining us. We hope everyone has seen the press release announcing first quarter 2019 earnings and operational results. This conference call includes forward-looking statements. The risk associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. Definitions as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "Some of the reserve estimates on this conference call and in the accompanying investor presentation slides may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to US investors that appears at the bottom of our earnings release issued yesterday. Participating on the call this morning are Bill Thomas, Chairman and CEO; Billy Helms, Chief Operating Officer; Lance Terveen, Senior VP Marketing; Ken Boedeker, EVP-Exploration and Production; Ezra Yacob, EVP-Exploration and Production; and David Streit, VP-Investor and Public Relations.", "Here's Bill Thomas." ] }, { "name": "William Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. EOG's goal is clear and simple, be one of the best companies across all sectors in the S&P 500 by realizing double-digit returns and double-digit organic growth through the commodity cycles. Our stellar first quarter performance demonstrates that we are lowering the cost of oil required to achieve that goal. We are confident in our ability to continue to decouple our performance from the commodity price cycles and that our sustainable business model will consistently deliver excellent results in the future.", "As a result, the board of directors approved a 31% increase to our dividend rate. The annualized dividend is now $1.15 per share and represents the largest $1 increase in EOG's history. This is a tremendous vote of confidence in EOG's future and demonstrates a strong commitment to capital discipline and returning cash to shareholders through the dividend.", "Our premium combination of higher returns and organic growth is evident in every area of the company, with 2019 shaping up to be one of the best operating performances in company history. Well cost and operating costs are falling and well productivity is strong.", "EOG is growing oil volumes at lower cost per barrel than ever before. We're excited about 2019 and the outstanding operational and financial results we are delivering. Some of the highlights this quarter include, year-over-year oil growth of 20%, exceeding the high-end of our crude oil production target; capital expenditure below the low-end of the expectations; strong year-over-year lease operating and transportation per unit cost reductions; additional reductions in completed well costs and we secured significant crude oil export capacity increasing our ability to receive the best prices.", "EOG continues to improve unit costs, capital efficiency and profitability. In fact, we made the same amount of net income compared to the first quarter of last year with significantly lower oil prices, a remarkable achievement demonstrating EOG's resiliency to low oil prices and the company's sustainable ability to continuously improve.", "In addition to great results this year, we're excited about the steps we're taking to improve future results through our organic exploration of new high quality plays. Our exploration focus in 15 years of experience drilling horizontal oil wells has generated mountains of proprietary data that gives us an edge in identifying new plays. We have 13 years of premium oil inventory, so we are squarely focused on further improving the quality of our inventory rather than just adding more quantity. Adding a low cost organic inventory with better rock will enable the company to grow oil at lower cost and higher margins for years to come.", "At EOG, we have an unwavering commitment to creating shareholder value through our long-standing business model. Exploration driven organic growth, operational excellence, technical leadership, all underpinned by a distinctive culture. Our decentralized structure and focus on returns combined with our entrepreneurial pleased but never satisfied mindset, continues to produce outstanding results today and is set to produce sustainable improvements in the future. EOG has never been in better shape and the company has never had a brighter future.", "Next up is Billy to review our first quarter operational performance and outlook for the remainder of 2019." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Bill. Before I go into the quarter results, I want to be clear on this point. We will not increase CapEx. We remain confident in our 2019 plan and activity will be adjusted throughout the year to achieve our production and capital objectives.", "Now on to the first quarter. Our results reflect our tremendous efficiency gains that were beginning to emerge late last year and materialized more fully, early this year. We delivered more oil producing 436,000 barrels per day, exceeding our forecast. To be more specific, the wells completed at the end of last year are outperforming our forecast and that trend has continued into the first quarter of this year. Of equal importance, we spent less capital than expected. Our capital was well below our forecast for the quarter, as we are realizing the increase in efficiencies across our operations. Unit operating cost performance was also stellar, coming in at the low-end of our forecast. And in the case of lease operating expense, we were well below our forecast. It's important to note that our strong operational execution is not related to the reduction in service costs, it’s driven by our relentless quest for continuous improvements and our attempts to focus on developing new technology. All areas of our operations contributed to EOG's first quarter execution and capital efficiency.", "First, our drilling teams continued to markedly improve their drilling times and performance. More importantly, the consistency of the improved performance can be seen across our entire rig fleet. This is a result of two factors. One, we made the decision to maintain the high performing drilling teams and services that are now consistently executing our internally engineered drilling program. In each of our major areas of activity, we continue to achieve new record drilling times and cost. And two, our drilling teams continue to adopt new technology processes and specialized tools that improve both drilling performance and repeatability.", "Ideas are developed in-house and deployed by partnering with service providers. For example, eliminating even one trip where the drill bit must be brought back to service can save up to $100,000. To capture those savings, we first analyze then design the best downhole motor to use in our bottom hole assembly and took the additional step of bringing quality assurance in-house. As a result of having direct control of this equipment, we have observed a pronounced reduction in the number of trips while also improving the rate of penetration. Together, reducing the trips and increasing the penetration rate is saving up to $400,000 per well. It’s this type of innovation that helps EOG continue to deliver best in class drilling performance across all of our plays. Second, our completion teams are experimenting with new design advancements that combine both technique and the use of new diverting agents. This proprietary formula is noticeably improving well performance and equally important, reducing completion costs. Well performance in these low permeability reservoirs improved due to enhanced fracture complexity. Completion costs are reduced due to lower material cost and faster execution allows us to complete more lateral feet per day.", "The result is a solid improvement in our capital efficiency. Further testing and production time will yield more fulsome data and place specific recipes for each of our operating areas. But suffice is to say that the early results are encouraging.", "Finally, investments in strategic water, oil and gas infrastructure along with gathering partnerships allow us to leverage our scale and our core operating areas and are having a long-term sustainable impact on our operating costs, particularly lease operating expenses. We continue to evaluate additional high return, long-term impact opportunities to further reduce cost. In summary, we've had a great start to 2019. Our operational teams are on track to deliver on our improved capital efficiency goals. Average well cost across our portfolio are down about 2.5%, halfway toward our goal -- our 5% goal for the year. We've made significant progress towards our goal to reduce per barrel finding cost. These improvements will continue to drive down our DD&A rate over time and along with unit operating cost improvements, enable EOG to achieve our return objective in low commodity price environments. Here's Lance to provide a marketing update highlighted by our recent progress to secure Gulf Coast export capacity." ] }, { "name": "Lance Terveen", "speech": [ "Thanks, Billy. EOG has established marketing agreements that provide access to crude oil export markets in Corpus Christi and Houston. Our capacity in Corpus Christi will ramp up from 100,000 barrels of oil per day in 2020 to 250,000 barrels of oil per day in 2022.", "We expect to sell crude oil to export markets from multiple plays, including the Eagle Ford and Delaware Basin. As we illustrate on Slide 19, EOG will control its crude volumes from the basin all the way across the dock, as our agreements provide for pipeline capacity, terminal tankage and dock access. With the option to price our crude oil farther downstream, we expand our flexibility to sell product to domestic or international markets, whichever provides the highest margins. This optionality ensures strong price discovery and liquidity for EOG barrels. Our export marketing agreements are an example of our integrated marketing strategy, which is designed to achieve four objectives. First is Control. Control means firm capacity of our product to the point where margins are maximized. Second, is flexibility. We plan ahead to establish multiple options to deliver product to the highest netback market. Third is diversification. We take a portfolio approach knowing the optimal netback price will move around faster than we can adjust transportation agreements. Fourth is duration. We prefer shorter term contracts to avoid long-term high cost fixed commitments. This strategy is reflected in advantaged positioning of our oil takeaway in the Permian Basin.", "EOG controls this barrels from the wellhead to the sales point. Delaware Basin barrels are transported out of the basin on a fit-for-purpose gathering system to five pipeline interconnect points, which can transport the oil anywhere from Cushing, Houston, Corpus Christi and even Midland. And we have accomplished this with limited long-term commitments and competitive transportation rates. This strategy paid off in the first quarter. Despite the volatility of oil and natural gas prices in the Permian, EOG was able to flow all of its production and realize strong prices during the quarter. In aggregate, EOG's realized US oil price was $1.21 above WTI in the first quarter and our US gas price was only $0.36 below Henry Hub. This is a tremendous achievement in navigating a volatile market.", "Crude oil and natural gas marketing is an integral part of EOG's value creation strategy. We anticipate future infrastructure needs to protect flow assurance and diversify our marketing options, so that we can maximize our price realizations net of transportation costs. We accomplish this by working closely with our operating teams in each of our major plays and divisions to understand the potential future development plans and by keeping a pulse on market fundamentals of each product and marketing point. Our proven marketing strategy has helped EOG successfully navigate bottlenecks across all areas of operations, including most recently in the Permian Basin. We measure the success of our marketing efforts through our price realizations, which we highlight on Slide number 20,as well as the transportation costs we incur to deliver our production to market.", "Next up is Ken to review the Eagle Ford highlights." ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Thanks, Lance. The Eagle Ford remains the workhorse asset for EOG, earning high returns and delivering sustainable growth while generating strong cash flow. EOG has been developing the Eagle Ford for about 10 years. However, less than 40% of the identified locations have been drilled. Last year Eagle Ford production grew 9%. We forecast the Eagle Ford is capable of growing for at least 10 more years at premium rates of return while generating significant cash flow in excess of capital expenditures each year.", "More importantly, we believe the capital productivity of the Eagle Ford will continue to improve in the years ahead. Sustainable cost reduction has been a key theme throughout our 10 year history, developing the Eagle Ford. Even in a play that has already accumulated significant operating efficiencies, we were able to reduce drilling costs by 7% and increase completed lateral feet per day by over 50% in the first quarter of 2019 compared to 2018.", "In fact, the first quarter of 2019 was our best drilling efficiency quarter that we've ever had in the Eagle Ford on our dollar per foot basis, highlighting our culture of always getting better.", "On the production side, we are continuing our efforts to further optimize artificial lift and manage water production, which will help us control lease operating expenses longer term. Drilling in our Western Eagle Ford acreage continues to deliver strong premium returns net present value, finding cost and capital efficiency.", "Our western acreage will be a crucial component of long-term growth for the play and we expect it will make up the majority of our Eagle Ford drilling program by 2021 growing from about 40% of our program in 2019. Capital efficiency in the West is caught up over time and is nearing parity with the East as illustrated on Slide 39.Compared to the east, laterals in the West are longer and perfect drilling costs are lower. So productivity and economics per well are competitive.", "Our proprietary enhanced oil recovery process in the Eagle Ford continues to perform at technical and commercial expectations. EUR is as a secondary recovery process in this play and primary development remains the main focus of our operations in 2019. The EUR footprint will be expanded after a larger portion of the play has been fully developed.", "The best days of the Eagle Ford are still ahead. We continue to convert non premium inventory to premium status through sustainable cost reductions, productivity improvements and leasehold consolidation.", "The Eagle Ford is a strong growth asset for EOG and we expect it to remain one for many years ahead. Now here's Ezra to discuss the Delaware Basin." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Ken. In the Delaware Basin, we continue to improve on operational momentum we gained last year, retaining top performing drilling rigs and completion crews towards the end of 2018 had an immediate impact on the first quarter. We drilled and completed 78 gross wells across six different premium targets with just 18 rigs and 7 completion crews. Compared to the first quarter of 2018, we drilled and completed 42% more lateral feet. However, we used one less rig and one less completion crew.", "As a result, we've made strong progress towards our full year cost reduction goals. In addition, we reduced drilling days by 29%, transferred 99% of our water by pipe, which reduces traffic and saves $2 per barrel compared to trucking, source more than 70% of our water through reuse and reduced total well cost by 5%.", "Finally, first quarter wells are outperforming our expectations and we beat our production and financial targets for the first quarter including capital expenditures. The result is a first quarter development program that achieved an all-in finding cost below $10 per barrel of equivalent, while earning $9 million of NPV per well at an average 100% direct rate of return.", "EOG is a vast industry leading 400,000 net acre position in the core of the Delaware Basin. The rock is about one mile thick and geologically complex. Due to our 15 years of experience drilling horizontal oil wells, we have accelerated the learning curve in this basin. As a result even though the Delaware Basin is still early in its evolution and one of our highest growth areas, this asset is already creating significant value through high return drilling, low operating expense and positive cash flow, just three short years since focusing on its development.", "I'll now turn it over to Tim Driggers to discuss our financials and capital structure." ] }, { "name": "Timothy Driggers", "speech": [ "Thanks, Ezra. EOG had strong financial performance in the first quarter. The company generated discretionary cash flow of $1.9 billion, invested $1.7 billion in capital expenditures before acquisitions, which was below the low-end of our guidance and paid $128 million in dividends. This left $55 million in free cash flow. In addition, we invested $303 million in bolt-on property acquisitions located in new exploration areas.", "As part of our debt reduction plan, we expect to repay the $900 million bond scheduled to mature on June 1, with cash on hand, which as of March 31st was $1.1 billion. I'm happy to report Moody's recognized EOG’s growing financial strength last month, upgrading EOG's credit rating to A3 with a stable outlook.", "To quote the Moody's press release announcing the upgrade the company stated. The upgrade of EOG's ratings into the A-category recognized as the company's high capital productivity backed by operating excellence and a long life high quality asset base that will continue to underpin the strong credit profile amid a number of oil price scenarios. The A3 rating is also supported by the company's conservative financial policies.", "Last but not least, we announced a dividend increase of 31% in yesterday's earnings release. The indicated annual rate is now $1.15 per share. EOG has added hedges for 150,000 barrels of oil per day at an average price of $62.50. This covers about one-third of our crude oil production over the remainder of 2019. For natural gas, we added hedges for 250,000 MMBtu per day, at an average price of $2.90, which is about 20% of our US natural gas production through October. We believe the decision to lock in a portion of our crude -- our current crude oil and natural gas prices is prudent considering the volatility in prices and the high return on investment of our capital program at these prices.", "I'll turn it back over to Bill for closing remarks." ] }, { "name": "William Thomas", "speech": [ "Thanks, Tim. I have a few highlights to leave you with. First, we're running under plan on capital and over plan on volumes and we're not raising capital. Second, EOG has tremendous momentum across all facets of the business; drilling, completions, operating expenses, marketing and exploration. Third, we're still getting better. Along with continuous cost reduction and strong well performance, we're optimistic our low cost organic exploration efforts this year will increase the quality of our inventory even further and lower the cost of future oil production.", "Fourth, our export marketing agreements provide direct access to international markets and expand our ability to capture the best prices. Fifth, the dividend increase shows our confidence in our sustainable business model to deliver performance through the commodity price cycles. And finally, our sustainable business model is driven by our culture.", "We have an insatiable drive to continue to get better. We're confident EOG can deliver double-digit returns and double-digit growth and achieve our goal of being one of the best performing companies in the S&P 500, through commodity price cycles long into the future.", "Thanks for listening and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you, sir. The question-and-answer session will be conducted electronically. (Operator Instructions) And your first question will come from Neal Dingmann of SunTrust Robinson Humphrey. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning, gentlemen. Strong quarter. Congrats. My first question maybe Bill for you. Could you all speak to your plans of you've done a great job of balancing growth with shareholder return. And really when you look at that, you've almost doubled now your dividend in the last year while production and drilling about 30% here over the last year or so, all while oil is up only about 15%.So I mean my question would be, specifically if oil stays here or goes higher, would you stick with the 12% to 16% oil growth plans? And if so what would you do with the potential material amount of free cash flow?" ] }, { "name": "William Thomas", "speech": [ "Yes. Thank you, Neal. First of all, I think it's really clear we said that on our first call of the year that we're not going to be shifting into a lower growth mode and we don't have specifics on 2020 oil growth. But certainly, you can think of the company and our 14% oil growth target this year is really on -- a bit on the low end. And so we're really focused on high return oil growth and that's the way we believe will create the most value for our shareholders on the long-term.", "You heard, I think from Ezra the tremendous rates of return and the NPV we're creating on each well we're drilling. So that's the priority for us in the future and that's where we think we're going to continue to generate the most value in the long-term." ] }, { "name": "Neal Dingmann", "speech": [ "Very good. Then maybe my second question will be for Billy or Ezra. Could you just discuss particularly in the Perm, your PDP decline expectations? I mean in the prepared remarks I think you all commented just how much better these new wells are than a year ago? So I'm just wondering is that true as far as how these wells are holding up or just anything you could discuss toward how you're seeing these wells after a number of months?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Neal, this is Billy. I think in general across all of our plays you see that as we drill longer laterals, that didn't necessarily translate to directionally higher IP30's per well, but we see the performance hang in there longer. You see a little bit lower decline over time. And I think that's really if you look at the first quarter results, that's what's driving a lot of our performance; sustained improvement in all of our programs and it's a function of just the quality of the wells, the better execution across the wells and the focus of the teams. Ezra, you want to add anything or..." ] }, { "name": "Ezra Yacob", "speech": [ "I’d just highlight too that the -- the team's done a great job in the Permian in the last year. Really learning a lot about the reservoir, figuring out across our -- our acreage position, which targets need to be co-developed together, the spacing both horizontally and vertically. And when you combine that increase in well productivity with our -- our excellent operational execution, that's why you're seeing the lower finding cost discussed in the opening remarks and the higher capital efficiency, which we have great success is going to continue throughout the year." ] }, { "name": "Neal Dingmann", "speech": [ "Thanks for all the detail, guys." ] }, { "name": "Operator", "speech": [ "The next question will be from Doug Leggate of Bank of America Merrill Lynch. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thanks. Good morning, everybody. Guys, I wonder if I could touch on the acquisition capital and obviously, it's -- you're not going to tell us where you’re acquiring I guess, but some idea as to what we can expect that pace to look like going forward. Was one -- first quarter very much a one-off or should we expect some kind of sustainable level of acquisition spending as we go forward?" ] }, { "name": "William Thomas", "speech": [ "Doug, it -- your question because it's difficult to hear you, was a little bit garbled. So could you be a little bit more clear there?" ] }, { "name": "Doug Leggate", "speech": [ "I apologize, I'm on my cellphone. Can you hear me okay now, Bill?" ] }, { "name": "William Thomas", "speech": [ "Yes, go ahead." ] }, { "name": "Doug Leggate", "speech": [ "So my question was on the level of acquisition capital going forward, was first quarter very much a one-off or should we expect acquisition capital to be something of a repeating pattern as we go forward for a period?" ] }, { "name": "William Thomas", "speech": [ "Okay. Thank you. That was that was better. Yeah, we -- as you know the company, we're not really focused on corporate M&A's, but we do occasionally look at bolt-on type acquisitions and they're focused primarily in our exploration plays. And these -- these acquisitions are very low cost and very, very high potential, obviously or we wouldn't be interested in doing them. And they're kind of one-offs and so it's not something you're going to see repeatedly over every quarter. And so I'm not saying we're not going to do another one this year or not, we don't have any plans at this point to do any more. But they're really opportunistic drilling, opportunistic given and certainly are focused on very, very high return, low cost drilling potential." ] }, { "name": "Doug Leggate", "speech": [ "I appreciate the answer. Hopefully you can still hear me. My follow up is just a quick one. Obviously, we’re really pleased to see the dividend increase, I'm sure a lot of people would applaud that. But I'm curious, what do you think the right payout ratio is for an E&P company. In other words, as you get to where your longer term plans go. What do you think that right percentage of your operating cash flow should be being returned to shareholders? And I'll leave it there. Thanks." ] }, { "name": "William Thomas", "speech": [ "Well, certainly I think that’s operator or company dependent. I don't think there's any one – one answer for any company. For EOG specifically, we're generating super high, fantastic returns on every dollar we spend. And so we believe our allocation on reinvesting in very, very high rate premium drilling is the number one priority. We also strongly believe, as we’ve demonstrated this quarter, in strong sustainable dividend growth and we think that's the best way to give cash back to shareholders. And then we're also very focused on having a pristine balance sheet and we think that's just a fundamental good business practice and it gives us an enormous advantage, especially for countercyclic opportunities in the future. So that's kind of our allocation and I think that's very unique to EOG's business model and I think it's very sustainable for us." ] }, { "name": "Doug Leggate", "speech": [ "Thanks a lot, guys. Appreciate the answers." ] }, { "name": "Operator", "speech": [ "The next question will be from Charles Meade of Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Bill to you and your team there. I have a question about your CapEx trajectory over the year. If you look at the way you guys have posted 1Q and your guidance for 2Q, you have a -- first half is heavier than the -- than the back half and we saw that same pattern in 2018.", "So my question is, is that -- is that a feature or a manifestation of your planning process? Or was that more just a coincidence with the way that 2019, 2018 is shaking out?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Charles. This is Billy Helms. So yeah, our first quarter CapEx was about 27% of our total annual budget. And in the first half, if you look at our guidance we will be slightly more weighted towards the first half than we are in the second half. And we have confidence that we'll be able to meet our capital and production goals for the year. So I expect, as we go through the year, you'll see us adjust our schedule probably a slight reduction in the second half, but also it's not just related to the cadence of rigs. We also have infrastructure spend and leasehold spend that happens in a quarter. So I think we're very -- what I would say is we're very confident we'll be able to make our production goals and stay within our CapEx that we've outlined. And it's really kind of early to provide guidance for how we'll ratio that down through the year, because we have a lot of flexibility operating in multiple basins, so it will fluctuate as we go through the year." ] }, { "name": "Charles Meade", "speech": [ "Got it. Okay. Thank you for that. And then one I guess kind of more targeted question on the Delaware Basin position. I noticed that the -- your Bone Springs laterals are significantly shorter. I think it's 5,500 lateral feet versus really 7,500 or 7,800 on other zones in that same basin. Can you elaborate a little bit on what may be going on there? Is it about the lease configuration where you're developing those Bone Springs? Or was it more a decision about the way you need to stimulate that formation?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Charles. This is Ezra. That's a great question. Really, you picked up on it there in -- in the latter half of your question. It really just comes down to lease configuration where shape of our drilling units are. I think in general, as you've seen, as we look back at our well results quarter-over-quarter, we're trending to get longer with our laterals across all of our plays. And the reason for that is that simply the cost per foot is so much less that it really increases the capital efficiency. And so I'd look in the future to see that Bone Spring getting longer as well." ] }, { "name": "Charles Meade", "speech": [ "Got it. Thank you for that color." ] }, { "name": "Operator", "speech": [ "The next question will be from Tim Rezvan of Oppenheimer. Please go ahead." ] }, { "name": "Tim Rezvan", "speech": [ "Hi, good morning all. Eagle Ford inventory debt remains focused for investors and I noted pretty interesting comments in the release about, high grading the residual 4900 non-premium locations. Is this just a matter of sort of cheaper well costs longer laterals and the new completions or is it really more to it from a delineation or exploration point of view? And kind of how high is getting that number up, how high is that on your priority list this year?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Yeah. Tim, this is Ken. As far as converting those non-premium locations to premium, we look at that several ways. We look at that with trying to reduce the well cost and improve the productivity of the wells. So we're always looking to being able to do that and looking at all the different areas. We're actually doing several different packages and tests to improve our -- our conversion of non-premium to premiums throughout the year and throughout our acreage position. So we have a significant number of those laterals to drill this year and we have a significant number to convert in the future, where we're also drilling a lot longer laterals as we go towards the west, and that'll help convert some of those non-premium wells to premium." ] }, { "name": "Tim Rezvan", "speech": [ "Okay. So you expect to see that number maybe grind higher throughout the year?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "That's what we're working towards." ] }, { "name": "Tim Rezvan", "speech": [ "Okay. Thank you. Then my follow up, your proxy came out in March and it stated that less than 90% of wells drilled in 2018 qualified as premium. I was hoping to better understand what that means. Does that mean that well level returns didn't hit thresholds or does it mean that there was more exploratory drilling in that year. And just thinking about maybe how we should think about that in 2019, given the exploratory focus? Thanks." ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Yeah, Tim. It means that a few of the wells that we drilled and it is a very few in the total package of wells we drilled last year were either step out wells or exploration wells in areas where we didn't -- maybe didn't have the infrastructure in place or we're on the learning curve in some of the spacing tests, didn't quite make the 30% after-tax rate return at $40 flat. It doesn't mean those wells didn't or weren't really strong economics. Those wells are fantastic economics probably better than the --probably are non-premium wells are better than the average for the whole industry on returns. But it was just a very few of those and that's what that meant." ] }, { "name": "Tim Rezvan", "speech": [ "Okay. Thanks. And just to push it, do you have a number on that. Is that 11% or is it kind of a higher number?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "I'm sorry. Off the top of my head, I don't have the number." ] }, { "name": "Tim Rezvan", "speech": [ "Okay. All right, thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from Paul Grigel of Macquarie. Please go ahead." ] }, { "name": "Paul Grigel", "speech": [ "Hi, good morning. In the release you discussed testing additional targets in the Woodford. Could you elaborate on what you would be seeing there and what timeframe you could see results from that portion of the program?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Yeah, this is Ken. We're continuing to test other areas in the Woodford. As we get additional information on that and anything material we'll -- we'll release to you guys. I would like to make the point that we've really made great strides in the operational efficiency in that. In the Woodford play this year, we've almost dropped our -- our drilling costs down and met our target for the year. So we do still plan to complete about 30 wells in the area this year and we're -- we're real pleased with the progress that we've made." ] }, { "name": "Paul Grigel", "speech": [ "Okay. And then earlier in the call there's a comment made as the Eagle Ford program matures and there's more development opportunities. The expansion -- the EOR program will occur. Could you elaborate on -- on is that by area, is that a geological testing, is that simply you just need to make sure that the -- the wells have matured and have hit a certain level, just trying to understand when the EOR program could see expansion throughout the Eagle Ford?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Yeah. This is Ken again. We'll expand the EOR as we really finish up with our primary development in those areas. We'll expand that into areas that make sense based on some of the results that we've seen already with the EOR program. So it's really a matter of finishing up primary development in a lot of those areas." ] }, { "name": "Paul Grigel", "speech": [ "Is that a certain number of years after initial development or -- just trying to understand when -- when primary development is considered finished?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "I would guess I would classify primary development as finished when we quit drilling wells in those areas and we can begin the EOR process." ] }, { "name": "Paul Grigel", "speech": [ "Fine. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question will be from Leo Mariani of KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey guys, just wanted to follow up a little bit on the dividend increase here. Obviously, as you -- you pointed out very material increase for EOG. Wanted to get a sense as to whether or not you guys might be seeking a yield that's a little closer to kind of the 2% that the S&P 500 has out there. And then additionally, just with respect to the dividend, is there some kind of price level for example on the oil side that you guys may stress test that to.Or for example you say hey, at $45 we need to be confident that we can manage that and still target our production growth? Just any color you had around that would be helpful." ] }, { "name": "William Thomas", "speech": [ "Leo, yeah, this is Bill. Yes. Certainly the dividend increase is evaluated every quarter. Obviously, the macro view of oil prices and our ability to sustain the dividend is a very important thing. We've never cut the dividend ever in the history of EOG and we don't ever want to do that. So when we make a commitment on the dividend, we make a commitment. And in our commitment, the last two years has been as we stated, we wanted to increase the dividend faster than our 19% historical average. So the last two years, we've increased it 31%. And so our focus on the future is to continue to do that.", "We don't give a specific number. But certainly, we want to have very strong dividend group -- growth for a long number of years and that's a commitment that we're making to our shareholders." ] }, { "name": "Leo Mariani", "speech": [ "Okay. That's -- that's good color. And I just wanted to jump over to the exploration front. I guess clearly, you guys made a couple of bolt-on acquisitions in the first quarter in the hopes of bolstering that effort, but I certainly sensed a fair bit of excitement around the exploration effort this year from your comments. I'm supposing that you're not going to be ready to share results, but just based on sort of what you're seeing out there, can you qualitatively indicate whether or not you think some of this is working? And might we get some announcements here in 2019 from EOG on that front?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo. This is Ezra. Thanks for the question. As we discussed earlier in the year and in the opening comments like you suggested, we're pretty excited about the exploration opportunities. We're really focused on applying our drilling and completions techniques to higher quality unconventional reservoirs. And what really drives our process is having a multi-basin dataset that allows us to compare and contrast different reservoir characteristics of each of the sweet spots and -- in the established plays that we're in and we apply that to new ideas and areas. As Bill highlighted, we're not just interested in adding quantity, but really increasing the quality of our premium inventory. And that really should continue to reduce our finding cost, lower our DD&A and help achieve our long-term goals of double-digit growth and returns. And when we have a little more insight and color, something a little more material, we'll certainly update you guys." ] }, { "name": "Leo Mariani", "speech": [ "Okay. That's helpful. And I guess couldn't help notice the marketing sort of arrangements with the export capacity that you folks signed up here. I just wanted to get a sense, has EOG already been exporting oil barrels internationally at this point and it certainly seems as though there is a potential big increase coming over the next couple of years. Just wanted to get a sense of whether or not you've already got some relationships with international buyers out there that you're hoping to expand?" ] }, { "name": "Lance Terveen", "speech": [ "Yeah, Leo. Good morning, this is Lance. Thanks for the question. Yeah, when you think about the existing business, I mean we've been very active in Houston for quite some time. I mean Houston is really kind of in our wheelhouse, especially since 2012 with a lot of our pipeline capacity that comes into the Houston market. But since the export ban has been lifted, we've been actively engaged there. We've got a tank position that's there as well. So we've been making spot sales for quite some time, especially looking in the last year or two. So we've been active on that front. I’d say we're very excited too about our new capacity that's going to be starting up moving into next year. You know really when you think about and you look at the balances in the US, you look at supply growth, you look at imports, you know exports are going to be here the stay. And we really want to have a very large position there. And having that control at the dock, we feel that's just going to give us a lot of price discovery. But again it's about a portfolio approach. I mean we want to protect those realizations. And so moving into next year and you look -- we feel we're going to be very well positioned with our -- it's unique that we're going to have our Permian and also our Eagle Ford that we're going to be able to show across the docks. So we feel we're very unique relative to when you look at the producer group on the different qualities, so we're going to be able to show to the domestic market but then also our international customers too." ] }, { "name": "Leo Mariani", "speech": [ "Thanks for the color." ] }, { "name": "Operator", "speech": [ "The next question will be from Jeffrey Campbell of Tuohy Brothers Investment Research. Please go ahead." ] }, { "name": "Jeffrey Campbell", "speech": [ "Good morning. I just wanted to touch base again on the various technological efforts, data analysis, all the stuff you are doing. You called it up again and it sounded like it was perhaps getting even more and more into the daily field operations. So I was wondering if you could just give us a little bit of color on that. Thank you." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Jeffrey. This is Billy Helms. I can add a little bit of color to that. I think part of that goes down to our very culture of the company. We are always striving to get better at what we do and the way we do that is we look at all the details. And we gather lots and lots of data and we've had these systems in place for some time. And then the key part of that is delivering that data back to our teams, so they can exercise good decisions on how to improve our operations and the way we just do our business in all aspects. And you're seeing that manifest itself in the drilling highlights that we offered today as well as the completion highlights improvements that we're seeing. So on the drilling side, we're monitoring the daily rate of penetration on all of our drilling rigs and making sure our drilling times are not just keeping up with what we're doing, but how do we continue to get better. And so the results we're seeing today are a direct reflection of our ability to gather the data and transport that back and analyze it and deliver it to the field and have the guys making the decisions. So it is part of our culture, real time returns, focused decision making." ] }, { "name": "Leo Mariani", "speech": [ "So for example, the thing that you talked about earlier today where you're coming up with new completion methods that are using diverters more effectively and you are cutting costs accordingly. These kind of efforts are emanating from all this data analysis that you just talked about." ] }, { "name": "Billy Helms", "speech": [ "Absolutely, and we're using -- more importantly and we're using that data real time. So we're actually making decisions based on the pressure rates -- pressures and rates we're seeing on the wells we're not only fracking, but the offset wells to make decisions about how to implement our formula. And so that's why the formula is not a cookie cutter formula you can apply everywhere. It's tailored, it's specifically designed by each well, by each zone, depending on the target zone and the offsets. It takes an integral approach to be able to analyze that data real time and make the right decisions." ] }, { "name": "Leo Mariani", "speech": [ "Okay. And if I could just ask a quick follow-up to that. Just when we're thinking about it, is this part of the 5% goal to get cost down or is that 5% goal more based on logistics and contracting and that sort of thing?" ] }, { "name": "Billy Helms", "speech": [ "No, that's a good question, Tim (ph). I would add to that that really none of the cost savings we're seeing to date are a factor of service cost reductions. It is strictly improving efficiencies, lowering our cost by doing things better, as well as making better wells. So we're seeing the double effect of reducing cost, improving well performance and it's all directly related to our ability to analyze -- collect the data and analyze it real time." ] }, { "name": "Leo Mariani", "speech": [ "Okay, great. Thanks, I appreciate that color." ] }, { "name": "Operator", "speech": [ "The next question will be from Jeanine Wai of Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Good morning everyone." ] }, { "name": "Billy Helms", "speech": [ "Good morning." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. My question is on sand. A Sand provider recently commented that some EMP's are switching back to Northern White from local sand due to crushing reasons, which I guess there could be production and cost implications for EMP's. And I know EOG does a lot of its own testing. And I believe you're an early mover in this area, so you probably have more data than anyone on this.", "Can you discuss your thoughts on kind of this recent commentary? And how much exposure you have to local sand? Any basin specific color you have would be really helpful too." ] }, { "name": "William Thomas", "speech": [ "Yes, Jeanine, this is Bill. Certainly, we got a tremendous. We've got 20 years of history in horizontal shale plays and we've used every kind of sand proppant material that's been available over the years. Currently, we are focused on using local sand certainly in the Permian, that's a big cost saver for us, and certainly the industry too. So we're going to continue to do that and we're also I think shifting to local sand in the other play such as the Eagle Ford and many of the Rocky plays and in Oklahoma too.", "So that's a direction that we're focused in and along with a diversion material, we're making significantly better wells and lower cost wells. We do have our own testing facilities. We've been engaged in capturing sand and multiple sources. And we screen it and test it and we're very confident that the sand we use in every play, it's kind of tailor picked for each play. But we're very confident that the compressive strength and the quality of sand that we use in each play is the right mix for long-term well performance." ] }, { "name": "Jeanine Wai", "speech": [ "Okay. And I think the commentary was kind of triangulating around I think maybe the Eagle Ford and the mid-con outside of the Permian and so you do use local sand in those areas as well and you're satisfied?" ] }, { "name": "William Thomas", "speech": [ "Yes. Yes, we're satisfied." ] }, { "name": "Jeanine Wai", "speech": [ "Okay, great. Thank you for taking my question." ] }, { "name": "William Thomas", "speech": [ "Welcome." ] }, { "name": "Operator", "speech": [ "The next question will be from Brian Singer of Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning." ] }, { "name": "William Thomas", "speech": [ "Hi, Brian." ] }, { "name": "Brian Singer", "speech": [ "The debate -- one of the debates out there is whether for EOG, but also for industry is whether the best of the inventory in shale is drilled from either a productivity perspective or rate of return perspective? And I think for EOG, you’re more specifically pushing back on this point, but the comparison of the Eagle Ford east versus west area. So I was wondering if you could touch on two other areas. The first is the Permian and your outlook for the ability of efficiency and productivity gains from here to overcome movement from core to less core over time. And the second is exploration. I think there was a comment earlier that you expect your exploration efforts will lower the cost of a future oil production. What has given you confidence that that is the case if it is truly exploratory?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes. Brian, thank you for the question. This is Ezra. Let me start with the", "back half of that question first on the exploration side. And what we're excited about on our exploration opportunities is we feel like we've identified multiple opportunities where we have an opportunity to apply some of the data and the techniques that we've been learning on the Eagle Ford, the Woodford, The Permian and the Powder. We can take some of these techniques and apply them to basically a higher quality reservoir that still should be considered unconventional by nature. And we think that the well productivity should be on par with some of our best wells with shallower decline basically due to the reservoir quality. The other important thing obviously, is as you touched on, is being a first mover in these basins and being able to capture the sweet spots of each of these plays.", "If I transition now and -- sorry I did this in reverse order, but if I go to the Permian, for example, I think the way to think about the Permian. And one reason we spent the time highlighting the progress that we've made in the Eagle Ford is that every year one of the benefits of working in multiple basins is yet to combine datasets from multiple basins. And those learnings, as you roll them in and integrate them into the front end of both your geologic models, your drilling and your completions techniques, that's what allows us to improve some of what today might be considered a non-core area and really improve those well productivity results and continue to drive down our cost to increase the returns of those areas. So the best example I would say for the Permian is really looking back at that Eagle Ford example and how we've taken our Western Eagle Ford results today. And really improve them to a point where they're above and beyond what we're doing in the eastern Eagle Ford just a few years ago." ] }, { "name": "Brian Singer", "speech": [ "Great thank you. And then my follow up is with regards to the Powder River Basin. You highlighted that you've made some progress on the infrastructure front. Can you add some more color there particularly in how big you are sizing that infrastructure and how significant you think production could be especially given the competitive profitability you've highlighted at least as it relates to the Niobrara and Mowry zones on your Slide 41?The Turner wasn't there, maybe that would be another point to touch on also?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Brian, this is Billy Helms. Yeah, the first quarter we really tested more Turner and Parkman zones particularly. And as we build out infrastructure for the bigger development it's -- I think our infrastructure build will be built out in segments to keep pace with our plans for drilling in that year’s program. We're not going to get out ahead and build a infrastructure that's made for longer term drilling program just because of the capital efficiency that erode. So the size though, the scale of the infrastructure will be able to handle, certainly, the plan that we have in place for those areas. So it'll be adequately sized, but it'll be scheduled in a pace that keeps up with the current drilling plans for that area.", "So we got off to a slow start really in the Powder, really due to weather. We plan to ramp up activity as we go through the year and we're still very excited about the initial results we're seeing from the Mowry and Niobrara test. And as we get more data on those, certainly we'll provide more color there. But we're still excited about the Powder opportunities we see in front of us." ] }, { "name": "Brian Singer", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from Ryan Todd of Simmons Energy. Please go ahead." ] }, { "name": "Ryan Todd", "speech": [ "Okay, thanks. Maybe a couple of follow-ups and some other things. I appreciate the clarity that you've given on the Eagle Ford. If we look at the -- and the improvements that you've seen out to the west, as we look at the type curve that you carry in the Eagle Ford, it's got a 5,300 foot lateral length with a certain level of productivity there. The lateral length feels like it's clearly trending higher. Is it safe to say that as the lateral length increases and as the West has improved, is that type curve probably conservative relative to what we should expect to see going forward?" ] }, { "name": "Kenneth W. Boedeker", "speech": [ "Yeah, Ryan. This is Ken again. We are really pleased with the way the wells have been reacting out there and our well productivity is meeting the expectations. We do see the performance variations across the 120 mile long acreage position. And as we extend our -- as we extend the laterals in the west we'll be seeing well productivity, increase well rates and capital efficiency increase out there as well as reducing finding cost." ] }, { "name": "Ryan Todd", "speech": [ "Great. Thanks. And then maybe a follow-up on some of the acquisition activity and expiration versus your core basins, you've obviously been spending money picking up acreage in some of your exploratory basins that you are very excited about. I mean does this -- do you still see opportunities to add the positions in your core areas of operations? Or is the valuation outside of those basins just far more compelling at this point?" ] }, { "name": "William Thomas", "speech": [ "Ryan, this is Bill. Certainly, we have a very decentralized exploration effort. All seven of our domestic divisions have very strong exploration staff. So we are working literally every basin in the US, probably not a well being drilled, we don't know something about. And so we're leasing in multiple places here at very low cost. And we believe the prospects that we're leasing on have premium economic potential due to the rock quality as Ezra talked about. And so some of them are in basins that have had a lot of historical production. Some of them are in places where there's not really much historic production at all. But they're all very high quality and the size of the prospects for working on, we use an example of -- a couple of years ago we talked about the Woodford oil play we introduced, that's about 200 million barrels net to EOG. That's kind of on the small side. So we're not looking for things smaller than that, but 200 million barrels net to accompany a discovery of that type anywhere in the world is very significant.", "So last year, we announced two new plays in the Powder River Basin that totaled 1.9 billion barrels. So that's a very large one. So that's a good way to put the brackets on the size of them. But the good thing is, as Ezra talked about, we believe we can continue to organically generate significant prospect potential in the future and added a very, very low cost -- much, much lower costs than doing M&As. And so when we do these bolt-on acquisitions, there are large amounts of acreage for very, very low cost and very, very high potential in our mind. And so we've been generating premium inventory twice as fast as we've been drilling it. And the quality of our inventory is going up at the same time. So some of the previous questions are based on, is EOG's inventory quality declining. And I can tell you -- we can tell you with absolute confidence that we believe our inventory quality will continue to improve. So the quality is going up and we're not having any problem replacing it much faster than we're drilling it." ] }, { "name": "Ryan Todd", "speech": [ "Yes, I appreciate the color. Bill." ] }, { "name": "Operator", "speech": [ "The next question will be from Arun Jayaram of JP Morgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Good morning, Bill. I wanted to see if you could elaborate on your comments on 2020. I know you don't have an official growth target for 2020, but your comments this morning seem to indicate your confidence that the company could grow to a production, call it greater than 14%. And I just wondered maybe qualitatively what would drive you to have that level of confidence, because it would be off of a larger base of production this year?" ] }, { "name": "William Thomas", "speech": [ "Yes, Arun. We have that confidence, because I think of the culture of the company and the structure of the company and our ability to continue to add new plays to the system, we have a chart in our IR deck. I believe it's on Page 11 that shows EOG's existing plays and their maturity phase. So most of the things that we're drilling right now still have a lot of growth opportunity and we're adding additional premium locations in each one of those plays. So that's a big source of new potential.", "And then we're working on all these emerging plays. And as they come into the development mode, that will keep shifting more and more activity and inventory into the growth mode of the company. And the growth mode for each one of these plays are not a few years, they are multi-years, 10 plus, 15 years a growth mode for each one of these plays. And then the structure of our company, because it's decentralized, we can execute on a large number of multiple plays at the same time with a lot of discipline. So we have very expert, strong staff in seven different operating divisions. So we can truly execute in multiple basins and continue to reduce costs, improve technology, be very entrepreneurial and act quickly and make really quick crisp, good high rate of return decisions on each one of the plays at the same time.", "So the company has got a tremendous ability to continue our high return growth profile for a very, very long time. And I think that's quite unique in the industry." ] }, { "name": "Arun Jayaram", "speech": [ "That's great. And just one question in terms of the agreements, they have in place to export -- to expand your export capacity from 100,000 barrels to 250,000 barrels -- for those barrels that you are able to -- with that capacity, how should we think about the uplift relative to WTI from those types of barrels? One of your peers has highlighted maybe the ability to get 60% of the Brent TI spread, let’s call it $3 in transportation. I was wondering if there may be a formula, any way we could think about the uplift that you get on those barrels?" ] }, { "name": "William Thomas", "speech": [ "No, Arun. Thanks for the question. We won't go into the detail on what we may or may not speculate on what we think to uplift. The most important thing, right is, it's a portfolio approach to us. I mean when we have the diversification, we're going to have the capability there to sell domestically. So if that's a higher realized net back for us then we can sell them domestically. And as you think about our export capacity, it's capacity that we can optimize. So again, like if you look back over time and you look at our experience, our goal is to maintain our price realizations and being peer leading in price realizations. So we feel that dock capacity that we have there just positions us that we have agreements in place that we can transact very quickly and we can make sales in the spot business and we can keep it on the international index like a Brent indices or we can keep it at the local markets, but we can take advantage of where the pricing leads us and we can move very quickly. That's the way you probably need to think about that from our standpoint which is we can move quickly, we have the capacity. And we can also -- we can meet that capacity with the Permian and also the Delaware. I think that's also very unique." ] }, { "name": "Arun Jayaram", "speech": [ "Thank you so much. Bye-bye." ] }, { "name": "Operator", "speech": [ "And ladies and gentlemen, this will conclude our question-and-answer session. I would like to hand the conference back over to Mr. Thomas for his closing remarks." ] }, { "name": "William Thomas", "speech": [ "In closing, we first want to say thank you to the tremendous work by everyone at EOG. The company is starting 2019 with our best operational performance in company history. Costs are coming down, allowing us to deliver more oil for less money than ever before. The best part of EOG's culture is that we're not through getting better. We're excited about where we are but we're even more excited about our future. Thanks for listening and thanks for your support." ] }, { "name": "Operator", "speech": [ "Thank you, sir. Ladies and gentlemen, the conference has concluded. Thank you for attending today's presentation. At this time, you may disconnect your lines. And once again the conference has concluded. You may disconnect your lines." ] } ]
EOG	2020-02-28	[ { "description": "Executive Vice President & Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration & Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Executive Vice President, Exploration & Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Bank of America -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "SunTrust -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "KeyBanc -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Baird -- Analyst", "name": "Joseph Allman", "position": "Analyst" }, { "description": "Bernstein Research -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day everyone and welcome to EOG Resources Fourth Quarter 2019 Earnings Results Conference Call. As a reminder, this call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thank you and good morning. Thanks for joining us. We hope everyone has seen the press release announcing fourth quarter and full-year 2019 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. Definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call may include estimated potential reserves and estimated resource potential, not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to US investors that appears at the bottom of our earnings release issued yesterday.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Billy Helms, Chief Operating Officer; Ken Boedeker, EVP Exploration and Production; Ezra Yacob, EVP Exploration and Production; Lance Terveen, Senior VP Marketing; and David Streit, VP, Investor and Public Relations. For the call this morning, we want to cover three topics. First, Bill Thomas will review the characteristics of EOG that have contributed to our long-term sustainable success; second, I will discuss our financial strategy; and third Billy Helms will review the outstanding 2019 operating performance and the 2020 plan.", "Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning everyone. In times of uncertainty, EOG's sustainable business model is well suited to navigate a volatile environment. In fact, we are more confident in EOG's future today than we've ever been in the history of the Company. With our strong balance sheet and flexibility, EOG is better positioned now, both financially and operationally to weather the storms than it's ever been in the past. Our operational performance last year was the best in the Company history, and we believe EOG's performance in 2020 will be even better than 2019. With an industry-leading return on capital employed of 12% in 2019, we beat our plan in every respect. Capital spending was below plan, volumes were over plan, and per unit operating expenses declined more than forecast. We grew oil production at a lower cost per barrel than ever before and delivered on our goal of double-digit returns and double-digit growth in a modest oil price environment.", "The Company also generated nearly $1.9 billion of free cash flow, defined as our discretionary cash flow less our total cash capital expenditures. That cash flow funded the retirement of $900 million of debt and the payment of $588 million in dividends. We accomplished all this with oil prices averaging $57 a barrel. Today, due to our confidence in the future performance of the Company, we are increasing the dividend again for the third year in a row by another 30%. With this increase, our dividend has more than doubled since 2017 and represents an annual return of cash to shareholders of more than $800 million in 2020.", "Our confidence in this Company's future is based on two unique characteristics of EOG. The first is our culture and the second is our premium investment standard. These two qualities drive our Company and give EOG a unique and sustainable competitive advantage. EOG's culture is the foundation of our long-term success. First and foremost, we are return-focused which drives disciplined capital allocation. Our decentralized organization supports an entrepreneurial mindset to drive bottom-up value creation. We embrace technology and innovation to make better wells for lower cost. Counter intuitively, our capital efficiency improves year after year, because we don't consider this a manufacturing process. We pride ourselves on being a responsible operator, good to employees, our communities, our partners and our vendors. We embrace technology and innovation in every aspect of the Company, including reducing our environmental footprint. EOG's culture is our Number 1 competitive advantage and has driven our strong historical success and we are confident it will continue to drive success in the future.", "The second unique characteristic of EOG is our premium investment standard, which is rooted in our return-focused culture. The premium well strategy dictates that a well isn't a well unless it earns at least 30% return at an oil price of $40. Requiring our hurdle rate of 30% for direct capital ensures that once full cost is applied, we earn a healthy double-digit all-in return. We believe our premium standard is one of the most strict investment hurdle rates in the industry and positions EOG to be one of the lowest cost producers in the global energy market. Our premium inventory is growing faster than we drill it and the quality of the wells we are adding to the inventory is improving. To illustrate this point, after three years of adding premium inventory, our medium premium well today, actually yields a direct a-tax [Phonetic] rate of return of over 55% at $40 flat oil prices. With a $50 oil price, the median return soars to more than 80%. The combination of our ability to replace and improve our inventory while continuously lowering cost at the same time is why we are so excited and confident about EOG's future.", "Premium drilling delivers exceptional capital efficiency that has allowed EOG in a modest oil price environment to grow oil volumes at strong double-digit rates and generate significant free cash flow at the same time, a financial profile that is competitive with the best companies in the S&P 500. For 2020, our goal is to continue to create significant shareholder value through discipline investment and high-return premium wells, while ensuring the capital program and dividend payments can be funded at a conservative oil price. In response to lower oil prices, we reduced capital allocation to premium drilling and oil production growth versus 2019. However, we did not slow down investments in projects that we believe will improve the future of the Company. These include drilling and testing a number of new large plays to improve our inventory, building infrastructure to lower operational costs, and investing in projects that will lower future GHG emissions. It's important to note that our 2020 all-in capital efficiency, including infrastructure and exploration is better than 2019, consistent with our commitment to getting better every year. At an oil price of less than $50, our disciplined capital plan of $6.5 billion supports growth in crude oil production of 12%, sets the Company up for better returns in the future and comfortably funds the dividend.", "Finally, we want to review our environmental, social and governance performance. We made significant progress last year in both our ESG disclosure and more importantly our ESG performance. EOG is one of the lowest flaring intensity rates in the industry as recently reported by the Texas Railroad Commission. We're very excited about the level of innovation and degree of focus in the Company to drive further environmental improvements. We continue to expand our water reuse technology throughout the Company. We've been a leader in the use of electric frac fleets and continue to electrify our operations, replacing diesel generation where feasible. We are piloting the use of alternative energy sources such as solar to power compressors and reduce GHG emissions. And last but certainly not least, all these projects are expected to earn returns. We are optimistic that most, if not all of these efforts, and many others will help lower our GHG emissions intensity.", "To sum up, we hope you can see why we're so confident about EOG's future. Our unique culture and premium investment strategy, our competitive advantages that will drive our long-term operational, financial, and environmental performance and together underpin our long-term sustainable success.", "Next up is Tim to review our 2019 financial performance and long-term financial outlook." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Bill.", "EOG had outstanding financial performance in 2019, demonstrating the resiliency of our business. Our 2019 return on capital employed was 12% with oil averaging $57 per barrel for the year and with meaningfully lower NGL and natural gas prices compared to 2018. EOG generated discretionary cash flow for the full year of $8.1 billion and invested $6.2 billion in exploration and development expenditures, resulting in full-year free cash flow of $1.9 billion. Proceeds from asset sales in 2019 contributed an additional $140 million. We paid $588 million in dividends and retired $900 million in debt. Cash on the balance sheet at year end was $2 billion and total debt was $5.2 billion for a net debt-to-total cap ratio of 13%, down from 19% at the end of 2018.", "The power of our premium well strategy can be seen in our financial performance for the last three years. We established the premium hurdle rate in 2016 and the strategies began paying off the very next year. Beginning in 2017, we have: averaged 14% return on capital employed, a return measure that can be directly calculated from our financial statements using GAAP earnings; generated nearly $4.6 billion of free cash flow while growing US oil production by 64%; paid out $1.4 billion in dividends or 30% of free cash flow; and retired nearly $1.9 billion in debt, cutting our debt-to-cap ratio by more than half from 28% to 13%.", "Our focus at EOG is creating long-term shareholder value. The clearest way to realize this goal is to grow the business value of our Company over time while at the same time protecting that value through commodity price cycles. How do we do this? We compound attractive corporate level returns through disciplined growth while ensuring the Company remains profitable in lower commodity price environments. We analyze the model of the Company under numerous scenarios and the outcome from each of them is clear. By reinvesting and growing, EOG generates higher ROCE, higher cash flow, and higher free cash flow in the future and ultimately higher business value. The most tangible output of this strategy is the payment of a regular dividend. The payment of a growing sustainable dividend is the best way to return cash to shareholders and is an integral part of our successful business model, high-return reinvestment. EOG's dividend growth has grown at a compound annual rate of 22% over the last 20 years. I'm pleased to say we have never cut the dividend and never issued equity to support it. In the past three years, the adoption of our premium strategy has dramatically increased the capacity to pay a sustainable dividend in a volatile commodity environment and EOG has responded with healthy increases.", "We analyze the amount of the dividend under many scenarios. There is no simple formula. But one way you can think about it is consider the financial profile of the Company under various oil price environments. This is illustrated on Slide 9 of the investor presentation. In 2020, maintenance capex of $4.1 billion plus the dividend can be funded at an oil price of $40 per barrel. Maintenance capex is the amount of capital required to fund drilling as well as infrastructure requirements to keep oil production flat, relative to 2019 across all premium oil plays. Our premium strategy has dramatically lowered the cost structure, improved the capital efficiency of the Company and increased the capacity to pay a sustainable dividend. We are proud of the performance that allowed us to reward shareholders with sustainable dividends of more than 30% in the last three years.", "Looking ahead, the Board of Directors will ultimately evaluate the amount of the dividend each year, based on business conditions at the time and expectations for the future. Our goal remains the same, pay a growing sustainable dividend that represents a tangible return to shareholders from long-term value creation.", "Next up is Billy to review our operational performance." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim.", "Let me first start by saying that I'm extremely proud of the efforts and achievements of our talented employees for their tremendous execution in 2019. EOG delivered more oil for less capital in all four quarters of 2019. For the full year, we increased US oil production 15%, producing 5,000 barrels of oil per day more than we initially estimated at the start of 2019 with capex that was near the low end of the guidance. We achieved this with four fewer rigs and two fewer completion spreads than originally planned. Driven by efficiency improvements across our operation, total well cost declined 7% in 2019. Internally generated improvements came from every area of our operations, sparked by innovation from EOG's creative, decentralized organization.", "In our drilling operations, a good example is our premium drilling motor program. The program implemented in the Permian, led to a 50% reduction in motor failures in 2019, generating a cost savings of $20,000 per well. We are now implementing this program in the Rockies and Mid-Continent areas, joining the Eagle Ford, which has had a similar program for some time. Our drilling teams are also delivering performance improvements more consistently, which reduces downtime. As a result, our drilling times improved 17% across our 36-rig program. Our completion teams also delivered outstanding improvements in 2019 due to the employment of electric frac fleets and the use of diverter material. As a result, overall well performance increased and completion costs were down 15%. Our drilling and completion advancements last year were the primary reason we delivered higher production with lower capital cost expenditures. Capex savings driven by well cost improvements in 2019 allowed us to invest more money in infrastructure projects and acreage acquisitions than the original plan. Investments in infrastructure like water handling systems have very high rates of return and payback quickly often within months and acquiring low cost acreage in our new exploration prospects will enable the Company to sustain the growth well into the future.", "Operating expenses also improved significantly in 2019, especially per unit LOE cost, which declined by 6% for the full year and a whopping 13% in the fourth quarter of 2019 versus the fourth quarter 2018. Savings from infrastructure investments supported these improvements. Use of diversion material in our completion designs was another driver of operating expense improvement. Diverter mitigates the risk of sand and water incursion into offset wells, reducing work-over expense.", "We had some great accomplishments in 2019 in our environmental and safety performance as well. Most importantly, we reduced the recordable incident rate by nearly 30%. We decreased our use of freshwater. For the total company, 75% of the water sourced from reuse was non-freshwater sources -- 75% of the water sourced from reuse or non-freshwater sources decreased fresh water consumption by more than 25% versus the previous year. In the Permian, 98% of the water was from reuse or non-fresh water sources, reducing the freshwater consumed by more than 60%. We achieved a wellhead gas capture rate of over 98% across the Company, including the Permian Basin, performance we think places EOG among industry leaders.", "Now, just to comment on our reserves. Our 2019 capital program yielded more than 250% reserve replacement at a low finding cost of just $8.21 per BOE, excluding revisions due to commodity price changes. That finding cost is 12% lower than 2018. As a result, our proved reserves increased by 401 million barrels of oil equivalent or 14% year-over-year to 3.3 billion barrels of oil equivalent. Our permanent shift to premium drilling, focused on efficiencies driven by innovation and our unique culture while our capital efficiency continues to improve and how we've lowered our corporate finding cost to less than $8.50 per barrel of oil equivalent. The marketing team also did a phenomenal job last year to position EOG to capture the highest prices for our products, bypassing pinch points while avoiding the kinds of long-term, expensive commitments that narrow profit margins and constrain operational flexibility. In 2019, EOG sold its first cargoes of crude oil into the export market and we will build on that success in 2020 as our long-term export capacity for crude oil and natural gas continues to expand. In 2020, we will be able to successfully transport nearly all of our crude oil, natural gas and NGLs out of the basins where they are produced to capture the highest prices in the domestic markets while also accessing export markets for all these products for the first time.", "Looking ahead into our 2020 capital plan, due to the commodity uncertainty and -- due to the current uncertainty in commodity prices, we reduced capital allocated to oil growth. However, we have allocated capital to fund investments that will continue to improve the Company, such as drilling to test and bring forward new play drilling potential that will improve the quality of our inventory, infrastructure to lower cost, and environmental projects to lower GHG emissions and increase water recycling. The plan allows us to accomplish several key objectives. One, our capital efficiency improves over last year. Our goal is to continue to get better every year and our premium strategy continues to transform the financial and operational efficiency of the Company. In fact, our capital efficiency is strong enough to carry the additional capital allocated to exploration and infrastructure, which will continue to improve future drilling returns, lower cash operating cost and lower the breakeven price needed to generate 10% ROCE.", "Number two, the plan is balanced at $50 oil, meaning we can fund capital expenditures and pay the dividend with discretionary cash flow. To be clear, we have a tremendous amount of flexibility to adjust our activity levels as we see how the commodity landscape plays out. Should we see oil prices continue to trend lower over the sustained period of time, we would reduce our activity and capital budget in order to generate free cash flow. At higher prices, we would not increase activity and our 2020 plan generates significant free cash flow.", "Number three, we are allocating capital to several key new exploration projects. Our 2020 program includes multiple exploration wells in at least six new plays along with additional leasing of low cost acreage. We are confident that our exploration efforts will add future high-return growth potential to our already deep inventory.", "And number four, we anticipate continued improvements in our operational efficiencies. We lowered well costs 7% last year and have set an initial goal to lower our well cost another 4%. We also expect to reduce LOE by another 2%. Our operating teams are highly focused on capturing additional efficiency gains in each area of our operation, and we anticipate that there will be some additional savings from service pricing as well. It's important to note that none of -- that we have not included these potential savings in our 2020 plan.", "Finally, we are starting 2020 off just like we did in 2019, with capex slightly weighted to the first half of the year. We had excellent results in 2019 and we are confident that we will continue to continue that performance into 2020. We allocated capital to Trinidad infrastructure and environmental projects early in the year to allow the most benefit to this year's economics. We will continue to monitor the commodity markets and make adjustments to ensure we meet our objectives of generating free cash flow and solid returns. We have a great deal of flexibility to adjust as needed. Because of our decentralized organizational structure, multi-play portfolio, and deeply ingrained culture that fosters innovation, continuous improvement and growth, I'm highly confident EOG can sustain our success well into the future.", "Now here's Bill to wrap up." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Billy. In closing, I will leave you with these thoughts.", "First, our 2020 plan is set to perform even stronger than 2019. With improved capital efficiency, we are set to deliver strong high-return growth and investments that will strengthen the future of the Company. We are particularly excited about cost reduction and drilling a significant number of wells on several new large exploration plays that we believe will continue to improve our inventory. We see no end to improving the Company in 2020.", "Second, EOG's unique return-focused and innovative culture has proven for decades to deliver significant shareholder value. Our culture continues to improve and we'll continue to drive our future success.", "Third, our strict premium investment hurdle is the most stringent in the industry and a significant and unique competitive advantage that allows EOG to be one of the lowest cost operators in the global energy market.", "And finally, EOG has positioned better than ever to be the leader in ROCE and deliver double-digit growth with significant free cash flow through the commodity cycles. We are more confident and excited about our future now than we've ever been before.", "Thanks for listening and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] And the first question comes from Doug Leggate with Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thanks, good morning everyone. And Bill, may I say thank you for the disclosure on sustaining capital that we've been asking for. It makes life a lot more transparent and a lot easier for us to figure out how we think about valuations so appreciate that on Slide 9 of your deck. My question is on the inventory. I guess, the Slides 12 and 13, again terrific disclosure, but can you just help us understand how -- what the process is, excuse me -- what the process is to translate the -- I think you called it conversion potential of some 5,000 locations and what that visibility looks like longer term, because the only knock on your stock now that we constantly here is, while as you continue to grow and increase the pace, that inventory life is going to shrink. So, applying some kind of annuity valuation becomes problematic unless you've got that visibility. So, what is the process and what is the debt, I guess, is the question." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Doug. Thank you. Yeah, our inventory, when I think about EOG's inventory life, it's probably last on my list of things to worry about I'd say because the Company has just historically and continues to be a prolific generator of inventory. And since we started premium in 2016, we've just steadily increased the inventory up and currently it's 10,500 locations and we have an additional 5,000 locations that really are just on the verge of converting into premium. And I'm going to ask Ezra to give a little bit more color on about how we do this and then maybe talk about some of our additional inventory through our exploration." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. This is Ezra. Thanks for the question. As Bill pointed out, we have identified 10,500 premium locations right now which at our current pace of drilling represents about 13 years of drilling and then those 5,000 locations that you both pointed out with the conversion potential would add another six years at the current pace. So, going back to the conversion potential, I think, as Billy noted in the opening remarks, this past year, we were able to reduce well costs across the Company by approximately 7% and that's really the number one driver of converting those well locations and that's something we've done over the past four years is be able to lower well cost every year through not just reduced contract pricing, but dominantly through our increased operational efficiency and applying innovative technologies and capturing different parts of the value chain. So, that's the first way that we look to expand the inventory, the premium inventory.", "The second thing we do, which is a bit more challenging, of course, is through our exploration effort and that's an organic exploration effort where we're currently trying to add not only additional premium locations. We've really improved the quality of the locations. So as you mentioned on Slide 12, we've shown what the medium rate of return of our current premium well inventory is there at 58% rate of return on that premium price deck of $40 flat oil, $2.50 natural gas. So, what we're trying to do is really increase that and we're currently for the past 12 months to 18 months we've been leasing in -- across 10 different prospects and as Billy mentioned in the opening remarks, we look to be testing about six of those this year and we're very excited about the progress of those exploration prospects and the potential that they could add to the inventory." ] }, { "name": "Doug Leggate", "speech": [ "Thanks for the detailed answer guys. My immediate part B to that real quick, the maintenance capital number, what's the decline rate that goes with that?" ] }, { "name": "Bill Thomas", "speech": [ "I'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "It's -- yeah, the decline on the base production's 32%, Doug." ] }, { "name": "Doug Leggate", "speech": [ "Thank you. So my follow-up then is just a real quick one. Billy, it's also for you, I guess, because you talked about you wouldn't increase spending in a higher oil price environment. Well, I guess, the question that kind of follows from that is, are we seeing then a reset in your sort of base planning assumptions for the commodity because even we believe your stock is very undervalued here and I wonder if share buybacks becomes a consideration at some point." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Doug. This is Billy. I may give you some thoughts and then maybe Bill want to answer, but since you directed the question to me, I guess, yeah, the point is that we're going to stay disciplined on our capital program. So, we'll certainly adjust downward if commodity prices show that this is going to last for a sustained period of time, but if they do rebound, we will not outspend our capital that we've allocated for this year and we're going to stay disciplined with that. And the reason is, we're going to -- as we've stated in the past, we only continue to fund at a point which we can continue to get better. We have a lot of different agendas to try to improve this year and including the exploration projects we talked about and many of the other projects we've got under way, and we certainly want to see those through. So, if oil prices suddenly jump way up, we're not going to rush out and increase capital. So, our plan is really set based on conservative outlook at the time we set the plan and that's not going to change as we go through the year." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Doug, I'll just comment on your question about would we consider share buybacks and just reiterate our priorities really have not changed. Number one, as Tim talked about, the best way to create business value is there's no question about it anyway, you want to run it, is reinvesting a high rates of return and that's what we're committed to and that's what we really want to stay focused on. The next priority is sustaining and growing the dividend and we believe the dividend is the best way to return cash to shareholders over the long term and obviously we have been -- demonstrated a very, very strong commitment to that this year and previous year. So, that's the way that we want to continue to focus on returning cash to shareholders." ] }, { "name": "Operator", "speech": [ "And our next question will come from Arun Jayaram with JPMorgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, Bill, I was wondering if you could comment on how EOG is thinking about some of the demand impacts from the coronavirus and the state of the oil market today and what would be the Company's game plan if we did move into an environment where we have sustained oil prices caught in the low $40s for some bit of time?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Arun, certainly this is a huge world event and it's developing and we like everybody else is watching really daily the developments around the world and we certainly hope and pray it's a short-term event, but if it turned to a longer-term of that, as Billy said, we're in a fantastic position, Number 1. We got a great balance sheet and we are committed to that and that's certainly been a strength of EOG for years and years and years. And so, that puts us in a great position. And then, we're very flexible. We have an operational ability to adjust activity and I think I'll let Billy comment a little bit more about that, maybe some of the specifics." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Arun. So, the way I would add to that is we have the capability to adjust our rig activity and frac fleets down to really be in line with our sustainable capex or our maintenance capital numbers. So, we set out a plan that really allows us to capture the highest performing rigs and frac crews in the market, but we have a tremendous amount of flexibility to adjust downward if we need to. And so -- and the same would apply to our allocation of capital to our infrastructure spend and another things. We have the same capability to adjust that downward if needed. So, we'd just be patient here and watch to see how the market unfolds and adjust accordingly." ] }, { "name": "Arun Jayaram", "speech": [ "Fair enough. Bill, in your prepared comments you talked about some of the infrastructure spend, which is designed to lower your operating cost. I was wondering if you could maybe give us a little bit more color on the magnitude and the level of these investments. What exactly are you investing in on the infrastructure side?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, the infrastructure is just very critical to build out that infrastructure ahead of the drilling, because it has significant well cost reduction and which certainly increases returns. It has a significant influence on lowering operating costs significantly also and it allows us to, I think, certainly market our products and get our products online, reduce flaring, just all kinds of tremendous benefits. So, really important to stay ahead of that. And maybe Billy you want -- you can give a little bit more color on some of the specifics." ] }, { "name": "Billy Helms", "speech": [ "Yeah. On the specific side of that, Arun, as Bill mentioned, there is a lot of things that we'd like to fund and I would -- all of these projects have a direct impact not only on our capital cost in the future of our drilling program, but also lowering our unit operating costs. So, I would point you to Slide 16 in our deck that shows in the last several years, we've reduced our cash operating expense tremendously, 33% percent since 2014. A large part of that decrease came from investment in infrastructure. It allows, even as Ezra talked earlier about our inventory and our ability to convert these wells to premium, part of that cost goes back to investing in infrastructure. So, there are things like the most economic part of that would be getting trucks off the road and reducing our transportation cost, getting water on pipe, oil and gas infrastructure in place, well ahead of the drilling program so that we minimize not only our capital cost for that upcoming year and future years, but also the biggest impact on lowering our full year's LOE and certainly our transportation costs. So, that's largely what it entails." ] }, { "name": "Arun Jayaram", "speech": [ "Great, thanks a lot." ] }, { "name": "Operator", "speech": [ "The next question comes from Neal Dingmann with SunTrust. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Morning, Bill and team. My first question's on your 2020 plan, specifically, how fluid is your allocation to the various high-return plays along with how actively you might change your well spacing and other development plans based on what the commodity prices do?" ] }, { "name": "Bill Thomas", "speech": [ "Neil, this is Bill. On the last point, I don't think we would change spacing that much based on the commodity prices, really, we're already basing our economics on all of our drilling on $40 flat oil. So, we're -- even with a drop in price, we're still have a very strict reinvestment hurdle. So, that part we wouldn't really change too much. As far as the plays, the reason it's really easy for us to, I guess, ramp down activity is that we're in multiple plays. We're developing six plays out of multiple divisions. So, you just take one rig per play which is an easy reduction out of each play. It's really easy to do and it makes it really fluid. If you can take two rigs out of each play, that's 12 rig. So we haven't -- because of our decentralized organization and multiple plays, it's not that difficult to systematically reduce as the commodity price changes." ] }, { "name": "Neal Dingmann", "speech": [ "No, that makes sense. And then my second question, Bill, for you or the team is just on infrastructure. You all suggest in the release that you would allocate a bit more to infrastructure. I'm just wondering, will there come a time down the road where your infrastructure reaches a size where you can consider monetizing or does this remain too critical in keeping your costs lower?" ] }, { "name": "Bill Thomas", "speech": [ "I'll ask Billy to comment on that one." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Neil. Yeah, I would say that the infrastructure is just a critical component of our development activities on a go-forward basis and it really doesn't make sense for us economically or financially to monetize that because it is a big part. As I mentioned earlier, it's a big part of driving our unit costs down and improving our returns long term. So, we plan to -- we look at each case independently to see where it makes sense for us to invest in that infrastructure versus others and a large part of that goes back to our need to control how we get those products to market also to capture the biggest prices in not only domestic markets, but also be able to export that as we need to." ] }, { "name": "Neal Dingmann", "speech": [ "Perfect. Thanks for the details, guys." ] }, { "name": "Operator", "speech": [ "The next question is from Brian Singer with Goldman Sachs." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning. My first question's on the Eagle Ford shale. There has been [Indecipherable] about the shift from east to west within the portfolio and concerns over falling EURs. On Slide 42, you highlight the extent to which in well costs were lower in the Eagle Ford, which arguably offset some of that last year about 11% well cost reduction. In 2020, your target for well cost reductions is a bit more modest at 4%. And so, wanted to ask how you see well productivity playing out in the Eagle Ford in 2020 and your outlook for the trajectory for capital efficiency there." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Brian. Thank you for the question on the Eagle Ford. I think the main thing that's really important on the Eagle Ford is that due to the dramatic cost reductions we continue to have there, our economics remain very, very, very strong. And so, Ken's the expert on the Eagle Ford. I am going to ask him to comment on specifics there." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Yes, Brian. As we've moved to the west over the last few years, we've continued to lower the cost basis in the Eagle Ford and improve our returns. If you look at the cost basis, so everything that it takes us to find, develop, produce and market our oil there, you can see that cost basis has continued to reduce even though our percentage to the -- going to the West has increased by several percent over the last few years. Out in the West, it's less structurally complex so we're able to drill longer wells and as we bring our cost reductions into that area along with our improved targeting and better completion strategies, we expect those costs to continue to reduce. Our field crew there in the Eagle Ford is just doing an outstanding job in driving those costs down." ] }, { "name": "Brian Singer", "speech": [ "And so when net-net in 2020 then, just a follow-up -- just -- do you continue to see at or better capital efficiency when you think about the cost reduction potential and then how you see your well performance?" ] }, { "name": "Ken Boedeker", "speech": [ "Yes, we would expect to see actually better capital efficiency in 2020 than we saw '19 in the Eagle Ford." ] }, { "name": "Brian Singer", "speech": [ "Great, thanks. And then my follow up is with regards to acreage acquisitions. You talked about that and some capital being earmarked for that this year again. Can you characterize what stage you're in there, the acreage that you -- or the capital that you're earmarking, is that capital that is for -- based on well results that you know of that are already meeting your return thresholds or is this acreage that is essentially being bought in advance of testing? And then, one of the items that's also on your list for use of excess cash is premium property additions and perhaps you can give an update on how that market looks." ] }, { "name": "Bill Thomas", "speech": [ "Brian, I'm going to ask Ezra to comment on the acreage." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Brian. This is Ezra. As far as the acreage in the exploration plays, we really spent, I think, as I just mentioned the last 12 months to 18 months putting together acreage in what we consider to be the highest quality kind of the Tier 1, if you will, parts of these exploration plays and we've been doing that at relatively low cost, really, well under $1,000 per acre I'd say across all of those plays. And we've gotten at least six of those plays as we mentioned to a point where there will still be some additional acreage to put together, but we're at the point on those plays where we plan on drilling and testing those this year. And then, we will still be leasing across some of the other exploration plays as well and, obviously, with these exploration plays, just to keep our competitive advantage up, Brian, I don't want to say too much more than that." ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Yeah, Brian, as far as the maybe bolt-on acquisitions, we really don't plan on doing any significant bolt-ons this year, maybe as a few little really small ones in our exploration plays, but with the commodity prices what they are, we're going to be really careful with cash and make sure that we focus it on things that are going to generate super high returns." ] }, { "name": "Operator", "speech": [ "The next question will come from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. Just wanted to get a sense of whether or not in this type of market, which clearly has been quite weak, it feels a little bit like 2016 right now. Whether or not you guys would take advantage of your strong balance sheet to maybe look at some chunkier bolt-on M&A type situations like you did with the Yates back then." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Leo. Yeah, I think we just talked about that. No, we don't really have any big plans to do any bolt-on or larger deals. We've been very fortunate as Ezra talked about. Over the last year and a half we've accreted a significant amount of acreage in a number of what we think are very, very high quality plays and we have accreted that at very low cost per acre. And so, we're going to be focused on testing those this year. How we increase in the exploration spend this year is all in drilling. So, we're really set up to test those this year and we're excited about adding new higher quality potential and improving our inventory through our exploration efforts." ] }, { "name": "Leo Mariani", "speech": [ "Okay, that's helpful. And I guess just with respect to the the well cost reductions, looks like you guys beat your target last year 5%, came in at 7%, new target here at 4% in 2020. Just wanted to get a sense of where do you kind of see as the high level kind of big drivers and I guess none of this is service costs in terms of what can lead to those cost reductions here in '20." ] }, { "name": "Bill Thomas", "speech": [ "I am going to ask Billy to comment on that one." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo. There are several factors. It's not one single thing as you ought to imagine. We're seeing certainly some softness in the tubular side. We'll be probably be about 8% lower on tubulars this year relative to last year. Certainly on the completion side of the business, that's probably the area of the biggest decreases we'll see this year and a large -- part of that still is on sand cost that could be down again this year just due to mainly getting sand even closer to the wellhead than we did last year. And we are even seeing some softness in drilling rig rates. So, the biggest thing though, I think, that's going to drive that is just our continued push. So, those all were service-related issues. The biggest cost drivers will be on efficiency gains. We just continue to get better and better at everything we do, drilling wells much faster, the use of diverter, improving our completion efficiencies and lowering our well cost, those things all drive the biggest majority of our savings year-over-year." ] }, { "name": "Operator", "speech": [ "And our next question will come from Paul Cheng with Scotiabank." ] }, { "name": "Paul Cheng", "speech": [ "Good morning, guys." ] }, { "name": "Bill Thomas", "speech": [ "Good morning." ] }, { "name": "Paul Cheng", "speech": [ "Two quick question. I think, Billy you have said that you may, if in the event that you need to reduce the activity level that you could be very easy to just maybe take out one rig per play, but is that the plan or that you will be more looking at, say, a particular play you're going to see more of the one or two is going to be target first or that you will be targeting on the infrastructure that we saw development spending?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, if I understand the question, Paul, you're asking where would we reduce, would there be any specific plays that we would reduce more other or we would maybe look at infrastructure reduction? Billy can you comment?" ] }, { "name": "Paul Cheng", "speech": [ "That's correct." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Yeah, Paul. This is Billy. Just to give you a sense, we have a lot of flexibility in all areas. So, we would look at each part of our plan and accordingly adjust as we need to. So, it would be not only just drilling. It could be infrastructure projects as well. And we like to get out ahead of the drilling just to put in the infrastructure to maximize their benefit, but if we slowed down drilling in an area, we will certainly slow down infrastructure spend as well. So, that's one way to think about it. As far as one play relative to the other, as Bill mentioned earlier, it's really easy to adjust each play down and we'll certainly make those decisions when we see the market unfold. So, as we mentioned earlier, we'll just be patient and kind of watch to see what happens before we start making any adjustments." ] }, { "name": "Paul Cheng", "speech": [ "Okay. The second question just, I think, the Cheniere LNG export term just starting up soon. So, can you tell us that, I mean, how much you pay for the toll and that the physical terms there? [Speech Overlap] going to get ramped to the 440 million cubic feet per day." ] }, { "name": "Ezra Yacob", "speech": [ "Okay. Hey, Good morning, Paul. Thanks for the question. First off, related to the contractual terms just due to the confidentiality, we can't disclose that, but I can walk you through a little bit of when that started up. So, we actually did start with Cheniere. We're excited about that and we actually had our first lifting on January 20. And so, that is 140 million a day that will be linked JKM. So that's started up in January. And then that will ramp up to 440 million a day with 300 million of that being linked to Henry Hub. So, that's currently what's in place today." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Scott Gruber with Citigroup. Please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yes, good morning. Thanks for taking my questions. Can you hear me?" ] }, { "name": "Billy Helms", "speech": [ "Morning." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, we can. Go ahead, Scott." ] }, { "name": "Scott Gruber", "speech": [ "Yeah, just coming back to the infrastructure question that some of your spend on facilities G&P [Phonetic] and environmental projects to be about 20% of the total this year. How should we think about that over time? Where to kind of go at some of these strategic investment slate?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Billy will comment on that, Scott." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Scott. We typically budget every year the overall infrastructure for our facilities in G&P. It's usually about 15% to 20% of our typical plan and this year we've allocated a little bit more closer to the 20% number as you just mentioned and that varies year to-year depending on where we are in the development of each play and our need for infrastructure to expand those plays and get our cost reductions that we anticipate. So this particular year, it's a little closer to the high end, but I think in general, it's usually between 15% and 20%." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then, appreciate the disclosure on the maintenance capex. How should we think about the infrastructure percentage within that figure?" ] }, { "name": "Billy Helms", "speech": [ "It would probably..." ] }, { "name": "Bill Thomas", "speech": [ "Go ahead." ] }, { "name": "Billy Helms", "speech": [ "Yeah, it would probably be on the low end of that number, 15% to 20% that I mentioned earlier would be on the low end of that. Certainly we would -- focusing on our core areas where we have a little need for additional infrastructure expansion and that would just remind you that that's a maintenance capital number for this year based on keeping this year's number flat." ] }, { "name": "Scott Gruber", "speech": [ "Got it. Makes sense. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from Joseph Allman with Baird." ] }, { "name": "Joseph Allman", "speech": [ "Thank you and thanks for all the comments. So, on the dividend, what analysis do you do to determine that the dividend is sustainable and to determine how much to increase it. I know Tim commented on this earlier, but like how many years do you look out, three years, five years, 10 years or more and what are the factors that you model and what type of stress testing do you do?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, we'll ask Tim to comment on that." ] }, { "name": "Tim Driggers", "speech": [ "Hey, Joe. Yeah, when we model it, we model it on several different scenarios, but as far as how far out we look, we look out about five years because that's really about as far as you can look out as far as the strip goes to get an idea of what -- how to model commodity prices and we stress test it on just about every metric you can imagine, to come up with a recommendation to the Board on where to move the dividend. And so then, as you can imagine, there is a lots of discussion around all that analysis and the Board either agrees with us or doesn't and then we move forward with that increase." ] }, { "name": "Joseph Allman", "speech": [ "That's helpful, Tim. And then, on Slide 9, the maintenance capex slide, I assume that that's a dynamic metric. So, could you describe how that might change over the next few years?" ] }, { "name": "Bill Thomas", "speech": [ "We'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Joe. So, it's important to understand how we come up with the maintenance capital number to start with. It's a very detailed bottoms-up approach, starting with this year's plan, our 2020 plan and then scaling that down in each one of our plays to make sure we maintain kind of flat growth in each one of our premium plays. So, that's kind of the approach. So each year certainly, depending on what our volumes were, would determine what that level of maintenance capital would be needed to replace or at least maintain the prior-year's production number. So again, this number would fluctuate just depending on what kind of target we're trying to hit, but we would approach it the same way. And then that -- it's pretty important to note too that that covers both capital and the dividend at $40. So, it's a pretty good number. It just demonstrates the improvement in our capital efficiencies and basically, this assumes also that we don't see any improvements in either our production performance or additional gains and lowering well cost. So, it's taking the existing conditions as we have today." ] }, { "name": "Operator", "speech": [ "Our next question will be from Bob Brackett with Bernstein Research. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Good morning, Bill. You mentioned that inventory was last on the list of things that you worry about. Could you go to the top of that list and talk about the things specific to EOG that you worry about?" ] }, { "name": "Bill Thomas", "speech": [ "Well, Bob, of course, oil prices would be number one. It's always number one. So, that's the most difficult part in our volatile environment that we deal with. Really, the Company is in such fantastic shape, I don't really spend a lot of time up at night worried about the direction of the Company. As we said, we've got tremendous confidence in our ability to really continue to have very, very, very good success. And the main -- and the reason is simply what we stated before is our culture. I mean we have a -- I think a very unique incredible culture and the bottom and the value of the Company is bottom-up driven. It's not me driving it. It's not me making decisions on where to drill the wells or how do get the costs down. It's literally every person in the Company is a business person and we give them -- they have the data. They have the ability to analyze it and make decisions, and it's just really the results that we have in the Company are very sustainable because they come from a 1,000 different places. And so, that takes the pressure off of me and it really is just a fantastic organization. So, that really is the basis of our confidence." ] }, { "name": "Bob Brackett", "speech": [ "Okay. So, not much to worry about from that perspective. Thank you for that." ] }, { "name": "Operator", "speech": [ "And our next question will come from Jeanine Wai with Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi, good morning. This is Jeanine. My first question is on inventory quality, back to that Slide 13, where you show rate of return versus your premium well count at different oil prices. For that curve, what does the distribution look like by basin and can you point to kind of where 2020 -- where that sits on the curve?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, certainly. On the curve, the distribution of the wells, the returns is about the same at each one of our plays. It looks very much the same. We have single premium, double premium, triple premium wells in really every play that we're developing. And then our 2020 plan, the returns on our 2020 plan would reflect about the median there. When we look back on our scorecard for last year, our 2019 plan, our returns at the current prices are at $40 flat oil. We're about the median. So, that represents the median returns there which are 53% at $40 -- I mean, 58% at $40 flat and an incredible 83% after tax rate of return at $50 flat oil prices are about the returns that we're getting on our drilling program." ] }, { "name": "Jeanine Wai", "speech": [ "Okay, great. That's really helpful. My second question is on the balance sheet and maybe we're just being a little too nuanced here but we noticed that there was a slight change in messaging on the debt reduction program from I think the slide went from targeting $3 billion in debt reduction to quote evaluating options for current maturity. So, can you just provide a little color on this whether you have any new debt or cash target in response to the macro view and I guess the reason why we're asking is because we had thought that getting through your $3 billion debt reduction program was potentially a trigger for doing share buybacks or other things of the free cash flow." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Tim will comment on that." ] }, { "name": "Jeanine Wai", "speech": [ "Yes. So, there was a slight change there and the reason was where we're at in the commodity cycle. We will pay off our two bonds that come due this year. One is due April 1 and the other's June 1. They are $500 million each. So, obviously we'll pay those off. We'll then evaluate where the market is currently and where it looks like it will be going long term to see where commodity prices are going and make a decision, a prudent decision whether or not to refinance those bonds or not. The goal is still to pay off $3 billion over that period of time, but we have to be prudent and look at the conditions at the time and decide where to go." ] }, { "name": "Operator", "speech": [ "Thank you, this concludes our question-and-answer session. I would like to turn the conference back over to Bill Thomas for any closing remarks." ] }, { "name": "Bill Thomas", "speech": [ "Well, first of all 2019 was the best operating performance in the history of the Company and that is just due to -- just what we've been talking about is to everybody in EOG. So, thank you to everybody in EOG for doing a fantastic job. We're excited about carrying that momentum into 2020. The Company's got a great balance sheet. We've got operational flexibilities we've talked about, industry-leading premium inventory and a unique EOG culture. So, the Company is set to weather the storms and weather the downturns and to continue to deliver strong results in the future. We're really excited about where we are and where we're headed. So thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
EOG	2022-08-05	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "MKM Partners -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources second quarter 2020 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release and EOG's SEC filings. This conference call also contains certain non-GAAP financial measures.", "Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website. This conference call may also include estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chief executive officer; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, VP, investor relations. Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. Yesterday, we declared a third special dividend for the year, demonstrating our commitment to deliver long-term shareholder value through our cash return strategy. The $1.50 dividend is supported by another outstanding quarter.", "We posted adjusted earnings of $2.74 per share and nearly $1.3 billion of free cash flow. So far this year, we have declared $4.30 per share of special dividends. Combined with our peer-leading annualized regular dividend of $3 per share, we are on pace to pay out a minimum of 60% of annual free cash flow. We'll continue to differentiate EOG as our people and our assets.", "We've cultivated an inventory of premium and double premium wells that provide a 20-year runway for the company through our focus on organic exploration supported by a decentralized organizational structure. Our multi-basin portfolio is predominantly the result of having seven North American and one international cross-functional exploration teams that work independently, but collaborate on shared learnings. Our role here in Houston beyond capital allocation is to facilitate those shared learnings across all eight teams. The result is a robust exploration pipeline that continues to both improve the quality of and expand our more than 20-year inventory of premium and double premium wells.", "Our portfolio includes the Delaware Basin, which remains the largest area of activity in the company and is delivering exceptional returns. After more than a decade of high-return drilling, our Eagle Ford asset continues to deliver top-tier results while operating at a steady pace. In our emerging South Texas Dorado dry natural gas play and Powder River Basin, Mowry and Niobrara Combo plays are contributing to EOG's success today and laying the groundwork for years of future high-return investment. In addition, we have tested our Mowry and Niobrara plays in the Northern Powder River Basin.", "Our initial results have demonstrated the untapped potential of this oilier part of the basin as a complement to the outstanding performance in the southern part of the basin. EOG's current multi-basin portfolio, offering exposure to both geographic and product diversity, alongside several other prospects in our exploration pipeline, will continue to expand EOG's premium inventory and provide through-the-cycle value creation. Disciplined reinvestment within any given play depends on where we are in the development life cycle of that play. Our multi-basin portfolio of high-return assets all competitive against our premium hurdle rate provides invaluable flexibility to invest at the pace that allows each play to get better.", "It also allows us to plan around basin-level market dynamics impacting services and infrastructure to minimize inflation and bottlenecks. We are able to optimize reinvestment across our total portfolio to add reserves at lower finding costs, lower the overall cost base of the company and continue to improve EOG's companywide capital efficiency. This quarter, we are highlighting iSense, our continuous methane monitoring system that we piloted in the Delaware Basin and are now deploying in our most active development areas. iSense is yet another example of how EOG's decentralized model not only fosters innovation across eight teams, but also compounds the impact of innovation by taking ideas born in one operating area and expanding them across multiple basins.", "From the latest in information technology-driven solutions to reduce emissions, to innovation focused on drilling and completions operations, to procurement of casing and sand, EOG is unique in its ability to leverage its culture and operating structure to get incrementally better every year. The tremendous inventory and cost improvements we've made over the last several years provides high confidence in the low breakevens and operational flexibility of our business. This confidence in our business, along with the strength of our industry-leading balance sheet -- this quarter to terminate a significant portion of our oil and natural gas hedges. Going forward, we expect to hedge significantly less than the 20% to 30% of volumes we typically hedge in prior years.", "The current operating environment is challenging given the volatility of commodity prices and inflation headwinds. Through it all, our employees have remained focused on execution and have improved the business. Our second-quarter performance is proof of that. We delivered more oil for less capital.", "And in the face of a unique inflationary environment, our forecast for capital expenditure this year remains unchanged. EOG's consistent execution, low-cost structure, reduced hedge position and transparent cash return strategy based on a regular dividend that we have never suspended or cut that has grown 21 of the last 24 years and is now competitive with the broader market, puts EOG in its strongest position ever to deliver significant value to shareholders through the cycle. Here's Billy with an operational update and early look at 2023." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Ezra. We posted outstanding results in the second quarter. Our performance included exceeding the midpoints of our production guidance, while capital expenditures and total per unit operating cost beat forecasted targets. So once again, more oil for less capital.", "I'd like to thank our employees for their dedication and persistence to execute and deliver such outstanding results. As we have guided to all year, our oil growth year over year will be about 4% to return our production to pre-COVID levels. Halfway through the year, we're on track to deliver that objective and have done so against a challenging supply chain backdrop. The upper price pressure on steel, fuel and labor continues due to ongoing supply constraints initiated by COVID and extended by the war in Ukraine.", "The impact of this has resulted in inflationary headwinds that have meaningfully exceeded our initial expectations earlier this year, making it increasingly challenging to maintain flat well cost. However, our employees continue to innovate and deliver efficiencies that offset a significant portion of this inflationary pressure. For example, in our Delaware Basin drilling operation, our downhole drilling motor program is providing solid performance improvements, generating a 13% year-over-year increase in the footage drilled per motor run. The motor program and other improvements are reducing drilling times versus last year.", "In the Eagle Ford, our drilling teams have improved the footage drilled per day by 11% versus last year, while also managing drilling parameters to reduce the cost of drilling fluids by 10%. In our completion operations, we had previously discussed the company's plans to increase the use of Super Zipper completions, which are 40% faster than normal Zipper operations. We have now utilized this technique on about 65% of EOG's completed wells year to date, which is yielding an 11% improvement in the lateral footage completed per day. Super Zipper completions, combined with our focus on more efficient operational practices, has increased the amount of pumping hours per day by 24%.", "In addition, we continue to progress our self-sourced sand program and expect to further reduce sand cost in the second half of the year and extend those savings into 2023. All in all, we now expect our well cost to see a modest single-digit increase over last year, and most of this increase will be seen in the second half of the year. However, we're able to leverage our operational flexibility within our multi-basin portfolio such that our capital and volume plan remains unchanged. Now turning to the macro backdrop.", "Oilfield service capacity remains extremely tight and is further constrained by the limited availability of materials and experienced labor, driving uncertainty in the cost of services not only for this year, but also for 2023. These constraints are more concentrated in areas with the highest activities such as the Permian Basin. EOG's multi-basin portfolio provides us the flexibility to manage these constraints by optimizing activity between our multiple plays to maximize our return on investment. Just as in the past, EOG will play to its strengths to mitigate where possible, the inflationary pressure and operational constraints facing us.", "We are currently taking steps to secure services for next year and we'll know more about the 2023 outlook next quarter. Regarding production growth, it's too early to discuss next year's plans with any degree of precision. However, it is important to recognize we will maintain our discipline. And as we see things today, would expect low single-digit oil growth similar to this year.", "On the natural gas side, we're excited about the results of our South Texas Dorado play and its ability to play an increasing role in supplying the growing demand of petrochemical and LNG markets along the Gulf Coast. As we allocate future capital based on returns, this play will command additional investment, not only to meet the growing demand, but also for infrastructure needed to capture the value chain from the well head to the market center. These investments not only generate healthy returns, but, ultimately, lead to lower well cost and lower long-term unit operating cost. We also expect to fund our emerging and promising exploration plays as we improve the company for the future.", "Now here's Ken to give you an update on our emissions reductions effort." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. This quarter, we are providing details on our continuous methane monitoring project, which is an example of the progress we're making in our emission reduction efforts. Over the last several years, our leak detection and repair program, or LDAR, has advanced from sound site smell surveys to surveys using more accurate optical gas imaging, to today's deployment of scalable solutions of the latest technology, continuous methane monitoring. This technology detects potential leaks and provides real-time alerts to help accelerate repairs and will provide data and trend analysis to potentially prevent future methane releases.", "We've been evaluating continuous methane monitoring technology for a few years. There are several third-party systems and technologies available to monitor and detect potential methane leaks, which use intermittent or continuous monitoring technology. About 18 months ago, we began a pilot project using a solution we built in-house named iSense, which is a fence line monitoring solution that uses methane sensing technology to continuously monitor facilities and provide real-time alerts of potential leaks to a central control room. We tested iSense against monitoring solutions in use and available in the market today and confirm that our sensor detected methane release events consistent with these third-party systems.", "The results from these tests confirm that iSense is the most effective solution for EOG to use to detect and accelerate leak repairs while also being scalable and economic. Like so many of our innovations, this technology is being spearheaded by our employees across the company. Since the pilot, our employees are rapidly deploying iSense in the field, prioritizing areas of highest potential impact. The initial installations are focused in the Delaware Basin and currently cover about 60% of our production.", "We expect that most of the remaining Delaware Basin production will be monitored by iSense by year end. We'll continue to roll out iSense in other operating areas next year. Using our proprietary system allows us to own the data creation, flow and storage, which is a priority with all our information systems. Owning the iSense data and retaining direct control of its collection provides invaluable flexibility to improve both data quality as well as the tools to analyze and integrate iSense data with existing operational data from our production facilities.", "This data, along with our ability to monitor our operations for many of our four control rooms, will enhance the 24/7 capability to continuously identify, prioritize and repair leaks. In the future, when data from iSense is paired with other real-time production data, we expect to be able to make improvements in the design of facilities to minimize releases. We're also optimistic that we will be able to more readily predict the likely size and source of a methane release. Leveraging technology to enhance our methane leak detection and repair program is another great example of EOG's culture of continuous improvement throughout all our operations.", "Our employees have embraced the company's emission reduction efforts, and I'm excited to see how EOG's culture of innovation and technology will continue to drive creative solutions. Now here's Jeff to discuss the progress we've made in our premium combo play in the Southern Powder River Basin." ] }, { "name": "Jeff Leitzell", "speech": [ "Thanks, Ken. Our emerging Mowry and Niobrara plays in the Southern Powder River Basin have made significant progress recently. The powder returned to steady development last year after a pullback in 2020 driven by the pandemic. Results in 2021 were stellar with respect to both well performance and well cost reduction.", "Strong results to date, combined with the benefit of infrastructure investments have positioned the Mowry and Niobrara plays to command more capital in 2023 and beyond. The Powder River Basin is an established operating area for both EOG and the industry, that has experienced several chapters of development over its history. The latest chapter for EOG kicked off in 2018 when we moved the Mowry and Niobrara plays into commercial development. We identified nearly 1,500 net premium locations between both targets over our 130,000 net acre position in the southern part of the basin.", "Since 2018, we have made great strides in fine-tuning our technical model to improve the predictability and performance of the wells. We've delineated the different parts of the basin, high-grading the specific landing zones. The basin has stacked potential similar to the Permian, with two widespread, well-known, very robust source rocks in the Mowry and Niobrara. Amongst those two source rocks are hybrid opportunities, such as silt zones and sand zones, a whole section of reservoir that really lends itself to horizontal drilling and completions.", "We have also made targeted infrastructure investments in recent years, which have helped lower the cost structure in each play. We have added nearly 40 miles of water pipeline and 2.5 million barrels of water storage capacity. Our water infrastructure investment in the PRB has allowed us to source about 90% of our water used in our operations from reuse, reducing costs for both water sourcing and disposal. We have also invested in infrastructure to enable local sand sourcing.", "The installation of a high-pressure gas gathering system has been instrumental in achieving a 99.8% gas capture rate. The infrastructure is also benefiting our operating costs. Per unit lease operating expense in the Powder is among the lowest in the company. The PRB is farther from market than some of our other premium plays.", "However, the Mowry and Niobrara have several advantages that more than make up for it. First and foremost, the wells have some of the largest per well reserves in the company on a barrel of oil equivalent basis. In the Southern PRB, the Niobrara and Mowry formations are more combo that is they produce a mix of oil and natural gas. While the laterals are also longer at 9,500 feet, which contributes to the higher recoveries, well performance is mostly due to the quality of the reservoir and composition of the products with a large component of natural gas that supports higher recoveries.", "To date, EOG has completed about 40 net Mowry Niobrara wells in the Southern PRB. This year, we anticipate completing 15 net Mowry and Niobrara wells and expect to significantly increase that activity next year. As a result of our exploration work on the entire Powder River Basin hydrocarbon system over the last few years, we have also built an additional 110 net acre block in the north, extending our acreage in the productive fairway to 90 miles. The northern area is a historically underexplored part of the basin.", "And after recognizing the potential in the area, we cored up acreage adjacent to our legacy acreage through a series of trades and small bolt-on transactions. Utilizing reservoir data from multiple plays, we identified landing zones in the Mowry and Niobrara formation with favorable petrophysical and geomechanical properties and began testing. We drilled four successful delineation wells, which we believe are industry first in the area. While it is still early in the delineation, we've confirmed the development potential of our Northern Powder River Basin acreage to add to our future premium inventory.", "The Mowry and the Niobrara combo plays in the Southern Powder River Basin stand today well positioned to compete for capital within the portfolio and combined with our position to the North, the basin has significant investment potential for years to come. Next up is Lance to provide some color on our marketing position in the Powder." ] }, { "name": "Lance Terveen", "speech": [ "Thanks, Jeff. As we look further downstream, the investment in infrastructure that has lowered the cost structure in the Southern Powder River Basin also allows us to apply our time-tested marketing strategy of establishing multiple connections to provide market pricing diversification. Today, we hold sufficient processing, transportation and fractionation capacity for natural gas liquids out of the PRB. We have access to both the Mid-Continent at Conway, Kansas and the Gulf Coast at Mont Belvieu, Texas, an underappreciated aspect of the Mowry and Niobrara wells is their prolific NGL production and the heavier post-processing mix of NGLs they produce.", "After processing to minimize ethane extraction, our Powder River Basin NGL barrel contains approximately 10% ethane, 45% propane and the remainder being butanes and more of a heavier NGLs, resulting in an NGL to WTI price ratio of over 50%. In the first half of this year, our NGL price realization was 53.01 which is a $7.17 premium to the Mont Belvieu typical barrel. In addition, the quality of the Power River Basin oil has an average API gravity of 44 to 47 and remains in high demand. During the first half of this year, realized prices for oil production out of the PRB or WTI plus $1.63 with access to both Guernsey, Wyoming and Cushing, Oklahoma markets.", "Stepping back, I'd like to review our marketing strategy for the company as a whole. On all our active development areas, we want to retain control of our products and establish multiple sales points, which adds significant value. For example, in the first half of this year, we transported an average of 188,000 barrels of oil per day for export, which represents about 30% of gross production with optionality to sell based on a WTI or a brand index. With the widening of the Brent-WTI spread, we have the opportunity to take advantage of our capacity to deliver up to 250,000 barrels of oil per day for export.", "For propane, we have delivered 19,000 barrels per day for export at premium prices to Mont Belvieu. We also continue to see strong uplift in our natural gas price realizations due to our early mover advantage of securing 140,000 MMBtus per day linked to JKM through Cheniere's LNG facility in Corpus Christi. Cheniere recently announced FID or final investment decision on Stage 3 in Corpus Christi. Once Stage 3 goes in service, EOG will triple its exposure to JKM to 420,000 MMBtus per day.", "We continue to see constructive long-term demand for all our products, both domestically, along the Gulf Coast and internationally. To unlock that value, you need control of your products, transportation capacity and an early mover advantage to capture spreads quickly. As we look down the road, EOG is well positioned to capture the strength of prices in these export markets to generate additional cash flow and value to shareholders. Next up is Ezra for concluding remarks." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Lance. We believe EOG is differentiated for the following reasons. We have a diverse portfolio of assets across multiple basins, providing geographic and product diversity. We are a reliable and consistent, high-performing operator.", "We have among the lowest cost structures. We are committed to sustainability. We maintain an exceptional balance sheet. Our cash return strategy is transparent.", "Our regular dividend is competitive with the broader market. And finally, the EOG culture is one of a kind, and it's at the core of our differentiated performance. We believe there are only a handful of North American E&P companies that have the asset quality, the size, the scale to compete globally on oil and gas cost of supply. And on top of that, produce the barrels with a lower environmental footprint.", "In the future, those are the companies that the world is going to want to deliver additional barrels. And we firmly believe that EOG is a leader in that group of North American E&Ps. Thanks for listening. We'll now go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question comes from Leo Mariani, MKM Partners. Leo, please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. Totally realize that it's obviously way too early for '23 guidance at this point. You guys did have some prepared comments, which kind of said as things stand today. You would look to grow oil kind of low single digits next year.", "I guess it feels like a bit of a pivot from what you all had said in the past, which was kind of this 8% to 10% oil growth would kind of be optimal sort of operating speed for EOG as kind of something changed in terms of how you look at kind of optimizing the operations versus the growth of the company." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo. This is Ezra. I appreciate your question. Really, what we've always talked about is that our growth is really the output of our ability to generate high returns from a disciplined reinvestment strategy.", "And that's really what we've tried to describe today is as you pointed out, first of all, it is early to talk about 2023. But ultimately, we're committed to remaining disciplined. We want to focus investment in each of our assets at a level where they can continue to improve every year. Directionally, as we see it today, how the supply and demand balances look, the constraints on services, the associated inflationary pressures, oil growth will likely be similar to this year.", "And as Billy highlighted, we'd expect to direct additional investment toward our Dorado natural gas play based on the positive results that we're seeing there." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's helpful. And I just wanted to ask on the capital. Obviously, you're one of the few companies did not raise the capex budget thus far here in '22.", "You described a lot of the ways that you're able to kind of keep costs lower and some of the innovation that you've sort of had. I did notice that you did pull some of the wells out of the schedule this year. It's not big numbers, just talking a few on the margin. Just wanted to get a sense, is there any thought that you're maybe doing a little bit less to kind of stay within the budget and just kind of looking at where you were in the first half and third quarter guidance.", "Is it fair to say you're probably kind of in the upper half of the capex for the year?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Leo, this is Billy Helms. Yes. The small change in well count is really just a result of two things: One is timing.", "Some of the wells that were scheduled to complete at year-end are going to slip into the next year. It's just a timing thing. The other factor that plays into that is a change in working interest in some of our plays. We've had slightly lower working interest in some of our Delaware Basin wells in the second half of the year.", "Just to illustrate how minimal that is, that's only about a 2% average change in working interest across the year. So it's a very minuscule amount, but that explains the change in the well count. As far as the capex, we're very pleased, as you can tell from the comments we made about the ability of our teams to continue to innovate and drive efficiencies in our business to offset inflation. Inflation turns out to be just a little bit higher than we anticipated this year, so we are going to see a slight increase in our well cost as we go through especially the second half of the year, but we're still confident we're going to stay within our guidance and don't expect to face additional costs that will increase our budget." ] }, { "name": "Leo Mariani", "speech": [ "Great. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Our next question comes from Arun Jayaram from JPMorgan Chase. Arun, please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah. Good morning. I appreciate the color on the Powder River Basin, but I guess my first question is just thinking about capital allocation between the basins as we think about next year. Today, Ezra, I think 22 of 24 of your rig lines are either in the Delaware or Eagle Ford.", "You have one rig in the Powder River Basin. You mentioned in your comments you plan to lean a little bit on Dorado next year and significantly increase perhaps the mix of activity in the Powder River Basin. Just wondering if you can give us a sense of how your activity could shift as we think about next year and how many rig lines you may have in the Powder." ] }, { "name": "Billy Helms", "speech": [ "Yes, Arun. This is Billy. As far as capital allocation, as we see it today, there's a lot of factors play into that, of course, and it's early to say where we're going to be still well have quite a bit of activity in the Delaware Basin going forward. It is a premier play in the company, and certainly, that will continue to command quite a bit of capital.", "Eagle Ford has been, as you know, a performance engine for the company for the last decade or longer. And that will -- and they're generating outstanding results. So that will still command capital. As we compare -- we allocate capital based on returns and certainly, the encouragement we're seeing from Dorado and the activity there is showing us the ability to be able to continue to fund that program going forward.", "And then the confidence we have in the new emerging Powder River Basin gives us a sense that, that will also come in quite a bit of activity. So the ratios, I would say, are going to stay similar. As far as the Powder River Basin and our overall capital plan, that will depend on the outlook for commodities at that time, but the -- what we're going to see in the powder, just to be clear, is a shift of activity from some of their older traditional plays, the Turner and the Parkman to some of the deeper, more emerging plays in the Mowry more specifically in the Nio. So you'll see that shift.", "The amount of capital allocated to that play will also depend on just the commodity price outlook that we see for the year once we get closer to that. But overall, we're -- the takeaway from that, I would think, would be that the flexibility we have with the multiple plays we have to change to continue to add value long term to the shareholders." ] }, { "name": "Arun Jayaram", "speech": [ "Great. My follow-up is just maybe one for Tim. Just maybe a housekeeping question. Tim, in the 10-Q, you have $1.8 billion of collateral postings associated with hedge activity.", "I was wondering if you could help us think about the potential runoff of those collateral postings as well as maybe the timing of when you plan to pay off the $1.25 billion of bonds. Is that later this year or in '23?" ] }, { "name": "Tim Driggers", "speech": [ "Yes. This is Tim. As far as the bond, that is '23. It's in the first quarter of 2023 is when that will mature.", "We have no plans to pay it off early. As far as the collateral they run off kind of like the hedges that we've given you the timing of when those hedges are in our 10-Q. So it kind of runs off as that timing comes off. It all depends, of course, on where the strip goes, how that comes off.", "But right now, it's based on the strip, and that would be how it would come off as just as those run off." ] }, { "name": "Arun Jayaram", "speech": [ "All right. Great. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question comes from Scott Hanold from RBC Capital Markets. Scott, please go ahead." ] }, { "name": "Scott Hanold", "speech": [ "Yes. Thanks. And if I could ask a question, one more question maybe on the PRB. You all highlight some good commodity price realizations that you're all seeing there.", "Is that something that you think can persist going forward? And is it a function of what's happening in the basin overall? Or is it specifically something EOG's got in place that allows you to kind of benefit there a little bit more." ] }, { "name": "Lance Terveen", "speech": [ "Scott, this is Lance Terveen. Thanks for your question. Yes, when you think about the price realizations, I think the broader message is just you can really just see how competitive the powder is with all our other plays. I mean, operationally, I mean, you heard Jeff kind of outline a lot of things in the opening comments, but even for our products, we continue to just really see it being in high demand.", "For example, like even on the crude, you have to remember one of the important attributes up in the powder, especially related to EOG, is just think about the crude quality. I mean today, we're kind of seeing right around 44, 45. We expect that to kind of be a 44, 47 kind of over time. And so we really want to protect that quality.", "We've secured 500,000 barrels of storage is kind of in the field. We've got firm capacity to both Guernsey and the Cushing market. So having that multiple flexibility where we can show that kind of high demand barrel and the API quality that we have keep it kind of segregated with that API quality, it's really a value when we sell direct to our refiners. And so just being able to have that value and have that quality and consistency is key, and so we draw a lot of that experience from what we've done in the Eagle Ford and also in the Powder -- I mean, I'm sorry, in the Delaware Basin.", "But yes, that's -- it's -- the quality is what you're seeing on the price realizations. And then as you think about the NGLs, you're seeing mostly ethane rejection that's happening there. So most of that, you're seeing the ethane that's going to be going more toward like an MMBtu or selling that as a gas. And so that is a heavier barrel that you're seeing that we kind of show.", "But again, we have the market flexibility. We can show that barrel in Conway. We can also show that barrel in Mont Belvieu. So we can kind of are that flexibility to and look at those spreads.", "So getting kind of back to your question, I mean, really the quality and then the flexibility that we have with the multiple markets and it's in an area that's absolutely in demand as we --" ] }, { "name": "Scott Hanold", "speech": [ "Got it. And as my follow-up, I want to ask a question on Trinidad. And it looks like you're guiding down a fair amount for gas production in Trinidad. And I know you've had some exploration success there, and I think you're drilling and development or you have or you're going to be drilling a development well this year.", "So can you give us a sense of like what to expect from trended at? And is it more of the relative pricing dynamic there versus Dorado in terms of like which play is going to get sort of more capital investment?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Scott. This is Billy Helms. So for Trinidad, we've had, as you know, a long successful history of really maintaining pretty much flat production with minimal investment, and it generates quite a bit of cash flow for the company. So it's been a very successful project for multiple decades now.", "We still see exploration opportunities and are still counting on exploration success going forward just based on the things we see today. The small guide down in gas production, especially in the next, say, the rest of this year, is based on some turnaround projects we have on some of the compressor stations and platforms in the field. So it's just an operational issue really in the manifest in the third quarter mainly. But as we start to drill some of these exploration wells, we still have confidence that production base will continue." ] }, { "name": "Scott Hanold", "speech": [ "OK. OK. So it should turn around back to sort of normal levels by early '23. Is that right?" ] }, { "name": "Billy Helms", "speech": [ "Yes. That's right." ] }, { "name": "Scott Hanold", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Scott Gruber from Citigroup. Scott, please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yes. Good morning. Just coming back to the inflation question, I know you guys have previously commented that you don't see an outsized inflationary impact on EOG next year from contract role or any other factors. But have you engaged in these earlier than normal discussions for services and consumables, etc., are you still confident that the inflation that you experienced next year will not be any worse than the industry trends?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Scott. This is Billy Helms, again. On the inflation question, I think I would distinguish a little bit there. I think we're recognizing the inflation that everybody else in the industry is seeing.", "We're able to combat that really through a lot of the efficiencies we drive through our business. And that's really a result of the culture we have of continuous improvement and the quality of the staff we have in each of our operating divisions. So now the contracting strategy has always been a long-term thing for EOG. We worked with our vendors, our partners on the service side.", "And our contracts are always a little bit staggered so that all the contracts don't roll off at the same time. That gives us a lot of flexibility to also manage the commodity cycles to make sure we have a consistent operating performance level going into the year. We always start about this time of year. So I wouldn't say we're starting any earlier than we typically do.", "I think we always started sometime here in the middle part of the year to start securing services for the next year as we see things play out. We take opportunities as we see those emerge to make arrangements with vendors and our service partners to secure those services in the upcoming year and that determines the level of services that we secure for next year's well cost. We typically like to think about securing about 50% to 60% of the well cost ahead of any given year. And that range depends on the opportunities we see with service partners to lock in those services.", "This year, we expect to be somewhat the same as we go into next year, but it -- we'll see as we get closer to the year-end, but that's how we see the inflation. Obviously, we expect with the tightness in the market, we're going to see some additional inflationary pressure going into next year. So just anticipating that, we could see another uptick in our well cost going into next year, but we expect to, again, moderate a lot of that with our efficiency gains." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then a follow-up here on the 60% distribution threshold really in light of the early hedge settlement payments you made this quarter, so if you include those payments which you guys are doing your reporting, then you guys are running ahead of the threshold. But if you assume those are more of a onetime hit to free cash, then you're running a little bit behind that threshold. And I know you look at the threshold on an annual basis.", "So I guess the question is, what's your appetite to approach the 60% payout for the year removing the impact of the $1.3 billion in early head settlement payments?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Scott. This is Ezra. Just a little bit of color on that. Obviously, the board decides the dividend each quarter.", "They review our business needs, the macro environment, the cash position, so on and so forth. And as you said, the $1.50 per share special this quarter, which brings the total dividend commitment to right at $7.30 per share is on pace to achieve the minimum of a 60% free cash flow return. And I think that's the emphasis on there is that the 60% is a minimum. Ultimately, it's up to the board, like I said, to return additional cash in 2022.", "The way to think about those early terminations of the hedges is really a reflection, I think, of our confidence in improving the financial profile of the company. Our ability to navigate inflationary pressures this year flexibility to allocate capital across multiple resource plays, which are each delivering exceptional returns and really our ability to continue to lower the cost base of the company. These are all things that deliver expanded free cash flow opportunities for EOG." ] }, { "name": "Scott Gruber", "speech": [ "Great. Appreciate the color, Ezra. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Neal Dingmann from Truist Securities. Neal, please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning. My first question is maybe for you or Tim, on a little bit different capital allocation. Specifically, I'm trying to get a sense of what you all would need to see either quantitative and qualitatively need to see to start potentially look at more or, I guess, as guys calling out there leading into buybacks. Do you have an understand you all have bought back shares for years and we did see a decent decline a month or so from the highs.", "So I'm just wondering when you guys think about buybacks, what -- when you say opportunistic, what really goes into that?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neal. This is Ezra. Thank you for the question. Basically, we evaluate a buyback just like any other investment decision.", "And really, what we do is we look to see how it's going to create long-term shareholder value. And as you highlighted and as we've discussed previously, the $5 billion share repurchase authorization that we have in place, we've talked about using it opportunistically. And what that means for us is using it during times of what we would say are significant dislocations in the market. And that's as opposed to a more programmatic system.", "And quite frankly, this year, during Q2, we didn't really see a what we would say was a significant dislocation. We definitely witnessed a lot of volatility, I think, rather than a dislocation. The volatility was due -- is driven by changes to the oil inventories that we saw that was really due to the SPR releases. We saw some concern over demand destruction associated with the inflationary pressures across the broad market.", "We saw some potential for weaker demand associated with the uptick of COVID cases. But ultimately, in our view, these are all kind of short-term events that really don't change the fundamental supply and demand picture." ] }, { "name": "Neal Dingmann", "speech": [ "I like how you all thinking about that, Ezra. And then my second or follow-up likely for Billy, just on vertical integrations, specifically. You all have other areas -- other oilfield service areas besides you mentioned the self-sourced sand. And I'm just wondering do you have other areas that, I guess, you would call it more vertically integrated or that you would think about doing that.", "And I'm just wondering that also on that self-source sand, how much capacity do you have on that side?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Neal, this is Billy. Certainly, on the self-source sand, you named one of the primary ones. It's a big part of our program. We've been doing that, as you might remember, for more than a decade.", "And what we've been able to do is find ways to get the source of the sand closer and closer to the wellhead minimizing not only the cost of the product, but also the transportation involved in getting it to the wellhead. We are expanding that through the rest of the year such that we'll be able to continue to supply greater and greater amounts from our own self-sourced mines, so we're excited about the growth in that. Other areas that we self-source, there's a number of them. I mentioned briefly in the prepared comments, a note to our efforts to take control of the drilling motors that we use in our drilling operation.", "That's a small thing maybe, but it's a big driver of performance when it comes to that part of the business. And we recognized that a couple of years ago, built up some expertise in our staff to address that. We worked specifically to not only design, but also and oversee the maintenance of those motors that ultimately drives the improved performance and we're seeing great results from that program. And that's another differentiator in our drilling performance that allows us to continue to offset inflation.", "Some of the other things, as you know, we've been managing our tubular inventory for many, many years as well. we deal directly with the steel mills, which gives us a lot of advantages in the sense of having some clarity or some certainty on the market and kind of what that's indicating to get ahead of issues where we see it, take advantage of opportunities to secure those at lower cost and make sure that we have pipe for our programs on a go-forward basis. So those are maybe a couple of other things that would give you some color on what we're doing." ] }, { "name": "Neal Dingmann", "speech": [ "That's great details, Billy. Thank you, guys, for the time." ] }, { "name": "Operator", "speech": [ "Our next question comes from Doug Leggate from Bank of America. Doug, please go ahead. Doug Leggate, your line is now open. You can proceed with your question." ] }, { "name": "Doug Leggate", "speech": [ "Good morning, everyone. Thanks for letting me on. Ezra, Slide 5, your latest assessment of cash flow doesn't give any numbers around it in terms of breakeven. I wonder if I could just ask you to look into 2023 and give us an update of where you see your sustaining capital and the breakeven oil and gas prices that go along with that, the assumptions behind that, if you don't mind." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. We haven't released that and we did remove the breakeven slide from earlier this year because of the significant change in gas prices that have gone on in the first six months of the year. The best thing I can point to is the fact that we continue to bring on lower-cost reserves, basically focused on the premium and double premium wells into the cost base of the company. You can look at a reduction unit costs and the reduction in our DD&A rate year over year to kind of infer the reduction in our breakevens." ] }, { "name": "Doug Leggate", "speech": [ "OK. I'll push David on this and see if we can get him to put it back in a pretty critical input to, obviously, the market's perception of free cash flow, but I appreciate the answer. My follow-up is, I apologize in advance if you're not going to like this, but just a follow-up on the share buyback question. Dislocations in your stock is subjected obviously.", "But if I look at your share performance in both absolute terms and in relative terms in particular for the last four or five years, it's really struggled to against the rest of the sector. And one could interpret from your comments about dislocations and perhaps to buy back that you don't see value in your stock. So I wonder if you could address that versus the transitory nature of a special dividend, why you wouldn't want to step in because just about everyone of your peers is doing something on buybacks and their share performance is quite different from yours on a relative basis. So any thoughts around that would be appreciated." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. The first thing I would say is that that's right. I think it's stating the obvious that I feel that our stock is undervalued right now. But again, we look at that buyback and investment in that buyback, we compare it against other opportunities in the business to create shareholder value -- long-term shareholder value.", "And when we do that, when we compare it versus reinvesting in the business, drilling these double premium -- these premium wells at a 30% and a 60% direct after-tax rate of return based on $40 oil and $2.50 natural gas, it's a very, very high hurdle. So when we think about what can create longer-term value for the shareholder, we see the benefit of reinvesting in the business, driving down our long-term well costs, lowering the breakevens as we talked about, as a very, very competitive portion of allocation. Now with regards on the transitory nature -- comparison with the transitory nature of a special dividend, I think, again, it goes back to the way that we look at the buyback with regard to our shareholders. Buying, repurchasing shares during a volatile movement in the stock price.", "I think our shareholders prefer to have the assurity of special dividends coming back to them as opposed to us trying to time the volatility in the markets. Now that's different from, again, I would go back to what we call a significant market dislocation where I think you'd have an opportunity there that would compete very favorably to create long-term shareholder value." ] }, { "name": "Doug Leggate", "speech": [ "Is that a tricky one, I guess, a special dividend isn't reinvesting? And if you think your stock is undervalued, then one could argue that the volatility is something you've got to live with that you think -- I guess we're never going to -- we're probably not going to agree on this, but it seems to me the special dividend is -- yes, it's the lesser permanent impact from the share price, I guess, is what I was getting at. But anyway, I appreciate your answer, as I always appreciate your perspective. Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Paul Cheng from Scotiabank. Paul, please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning. Two questions, please. Also, could you comment on the A&D market.", "In, for example, in Eagle Ford, I think you gentlemen have said the asset is getting a little bit higher. So do you see opportunity to make maybe more sizable bolt-on acquisition that to beef up the operation there? And secondly, that just wondering that have you guys got a chance to review the new standard proposal on the tax law changes? And how that -- what will be any major impact to EOG? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Paul. This is Ezra. Let me attack that first question on the Eagle Ford, and then I'll hand it over to Tim Driggers to give some feedback on the tax law proposals. So on the A&D market there in the Eagle Ford, yes, let me clarify how we're viewing the Eagle Ford right now.", "We're on pace to deliver for the second year in a row, basically record rates of return and record finding costs in our drilling program there. And the big thing that it comes to is it kind of fits back into some of my opening comments, talking about the right investment rate for plays at different life cycles. So clearly, our Eagle Ford position has reached a point where it's not a main focus area for growth anymore. But what we see is a very, very long runway of exceptional returns on those wells as you reinvest in them, assuming that we're moving at the right pace where our team has the ability to execute on lowering costs, increasing incrementally the well productivity.", "As far as expanding our footprint there, we still have a very robust Eagle Ford inventory position. When I think about the Eagle Ford position, we've talked about 7,000 locations and being approximately halfway drilled through those locations. So still well over 10 years' worth of inventory to drill on. The other thing about looking to do A&D in an established basin like that is just going to be the cost of acquisition.", "We primarily focus our exploration efforts, and we always have for the two decades that we've been involved in unconventional resources on organic or greenfield lease acquisitions because that low cost of entry is critically important to providing through-cycle value to the shareholders. Those -- the PDP value that you would have to pay for in an established area or just established acreage prices, those things stay with you on your books forever. It raises the cost base of the company and is really antithesis to what we've been trying to do over the last few years by shifting to premium and now double premium drilling. Tim, would you like to please comment on the tax proposals?" ] }, { "name": "Tim Driggers", "speech": [ "Paul, as far as the proposal, we're in the process of reviewing that as is everyone else currently, but specifically looking at the minimum tax proposal. We do not see that as having any detriment to EOG. We are a full taxpayer already. So as we model it currently, it will have no impact on EOG." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jeanine Wai from Barclays. Jeanine, please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Thanks for taking our questions. Maybe just following up on Paul's question there. Low-cost bolt-ons have always been part of your capital allocation strategy.", "And we noticed the cash flow statement had about $350 million of that in there. Any color on whether that was primarily blocking and tackling in your active areas? Or is that more on the exploration front?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Jeanine, this is Billy Helms. That particular acquisition is really just an opportunity we found to bolt on some largely primarily acreage in some of our exploration plays, very little lift, no production on those plays. And it just is another way that we continue to add and grow at a low cost, our exploration opportunity set that we see in the future of the company." ] }, { "name": "Jeanine Wai", "speech": [ "OK. Great. And then maybe just a quick 1 on marketing. You talked about -- you've got optionality for up to 250,000 barrels a day of Brent exposure.", "You're not electing that much right now, but we're looking at your production levels out of the Permian and the Eagle Ford. And so what's the capacity to increase beyond that 250 or maybe to get to that 250? And if you were to take on some more exposure on that, is this really looking at things more on the contract side? Or are you also securing to -- or are you also open to securing more docks based on your own?" ] }, { "name": "Lance Terveen", "speech": [ "Jeanine, thanks for the question. Good question, too, is timely. The exports, especially for crude oil has been an important component of our marketing strategy. But when you really look just from an industry standpoint, too, I mean, refiners in the U.S.", "are not expanding. I mean, if anything, it's degrading, right? I mean we're seeing our market share. You're seeing refineries shutting down. You're seeing refineries that are being repurposed.", "And so we had a view going all the way back to 2018 that we wanted to have a significant export position that we could access from multiple plays. And I know one of your questions there was just how do we think about the Delaware Basin? Or how do we think about the Eagle Ford? And you're exactly right. That was all in our contracting that we wanted to be able to have a large position that we could access from both of those plays. So if you think about it today, we have that 250 and yes that facility is expandable, but we have 5 million barrels of storage.", "I mean we can segregate WTL, WTI. We can segregate our Eagle Ford. I mean, we're in a premier position as we think about from a low cost and being in early with our tankage position and then also with the capacity that we have out of the Delaware Basin from a transport position and also from the Eagle Ford. So what I would say is we can transact very quickly we have tankage that's in place.", "And so if we feel the need that we needed to push more across, that's absolutely something that we could do." ] }, { "name": "Jeanine Wai", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Neil Mehta from Goldman Sachs. Neil, please go ahead." ] }, { "name": "Neil Mehta", "speech": [ "Hey. Good morning, Ezra and team. Just one question for me. It's just -- can you give us the lay of the land of how the Dorado program is shaping up? How do you think about the net asset as we go into next year from a planning perspective, but as we continue to see the gas curve has firmed up here, how do you think Dorado could fit into the overall U.S.", "gas picture?" ] }, { "name": "Ken Boedeker", "speech": [ "Yes, Neil, this is Ken. At this time, we really have two drilling reactive in the Dorado play. And just to give you a little bit of a background on it, since 2018, we've drilled and completed over 30 of our 1,250 premium locations, both in the Austin Chalk and the Eagle Ford, and we've really made excellent progress on reducing well cost and enhancing our geologic understanding and increasing our well performance. We're -- we've increased our lateral length and we're really operationally being able to execute.", "As far as how 2023 goes, it's a little early to talk about the 2023 program yet. Obviously, we'll remain disciplined with our investment there, first, to make sure that the market needs the gas and second, to make sure we're operationally getting better. We -- one thing to keep in mind is really don't need a lot of wells there to grow production significantly given the performance of the wells and their shallow decline rates." ] }, { "name": "Operator", "speech": [ "In the interest of time, that is the end of the Q&A session today. So I'll now hand you over to Mr. Yacob for closing remarks." ] }, { "name": "Ezra Yacob", "speech": [ "Yes. And we want to thank everyone for participating in the call this morning, and thanks to our shareholders for their continued support. We especially want to recognize our employees for their performance this quarter. Our discussion today highlights their focus on making EOG a low-cost operator, generating high returns and lowering our environmental footprint each and every year.", "Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2018-11-02	[ { "description": "Chief Financial Officer", "name": "Timothy Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "William Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "EVP, Exploration and Production", "name": "Ezra Y. Yacob", "position": "Executive" }, { "description": "Executive Vice President-Exploration and Production", "name": "David Trice", "position": "Executive" }, { "description": "Simmons Energy -- Analyst", "name": "Ryan Todd", "position": "Analyst" }, { "description": "JP Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "--", "name": "Unidentified Speaker", "position": "Other" }, { "description": "Nat Alliance Securities -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Sanford C. Bernstein & Co. -- Analyst", "name": "Robert Alan Brackett", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Imperial Capital -- Analyst", "name": "Irene Haas", "position": "Analyst" }, { "description": "Guggenheim Partners -- Analyst", "name": "Subash Chandra", "position": "Analyst" }, { "description": "Tuohy Brothers Investment Research -- Analyst", "name": "Jeffrey Campbell", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources Third Quarter 2018 Earnings Results Conference Call. As a reminder, this call is being recorded.", "At this time for opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Timothy Driggers", "speech": [ "Thank you. Good morning, and thanks for joining us. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. The reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "Some of the reserve estimates on this conference call may include estimated potential reserves not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to US investors that appears at the bottom of our earnings release issued yesterday.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Gary Thomas, President; Billy Helms, Chief Operating Officer; David Trice, EVP Exploration and Production; Ezra Yacob, EVP Exploration and Production; Lance Terveen, Senior VP Marketing; and David Streit, VP Investor and Public Relations.", "Here's Bill Thomas." ] }, { "name": "William Thomas", "speech": [ "Thanks, Tim, and good morning to everyone. EOG is a higher return organic growth company and we are delivering what we promised, a compelling combination of high returns, disciplined growth, and free cash flow. In the third quarter, we lowered well costs and improve well performance. As a result, year-to-date we are generating triple digit well level returns. We grew our oil production 27% year-over-year and total production 25%. And we generated over $0.5 billion in free cash flow. This is a rare performance not often seen in our industry or even in the broader market.", "Our third quarter results demonstrate the value of EOG's unique culture of innovation supported by a rich history of a data-driven, non bureaucratic flat organization, innovations, real-time data gathering, rapid analytics, and redeployment of learning's to the field are continually producing improving results through the company. For example, in the Delaware Basin, we are making significant progress and breaking the code for optimal well spacing. Likewise, on the cost side, we are making significant progress driving down drilling and completion costs. The same is true for our Woodford oil play, we're just like in the Delaware, we're finding better drilling targets, discovering improved completion techniques, and lowering costs, all at the same time. We're excited about our progress and the continuous improvements we are seeing this year, and more importantly, we believe there's plenty of momentum to continue to get better in 2019.", "EOG's unique culture of innovation and focus on exploration are fundamental to our sustainable business model. Our culture of innovation drives continuous improvements in each play we developed, maximizing the value of our leasehold by optimizing NPV returns and finding in development costs. Our focus on organic exploration makes EOG a prospect generating machine, and we continue to generate significant new ideas and to be clear about it, we are only interested in adding new plays that will increase the quality of our premium inventory. And we're encouraged with the new prospects we're currently evaluating.", "Innovation and exploration are key to EOG's sustainable business model and creates long-term value for our shareholders. We're on track to deliver double-digit ROCE and strong double-digit production growth in 2018. Those two milestone achievements combined with returning cash to shareholders through a 31% increase in the dividend this year, debt reduction and the generation of substantial free cash flow make EOG a unique and compelling investment, not only in the E&P industry, but in the broader market.", "Looking forward to 2019. We're not going to increase capital at the expense of efficiencies and returns. We will develop our assets and spend capital at a pace that will optimize our learning curve and allow sustainable improvement to our well productivity and cost structure. Any production growth is strictly the result of disciplined capital allocation to higher return assets. Furthermore, capital allocation will continue to be based on returns measured against our premium price deck of $40 flat oil and $2.50 flat natural gas prices. No matter, if commodity prices improve next year.", "Our goal of being one of the lowest cost producers in the global oil market has not changed. We are continuously resetting the company to deliver strong returns even in the low-to-moderate oil price environment. Next step is Billy to discuss third quarter highlights -- the results of a well executed capital and operational plan and how we plan to maintain that performance for the remainder of the year and into 2019." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Bill. Our operating teams continued to deliver solid performance executing our 2018 program. As a result, we are seeing returns on a direct basis, reached levels previously not achieved in the history of the company. New technology is increasing drilling speeds, drilling more consistent targets and lowering cost all at the same time, combined with cost reductions from local sand, water recycling and infrastructure projects. We are well on our way to achieving our stretch goal of reducing average cost 5% by year-end 2018. Our goal is to be one of the lowest cost producers in the global E&P industry, and we are very pleased with our progress through the third quarter. As we near the end of 2018, industry activity is slowing. Consequently, the service sector is experiencing a period of softness in the market. To take advantage of market conditions, we elected to secure some of our existing service providers through the fourth quarter for next year's program. This will capture favorable prices and sustain the operational continuity of these high performing service providers into 2019. For example, we retained a number of high performing completion crews that we had initially planned to release in the fourth quarter. Retaining these crews means we will complete 20 additional net wells compared to our prior forecast and accomplish our objective of maintaining our momentum into next year. We have contracted for about 65% of our anticipated services and materials needs in 2019, which is higher at this point in the calendar year than in past years. By doing so, we expect to reduce total well cost again in 2019, and negotiate a structure for these services provides EOG with a great deal of flexibility to adjust our activity level in 2019. We also anticipate opportunities to capture additional leasehold before year end. As Bill mentioned, our exploration efforts are key to our proven sustainable business model by both replenishing and improving the quality of our premium inventory.", "As we begin planning for 2019, disciplined capital allocation is key. We view growth as a byproduct of focusing on returns first, while we aren't providing specific guidance for 2019 today, we can provide some broad outlines of how the plan is shaping up. We are targeting an arbitrary growth rate. We are seeking to reinvest capital to the point that allows us to continue to lower cost and improve efficiencies. Again, capital allocation will continue to be based on returns measured against our premium price deck of $40 oil and $2.50 natural gas.", "I'll turn the call over to Ezra to update you on the Delaware Basin and Eagle Ford." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Thanks, Billy. In the Delaware Basin, we have made remarkable progress determining how to optimally develop this technically complex basin. During the first three quarters of 2018, we put 201 net wells to sales in various spacing and target patterns, which generated more than 150% direct after-tax rate of return. Well results across all of our Delaware Basin targets are consistently outperforming their respective type curves and early production observations and data have been incorporated into our ongoing development to further improve future well productivity. The geology in this basin is variable and complex. So there will not be a single answer on spacing or package size. However, the ultimate goal is to maximize capital efficiency by optimizing the numerous drivers of finding cost, returns and NPV. We are also making significant progress reducing well costs in a number of areas. Like many operators, we are benefiting from local sand, most of our gains are from operational efficiencies. Drilling days are down 10%. We steadily increased the use of zipper fracs throughout the year, contributing to a 20% increase in stages completed per day and a more than 10% decrease in completions costs.", "Finally, our investment in water infrastructure is paying off. We are moving 95% of our water on pipe that includes water used for drilling and completion operations, as well as produced water. Our progress in Delaware Basin is a prime example of EOG's culture of innovation and entrepreneurship. We continue to experiment with operational and logistic changes and targeting and completions advances, all supported by real-time data capture to quickly respond to changing conditions at the field level, the result is better wells at lower costs.", "The Eagle Ford continues to deliver consistent performance quarter-after-quarter. We've begun drilling this -- we've been drilling this world-class asset for almost 10 years, and we are still growing production, innovating our operations and experimenting with well completions, targeting and spacing. The well mix in the Eagle Ford during the third quarter included a higher proportion of western acreage wells, while the pay is thinner in the west, there's less faulting, which allows for longer laterals. The longer laterals you can drill, the better the efficiencies to be gained during drilling and completions. Wells drilled in the west this year averaging over 3,500 feet per day and are delivering the highest direct NPV of our Eagle Ford program. These long lateral western Eagle Ford wells will make up a growing proportion of our total Eagle Ford development in the future. Across our 520,000 net acre position in the Eagle Ford oil window, we have a massive inventory of 2,300 net undrilled premium locations. We continue to make progress maximizing value through technical innovation and operational efficiency, which in turn generates additional premium wells. The Eagle Ford remains core to EOG's business and one of the most important assets driving our production growth.", "Here's David Trice." ] }, { "name": "David Trice", "speech": [ "Thanks, Ezra. We are in the initial innings of our Woodford oil window play in the Anadarko Basin, and are experimenting with completion designs, testing various targets, confirming well spacing and lowering cost. Late in the second quarter, we brought online a four-well 660 foot space package that targeted the same landing zone. The four Ted (ph) wells have over 120 days of production and are matching or exceeding our 1 million barrel oil equivalent per well type curve for the play. The Ted's (ph) average per well 30-day initial production delivered 660 barrels of oil per day, and their 90-day IP held up at 530 barrels per day. These results are consistent with the performance we have seen, since we started actively developing the Woodford last year. Initial IPs in this play tend to be lower than those in our other plays. However, they also have a lower decline rate. The performance of this four-well package supports our initial estimate that 660 foot spacing is optimal in the Woodford and delivers premium economics at low finding and development cost. Going forward, we will be working to optimize spacing, while targeting multiple landing zones. On the cost side, we are making great progress toward our target well cost of $7.8 million per well. Recent wells have come in at or even below our targeted cost and we anticipate that cost in 2019 could average below $7.8 million. One significant source of future cost reduction is the water reuse program, that is being rolled out in our Oklahoma operations. We expect at least 50% of our water need in 2019 will be sourced through recycling and that percentage will increase overtime. We're currently moving up the learning curve in the Woodford. In typical EOG fashion, we're innovating and experimenting with completion and targeting technology, capturing data in real time, then rapidly redeploying what we've learned in the field. As a result, we expect to continue to improve the Woodford plays well productivity and cost structure as it grows to contribute meaningfully to EOG's production and premium returns. We mentioned on our year end call that starting this year we decided to take a more seasonal approach to developing the Bakken. Historically, activity in the winter has come at a higher cost due to harsher conditions, so we decided to make it a practice to minimize activity through the winter months. As a result, most of our 2018 Bakken program started production in the second and third quarter. During the third quarter, we completed 12 net wells, with an average 30-day IP of almost 1,400 barrels of oil equivalent per day per well. These wells are solidly premium due to high oil cuts, low decline rates and very low well cost. The wells brought online in the third quarter cost approximately $5 million for laterals and averaged about 9,400 feet. The cost structure in the Bakken is one of the primary reasons we consistently deliver premium economics that are sustainable through commodity price cycles. The Bakken remains an important asset and EOG's diverse portfolio of plays, providing flexibility for reinvestment at our premium return hurdle rate. Our Powder River Basin activity during the third quarter was focused on the Turner play, where we completed 11 net wells that produced an average of 1,700 barrels of oil equivalent per day per well in the first 30 days. In the Mowry, we drilled two wells that we are currently completing and expect to spud a Niobrara well in the fourth quarter. From a technical standpoint, we continue to fine-tune target identification and execution in both plays as well as dialing in the right completion practices.", "In the early life of any new play, this tends to be an iterative process as we collect data and rapidly integrate the new information on a go-forward basis. We are also in initial planning stages for two spacing test that will target the Mowry and Niobrara. We are planning to spud the test by year-end and the results will help determine how we co-develop the Mowry and Niobrara going forward. Co-development of these targets will drive additional long-term efficiencies, lower cost and increase returns in the Powder River Basin. As we plan for 2019, we are in active discussions with third-party service providers to ensure we have capacity to transport and process production next year and beyond. In addition, we will begin to add EOG owned infrastructure at a pace that is commensurate with development. This pay as you go strategy will ensure that we can maintain our capital efficiency even as we increased activity in the basin. EOG owned infrastructure will potentially include oil, gas and water gathering facilities, water recycling facilities, oil terminals, and compressor stations. The main advantage to EOG owned infrastructure is that it dramatically lowers lease operating and transportation expenses, as well as future capital cost associated with water handling. It also gives us greater control and flexibility along with access to multiple markets, which will ultimately result in higher netback prices.", "In summary, we are planning for long-term high return growth out of the Powder River Basin, the newest addition to our portfolio of premium assets.", "Here's Tim." ] }, { "name": "Timothy Driggers", "speech": [ "Thanks, David. EOG's financial position improves significantly during the third quarter. The company generated discretionary cash flow of $2.3 billion. EOG invested $1.7 billion in exploration and development expenditures and paid $107 million in dividends. Free cash flow was $503 million. Cash on the balance sheet at September 30 was $1.3 billion and total debt was $6.4 billion. For a net debt to total capitalization ratio of 22%. The same ratio was 28% just a year ago. Our goal is to repay $3 billion of debt through 2021. The first repayment was for $350 million bond that came to maturity, October 1, 2018. We also reached an agreement to divest of our UK operations including the Conwy asset and expect to close before year-end.", "With the recent volatility in commodity prices, projections of future cash flow move around considerably, even on a daily basis. But EOG's priorities are steadfast. Invest with discipline, focus on rate of return, and maintain a strong financial position. Our goal is always is to create significant shareholder value over the long-term.", "I'll now turn it back over to Bill for closing remarks." ] }, { "name": "William Thomas", "speech": [ "Thanks, Tim. I would like to share the following concluding remarks. First, we are making significant progress on optimizing well spacing in the Delaware Basin and other plays. We're breaking the code on how to increase well productivity and lower finding and development costs, while optimizing NPV. We feel next year our capital efficiency will be much improved. Second, we're on track to reduce well costs 5% by year end 2018, and we believe we can continue to reduce costs further in 2019. Third, as we demonstrated last quarter with the addition of the Powder River, Niobrara and Mowry plays, the company continues to organically add significant new high return premium drilling inventory much faster than we are drilling it. More importantly, EOG's inventory is growing in quality, not just quantity. Better rocks make better wells, and enhance the company's ability to deliver higher returns in the future. And we are encouraged with the new ideas we're generating through our exploration efforts. Fourth, EOG's unique innovative culture, real-time data gathering, advanced analytics and quick deployment of new ideas for the field are delivering sustainable cost and productivity improvements across the company. The combination of our pleased, but not satisfied culture and industry-leading information technology is delivering sustainable results and provides a significant competitive advantage for the company. Fifth, we are systematically resetting the company's performance to be one of the lowest cost producers in the global oil market. Step by step, we believe we're continuously improving the company to produce strong returns through the commodity price cycles. And finally, our third quarter results demonstrates EOG's ability to deliver strong double-digit return on capital employed, strong double-digit production growth and generate free cash flow. This combination is rare in the energy sector and places EOG in line with the top performers in any sector of the market. It's a unique and compelling combination that create significant long-term shareholder value.", "Thanks for listening and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. The question-and-answer session will be conducted electronically. (Operator Instructions) Our first question today will come from Ryan Todd of Simmons Energy. Please go ahead." ] }, { "name": "Ryan Todd", "speech": [ "Great. Thanks, and congratulations on a good result. Maybe if I could start with one as we think about, right, maybe a couple of questions on capital. Can you breakdown, I mean, I know you mentioned some of the -- a few of the drivers in the $300 million increase to the CapEx budget and with implied spending falling to just over $1 billion in fourth quarter, which is obviously low. Could you give us an idea of maybe what a normalized run rate would be on CapEx right now? Then I've a follow-up." ] }, { "name": "Billy Helms", "speech": [ "Yes. Ryan, this is Billy Helms. So, yes, the fourth quarter, we expect to be down relative to the third quarter. And that's simply because our activity was planned that way at the start of the year. We are going to have fewer wells completed in the fourth quarter than we did in the third. And as an election I'm trying to maintain our momentum on driving cost down. We are going to retain some equipment that we previously planned to release. In doing so, we'll end up completing about 20 additional wells, and that will be the majority of the increase that we're seeing in the fourth quarter that will give us momentum going into 2019 by capturing these high performing service providers and maintaining the efficiency gains that we have realized to date. We'll be able to continue to drive our well costs down into 2019. We're pretty excited really about the progress we've made on lowering well cost. In general, we'd say that our well costs are down about 3% year-to-date across our plays. For example, we're down about 2% in the Eagle Ford, and the Wolfcamp we're down about 3%, and the Bakken we're down about 4%. We're making similar progress across all of our plays and on average we're about 3% down for the company. Headed toward our goal of 5%, which we believe will accomplish in the fourth quarter. So our plan this year was -- as everybody recognized it was loaded to the front end with CapEx, the production showed up really in the third quarter. All intended to drop a little bit in the fourth quarter. So our run rate this year on a capital basis by quarter was a little bit lopsided. Going into 2019, we do not expect the same thing. Our 2019 program would be a little more balanced. We can't give you any guidance or any numbers on that yet. We're still working on that, but we would expect the run rate going into next year to be more balanced. And then capital efficiency continue to improve, and that's the whole basis of which we allocate capital these days is we're only going to do so as we can continue to improve our capital efficiency." ] }, { "name": "Ryan Todd", "speech": [ "Great. Thanks. And then maybe just a higher level, I mean, I appreciate the effort to talk about your reinvestment philosophy. But I guess, how is the right way to think about, I know growth is an output, but you've got a relatively unique growth in free cash flow profile. How do you think about balancing more or less growth with more or less free cash flow, and I guess, returns are a part of it, but you clearly have far more opportunity to deploy capital, high rates of return than you do in any given year. So, where do you draw a line between the amount that you're willing to grow versus a higher or lower amount of free cash? I'll leave it there. Thanks." ] }, { "name": "William Thomas", "speech": [ "Ryan, this is Bill. Yes, certainly we're very committed to operating within cash flow and generate free cash flow every year. Our goal is to generate free cash flow every year. So, we look at the program every year with not a volume number that we're really focused on, we really look at the program as we've already talked about extensively to continue to get better. So we want to improve capital efficiency, continue to lower the finding and development costs and improve returns. And we believe we've got a sustainable business model, because it's based on $40 oil, which we believe is well below the marginal cost of oil. So we created as you -- have already commented on. We've got a very powerful engine, and we certainly have the ability to grow very fast, but we're not really focused on growth. We're really focused on getting better at increasing returns. So every year, we throttle back to allow us to learn and get better. And we believe as long as we continue to add new plays, we do not see our growth dropping significantly in the next several years at current process." ] }, { "name": "Ryan Todd", "speech": [ "Thanks, Bill." ] }, { "name": "Operator", "speech": [ "Our next question will come from Arun Jayaram of JPMorgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yes. Good morning. Bill, I wonder -- if you could elaborate on your comments on capital efficiency being better in 2019 versus 2018. Do you believe that on spending per unit of production basis, and I'm thinking about oil that your CapEx dollar will deliver more oil growth on a year-over-year basis for dollar invested?" ] }, { "name": "William Thomas", "speech": [ "Yes, Arun, that's absolutely what we believe. It's based on a number of different ideas. So first one is Billy has already commented on, we're going to get off to a better start, a faster start next year than we did in 2018. And then we really believe we're going to be entering the year at lower costs and higher well productivity than we entered 2018. And we believe with our ability to continue to learn, capture data, integrate the data, analyze the data and put it back into the field very quickly that we would be able to continue to improve lower costs and continue to improve our spacing patterns, development patterns and continue to improve well productivity going forward. So, our goal every year not just in 2019 is to get better, and that's a core culture of the company. We consistently done it for many, many, many years, and we do not see any end in that process." ] }, { "name": "Arun Jayaram", "speech": [ "Great. And just my follow-up. Bill, I totally appreciate the fact that EOG allocates capital on returns basis. But just had a philosophical question on growth. You guys have previously highlighted a 15% to 25% kind of oil growth outlook, assuming 50 to 60, one question we think about if you get to the middle part of that range, the organization would essentially have to grow kind of a Parsley Energy in terms of size, in terms of oil growth. So we'd argue, maybe toward the lower end of that range, maybe better from a longer-term perspective, would love to hear your thoughts on that?" ] }, { "name": "William Thomas", "speech": [ "Arun, again, we don't give you any specific numbers, but in general, just as I've commented, because we have multiple plays, we're developing currently 11 different oil plays in the company and because we have a very decentralized structure that we can focus our divisions on each one of these plays put the proper people, the proper process in plays to continuously improve. As long as we continue to add new potential to the company every year through that whole process, we believe that our growth will not drop significantly in the next several years at current prices." ] }, { "name": "Arun Jayaram", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question will come from Brian Singer of Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning. Can you discuss the decision to lock in services costs for 2019, specifically do you think that market prices are near trough. And then if you were to create a waterfall for 2019 like you have on Slide 16 for 2018, do you think we -- you need to deliver efficiency gains and multiple green bars from here to keep well cost down or are you already seeing well cost down year-on-year in '19 based on the pricing terms you've locked in?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Brian, this is Billy Helms. The decision to go ahead and lock in or capture these service providers that are -- if we think a very favorable prices was really to maintain those efficiencies. We feel like that we're getting some highly efficient crews at what we believe is near the market conditions that we have today or probably near the low end. We don't know if we can capture the absolute bottom of the trough, but we do feel like we're capturing some of the best providers out there at very favorable prices. So it gives us confidence to be able to continue to lower our well cost in '19. Yes. We believe that the momentum we've created on efficiency gains and the progress we're seeing across all of our plays will continue to deliver solid results going into 2019, which is the whole reason we made this decision. We want to -- as we started 2018, we had to pick up quite a few crews and equipment and certainly those don't operate at the efficiency levels that we anticipate or expect, and it took us a while to get there, but we're very satisfied where we are today and the progress we're making on continuous improvement. I always want to maintain that into 2019, we're -- yes, we're going to continue to push every one of those categories you mentioned there on that Slide 16, I believe for the Wolfcamp, and I believe that one is going to continue to get better overtime." ] }, { "name": "Brian Singer", "speech": [ "Great. Thanks. And then to follow-up on the capital efficiency improving in 2019 point, and Arun's follow-up there, you mentioned that well productivity expect to improve next year, can you talk about what and where the drivers of that are?" ] }, { "name": "William Thomas", "speech": [ "Yes. Brian, this is Bill. It's really in multiple different areas. We're seeing still very significant frac technology applications and improvements. We're seeing better execution in our targets, and which we're able to drill even faster and stay in a very narrow window even more precisely than we've done in years past. And we continue to learn how to pick our targets better, so our target selection is better. So, just in general the quality of the rock that we target is improving overtime, and all these are incrementally and moving continuously at the same time. So, we just don't really see an end or a plateau and being able to improve the company going forward. We have a very sustainable business model, a very sophisticated information technology process, and I think I'll ask Sandeep, maybe to comment on some of the things that we're doing in the information system to continue to improve." ] }, { "name": "Unidentified Speaker", "speech": [ "Yes. Sure, Bill. Yes, Brian, like Bill said, the main goal is really to continue to improve our capital efficiency and that means drilling better wells for lower cost, the game changer for us really has been the ability for us to capture data at a very, very high frequency, at a very, very granular level in real time and deliver it to all our engineers. I mean, the level of innovation that is currently that we're seeing continues to amaze me, in terms of the inventiveness of our completion engineers and their ability to almost custom design fracs to take advantage of the unique rock that we steered through and the ability of our Geo steers and our G&G folks to continue to fine-tune the target and stay in the real time basis, regardless of running, maybe crushing falls even and getting back into zones much faster. I mean, the whole system is geared toward becoming better with data, assimilating the understanding of potential depletion dialing that into the frac designs to make better wells on an ongoing basis. So there is innovations going on in drilling, in completions, in production optimization, all with the goal of improving capital efficiency. So the levers of capital efficiency improvements in 2019, I would say are just numerous, countless almost." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question will come from Leo Mariani of NatAlliance Securities. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hi, guys. Just wanted to follow-up a little bit on sort of your comments around capital efficiency. Obviously, you had a really nice ramp in production here in 2018, and certainly as you guys have pointed out well cost have fallen. So, I guess all things being equal, I mean, it certainly looks like we're going to see higher operating cash flows in 2019 versus 2018 here. So, I mean, just high level, I mean, should we expect to see some higher overall, just activity levels from EOG and obviously looks like free cash flow will go up. So maybe just talk about sort of prioritizing the uses next year?" ] }, { "name": "William Thomas", "speech": [ "Yes. Leo, again, we're going to maintain very strict discipline. So, the Governor (ph) is -- we're only going to increase spending if we can get better, so that's absolute thing I think you've heard that. So, the priorities have not changed. We're getting currently at current prices, we're getting triple-digit rates of returns at the well level. So that's the first priority for cash. We're very excited about new exploration potential that we're generating inside the company, so we want to continue to pick up better rock at low cost. And we're certainly have debt reduction is a very high priority in the company, and as Tim said, we have already reduced about $350 million this year and we plan to retire another $900 million next year, and we target over $3 billion of debt reduction over the next -- in four-year period. And then we want to continue to work on increasing the dividend. We have a very strong commitment to returning cash to our shareholders through the dividend, as we increased at 31% this year. And if we have a healthy business environment, we'll evaluate quarterly on that, but our goal is to continue to increase that at stronger than our historical rate of 19%, compounded annual growth rate. And then I just want to reiterate, we have no interest, no need, and even thinking about expensive corporate M&As. So we're very focused and very disciplined, and we're going to continue to remain focused on increasing returns by getting better." ] }, { "name": "Leo Mariani", "speech": [ "Okay. That's great color. And also just wanted to focus quickly on the Austin Chalk, I know this is an emerging play for you folks, but obviously you've been in the play for a while. Just wanted to get a sense of where we are in the evolution here, I mean you guys feel like you've got a better handle on sort of the economics, as well as just productive extent of your sizable acreage position at this point in time?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Hi. Leo, this is Ezra Yacob. Yes, I think, as we've talked about we've been developing Austin Chalk, we've been co-developing it now with our Eagle Ford program, and it's a little bit more of a complicated play than the Eagle Ford certainly. And so, well, it's perspective across our entire South Texas acreage position there. The sweet spots are a little more discontinuous, and we've done a very good job integrating not only core data and log data that we've collected while we've been developing the Eagle Ford, but we've also tied that into our seismic coverage, which extends across our entire acreage position. So, yes, we're feeling very good with it. The benefit that Austin Chalk also has is that since we do co-development with the Eagle Ford and that's within our core area, it has a lot of -- it benefits from a lot of the existing infrastructure, and obviously all of the operational performance that we have there that we increased -- that we continue to increase in the Eagle Ford, Austin Chalk continues to benefit from that. So this quarter we brought on 10 net wells. They had an average 30-day rate, they're just over 1,800 barrels of oil per day. And so (Technical Difficulty)" ] }, { "name": "Operator", "speech": [ "The next question will come from Bob Brackett of Sanford Bernstein. Please go ahead." ] }, { "name": "Robert Alan Brackett", "speech": [ "(Technical Difficulty) 65% of --" ] }, { "name": "Billy Helms", "speech": [ "That's 65%. Bob, this is Billy Helms by the way. This is 65% of our typical average well cost in the company. So, we look at our typical well costs being somewhere in that $6 million range, and it's about 65% of that number." ] }, { "name": "Robert Alan Brackett", "speech": [ "Okay. So that's a per well number, it's not a total capital number?" ] }, { "name": "Billy Helms", "speech": [ "No. It's a per well, it's an average for the per well drilling complete cost." ] }, { "name": "Robert Alan Brackett", "speech": [ "Okay. That's understood. Separate question, if I look at sort of where you are in spacing in the Delaware Basin, there's a fairly wide range from 660 up to 1,000, and it doesn't seem to be a function of depth or oil cut. Can you give some color what's driving that well spacing and how fixed are those numbers?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yes. Bob, this is Ezra Yacob. So that is a good observation you have, I appreciate the question. The first part of our well spacing, it does actually began with the oil cut, I think our announced type curves for the oil play where we have 226,000 net acres is based on 660 foot spacing, and then for our combo play, which is a little bit shallower, a little bit less of an oil cut is that type curve is based on an 880 foot spacing, that would be some of our Reeves County acreage down there. But then more than that the spacing really across the Permian is going to be tied to the local geology. We continue to kind of monitor the long-term performance of lot of those spacing and different targeting patterns that we've tested, and we've discussed those on past calls, where we've been testing space in the oil window down to 500 foot to 700 foot spacing depending basically on the local geology, the number of targets, and as such, it is a complicated play in the Delaware Basin. But I think what we see this year as we've made tremendous progress on the finding kind of our optimal spacing and targeting packages for our core acreage positions. We brought 180 wells in the Wolfcamp to sales this year and it's reinforce, so we feel very confident with our announced resource potential on that type curve at 1.3 million barrels of equivalents, and again that's for a 7,000 foot lateral, 660 foot spacing. I think the way to think about that 660 is if you just look at our remaining premium inventory that's going to be a good average over that acreage position. We feel very good about the work that's been done this year in the Permian. Our ability to increase returns and optimize NPV and ultimately increase the capital efficiencies, we finish out 2018 and move into 2019." ] }, { "name": "Robert Alan Brackett", "speech": [ "Great. Appreciate that. Just to be explicit, those numbers account for things like parent-child relationships and downspacing well interference effects?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yes. That's correct, Bob. When we put our resource potential on our type curves out there, we've baked all of that in, and so, as we continue to integrate our data, not only from the early package development, the early and long-term production profiles of the wells are real time completions data, as we integrate that into the next well of packages, really we consider the improvements and the gains that we're able to make as upside." ] }, { "name": "Robert Alan Brackett", "speech": [ "Great. Appreciate it." ] }, { "name": "Operator", "speech": [ "The next question will come from Charles Meade of Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Yes. Good morning, Bill to you and your whole team there. I was listening to your prepared comments, and I wanted to go back and explore a little bit the idea that you are ranking these plays at $40 oil, it makes sense to me that your best play at $40, would still be your best play at $60 or $70, but it also seems to me that the way you would develop your assets -- your spacing pattern to pick up a brackets point or how intensively you go after those assets would be different at $60 or $70, than it would at $40. So can you talk about whether that's a -- whether you agree with that point of view, and if you do, how you modulate that density aspect of your program?" ] }, { "name": "William Thomas", "speech": [ "Charles, we run all of our economics based on our premium price deck of $40 flat, and $2.50 flat natural gas prices. So, our focus on all of our properties is to develop those to continue to lower the finding costs, that's really, really important -- to improve the capital efficiency, that's really, really important. To continue to improve the returns and ultimately to optimize the NPV. And so we're really able, we believe to optimize those all at once, and we have a very strict $40 flat, $2.50 flat price deck that we manage the company on, and we believe that will continue to improve the cost structure of the company, and that is what we believe will continue to help us to generate double-digit returns and double-digit growth through the commodity price cycles, and that is what will continue to help us become one of the lowest cost producers in the global oil market. So, we're very strong, we are very focused, we're very strict, and we're committed to that process." ] }, { "name": "Charles Meade", "speech": [ "Thanks for that clarification, Bill. That's it from me." ] }, { "name": "Operator", "speech": [ "Our next question will come from Irene Haas of Imperial Capital. Please go ahead." ] }, { "name": "Irene Haas", "speech": [ "Yes. My question is on Powder River Basin, very glad to see that the company is pre-emptively working on infrastructure, and my question has to do with just permitting on the state and federal level, how is it coming along, any progress on the EIS. And also really any gating factor that needs to be taken care of before you guys really, really ramp up, such as oil and gas takeaway?" ] }, { "name": "David Trice", "speech": [ "Yes. Irene, this is David Trice. On the regulatory side, we have captured the permits that we need for operatorship out there, so we've been busy doing that for really the last couple of years, as you know Wyoming's kind of capture the flag state, so you have to actually file the permit to get operatorship, no matter what your interest is there. And so, we've done that for essentially all of our acreage out there. And as far as the infrastructure goes, we had mentioned on our last call that we -- 2019 was really where we're going to be focused on adding infrastructure and takeaway. Our drilling activity will not be up significantly in '19, it will probably be up slightly there, but mainly the focus in '19 is going to be more focused on putting the pieces in place to go and bring the Powder forward in 2020 and beyond." ] }, { "name": "Irene Haas", "speech": [ "Okay. May I have a follow-up, feels like the basin, really kind of benefits larger well organized producers kind of like EOG scope and scale, so are there any both on that might make sense down the line for EOG understanding that you guys are not into buying big companies?" ] }, { "name": "David Trice", "speech": [ "Yes. Again, I think I'd reiterate what Bill said earlier, I mean, we're certainly not interested in any of these expensive corporate level acquisitions. We're always looking to add high quality acreage at low cost, and so some bolt-on would make sense and its low cost then we would certainly look at it. But again, our focus is more on the exploration side, finding low cost, high quality acreage." ] }, { "name": "Irene Haas", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question will come from Subash Chandra of Guggenheim Partners. Please go ahead." ] }, { "name": "Subash Chandra", "speech": [ "Yes. Thanks. Good morning. I was hoping you guys could just comment on some public data that's out there. Just showing, I guess in New Mexico, the well results being sort of incrementally lower than in prior years, and if that's sort of a data integrity thing or if there's something else going on and this is just an interim event?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yes. Subash, this is Ezra Yacob. With the results in the Delaware Basin there in the New Mexico portion, I'm not sure if I can speak directly to the state data that you're seeing. But what I will say is that we're very pleased with the results that we're seeing out there. As I discussed earlier in the opening remarks, all of our well performance are actually outperforming, the respective type curves for each of the plays that we're drilling, and we've made a tremendous amount of progress this year, I think this quarter's early time 30-day results are actually the highest of the year this year, and part of that is those quarter-over-quarter numbers will move around a little bit, just depending on which package of wells you're bringing on from which part of the basin. But really I think in general, our team out there has done a great job, integrating the data from some of our packages that we've been drilling early in the year, making some adjustments to the spacing and targeting, as well as on the completion side, and really increasing the well productivity of those wells. And I think that's showing up a little bit here in this last quarter. in addition to that, as Billy highlighted, we're making pretty good gains on our operational efficiency, which is translated into lower well costs, and so when you combine those two things together, we're seeing a decrease in our finding and development costs in the plays, which result in better returns and a higher capital efficiency, which is what our goal is for that basin." ] }, { "name": "Subash Chandra", "speech": [ "Yes. Thanks, Ezra. State data can be a dangerous thing that's what I thought I'd ask. The second question is just in Eastern Anadarko, if next batch of wells that was the very similar sort of high rate artificial lift. And if so, would this open up, maybe some other plays for you that are not as in the geopressured area as you typically prefer?" ] }, { "name": "William Thomas", "speech": [ "Can we get the first part of your question, we didn't quite understand the first sense?" ] }, { "name": "Subash Chandra", "speech": [ "Yes. Sure. My understanding is that Eastern Anadarko is that the wells brought on with very high rate gas lift, and I could be wrong there. So, just curious if that's the situation or not, and if it is, if there's other plays better and less geopressured areas that you can apply a similar artificial lift on the front end to open the plays out?" ] }, { "name": "David Trice", "speech": [ "Yes. This is David Trice. Yes, in Anadarko Basin, we do use gas lift there, we bring those wells on initially with gas lift and really got the lift well. We use gas lift really throughout the company, so that's nothing new for us. In the Eastern Anadarko, we do it a little bit different than we do in other areas, but basically it's the same around the company, and it's a very low cost method that we use and we get a very good return LOE on that." ] }, { "name": "Subash Chandra", "speech": [ "Got it. Thank you for the clarification." ] }, { "name": "Operator", "speech": [ "The next question will come from Paul Sankey of Mizuho Securities. Please go ahead. We'll move on to the next question. The next question will come from Jeffrey Campbell of Tuohy Brothers Investment Research. Please go ahead." ] }, { "name": "Jeffrey Campbell", "speech": [ "Good morning and congratulations on the quarter. I wanted to just quickly return to this discussion of the premium locations and just ask, is it fair to think that some of the -- even though they're all great, some of the locations are better than others or maybe to put it another way, since all the premium locations have high potential for outperforming. What informs the choice to develop some of them now and wait on others for later?" ] }, { "name": "David Trice", "speech": [ "Yes. All the premium locations are quite outstanding, they're quite different. I believe in the average well that the industry is drilling, so they're in a very high elevated level. And of course, it's a huge inventory, it's 9,500 locations, and some of them are much better than others. And as we continue to add to that premium inventory, our goal is to bring the quality of the inventory up, just like we drilled, build the quantity of the inventory. And so, we do develop all of it and we believe that every well in the inventory and every play in that inventory has got continuous room for improvement going forward. And so, we developed the plays based on returns and the allocation of the capital in the company is strictly based on returns, and so we drilled the highest rate of return wells we have in (inaudible) in the company every year, and we develop on a play basis. In the pace of learning in the company, because of the information technology and the culture of the company continues to increase." ] }, { "name": "Jeffrey Campbell", "speech": [ "Okay. That was very helpful. I appreciate that. I'll ask a more narrow question for my follow-up. I noticed on the call, you mentioned there's going to be the spacing test of the Mowry and the Niobrara together. And so, I'm just wondering, since the Turner wasn't mentioned, does that imply that the Turner sweet spots are discrete from the premium Mowry and Niobrara locations?" ] }, { "name": "David Trice", "speech": [ "Yes. Jeff, this is David, again. On the Turner, we feel like we understand that play a lot better. We've been drilling the Turner for years, and we've done various test over the years. And so, we have a good handle already on what the spacing should be in the Turner. Just the fact that the Mowry and the Niobrara are new, we're going to go ahead and do some spacing test there similar to what we did in the Woodford. And so, we're planning to do those, those are two separate test, and we're going to do those at 660 foot spacing." ] }, { "name": "Jeffrey Campbell", "speech": [ "Okay. Great. Thanks for that clarification. I appreciate it." ] }, { "name": "Operator", "speech": [ "Ladies and gentlemen, this will conclude our question-and-answer session. At this time, I'd like to turn the conference back over to Mr. Thomas." ] }, { "name": "William Thomas", "speech": [ "In closing, our third quarter results were outstanding. The company continues to improve systematically by lowering cost and improving productivity with new technology and efficiency gains. Many thanks, again, to all the EOG employees for demonstrating the innovative returns, focused cultures that makes EOG successful. Our culture is a driving force of the company's sustainable business model and we're excited about the future and our ability to continue to create significant long-term shareholder value. Thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "The conference is now concluded. We thank you for attending today's presentation. You may now disconnect your lines." ] } ]
EOG	2019-11-07	[ { "description": "Chairman, Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "EVP, Exploration & Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Goldman Sachs", "name": "Brian Singer", "position": "Other" }, { "description": "Guggenheim Partners", "name": "Subhash Chandra", "position": "Other" }, { "description": "Johnson Rice", "name": "Charles Meade", "position": "Other" }, { "description": "Tuohy Brothers Investment Research -- Analyst", "name": "Jeffrey Campbell", "position": "Analyst" }, { "description": "SunTrust -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "KeyBanc -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "RBC Capital Markets", "name": "Scott Hanold", "position": "Other" }, { "description": "Baird.", "name": "Joseph Allman", "position": "Other" }, { "description": "JPMorgan", "name": "Arun Jayaram", "position": "Other" }, { "description": "Stifel", "name": "Michael Scialla", "position": "Other" } ]	[ { "name": "Operator", "speech": [ "Good day everyone and welcome to EOG Resources Third Quarter 2019 Earnings Results Conference Call. [Operator Instructions]. At this time for opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Brian Singer", "speech": [ "Good morning and thanks for joining us. We hope everyone has seen the press release announcing third quarter 2019 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release, in EOG's SEC filings, and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures, definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "Some of the reserve estimates on this conference call and in the accompanying investor presentation slides may include estimated resource potential and other estimates of potential reserves not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to US investors that appears at the bottom of our earnings release issued yesterday.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Billy Helms, Chief Operating Officer; Ken Boedeker, EVP Exploration and Production; Ezra Yacob, EVP Exploration and Production; Lance Terveen, Senior VP, Marketing; David Streit, VP Investor and Public Relations.", "Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning everyone. EOG has a deeply rooted competitive advantage and that is our culture. Our culture drives innovation and a long history of continuous improvement and success. Most importantly, our culture drives resiliency. In an ever-changing business environment, we have demonstrated this resiliency time and time again during the past 20 years. As we will continue to do so moving forward.", "In the 1990s when vertical prospects were in short supply our culture fostered innovations that made EOG our first mover in horizontal shale gas technology. As natural gas prices came under pressure in the late 2000s, we introduced horizontal shale oil with the Eagle Ford discovery. As a result of our first-mover advantage, EOG is now the largest on-shore oil producer in the lower 48 states and among the lowest-cost producers in the world. In the wake of a pronounced commodity price downcycle beginning in late 2014, the company has remained a leader in low-cost, high return oil growth, switching to our premium drilling strategy. Our premium strategy uses a strict investment hurdle that produces strong economic returns using a flat $40 and $250 natural gas price scenario, ensuring that the company will generate strong financial performance even in commodity downcycles.", "After our third consecutive quarter of exceptional results, we believe that EOG's 2019 operational performance will be the best in Company's history.To reflect our year-to-date performance, we have raised our US Oil growth targets from 14% to 15% along with lowering our well costs and per-unit operating cost targets. Strong well results have compounded the benefit of cost reductions to further improve capital efficiency, allowing EOG to deliver strong, above target production growth, with lower-than-expected capital investment.", "The confident strong returns and growth in the third quarter, the company delivered over $330 million of free cash flow after paying the dividend. EOG continues to deliver returns, growth and free cash flow competitive with the best companies in the S&P 500. In addition to outstanding operating results, we continue to organically grow our premium well inventory in both size and quality. This quarter we added 1,700 premium net wells, which represents a replacement rate of more than two times our 2019 drilling program and brings our total premium drilling inventory to 10,500 net wells. That is more than 14 years of drilling at our current pace.", "EOG's diverse assets and exploration led business model positioned the company to navigate political and regulatory changes. The company maintains tremendous flexibility to adjust operations in activity across six different basins and has identified over 5,400 premium well locations, representing more than seven years of premium drilling, on nine federal acreage.", "In the Permian, one of our most active drilling areas, approximately 90% of our federal acreage position is held by the legacy production and we have 11 years of premium inventory on non-federal leases. With 3.2 million net acres of non-federal leases in the US, which is approximately 75% of the company's total acreage, we are confident that we will continue to organically grow our premium inventory and size and quality, much faster than we can drill.", "EOG has approached reducing environmental footprint in the same manner that it continues to improve operational performance. The company looks to innovate through returns focus initiatives aimed at reducing greenhouse gas emissions and expanding water reuse throughout our operations.", "Last quarter, we introduced our pilot project for a combined solar and natural gas-powered compression station in the Delaware Basin. This is just one of the many projects that our team is working on that we believe will contribute to reducing greenhouse gas emissions and generate positive economic returns. EOG and its employees are committed to environmental stewardship. We believe we are leader in our initiatives to address environmental stewardship and we are focused on finding new opportunities to continue to improve going forward.", "Finally, as we close in on the end of the year, our focus begins to turn to 2020. While it's too early to discuss specifics of our planned next year, we can say the following: number one, priorities have not changed. We firmly believe that investing in high return production growth, generating substantial free cash flow, and delivering strong dividend growth delivers the highest long-term business value.", "Number two, our plan is based on a conservative outlook for commodity prices. At $55 WTI, we can deliver mid-teens production growth, grow our dividend and generate significant free cash flow.", "Number three, we believe, well cost and per unit operational costs will continue to decline. Number four, we believe capital efficiency and F&D costs will continue to improve. Number five, we have high confidence in the ability of our organic exploration efforts to add and improve our premium drilling inventory faster than we're drilling. And number six, we have no plans for large expensive M&A. Any potential bolt-on acquisition must compete with our premium drilling returns." ] }, { "name": "Ezra Yacob", "speech": [ "And as planned to be developed on 1,050ft spacing. A typical Wolfcamp M well is expected to produce approximately 1.5 million barrels of equivalents over its life for a $7.7 million targeted completed well cost. EOG began data collection analysis and delineation of this interval in 2014 and refined our precision targets to the highest quality portion of the reservoir. Utilizing proprietary steering software, we have reduced our specific drilling target by over 20%, while simultaneously decreasing our drilling days by 50% compared to the 2014 delineation tests.", "The combination of increased well productivity operational efficiency, lower in well cost and utilization of water, gas and oil infrastructure has delivered another premium play to EOG's portfolio. All together in the Delaware Basin, EOG now has an inventory of approximately 6,500 future net premium drilling locations, or 24 years of inventory at the current drilling pace. This inventory is based on actual locations customized to the local geology across our over 400,000 acre position and includes multiple targets within the 5,000 foot that column of pay.", "We use proprietary core log and completions data to determine our targets and spacing and integrate real-time data from every well we drill to improve future wells. In contrast, one size fits all manufacturing mode our continual process of data collection and analysis and application allows us to continue improving our wells, lower finding and development costs, and optimize returns and net present value for each development unit. We are also confident in our ability to add future premium locations to our current inventory through lower well costs, increased well productivity, and additional delineation of targets outside of our core area.", "For example in the Wolfcamp M oil play, the well count average is a single target being developed at 660 feet spacing across the 226,000 acre play. During 2019 EOG is regularly drilled patterns of wells on tighter spacing, including the state Atlanta 7 Unit Number 1H through 5H, a five well Wolfcamp oil development at 440 foot spacing. These two mile laterals average less than a $7 barrel of equivalent finding and development costs, generate over $50 million NPV and an average payouts in approximately three months.", "The bottom line is EOG is very confident that a lot of upside remains to the currently identified drilling potential in this world-class basin. In addition to the updated inventory EOG's outstanding operational performance during the first half of 2019 has continued through the third quarter in the Delaware Basin. Total well cost for the Wolfcamp M play has already reached the full-year goal of $7.2 million, while operating expenses in the Delaware Basin are also moving down not a 7% improvement year-to-date compared to 2018.", "Well productivity in the Delaware Basin also continues to improve across our various plays. Average cumulative oil production for the first 90 days compared to 2018 was up 15% in the Wolfcamp oil play, and up 20% in the Second Bone Spring. The standout for the quarter is the MacGregor D unit number 5H, which came online in initial 24-hour rate of 11,500 barrels of oil per day and nearly 20 million cubic feet per day of rich natural gas. For the first 30 days, the well averaged 6,400 barrels of oil per day. The McGregor was drilled as part of a three well package on hundred foot spacing in the Wolfcamp Upper target. The entire package produced a staggering 445,000 barrels of oil and 1.2 Bcf of natural gas in the first 30 days of production.", "These wells benefited from EOGs highly integrated, multi-disciplinary technical approach to development. Data collection and apply and real-time analysis to improve well performance is a hallmark of EOG's approach to unlock upside potential across all of our assets and it's highlighted with our announcement of additional premium plays in the Delaware Basin.", "I'll now turn it over to Tim Driggers to discuss our financials and capital structure." ] }, { "name": "Brian Singer", "speech": [ "Thanks, Ezra. The benefits of EOG's balanced high return growth strategy continue to shine through in the financial results in the third quarter. During the quarter, the company generated discretionary cash flow of $2 billion invested $1.5 billion in capital expenditures, before acquisitions toward the low end of our guidance and paid $166 million in dividends. This will have $37 million in free cash flow.", "Cash on the balance sheet at September 30 was $1.6 billion and total debt was $5.2 billion, for a net debt to total capitalization ratio of 15. A strong balance sheet, a strategic is a strategic imperative for EOG. As Bill mentioned, our first priorities for capital allocation in 2020 , we'll be investing in high return drilling and supporting dividend growth. Two bonds totaling $1 billion are scheduled to mature in 2020. As those dates get closer, we will decide whether to use cash on hand to redeem the bonds or to refinance one or both of them.", "I'll now turn it back over to Bill for closing remarks." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim. In conclusion, there are several important takeaways from this call. First, EOG's 2019 operating performance is the best in company history. Our high return disciplined growth strategy is producing strong returns, strong growth, and substantial free cash flow. At the same time, we continue to get better in every area of the company. Second, our premium inventory continues to grow in both size and quality, much faster than we drill it. Third, the company continues to reduce cost and with our pleased, but not satisfied mindset we see endless opportunities to continue to lower cost in the future. Fourth, our GHG reduction and water reuse efforts demonstrate our leading innovative and returns focused approach to environmental stewardship and sustainability. And fifth, EOG as a resilient company our culture produces sustainable success. As we look ahead, we are confident and excited about the company's ability to continue to create significant long-term shareholder value with performance that compete with the best companies in the US. S&P 500.", "Thanks for listening, now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you, sir. The question and answer session will be conducted electronically. [Operator Instructions] And the first question we have will come from Brian Singer with Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning." ] }, { "name": "Bill Thomas", "speech": [ "Good morning, Brian." ] }, { "name": "Brian Singer", "speech": [ "Can we start on the two new zones in the Permian Basin? First, how are these being integrated into the drilling program? And given the greater wet gas mix, what are the implications for gas NGLs growth and infrastructure needs? And second, in your prepared comments, you mentioned the Bone Spring three helps mitigate the decline profile of the company. Can you add more color on the reasons? And is this the type of decline rate improvement you've been referring to in the past? Or would that be driven by other exploratory projects under evaluation?" ] }, { "name": "Bill Thomas", "speech": [ "Brian, I'm going to ask for Ezra to comment on the two new zones." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Brian. This is Ezra. Thanks for the question. There's kind of a lot there. So let me tear it apart piece by piece and maybe I'll start with the Wolfcamp Middle first, the Wolfcamp M. With regards to how it will be integrated into the -- into our development, that's a deeper zone across much of our core acreage position. So one great thing about being able to turn this new bench premium is that it has the benefit of having pre-existing well control seismic infrastructure for both oil, gas and water gathering.", "And one way to look about that the greater wet gas mix is I think it's on slide 47 in our slide deck where we have the Delaware Basin play matrix. It's very similar to the Wolfcamp combo in per well reserves in the gas, oil and NGL makeup kind of a combo percentage there. And it's also very similar in cost. And so that gives us great confidence in having a premium play there and the fact that it's going to be a high-return play for a long time. In the Wolfcamp combo, we've turned about 50 wells to sales in the past two years and they're generating over 100% rate of return and approximately $8 million of NPV per well. So we're very excited about that play.", "On the Third Bone Spring sand shifting gears to that. As we talked about that's kind of a tale of two plays. We've got the more traditional sand target, which definitely because of the better porosity and the better permeability the decline rates are very similar to those in the First Bone Spring and the Second Bone Spring. And yes, I would say on a sidebar that is the type of reservoir quality that we're looking for in our exploration program.", "And then the second part of that Third Bone Spring probably a little bit slower to integrate it, because it's really as you step outside of our core area and we're delineating some of the new acreage positions on it are these emerging targets that I talked about the Third Bone Spring, the shale and carbonate targets in there. Industry has drilled about 50 wells in those targets and we're very excited about the potential there again as we move into those new areas." ] }, { "name": "Brian Singer", "speech": [ "Great, thank you. And then my follow-up is, if you could talk a little bit about the operational momentum into 2020. It is a daunting task to grow 15% from your large base of oil production. So how are you setting up in terms of late 2019 and early 2020 activity. And do you expect ratable growth through the year or a bit more back-end loaded?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. As we said early in the remarks, Brian, that are -- we're really evident fantastic operation this year and the operational momentum that we've got going in the company is going to carry over into 2020. So I'm going to ask Billy to comment a little bit more on the specifics about that." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Thanks, Bill. Yeah. Brian, as we go into 2020. First of all, it's a little bit early to kind of give you too much detailed guidance on where we are. We don't expect to be able to reduce our rig count any further in 2019. As we go into 2020 depending on what oil prices look like, we'll set what our activity is going to look like. But we certainly have the capability of increasing rig activity, if the process so warrant. The bottom line is, we fully expect to deliver quarter-over-quarter production growth, as we enter into 2020.", "So with the growth of the -- the amount of which would be dependent on what the oil prices looks like." ] }, { "name": "Operator", "speech": [ "Next, we have Subhash Chandra of Guggenheim Partners." ] }, { "name": "Subhash Chandra", "speech": [ "Yeah, good morning. First question is on, I guess deflation understanding that your budget for next year and your capital efficiencies are dependent on it. I'm curious if you're seeing any evidence as some of the other operators are slowing down or at least say they are slowing down?" ] }, { "name": "Bill Thomas", "speech": [ "Subhash, yes, I think, just in general, the US shale industry, I think, year-over-year production growth is slowing. That's certainly not the case for EOG. I think, we continue to differentiate ourselves by continuing to improve and our well productivity remains very, very strong and robust. We continue to -- as Ezra pointed out, we continue to drill record wells. And we continue to have record drilling times and we're setting new records really literally almost every play on well costs. So the key to success in any business is getting better all the time and lowering your cost and getting your production up and maintaining a very, very strong performance.", "And I think the EOG culture is quite unique in the business and it really sets EOG apart." ] }, { "name": "Subhash Chandra", "speech": [ "Yeah, I guess the question was, do you see cost deflation actually occurring?" ] }, { "name": "Bill Thomas", "speech": [ "No, I asked Billy to comment specifically on that." ] }, { "name": "Billy Helms", "speech": [ "Yes. This is Billy Helms. What we see on the service side, I guess, is the service industry is pretty much at a low. I wouldn't expect to see much further cost reductions on the service side. I think services are at a pretty low price point at this present time. And for them to stay healthy, to be able to service our industry, I think there's not much room to go any lower. So I think the important thing for -- to differentiate, as Bill said, on EOG is that, we're not dependent on service cost to really continue to reduce our well cost. I think that's an important point to make. Our operating teams continue to find ways to drill the wells faster, figure out more efficient completion techniques drive our lease operating costs down to improve our overall economics. And that's really what's driving EOG's continued efficiency gains." ] }, { "name": "Subhash Chandra", "speech": [ "All right. Okay, got you. Then my follow-up is, I guess a philosophical question. Acquisitions you've rolled out corporate and maybe it's a moot point because you have so much inventory that you can find organically. But it just seems that the A&D market is that sort of it, at least in recent history historical lows and the cost of your growth. I think your slide suggests $30,000, $35,000 per flowing BOE per day. And there is acquisitions there equal to or less than that number. Do you see an opportunity to exploit what hopefully as a temporary divergence in the market?" ] }, { "name": "Bill Thomas", "speech": [ "So, I think, we want to be really clear on that. We do not envision doing any large M&A, expensive M&A, especially expenses. M&A is -- large M&As are just really not in our game plan. We have tremendous confidence in our organic ability to generate very strong, even better quality inventory than we currently have. And we can do that organically at a much, much lower cost, even compared to what you might think M&A could produce.", "So our game plan will be continuing to focus on organic growth, low-cost growth, adding inventory that would be additive to the quality that we have and adding that at really low cost. And we believe we can add very much a large amount of inventory that way if we -- I think, we commented that we're looking -- we're operating in six different basins and we have active prospects in 10 different basins ongoing right now. So it's the most robust exploration effort, I've been with the company 40 years, that I've seen in the company.", "So we've got a lot of confidence in our ability to more than replace and to improve our inventory going forward at very, very low cost." ] }, { "name": "Operator", "speech": [ "Next, we have Charles Meade with Johnson Rice." ] }, { "name": "Charles Meade", "speech": [ "Yes. Good morning, Bill, to you and the whole team there. I want to just pick up, maybe, on the points you were just commenting on and try them a little bit differently. Going back to your prepared comments, I think, it was point three on your points to differentiate, you said, you -- for mid-50s oil, you expect to grow -- or, excuse me, mid-50 WTI grow oil comparable to the rate in -- that you grew in 2019, grow the dividend and then I believe it was also grow free cash flow. And it makes sense that you guys would have better capital efficiency in 2020 than you have in 2019. But can you give me an idea what is that increment that we should be looking for? And did I kind of get that whole setup correct?" ] }, { "name": "Bill Thomas", "speech": [ "Now, then you're exactly right, Charles. What we said, is -- what we say is that we can -- we believe, we can deliver mid-teens growth. We can grow the dividend and generate substantial free cash flow with oil at about $55. So we want to continue to operate. Obviously, if you look at the company right now, we're operating in a continual -- a very high level, an optimum level. And we're generating a lot of free cash flow. We're producing really, really strong growth. And if you look over the last two years, we've grown the dividend over 70%. So that's what we want to continue to do in the future.", "We want to continue to make sure that, first of all, that we're maximizing our returns. Our company's focus has always been on returns and returns come first. And volume growth is just an expression of reinvesting at high returns. So we want to operate at a point, at a level, at a growth level where we continue to get better every year.", "And so next year, because of the operational momentum, we have this year and the ongoing cost reductions, we see that continuing going into next year. And so, our focus is to get better and to make better returns next year. And that will help us to grow at a very healthy rate and it also helps us to generate very substantial free cash flow. And so, we're also focused on the dividend. We want to have -- as we've talked in the past, I think, we've kind of -- a very good indication over the latter of the last two years, with dividend increases of 30% or better per year. And we want to do that going forward. We're not going to commit to the level we're going to increase the dividend specifically, but we want to continue to have strong dividend growth in the future. And so, of course, that all depends on the macro environment what the oil price is and we evaluate that every quarter, our Board does. And we'll make those decisions on a quarterly basis. But our goal is to get our dividend yield up to the 2% yield level as quick as possible." ] }, { "name": "Charles Meade", "speech": [ "That's a helpful elaboration. Thank you. And then, if I could ask the follow-up on the Middle Wolfcamp perhaps of Ezra. Ezra, you talked a little bit about -- when you're talking about the Third Bone Spring's in response to an earlier question, how many other wells in the industry had targeted the carbonate and the shale. But do you have a similar sense for how many other industry wells have targeted this section in the Wolfcamp M?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Charles. This is Ezra. I'm glad you asked that question. I was just sitting here trying to figure out if I had actually mentioned that or not. The Wolfcamp Middle, or M, as we call it, it roughly correlates to the Wolfcamp B and part of the C as known by some other operators. And so, really across the Delaware Basin, there have been a few hundred wells drilled in a similar target there. And so we've got -- that's one of the reasons we've looked at all that data, they're landing zones, we've incorporated that with our own data to go ahead and announce this premium play." ] }, { "name": "Charles Meade", "speech": [ "Got it. That's what I was after. Thanks Ezra." ] }, { "name": "Operator", "speech": [ "Next we have Jeffrey Campbell of Tuohy Brothers Investment Research. Please go ahead." ] }, { "name": "Jeffrey Campbell", "speech": [ "Good morning and congratulations on the quarter. I thought the supply agreement with Cheniere was both interesting and innovative and it brought up two questions. So the first one is, what sort of long-term price uplift versus Henry Hub do you expect from that portion of your supply that's indexed to the JKM Marker? And second, is this kind of a deal that you're looking at repeating again in the future, maybe with Cheniere or maybe another LNG exporter?" ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask Lance to comment on that one." ] }, { "name": "Lance Terveen", "speech": [ "Yes Jeff. Hey, good morning. Thanks for the question. First, to start off, I mean, it kind of follows up with what Billy talked about. I mean, this new transaction and the gas sales agreements that we've done with Cheniere, it's really consistent with our marketing strategy in how we're trying to diversify our sales points and having multiple options. And really when we undertook this process when you really look at Cheniere, I mean they are the industry leader. I mean if you look at the 7.5 Bcf a day that's being exported today on LNG, they represent 5.5. So expanding our business with them, we're very excited about it. And just a reminder that starts at the 140,000 MMBtus a day starting in January of next year and that ramps up to the 440,000.", "But on your question just on the price realizations as that contract starts up next year, we'll be incorporating that into our guidance. So I'm not going to give any specific color on that. But what I can tell you that's why it got us excited about it is just when you look at the amount of LNG demand growth that's going to be coming on especially over like the next 10 years, it's definitely all in the Asia Pacific region. And so tying it to that and to see especially with significant weather events in those areas it's -- it can provide as you look historically for significant upside. So that's what got us excited about that. And then your last question there just about new structures and new deals. I mean, we're very excited about this first and we're going to stay poised. I think, we're going to continue to watch the market. We're always looking for new opportunities in diversifying our portfolio. So we'll definitely be staying active in the future as we look at new structures that may come in front of us." ] }, { "name": "Jeffrey Campbell", "speech": [ "Thanks for that color, Lance. I appreciate it. My other question was earlier in the call there was some discussion of the corporate decline. And slide 49 notes that longer laterals exhibit shallower declines than shorter laterals, and I assume that's a comparison within a given play. I wondered if some of the portfolios plays as a whole exhibit shallower declines than others. And does this help influence attracting capital?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Jeffrey. That decline rate is something that we're very much focused on in the company. And so as we continue to focus our capital and high grade our capital, we do consider that as part of the process. And so we're looking at low decline, lower decline plays particularly in our exploration efforts. Some of the newer plays we've announced in the last several years have lower decline than some of our historical plays. And then we're also looking and focused on lower finding costs.", "So low finding costs, low decline plays are certainly preferred for us and that's a focus of our exploration effort. And it really is a function of the quality of the rock in combination with the completion technology and they work together to help in that regard. So we're focused on that and that helps the company get better. That's part of the process. We've been going on the last several years. It's helped us get better in the last couple of years; certainly this year and we think that will continue to help us in the future." ] }, { "name": "Operator", "speech": [ "And next, we have Neal Dingman of SunTrust." ] }, { "name": "Neal Dingmann", "speech": [ "Morning, guys. For all the details. Could you talk a little bit. I see. As you always done in your slide 5 where you break out the premium sort of parameters because my question is more around slide 36 and just what caused the changes in both what you, you're able to add, but also to the Eagle Ford, Bakken and Woodford Woodford I think that was down a little bit on those. I'm just wondering what contributed to that?" ] }, { "name": "Bill Thomas", "speech": [ "Billy would you comment on that?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, I think an important point to take away, Neal is that this represents our best estimate going forward on each play. The Eagle Ford as we've talked about it's an update relative -- taking into account the number of wells we drilled and then what we have remaining. The important point on the Eagle Ford is to recognize as Ken discussed, we have 2,200 remaining locations that we can continue to work on to convert to a premium over time as we continue to move into areas that are less developed.", "So I think that's the upside on the Eagle Ford. The rest of the plays it just represents kind of what we see as the remaining inventory at this point in time for each one of these plays that are mentioned here. And overall it's in keeping with replacing -- more than replacing what we drill every year." ] }, { "name": "Neal Dingmann", "speech": [ "Very good. And then Bill maybe just one broad question. I'm just wondering when you look at what's been mentioned today about the growth versus the free cash versus shareholder return, I'm just wondering when you sort of put out there the 15% growth to $55 is your primary delta, kind of, what free cash flow you want to achieve? Or what shareholder return? I'm just wondering how you all go about thinking about that." ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Certainly the free cash flow is an important component of it. So it's a balance of allocating capital at the right that we can get better and can increase our returns every year. It is certainly focused on generating substantial free cash flow and continuing to increase the dividend in a very strong manner too. So we want to work on all three of those. And then as you know we have been reducing our debt. And Tim talked about that in the opening remarks. And so we want to continue to pay off those bonds as they mature. So we look at all that but, primarily it's really focusing the capital on generating really strong returns and certainly working on the dividend." ] }, { "name": "Neal Dingmann", "speech": [ "Very helpful. Thanks guys." ] }, { "name": "Operator", "speech": [ "Next we have Leo Mariani of KeyBanc." ] }, { "name": "Leo Mariani", "speech": [ "Hey guys, I fully appreciate that you guys don't have 2020 guidance out there. You certainly talked about the mid-teens oil growth rate at $55 WTI, which sounds great. I guess just from a high-level philosophical perspective, in order to kind of achieve that, do you guys think you'd have to increase activity and capex at all? Or maybe a little bit to do that? Or do you think the efficiencies are such that you could do that with a similar type of activity?" ] }, { "name": "Bill Thomas", "speech": [ "I'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo. This is Billy Helms. I think the takeaway would be we're going to be targeting as Bill said how do we continue to improve, what we do. We're not going to give you any specific guidance on how much capital that's going to deploy. We have the capability of increasing activity if the commodity outlook supports that. But we're going to stay extremely flexible at this point in time to make sure that as we go into the next year, we're doing so with the discipline that we want to maintain in each one of our programs.", "So I guess we certainly have the capability of doing whatever the market shows us that it's prudent to do and our programs will support it and we have the teams to execute any you mean that you know those programs. So we're just kind of leave it there for right now." ] }, { "name": "Leo Mariani", "speech": [ "Okay. I guess just wanted to see if we can get maybe a little bit more kind of a high-level update on some of the new plays. I certainly realize you guys aren't ready to announce any of the exploration plays but I know you've drilled a number of wells in 2019. Really just wanted to get a sense of whether or not on some of the wells you've drilled you think that you're getting competitive economics even in these early stages here to the point where you can foresee some new premium drilling inventory? Any comments on that?" ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask, Ezra to comment on that." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Leo. Thank you for the question. This is Ezra. As we've discussed previously, we're very excited about our exploration program. And Bill had mentioned that we're currently leasing and testing in over 10 different basins across all of our divisions, our focus primarily on oilier plays with higher rock quality that we've applied. We're searching for these plays. We're prospecting for plays that we've applied core and log data in our reservoir models developed from our multi-basin approach. So really leveraging off of our efforts in the Delaware Basin, the Powder River Basin, the Eagle Ford and Woodford oil window to really identify rock quality that will perform very well in combination with our horizontal drilling and completions technology and hopefully deliver slightly shallower declines. And hopefully we'll be very competitive with our current inventory.", "Again we want to increase the quality of our inventory not just add to the back end. As far as that, we're confident in our reservoir models. And hopefully we'll be able to update you on a future call." ] }, { "name": "Operator", "speech": [ "And next we have Scott Hanold of RBC Capital Markets." ] }, { "name": "Scott Hanold", "speech": [ "Yeah, thanks. You all talked about meeting some of your cost reduction targets this year. And it sounds like you've got some new efficiencies you're seeing in place. Is there anything specific you can point out to set of, hey, we're drilling faster. But like specifically what's happening on the ground and maybe improvement technological side that's causing that improved uplift?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Bill will comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes, Scott. It's not any one specific thing that helps us achieve these improved efficiencies. It goes back to what Bill talked about in his opening comments. It's the culture of the company. It's the drive of every one of our operating teams to continue to get better. And I couldn't be prouder of the execution those guys have made.", "One example on the drilling side to help us get the wells drilled faster as I mentioned in the prepared remarks the innovations we've made on designing drilling motors that enable us to increase the speed at which we do and the reliability of those tools to keep them in the ground is just one example.", "There's several examples on the completion side that go along with that to allow us to complete more of the lateral feet per day than we used to a year ago at a much lower cost and still deliver the same productivity improvements that we're seeing as we deliver the production from our wells. So it's just a number of different things. And it's hard for us to capture them all in one call like this, but just to say, that everybody in each division is working hard to try to continue to improve every day." ] }, { "name": "Scott Hanold", "speech": [ "Okay. I understood. And then if I could try a question on next year's activity just at a high level. I mean it seems like this year if I'm not mistaken, you've got around $400 million of that $6.3 billion budget allocated to kind of resource development and technological improvements. As you look into 2020, should we expect a very similar amount. Or if I'm not mistaken, that 2019 was going to be heavier what does 2020 looks like?" ] }, { "name": "Billy Helms", "speech": [ "Scott, we're not, I think ready at this point to give you a specific number on that. But we do certainly have an ongoing you know Exploration and leasing program. And so we'll continue to keep that up. But we won't give you specific number on that. But we're still working through all those details." ] }, { "name": "Operator", "speech": [ "And next we have Joseph Allman of Baird." ] }, { "name": "Joseph Allman", "speech": [ "Thank you and good morning. My question is on political risk, Bill. EOG has been very good at reducing political risk. For example, not operating in Colorado. What steps might you take to reduce the political risk that you addressed in your slides related to federal acreage?" ] }, { "name": "Bill Thomas", "speech": [ "Well, I think, as we've talked about I think in the opening remarks we do have a very active permitting process going on. So we're well ahead of that. We have two to four years of permits in hand. And we have the ability to modify our operations and we have a lot of flexibility with the different operating areas and shifting rigs here and there. And so we will -- we have been and we will continue to actively develop our federal acreage position very strongly. So we'll -- we've not really ever I think had a problem working with any of the regulatory changes. We have a great relationship with BLM and a great relationship with the state governments that we are active in. So it all works together. We try to be a good citizen, a good operator. And it really has worked out well for us in the past." ] }, { "name": "Joseph Allman", "speech": [ "Great, thanks, Bill. And then my second question is on the Austin Chalk. What is preventing the Austin Chalk from making it to the list of Premier plays. You clearly have many great wells. Do you just not have enough to call it a premier play or is it really on the cost side? And your drilling a couple of thousand wells a year, so it would seem to be, it's at least a great play amount a premier play?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Well I think the first thing is when you think about the Austin Chalk, it's a really big play. It goes a long ways. And it's got all different kinds of aspects to it. And we've been very successful in our -- under our Eagle Ford acreage we have great results in the Austin Chalk. And it's certainly an exploration target for us. And we have multiple places in the play that we're looking for and testing. And so they keep our competitive advantage on making sure we get the acreage in the right spot. We haven't talked about anything specific. But we will at some point and we'll give you some updates on our progress in the Chalk." ] }, { "name": "Operator", "speech": [ "Next we have Arun Jayaram of JP Morgan." ] }, { "name": "Arun Jayaram", "speech": [ "Hey, Bill, I wanted to talk to you or ask you about the potential sensitivity to your 2020 program to lower oil prices. I think you outlined a mid-teens oil growth at $55. If oil prices average closer to $50 per barrel would you adjust activity accordingly? And could you discuss broadly the sensitivity to your oil growth rate at a $50 number?" ] }, { "name": "Bill Thomas", "speech": [ "Well, we can't give you any specifics there Arun. But certainly, we would adjust our capital. Again, we want to have great returns. That's numbers one. We want to have strong oil growth. We want to have substantial free cash flow. So we continue to work on the dividend.", "So we really balance all those. And we would set it appropriately based on our macro view of oil in 2020. And at this point, we don't want to speculate, whether it's going to be higher or lower. We're just trying to give you some guidelines of kind of where we see our efforts next year." ] }, { "name": "Arun Jayaram", "speech": [ "Great, great and just a follow-up, I know the reduction in your rig count in the second half has garnered a lot of attention. But it sounds like this decline was driven by rig efficiencies. I guess my question is, in 2019 Bill, you're delivering call it 740 net wells for $6.3 billion, in capital. If we were going to bake in the rig efficiencies, you're seeing today OFS deflation do you have any thoughts on what your capex dollar could do incremental to 2019? Could we see another call it 5% to 10% improvement in well cost next year?" ] }, { "name": "Bill Thomas", "speech": [ "Again, Arun, we're not going to give you any specific numbers. So, we do certainly believe that our capital efficiency will improve next year over this year. We definitely believe that our well costs will continue to decrease next year or two. So and we're certainly hopeful operating costs will continue to go down. So the company just incrementally is getting better every quarter. And our culture, and our people, and our divisions are just doing a tremendous job in doing that. And so, along with oil prices, we bake all that in and that will really determine what our plan will be." ] }, { "name": "Operator", "speech": [ "Next we have Michael Scialla of Stifel" ] }, { "name": "Michael Scialla", "speech": [ "Hey, good morning, everybody. If you are successful with these new exploration plays, they turn out to generate better returns than even your premium inventory. I just want to see how quickly they could move to the top of the drilling inventory. And if they're not just additive, would that allow you to actually replace some inventory to where you could look at monetizing some of the inventory that's maybe at the end of the spectrum?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. And Michael thank you for your question, yeah the plays, the ones we're looking at these 10 different basins, most of them are in areas, where we could increase activity reasonably fast not jump in with 10 rigs in one year. But we could incrementally I think add rigs to each one of these plays and develop the infrastructure. They're not in -- most of them are not in places where you couldn't do that fairly quickly. So, if they were incremental to our returns, we would certainly move that way on each one of them as quickly as possible. And we have a lot of inventory obviously in the company. And we have sold, I think about $6 billion -- over $6 billion of properties over the last 10 years. And we'll continue to look to get value through possibly monetizing, any of that. But we don't think they'll ever get to a premium category. So, certainly, that would be another avenue to add value to the company." ] }, { "name": "Michael Scialla", "speech": [ "Okay. Thanks. And then, Bill you mentioned last quarter you were pleased with those first three Niobrara wells in the Powder. And then it looks like you added another one this quarter. One of your nearby competitors had some favorable things to say about the Niobrara this quarter. I just want to see, how you're viewing that zone relative to the other targets in the Powder River Basin." ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah. I think we're very pleased with the early results we're seeing from the Niobrara play. It's -- it looks to be something that we had hoped for. It's going to be more of an oily play in that Powder River Basin that we can grow oil volumes. And be competitive with the rest of our inventory. And we're going at a pace now, that's really dictated by the learning's that we're taking into account, but also the infrastructure we have there now. And as we've mentioned in earlier calls, the pace of activity will be really married up with our level of spending on infrastructure to grow that play. But it looks to be a play that we can see us growing another leg of growth that we'll have in the future." ] }, { "name": "Operator", "speech": [ "Ladies and gentlemen, this will conclude our question and answer session. I would now like to turn the conference call back over to Mr. Thomas for his closing remarks, Sir?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. So I'd just like to say that again, we're just so pleased with another outstanding performance by EOG in the third quarter. And we want to say many thanks to everyone in the company for making it happen. They're doing a fantastic job. The company continues to improve in every area. Our costs continue to fall. Oil well results are very strong. Capital efficiency continues to improve. And our premium inventory continues to grow. So our high-return organic growth machine is running at the most optimum level in the company's history. And most importantly, we're very excited about performing at an even higher level in 2020. So again, thank you for listening. And thank you for your support." ] }, { "name": "Operator", "speech": [ "And we thank you, sir, and to the rest of the management team for your time also today. Again, the conference call is now concluded. Again, we thank you all for attending today's presentation. At this time, you may disconnect your lines. Thank you. Just take care. And have a great day, everyone." ] } ]
EOG	2023-05-05	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "ROTH Capital Partners -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Derrick Whitfield", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "John Abbott", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "AllianceBernstein -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "", "name": "Charles Meade", "position": "Other" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Josh Silverstein", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources first-quarter 2023 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I'd like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thank you and good morning. Thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release and EOG's SEC filings.", "This conference call also contains certain non-GAAP financial measures. Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website. Some of the reserve estimates on this conference call may include estimated potential reserves and estimated resource potential, not necessarily calculated in accordance with the SEC's reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chairman and CEO; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, VP, investor relations.", "Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. Strong first-quarter execution from every operating team across our multi-basin portfolio has positioned the company to deliver exceptional results in 2023. Production, capex, cash operating costs, and DD&A all beat targets which underpinned our excellent financial performance during the first quarter.", "We earned $1.6 billion of adjusted net income and generated $1.1 billion of free cash flow. Free cash flow helped fund year-to-date cash return to shareholders of $1.4 billion through a combination of regular and special dividends and share repurchases executed during the first quarter. Combined with our full-year regular dividend, we have committed to return $2.8 billion to shareholders in 2023, or about 50% of our estimated 2023 free cash flow, assuming an $80 oil price. We are well on our way to achieve our target minimum return of 60% of annual free cash flow to shareholders.", "Our first-quarter results demonstrate the value of EOG's multi-basin portfolio. We have decades of low-cost, high-return inventory that spans oil, combo, and dry natural gas basins throughout the country. Our portfolio includes the Delaware Basin, which remains the largest area of activity in the company and is delivering exceptional returns. After more than a decade of high-return drilling, our Eagle Ford asset continues to deliver top-tier results while operating at a steady pace.", "And beyond these core foundational assets, we continue to invest in our emerging Powder River Basin, Ohio Utica combo, and South Texas Dorado plays, which contribute to EOG's financial performance today while also laying the groundwork for years of future high-return investment. Our portfolio provides flexibility to invest with discipline and develop each asset at a pace that allows it to get better. It provides optionality to actively manage our investments to minimize impacts from inflation. Diversity of our investment portfolio also translates to diverse sales market options, enabling us to pursue the highest net backs.", "Our shift to premium drilling several years ago has helped decouple EOG's performance from short-term swings in the market. The result is an ability to deliver consistent operational and financial performance that our shareholders have come to expect and that drives long-term value through the cycle. Recession risk and the near-term demand outlook for oil continues to drive volatility of prices month to month. However, our outlook remains positive.", "Inventory levels, currently near the five-year average, are reducing as we progressed through the year. Global demand continues to increase and is forecast to reach record levels by year-end, and new supply has moderated from pre-pandemic levels of growth. Longer term, with the reduced investment in upstream projects the last several years, we remain constructive on future pricing. For North American gas, near-term prices reflect high inventory levels due to this year's warm winter and reduced LNG demand during repairs at Freeport.", "As such, we are currently evaluating options to delay some activity at Dorado. The medium and long-term outlook for natural gas, however, continues to strengthen. Currently, U.S. LNG demand is at record levels with an additional 7 Bcf a day capacity under construction or through FID with expected start-up between 2024 to 2027 that should position the U.S.", "as a leader in the global LNG market. Our confidence in the outlook for our business is demonstrated by our capital allocation decisions in the first quarter. Disciplined reinvestment in our high-return inventory continues to lower our breakevens and expand the free cash flow potential of EOG. We strengthened our balance sheet by retiring debt, paid out nearly 100% of free cash flow in regular and special dividends, and we utilized our repurchase authorization to buy back $310 million worth of stock late in the quarter during a significant market dislocation.", "I'm confident EOG has the assets, the technology, and the people to deliver both return on capital and return of capital for years to come. In a moment, Billy will discuss why we believe our foundational assets in the Delaware Basin and Eagle Ford will provide higher returns, margins, and free cash flow in the years ahead and why we remain excited about the progress we are making in our emerging assets: Powder River Basin, Ohio Utica combo, and South Texas Dorado. But first, here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. EOG generated outstanding financial performance in the first quarter. We produced $1.6 billion of adjusted net income, or 2.69% per share, and $1.1 billion of free cash flow. Timing differences associated with working capital accounted for an additional $661 million of cash inflow in the quarter.", "Our outstanding financial results were driven by strong operating performance Compared with the prior year, first-quarter production volumes increased 2% for oil and 7% overall. We mitigated most of the inflationary headwinds to limit the increase to per unit cash operating costs to just 3%, or $10.59, per BOE, which was more than offset by a 12% decline in the DD&A rate. Capital expenditures in the quarter of $1.5 billion came in $100 million below target. Our long-standing free cash flow priorities and cash return framework remain consistent.", "Our priorities are sustainable, regular dividend growth, a pristine balance sheet, additional cash return options, and low-cost property bolt-ons. We're committed to return a minimum of 60% of the annual free cash flow to shareholders through our sustainable regular dividend, special dividends, and opportunistic share repurchases. We believe the consistent application of our free cash flow priorities and transparent cash return framework positions the company to create long-term shareholder value through the cycle. In March, we strengthened the balance sheet by paying off a $1.25 billion bond at maturity with cash on hand, leaving $3.8 billion of debt on the balance sheet.", "The next maturity is a $500 million bond due April 2025. Cash at the end of the quarter was $5 billion, yielding a net cash position of $1.2 billion, up $300 million from December 31. Yesterday, our board declared a second regular dividend of $0.825 cents per share, the same as last quarter and a 10% increase from the prior-year level. The $3.30 annual rate is a $1.9 billion annual commitment.", "On March 30, we also paid the $1 per share special dividend declared in February. EOG also repurchased $310 million of stock in the first quarter at an average price of $105 per share. For several days during the last two weeks of March, market volatility created a significant dislocation between the price of our stock and the value of the business. We were able to utilize our strong balance sheet to repurchase shares at highly accretive prices.", "We will continue to monitor the price and value of our stock, and you should expect us to step into the market again when there are significant dislocations. We're off to a very strong start in 2023 to deliver on our full-year cash return commitment of a minimum of 60% of annual free cash flow. Altogether, the full-year regular dividend, along with the first-quarter special dividend and buybacks, represents $2.8 billion of cash return, which is about 50% of the $5.5 billion of free cash flow we forecast for 2023 assuming an $80 oil price. We will continue to monitor oil and gas prices going forward, and we remain committed to delivering on our cash return commitment and look forward to updating you over the rest of the year.", "Here's Billy to discuss operations." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. EOGs operating performance continues to improve with the first quarter generating outstanding results. Our first-quarter volume, capital expenditures, and total per unit cash operating cost performance came in better than our forecasted targets. I'd like to thank our employees for their dedication and outstanding execution, giving us a great start to 2023.", "Our full-year 2023 capital and production plans are unchanged. We forecast a $6 billion capital program to deliver 3% oil volume growth and 9% total production growth. We maintain the pace of activity from the fourth quarter of last year in the Delaware Basin and Eagle Ford, our core foundational plays, and continue to expand development in our emerging Powder River Basin, Ohio Utica combo, and South Texas Dorado plays. Well productivity and cost performance are meeting or beating expectations across our portfolio as each place sustains sufficient activity to support continued innovation.", "As Ezra mentioned, our foundational assets in the Delaware Basin and Eagle Ford are performing exceptionally well, and we're a big part of our overall strong first-quarter results. Sustaining a consistent level of activity in these core plays is driving operational improvements and continues to be one of the primary hedges to offset areas of cost inflation. We are excited about the outlook for these assets in the years ahead. Even as these assets mature, we can apply technical learnings, operational innovation, and leverage prior infrastructure investments to continue to improve the operating margin and capital efficiencies of these world-class assets.", "In the Delaware Basin, we expect well performance will continue to improve this year, delivering productivity and returns well above the premium hurdle rate. Last year, our Delaware Wolfcamp wells delivered an average six-month cumulative production of about 34 barrels of oil equivalent per foot and are expected to improve this year. See Slide 10 of our updated investor presentation for details. While well mix can impact the relative contribution of oil, NGLs, and natural gas, overall performance is improving, in large part, due to continued innovations like our new completion design.", "We have now tested 39 wells in the Wolfcamp that are yielding an average increase of 22% in the first-year production with a 20% uplift in estimated ultimate recovery compared to the similar wells and targets using our previous completion design. With these encouraging results, we are -- we now expect to deploy this new design on about 70 wells this year. This new design is continuing to show promise as we expand the number of wells and test the design across different targets and basins. Operationally, maintaining a consistent level of activity in the Delaware Basin, combined with our culture of continuous improvement, is generating noticeable results.", "Drilling times continue to improve and are generating peer-leading performance aided by our drilling motor program and high-performing staff. The amount of footage drilled per motor run improved by 11% in the first quarter as compared to last year. Similar progress is being achieved with our completion operations with the expansion of our super super-zipper technique. These efforts, combined with the opportunity to co-develop multiple targets in this stack pay resource by using our existing service footprint and infrastructure, are expected to drive significant efficiency gains and continue to improve our margins in the Delaware Basin for years to come.", "The first -- we first introduced the super-zipper completion technique in the Eagle Ford in 2020. Since then, we have expanded its use throughout the play and have more than doubled completions efficiency as measured by completed lateral feet per day. As indicated on Page 12 of our quarterly investor slides, the amount of lateral completed per day year to date has increased by another 18% compared to last year. In the first quarter, we also set a record in the Eagle Ford, drilling our longest well to date, reaching a measured depth of nearly 26,500 feet with a lateral length of over 15,500 feet.", "We expect to continue to see completion efficiency improvements as we extend laterals in the Eagle Ford to 3-plus miles where feasible. As a core operating area that has been under development for more than a decade, the Eagle Ford also benefits from our existing infrastructure from over 3,700 producing wells. Leveraging existing investments made in strategic water, oil, and gas infrastructure minimizes future capex needs and lowers operating costs. Ongoing improvements to completion operations and leveraging the benefit of existing infrastructure enable our Eagle Ford finding and development costs to continue to decline.", "Last year, the Eagle Ford's rate of return was the highest in the play's history. Longer term, we have over a decade of drilling inventory in the Eagle Ford, allowing us to maintain the current production base while generating high returns and lowering breakevens. As previously mentioned, we are maintaining activity in our core plays and progressing our newer, emerging plays this year. This year's plan in Dorado contemplates eight additional wells completed compared to 2022 in order to achieve a consistent level of activity to drive performance improvements.", "Our drilling operations are realizing a 29% improvement in the footage drilled per day since 2021. Completion operations will be conducted on a few wells in the second quarter. However, we are evaluating options to delay additional completions originally scheduled later this year due to the current natural gas price environment. To date, operational progress toward improvements and Dorado's well performance is meeting or exceeding our early expectations.", "Activity in the Utica combo play is just commencing, yet we are already witnessing the compounding effects of sharing technology across our multiple plays. For example, drilling performance for recent wells is improving on the order of 20% to 30% compared to last year's results with the benefit of our proprietary drilling motor program and precision targeting. We expect similar levels of improvement from our completion program once we began completing wells in the third quarter. Now, for a little color on inflation and industry service costs.", "As we had anticipated in building this year's plan, the upward inflationary pressure that we witnessed last year appears to have plateaued, which still leaves us confident that our average well costs should increase no more than 10% compared to last year. Early indicators are showing signs of service cost moderation, which is more prevalent in some basins and less than others. We would expect that any softening of service and tubular costs will be slow to manifest into lower well cost and cash operating costs until much later in the year or more likely in 2024. As the year unfolds, we will continue to look for opportunities to leverage our scale and the flexibility of our multi-basin portfolio to manage costs across all operating areas.", "We also remain highly focused on sustainable cost reductions through innovation, operational performance, and execution improvements to mitigate inflation and further drive down our cost structure. Now, I'll turn it back to Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Billy. In conclusion, I'd like to note the following important takeaways. First, strong execution from every operating team across our multi-basin portfolio has positioned the company to deliver exceptional results in 2023. Thanks goes to our employees for delivering a great first quarter with their outstanding execution.", "Second, our foundational assets in the Delaware Basin and Eagle Ford are performing exceptionally well and were a significant part of our first-quarter results. Third, our first-quarter performance demonstrates the value of EOG's multi-basin portfolio. We have decades of low-cost, high-return inventory that spans oil combo and dry natural gas basins throughout the country. And fourth, our long-term outlook for both oil and gas remains positive, and our shift to premium drilling several years ago has helped decouple EOG's performance from short-term swings in the market.", "The result is an ability to deliver consistent operational and financial performance that our shareholders have come to expect and that drives long-term value through the cycle. Thanks for listening. We'll now go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question is from the line of Paul Cheng with Scotiabank. Paul, your line is now open." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning, everyone. Two questions, please. I think the first one is probably for Billy.", "You talk about the Permian, the good well productivity. Just can you give us a little bit more detail in terms of the test size you are doing over there and whether you are increasing it, especially if you start to do more co-development, and how many different landing zone or -- that you are targeting in your program? And second one that -- just curious, I mean, I think in the last, say, several months, a lot of investors have been asking why go ahead with the expansion in the rentals. And I think last quarter in the conference call, management has said you're looking for the long term, so just curious what may have trigger your -- maybe that's a slightly change in your view about the pace on that development. Thank you." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Paul, this is Billy. Let me give you a little -- highlights maybe of the Permian program and what we're seeing there, and then I'll probably ask Jeff to give some more detailed color, so help explain some of the improvements we're seeing. Overall, we're very pleased with the progress our Permian plans are showing. In general, our results are playing out just as we anticipated in our plans.", "We planned all of our top curves are modeled and forecasted and the results are meeting or exceeding our forecasted results, including the co-development of different targets at the same time. But I'd like to go ahead and turn it over now to Jeff and maybe talk a little bit about the new completion design, the results that we're seeing, and then some of the productivity improvements." ] }, { "name": "Jeff Leitzell", "speech": [ "Yeah. Thanks, Billy. Paul, this is Jeff. Yeah, we're extremely happy with our productivity out of the Delaware.", "And just to give you a little color, one of the big things that's really improving that is our new completions design or, I should say, kind of our improved completion design. So, as Billy stated, to date, you know, we've tested around 39 wells in the Wolfcamp. And we're seeing an uplift of about 20% or so in the well productivity, and that's in both the early and late life performance of that. I'll also note that the uplift, we're not just seeing that in one phase, we're seeing both in oil and gas, so kind of across the board.", "So, with these outstanding results, what we've done is we've really expanded this program and we're planning on completing about 70 additional wells in the Wolfcamp this year. So, that's going to be about a 2.5 times increase from last year. And we've definitely went ahead and taken this into account in both our drilling plans and guidance for 2023. So -- so, looking forward with this design, we've had a lot of success in our deeper formations.", "Our team really plans to continue to kind of test in some of the shallower formations to evaluate its benefits. One thing that we have observed with this design is that there's varying performance uplift depending on the rock type and the depth of the target. And the design does come with a little bit of a cost increase, so we just want to be mindful about how quickly we're testing it and be strategic at the pace that we're going ahead and putting these in the ground. Also, I'd like to point out that, you know, the design isn't really new to EOG.", "It was actually first tested down in our Eagle Ford asset. And this is just an example of the technology transfer in the company of our multi-basin operations. It's really helped us accelerate our learning throughout the company. And then, lastly, with the success that we've seen in the Delaware Basin, you know, we're actively testing it in all of our emerging plays throughout the company and really look forward to evaluating those results throughout the year." ] }, { "name": "Billy Helms", "speech": [ "And then, Paul, the other part of your question was on Dorado and -- and really what triggered the change of pace that we're thinking about. You know, we -- we put together a plan originally just to remind everybody that really it was not a huge acceleration in activity plan for we're only adding eight wells. So, the plan never contemplated a huge amount of growth in the -- in Dorado to start with. However, we always remain flexible in our program, and what that's a benefit of having a multi-basin portfolio is we can move activity around based on market conditions or other factors as they present themselves.", "Naturally, with gas prices remaining weak and -- and moving into the year, it's only natural to think about options that we might be able to explore with Dorado activity. And we are exploring the option to delay some completions that were scheduled for later in the year. And we'll -- we'll give more color on that as that unfolds." ] }, { "name": "Operator", "speech": [ "Thank you, Mr. Cheng. The next question is from the line of Leo Mariani with ROTH Capital Partners. Leo, your line is now open." ] }, { "name": "Leo Mariani", "speech": [ "Hi. I just wanted to follow up a little bit on the buyback versus the special dividend. Obviously, there was no new special dividend, I guess, announced this quarter, instead you guys certainly lean on the buyback, as you described, in March. I just wanted to kind of confirm, you know, your thinking around this.", "I mean it -- it still sounds like the buyback is going to be reserved only for kind of very opportunistic situations where there is this dislocation. And, you know, generally speaking, it's probably more reasonable to expect, you know, the special going forward where the -- the buyback kind of maybe every once in a while, is that kind of how to think about it?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo, this is -- this is Ezra Yacob. Good morning. I think that -- I think you've summarized it pretty well. You know, our strategy hasn't really changed.", "We are committed to returning at least 60% of our free cash flow on an annual basis. Year to date, as Tim had mentioned, our cash return commitment is $2.8 billion. That's approximately a 50% of our -- you know, what would be our fiscal year free cash flow at the assumed $80 oil price there. And just to recall, you know, the cash return priority is, for us, it really begins with the regular dividend as the first priority.", "The excess free cash flow, as you said, will either come back in the form of special dividends, which we've paid seven of the last eight quarters we've distributed a special dividend, or opportunistic buybacks. And, you know, what we saw in the first quarter when we executed a repurchase was we really saw a dislocation dominantly associated with the banking crisis. And we were able to step in to repurchase approximately $300 million of the stock. So, as you pointed out, really in line with our strategy.", "Now, what I would say has changed over the last 18 months since putting the repurchase authorization in place is really the strength of our company. You know, our primary value proposition, of course, is investing in high-return projects, adding lower-cost reserves to our company's profile, which, you know, thereby reduces our breakevens and expands our margins. And so, as we continue to execute on this strategy and we continue to strengthen the company, the way we consider dislocations certainly evolves as well." ] }, { "name": "Leo Mariani", "speech": [ "OK, that's helpful. And I just wanted to see if there's any more of a robust update on the Utica. I think the last time you guys kind of rolled that out, I think you had four wells on production with a fair bit of history. Just trying to get a sense of are there more wells producing at this point in time in the Utica.", "And just any thoughts around, you know, some of the long-term performance of those prior wells that have been on, you know, I guess, for over a year at this point?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Leo, this is Ken. We're making excellent progress on our Utica program this year. We currently have a drilling rig actively operating on our northern area, and we're progressing nicely on our gathering and infrastructure projects. The four wells that you talked about that we drilled and completed in 2022 really do continue to deliver our -- our expected performance.", "And we plan to drill and complete about 15 wells across both our north and southern areas this year, and we'll have those production results more toward the end of the year. Another thing to note is -- is we also continue to add acreage and look for additional low-cost opportunities to add to our position." ] }, { "name": "Operator", "speech": [ "Thank you, Leo. The next question is from the line of Scott Hanold with RBC. Scott, please go ahead." ] }, { "name": "Scott Hanold", "speech": [ "Yeah, thanks. Good morning and congrats on the quarter. You know, Ezra, maybe if I could pivot back on -- on the buyback conversation and if you can give us some color on what were the key triggers on the decision to do buybacks? Was it relative valuation of EOG to peers? Was it just the -- the, you know, aggregate move? Or is there other things like intrinsic value assessments that -- that kind of generated that process to really kick it off there?" ] }, { "name": "Ezra Yacob", "speech": [ "Good morning, Scott. Yes, this is Ezra. Those are all accurate to the tune of how we kind of look at these opportunities. You know, as we've talked about in the past, it kind of begins with the macro, first of all, right, what's happening on both global and domestic supply and demand balances.", "As far as dislocations go, we do measure -- we look at the intrinsic value of our business relative to different pricing scenarios both short and long term. And we do evaluate trading multiples, not just at EOG versus the peers, but actually for the entire peer group and see what's happening. And so, one comparison, you know, that could be made is, you know, the dramatic sell-off that that the industry saw last summer, which was associated with a pretty dramatic pullback in oil prices, that was really fundamentally supported by a change we felt in the macro outlook. There was a significant announcement there for roughly 300 million barrels of petroleum reserves that would be hitting the market on the supply side from across the globe.", "What we saw in the first quarter was -- was not really supported by a big change in the forecast on -- on the fundamentals, potentially really just triggered from the banking crisis, potentially an increased fear on the demand side from increased recession. But we really feel like most of that has already been priced into the market on the demand side. And so, when we saw a pullback there and a dislocation with the market really, again, associated in late March there with the banking crisis, we really didn't hesitate, and we're able to step into the market and do that $300 million share repurchase. And we think we've really created a significant amount of value there for the shareholders." ] }, { "name": "Scott Hanold", "speech": [ "That's great. Thanks for that. As my follow-up, one of the things I think tends to get lost or is underappreciated is the premium pricing you all continue to get on your commodities across the board. And can you just give us a sense of, as you kind of look forward, do you find more opportunities ahead where you can continue to raise the bar on that as well?" ] }, { "name": "Lance Terveen", "speech": [ "Hey, Scott. Good morning. This is Lance. Thanks for the question.", "Yeah, our realizations continue to be, you know, excellent. And I mean when we think about it, it's really just the capability that we have when you think about the multi basins that we have, but just our transport position and then the capacity that we've taken out. You hear us talk a lot about control, and having control all the way to the water is -- is exceptionally important. So, I would just say, as you think about our position and the price realizations too and then extract in additional premiums, I think our ability to just transact very quickly and with the supply, the scale that we have, I mean we can definitely walk in with further opportunities." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Scott Gruber with Citigroup. Scott, please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yeah, good morning. I want to circle back on the Wolfcamp development strategy. After looking at Slide 10 here in the deck, last year, you layered in more Wolfcamp M wells, but this year, the percentage of Wolfcamp M will be sliding back down some. Is that impacted by where you'll develop and deploy the new completion design? Or is that a reflection of trying to be more selective with where you co-develop the Wolfcamp M? And just kind of what's the shift mix?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yes, Scott, this is Jeff. Really what the -- you know, our co-development strategy, you know, it's pretty straightforward, and what we're trying to do is we're just adding in high rate of return targets to our well packages. And really, it's driven by the geology. And obviously, the geology across, you know, our acreage, it changes, you know, very quickly.", "So, kind of from development unit to development unit, you know, we've really got to strategically dissect what our, you know, strategy is going to be there. But from what we're seeing right now and you can see that on Slide 10 and 11 in, our deck, you know, by adding in some of those deeper targets in the lower Wolfcamp -- or I should say the lower upper Wolfcamp and then the middle, you know, we're achieving economics well over our premium hurdle rates. And, you know, we have some of the tightest co-development spaces out there in the basin. So, ultimately, just this approach, I mean it's improving our total recovery per acre.", "It's helping optimize that NPV of the resource, and it's just adding those barrels, finding costs below our current Delaware Basin levels." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then, just looking for some more color on the new completion design. You said it was initially developed and rolled down the Eagle Ford. Did it become the dominant design in the Eagle Ford, and will it become the dominant design in the Permian? And -- and how quickly can it be rolled out to some of your new plays?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yes, Scott, great question. So, yeah, the design, as I talked about, it was first utilized in Eagle Ford, it was back in right around 2016. And we -- we didn't see the same uplift that we see in the Permian. It wasn't quite as extensive, but that really has to do with the difference in rock type and the geological properties between the two plays.", "But it did provide a -- you know, the application proof, really beneficial as far as helping lower our well cost and reduce our completion time. So, yes, it is something that we still do employ there in the Eagle Ford and, as I said, in a lot of our emerging plays. And then, as far as in the Delaware and our rollout, you know, our plan is to increase, as I said, the year over year number by 2.5 times what we did last year. And I also did state there's just a slight cost increase.", "So, we want to be cognizant of how quickly we roll it out. And like anything in our program, you know, we just don't want to outrun our learnings and we want to make sure that, you know, we continue to evolve this technique as we learn." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Derrick Whitfield with Stifel. Derrick, please go ahead." ] }, { "name": "Derrick Whitfield", "speech": [ "Good morning, all, and thanks for taking my questions. With my first question, I wanted to focus on capex cadence throughout 2023. With Q1 coming in better than expected in Q2, projected to be heavier than expected, could you comment on the one to two drivers? And separately, if not part of the answer, could you speak to cadence on non-D&C investments throughout 2023?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Derrick, this is Billy Helms. So, yeah, the second-quarter capex has got to be a little bit higher than the first quarter, and that's mainly due to some nondrilling and completion capital, the indirect or infrastructure and those kind of things that we put in our program that it was originally scheduled to occur at the latter half of the first quarter. It turned out to be pushed into the second quarter, thus, that's the reason the first quarter was under on capex and the second quarter is a little bit higher. You know, and that really sticks to our original plan.", "We had always planned for about 52% of our capex to be spent in the first half of the year, and so we're still on target for that and the 48% in the back half. So, that's kind of the way the program plays out." ] }, { "name": "Derrick Whitfield", "speech": [ "Great. And with my follow-up, I'd like to focus on your operational efficiency gains in the Eagle Ford. Is your gain principally driven by increased super-zipper activity? And if so, are there practical limitations on the amount of completions you could perceive utilizing this approach?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Derrick, this is Ken. I'd like to start off by really crediting our team there in San Antonio for -- for driving down that finding costs that you talked about. Really by focusing on improving the efficiency of every portion of the process, we've been able to drive down costs over the past several years. And increasing our lateral links while improving, targeting, and focusing on bit and motor performance in conjunction with the advent of super-zipper completion operations have really allowed us to improve efficiencies and, you know, really drill and complete more lateral footage in a day compared to a few years ago.", "And that's really showing up in our lower cost basis. And one thing to note is we do have over 10 years of high-return drilling in this play that can sustain our current production levels and continue to expand our margins." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Doug Leggate with Bank of America Merrill Lynch. Doug?" ] }, { "name": "John Abbott", "speech": [ "Good morning. This is John Abbott on for Doug Leggate. Our first -- our questions are really on Dorado. You know, we understand that you're going to potentially delay activity this year, but one of the goals that you set out this year was to try to, again, get greater economies of scale into play.", "When do you think you need to achieve that size and scale, noting that you have additional LNG capacity coming on exposure in 2026?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, John, this is Billy Helms. So, for Dorado, you know, yes, we are increasing activity there mainly from the drilling side. Originally, we had planned to also bring in additional completions. On the drilling side, I would add that we are seeing a tremendous improvement in the -- in the efficiency gains there.", "The team there has done just an excellent job being able to improve our drilling times, lower our well cost, and just increase efficiencies overall. So, we're very pleased with the progress we've made. And so, I think that that increased activity we're seeing on the drilling side is playing out what we're seeing on the drilling results and given us insights into how we can continue to lower well costs going forward. On the completion side, we have some planned activity here in the second quarter, but beyond that, we're looking at ways we can with the flexibility we have in our program to -- to delay the completion of any wells that would be beyond in the second half.", "And really just thinking about how we can leverage some of the learnings from our other programs in place and combine that activity -- with the activity we have in Dorado by sharing equipment, people, and those learnings across our portfolio. So, you know, we don't really feel the need to jump in and complete those wells, but we -- we are evaluating options as they roll out and we'll -- we'll see how those present themselves. And then, as far as the activities for, I guess, the LNG demand, I guess, you know, the play -- you know, the unique thing about this play, it doesn't take a lot of wells. The wells are very prolific, so we're well ahead of any timing that we would need to add LNG capacity in the future.", "And then, we also have the flexibility of moving gas from other operating areas, multi-basin portfolio to the Gulf Coast. So, don't think of Dorado as just simply applying itself to the LNG market. It's got the opportunity, but we can get gas from other places to the Gulf Coast as well through our marketing arrangements." ] }, { "name": "John Abbott", "speech": [ "That's extremely helpful, which leads to the next question. You know, assuming there was not an issue with gas prices, how do you think about the optimal-level production for that play or activity long term? I mean, how big does it kind of get to? How do you think about that from an efficiency program longer term? [Inaudible]" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, John, this is Ken. I think the -- yeah, John, this is Ken. I think the real thing in Dorado is -- is it doesn't take a lot of wells to generate significant volumes out of that play. So, I don't know the exact right pace, but what we want to do is we want to develop this at the -- at the right pace where we don't outrun our learnings.", "We're making significant progress as we really get those operational synergies together that Billy talked about. And so, that pace of development is really going to be dictated by not outrunning our learnings." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Neal Dingmann with Truist. Neal, please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Morning, thanks for the time. My first question just on the Powder River, I'm just wondering -- had heard too much on that, right? I'm just wondering how do you still feel this competes versus your other premium players? And I know, at one time, you suggested you had almost 1,700 locations, and I'm just wondering your thoughts around this." ] }, { "name": "Jeff Leitzell", "speech": [ "Yeah, Neal, this is Jeff. No, we have outstanding results there in the Powder right now. and it's some of the lowest finding costs that we're seeing there in -- in the whole portfolio. So, yeah, we still have between kind of our full south Powder River Basin and then moving up to our north, about 1,600 net undrilled premium locations.", "So, just looking at our program, everything's on pace this year. The wells are performing as we expected. Q1, we've completed about 15 gross wells which two-thirds of those were Bowery. And, you know, we're seeing a lot of benefits also by getting some consistent activity up there in the Powder.", "We're running a consistent two to three rigs and one full frac spread with that, which is really allowing them to kind of push their efficiencies. And then, we also have, you know, a lot of confidence in the play, you know, just with just -- just with the overall performance and stuff as with the Bowery. And then, from there, as we talked about, we want to go ahead and gather the data you know, in the upper overlying formations like the Niobrara, so we can develop that later in the future. And then, also, you know, additional confidence in the play, I think, would be really -- should be said is that the infrastructure acquisition that we had.", "We had noted that in our 10-Q, we acquired Evolution. And I'll go ahead and let maybe Lance say a couple of things on that." ] }, { "name": "Lance Terveen", "speech": [ "Yeah, no, thanks, Jeff. Yeah, just to add to that on our confidence, when we think about the Powder River Basin, we did make a strategic investment there that was about $135 million. And we view that as a bolt-on acquisition, and it's really a midstream footprint. There's a plant and gathering system that just overlays our southern acreage.", "The plants are a first-class asset. It was completed in 2019. And when we think about this, it just really complements our existing gas gathering infrastructure build-out as we have connections in place. So, we really look at that as value because we can load that plant and fill the plant very quickly.", "And there's also other benefits that we see long term as well as we think about just lowering cash operating costs; gathering, processing expense versus third parties; we'll have control in redundancy, but then also to the confidence we can expand that very quickly. So, well, the last thing I just [Inaudible]." ] }, { "name": "Neal Dingmann", "speech": [ "Will that plant help the diffs there as well? I'm just wondering, while you mention that plant, would that boost the diffs there a little bit as well?" ] }, { "name": "Lance Terveen", "speech": [ "When we think about that, we think about actually the gathering, processing, transportation expense. So, it's absolutely when we think about loading it with our equity gas into that facility and having to control, we're definitely going to see better net backs. But it's more of we think about just controlling the cost and lowering the cost basis of the company that's going to absolutely make the Powder River Basin and the southern acreage there more competitive." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Bob Brackett with Bernstein. Bob?" ] }, { "name": "Bob Brackett", "speech": [ "Good morning. Back to the Wolfcamp co-development. If you're hitting two-plus targets in the Wolfcamp versus say cherry-picking the best zone, all things being equal, you'd expect wells to get worse, yet you're seeing wells get better. Is that attributable completely to the design change?" ] }, { "name": "Jeff Leitzell", "speech": [ "No, I'd say it's attributed to our co-development strategy. I mean, it's really -- it's been a process over time. So, if you look at back in 2016 in the Wolfcamp -- or I should say our strategy through the whole Permian, we had six unique targets and kind of fast forward here, you know, we're up to 18 unique targets. And obviously, with that, the spacing has changed both in zone and from a vertical perspective.", "So, our teams have methodically obviously tested this, you know. They've taken into account, you know, the actual spacing, how they interact the depletion to it. And we've come up obviously with the best co-development strategy really to maximize the overall production of those intervals and then, obviously, maximize the economics related to it." ] }, { "name": "Bob Brackett", "speech": [ "Great. Guess the follow-up would be, so it sounds like the co-development strategy is driven by that desire to maximize the lack of communication between zones, or is it more driven by just logistics of having that kit sit in one spot for a longer time?" ] }, { "name": "Jeff Leitzell", "speech": [ "No, it's really -- it's about maximizing, you know, the overall resource there, as you said, you know, so we do have the optimal amount of communication that we're actually able to, you know, optimize the recovery and then, like I said, really maximize those economics." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Arun Jayaram with J.P. Morgan. Arun, please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning. I wanted to come back to the new completion design. You highlighted how you've tested this on 39 wells and you plan to go to 70 wells. And my question is, was the 20% uplift relative to wells in the same area or relative to the -- to your type curve? And maybe the follow-up is, are the 70 wells contemplated for this calendar year? And was that -- was that part of your guidance? Did that include that or would that reflect an upside risk to your -- to your oil guide?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, hi. Arun, this is Billy. So, the -- the uplift we're seeing, a part of that was actually baked into our guidance. We didn't bake in the entire amount.", "So, when we put together our plan, we understood that there were going to be some uplift. We did plan on 70 wells to be part of that calendar year program, and we baked in some of that into our production guidance, knowing that we would see some uplift. I think the uplift is surprising us a little bit more to the upside, but I would -- I would say that's already factored into our guidance that we've issued. And then, as far as the -- you know, what we're doing there, you know, we're finding that that -- the target is critical.", "So, the rock type is critical to why it works in some areas. And so, we're cautiously moving through our program to make sure we test as we go to understand which our targets lend themselves best to this design change and which ones don't, because it does cost a little bit more. And we want to be very disciplined on how we apply that across the fields that we maximize, as just as Jeff was saying, the economics of the play." ] }, { "name": "Arun Jayaram", "speech": [ "OK. And just my follow-up is, any update on Beehive in Australia timing?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Arun, on Beehive, we're still excited to be able to drill that well, but it's -- it's going to be probably in the first half of next year before we're able to get that well drilled. And that's just really due to some timing on permits and those kind of things." ] }, { "name": "Operator", "speech": [ "The next question is from the line of Charles Meade with Johnson Rice. Charles, please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Ezra, Billy, Ken, and the whole EOG team there. I think just a couple of quick ones for me, touching on some of the common themes that you've already spoken on for a while. The Dorado, the -- evaluating the slowdown, can you give some insight in your thinking? Is this -- is this about the -- the natural gas price falling below your 250 double premium? Or is this -- is this about the contango you see in the curve and just the value of just waiting a few months? Or is it -- I recognize those aren't exclusive but just some insight. What really keyed you guys to want to examine that?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Charles, this is Billy. Certainly, you know, it really is not triggered on a specific gas price but just the overall softness we see in the current market conditions and the need, you know, to simply bring more gas on in this current condition. You know, as -- as we talk near term, we understand the near-term softness in the market. But longer term -- or medium and longer term, we're still very bullish on the long-term outlook for -- for gas.", "So, you know, we do look at the different -- the flexibility we have in the program, and we're evaluating options to be able to -- to successfully push those back in the year. And we're just going to continue to remain disciplined on our investment to make sure we're maximizing the value to the company over the long term." ] }, { "name": "Charles Meade", "speech": [ "OK, that's helpful. And then, just one -- one more quick one on this -- on this Wolfcamp completion design. So, I -- I got the message. I think in your last -- in your response to the last question that this is not this -- this is not going to be an across-the-board shift that you'd want to make.", "But presumably, you've confirmed -- I think you're talking about 16 targets in the works. Can you give us a sense as does it work in a quarter of the targets and maybe upside to -- to half or three quarters? Or what's it -- what's it look like to you guys right now?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yeah, this is Jeff again. Yeah, that is correct. You know, it's not necessarily a one-size-fits-all across. It really does have to do with the geology that we're, you know, applying it to.", "And when looking particularly there in the Permian, we primarily just applied it down in the deeper Wolfcamp targets. So, that would basically be just kind of the up or down through the middle in a co-development standpoint. Now, we are testing on those shallower targets, but there are quite a few different rock types. So, you know, right now, I say it's area by area.", "And, you know, from a percentage basis you kind of hate to, you know, put an actual percentage on it, but, you know, right now, we're still evaluating that and it will be a case-by-case basis." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Neil Mehta with Goldman Sachs. Neil?" ] }, { "name": "Neil Mehta", "speech": [ "Yeah, good morning, team. My question was on the natural gas liquids market where realizations obviously have been trending lower. Just curious on your perspective on what gets NGLs to firm up relative to WTI and what are you seeing in real time in the export markets. Thank you." ] }, { "name": "Lance Terveen", "speech": [ "Yeah, Neil, Good morning. It's Lance. Yeah, I think what you're -- you're continuing to see absolutely the -- the export, you know, positions that are getting built out. I think as you -- you kind of have to think of those kind of as we think about them as kind of more on ethane and more on propane, so continuing to see healthy propane exports.", "We continue to see the buildout that's accompanied with that. You're continuing to see the demand, as you think about the Far East demand, that's going to be the demand pool for those barrels. So, continuing to see that there could be some firming up there kind of maybe more longer term. Ethane, obviously, is going to float a little bit more with gas prices.", "And that's kind of like what you're seeing today." ] }, { "name": "Neil Mehta", "speech": [ "Great. And then, just curious on your guys perspective on -- on the gas markets as well. You've talked a little bit about slowing down potentially in terms -- from a drilling perspective, but how do you see the balances moving from here in a weather-normal way over the course of the year?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neil, good morning. This is Ezra. As I stated in the opening remarks, you know, we still remain constructive on -- on kind of the longer-term gas story for the U.S. We think that the U.S., especially Dorado being a big piece of it, has really captured a low cost of gas supply that can really compete on the global scale.", "With the amount of LNG that the U.S. is exporting right now, which is -- which is at record levels right now for the -- for the U.S., combined with the number of projects that have made it through a financial or a final investment decision, and then the additional projects are still being kind of planned and discussed, the U.S. will be long-term position to be really a global leader in the LNG market. Now, gas is always difficult because it is highly volatile when it comes to things like the short-term pricing on weather.", "And it's one reason you've heard this morning from both myself, Ken, and Billy that the most important thing we look at when we develop Dorado is to really invest in that at the right pace for the long term. We want to make sure that we're not outrunning our learnings, that we appropriately invest to be able to keep our costs low, and at the end of the day, really keep our margins wide. We want to put in the correct infrastructure to keep our -- our low operating costs because the margins are always pretty skinny on gas and the low-cost producer for gas is going to be able to be exposed to the global market here in the U.S for the long term." ] }, { "name": "Operator", "speech": [ "Thank you. The next question is from the line of Josh Silverstein with UBS. Josh, please go ahead." ] }, { "name": "Josh Silverstein", "speech": [ "Yeah, thanks. Good morning, guys. Just sticking with gas first. You have an unusually wide gap on your differentials even after reporting the first-quarter results.", "Can you just talk about how you think that may shape over the course of the year, what you're looking for to come in toward the -- the high end versus the low end there? Thanks." ] }, { "name": "Lance Terveen", "speech": [ "Yeah, Josh. Hey, good morning. This is Lance. I believe, when we think about our guidance, I think we were just below the midpoint of the guidance on our realization, so from a gas standpoint.", "And then, you've seen kind of our -- our guidance for, like, the full year, and we expect a lot of that's going to be driven, obviously, we have the diversification, you know, that we have with our California exposure. We have, you know, you can see -- on our supplemental slide, Slide 8, you can obviously see the large exposure that we have into the Gulf Coast, and then, obviously, our JKM exposure as well. So, I think we're going to hold with the existing guidance that we have." ] }, { "name": "Josh Silverstein", "speech": [ "Got it. And then, just as far as the shareholder return profile, I know you've been thinking about it from a percentage of free cash flow, but how would you think about it from managing a cash balance standpoint? You've been over $5 billion now for the past few quarters, including paying down the debt maturity in the first quarter. You know, is -- is 5 billion, 6 billion the right level of cash for EOG? What level of cash would you not want to get over because it feels like there are certain periods where you could return over 100% of cash to -- or free cash flow to shareholders if you really wanted to. Thanks." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Josh, this is Ezra. You know, when we came out with that cash return guidance with a minimum of 60%, we really did just mean that that it's a minimum. In fact, last year, we returned excess of the 60% free cash flow to our shareholders. And we started with that 60% because we feel confident on that, especially when we roll in, you know, kind of almost a peer-leading regular dividend that we'd be able to -- to compete and deliver that through the cycles.", "So, when we think about a specific target for -- for cash on hand, I want to say that we have real target. You know, we have spoken about some indicators and things that we strategically think about as far as holding a cash balance. The first, of course, is we like to have a bit of cash on balance just to run the business to make us, allow us to stay out of commercial paper. And historically, that's run about $2 billion kind of depending at what point you are in the cycle.", "And then, in addition to that, we do like to have cash on hand so that we can be strategic and countercyclically invest in opportunities as they arise, whether that's, you know, at times investing in casing or line pipe or, last year, you know, we were able to step in and do an acquisition in one of our emerging plays there in the Utica where we actually purchased approximately 130,000 mineral rights. And then, lastly, of course, just the -- the stock repurchase which we exercised here in the first quarter. You know, we've talked about being able to utilize that opportunistically. And really part of our strategy, the reason that that you can -- you can actually step into a dislocated market and have the confidence to do a buyback is that you've got the strength of the balance sheet, which includes cash on hand.", "That's -- that's really what we're going for. And so, I think that provides another compelling reason to carry a potentially a higher cash balance than -- than the company's historically done." ] }, { "name": "Operator", "speech": [ "Thank you. That concludes our Q&A session for today. I'll now turn the call back over to Mr. Yacob for any closing or additional remarks." ] }, { "name": "Ezra Yacob", "speech": [ "I just want to thank everyone for participating in the call this morning. And I especially want to thank our employees for the outstanding results they delivered in this first quarter. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2018-08-03	[ { "description": "Executive Vice President and Chief Financial Officer", "name": "Timothy K. Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "William R. Thomas", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "David W. Trice", "position": "Executive" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Lloyd W. Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ezra Y. Yacob", "position": "Executive" }, { "description": "Vice President, Investor and Public Relations", "name": "David J. Streit", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Paul Sankey", "position": "Analyst" }, { "description": "NatAlliance Securities -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Sanford C. Bernstein -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Imperial Capital -- Analyst", "name": "Irene Haas", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "Stifel Nicolaus -- Analyst", "name": "Michael Scialla", "position": "Analyst" }, { "description": "Heikkinen Energy Advisors -- Analyst", "name": "David Heikkinen", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Robert Morris", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources Second Quarter 2018 Earnings Results Conference Call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Timothy K. Driggers", "speech": [ "Good morning and thanks for joining us. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. The reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "Some of the reserve estimates on this conference call may include estimated potential reserves not necessarily calculated in accordance with the SEC reserve reporting guidelines. We incorporate by reference the cautionary note to U.S. investors that appears at the bottom of our earnings press release issued yesterday.", "Participating on the call this morning are: Bill Thomas, Chairman and CEO; Gary Thomas, President; Billy Helms, Chief Operating Officer; David Trice, EVP, Exploration and Production; Ezra Yacob, EVP, Exploration and Production; Lance Terveen, Senior VP, Marketing; and David Streit, VP, Investor and Public Relations.", "This morning, we'll discuss topics in the following order. Bill Thomas will review second quarter highlights and corporate growth strategy. David Trice will discuss our new Powder River Basin plays, followed by Lance Terveen, who will cover Powder River Basin takeaway status. I'll then discuss yesterday's dividend announcement and our capital structure outlook. Billy Helms will cover second quarter operating highlights and Ezra Yacob will give an update on our Eagle Ford and Delaware Basin activity. Then Bill will provide concluding remarks. Here's Bill Thomas." ] }, { "name": "William R. Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. EOG is focused on delivering long-term shareholder value through disciplined, high-return, organic growth. Our Powder River Basin resource additions this quarter demonstrate once again the value of our exploration focus. We were able to grow our premium inventory in both size and quality by adding locations much faster than we drill them. In addition, our second quarter production results demonstrate our ability to consistently execute and deliver strong double-digit oil growth through our decentralized organization and multi-play asset base. EOG's ability to organically generate new prospects, coupled with our proven ability to execute on our premium drilling program, demonstrates that EOG is a high-return growth machine with the ability to sustainably generate long-term shareholder value.", "During the second quarter, we exceeded production targets for oil, natural gas, and NGLs, beat our quarterly total per unit operating cost, realized better than target prices across all three production streams, announced two new shale plays in the Powder River Basin, and added over 1,500 premium locations and 1.9 billion barrels of oil equivalent of net resource potential. In addition, we also identified new premium locations in the Delaware Basin and Eagle Ford, effectively replacing the inventory we drilled in our two largest core assets. EOG's undrilled net premium resource potential now equals 9.2 billion barrels of oil equivalent and 9,500 net locations, which is more than 13 years of premium return on drilling at our current pace.", "Last but not least, the Board of Directors approved another increase to the common dividend. The current 19% increase, coupled with our previous 10% increase last February, brings our total dividend increase to 31% this year. This is a tremendous vote of confidence in our premium business strategy, a strong commitment to capital discipline, and demonstrates our commitment to returning cash to shareholders through the dividend.", "Looking ahead to the remainder of 2018 and beyond, EOG will continue to deploy a disciplined growth strategy. Disciplined growth means pacing long-term growth to allow the company to maximize the value of our acreage, retain efficiencies to support high returns, and generate cash flow to both reinvest and reward shareholders.", "EOG, in particular, is uniquely positioned for disciplined growth due to our diverse portfolio of assets. We're not relying on any one basin to drive our company's success, which means we are in a position to grow production without straining the return on our capital investment or the underlying assets. In other words, we can grow each asset at a pace that maximizes returns and NPV per acre.", "Our production growth in 2018 is a result of investing in high-return premium drilling across nine plays in six different basins. Year to date, almost every one of our operational areas grew production and did so while maintaining efficiencies and producing premium returns. With the addition of the Mowry and Niobrara in the Powder River Basin, we now have 11 plays to develop and fuel the company's future.", "Slide 8 illustrates the progression of our premium inventory, highlighting our ability to consistently replace and grow premium inventory much faster than we drill it. Disciplined reinvestment of cash flow and our deep inventory of high-rated return drilling is fundamental to how EOG creates significant long-term shareholder value.", "Next up is David Trice to provide details on our exciting Powder River Basin news." ] }, { "name": "David W. Trice", "speech": [ "Thanks, Bill. Yesterday afternoon, we introduced two new premium plays in the Powder River Basin, demonstrating once again the value created by our leadership in exploration. Over the last few years, our Powder River Basin team has focused on understanding the geological complexities of our 400,000 net acre position. Like the Delaware Basin, the Powder River Basin is prolific with almost a mile deep column of pay and multiple targets. We tested many zones over the years and learned that both the Mowry and the Niobrara shales, much like the Eagle Ford, are resource-rich, over-pressured source rocks that produce prolific wells when we apply our refined targeting techniques and EOG-style completions.", "Also, much like the Eagle Ford and the Woodford, the Mowry and Niobrara are both shale resource plays and therefore have great potential for additional efficiencies in the future. Shale allows for tight downspacing, which is a great fit for drilling large packages, using multi-well pads, longer laterals, and zipper fracks. Furthermore, these two resource plays overlap on much of our acreage, allowing development of both concurrently. Tightly spaced wells in co-development also translates to less surface disturbance per well, which reduces our environmental footprint and is particularly important for permitting in Wyoming.", "Over the last year, we reported some remarkable efficiency records in our Rockies plays, including drilling 18,000 feet in under three days and completing 26 stages in a single 24-hour period. While the records are impressive, so are the averages. Drilling days are down 70% since the start of the downturn in 2014 and completion stages per day are up 50% over the last year. Sustainable cost reductions and shorter cycle times driven by efficiencies were a big contributor to adding these two shale plays to our Powder River Basin premium inventory.", "Currently, well costs in both plays are around $6 million for laterals approaching two miles. Combined with average EURs of more than 1 million barrels of oil equivalent, net after royalty, the Mowry and Niobrara shales are delivering premium rates of return at very low finding and development cost. Low finding and development costs drive higher corporate level returns.", "We estimate EOG's position in the Mowry shale is prospective for 1.2 billion barrels of oil equivalent from 875 net premium locations using 660-foot spacing. Oil cuts in the Mowry range from 20% to 60%, depending on location. We completed two Mowry wells during the second quarter and their 30-day initial production averaged almost 2,200 barrels of oil equivalent per day.", "Our Niobrara shale resource estimate is 640 million barrels of oil equivalent from 555 net premium locations also on 660-foot spacing. We expect about half of our estimated Niobrara resource is crude oil. In addition, we identified another 80 net undrilled locations in the Turner play, bringing our undrilled premium location count in the Powder River Basin to over 1,600 net wells.", "In the Powder River Basin, it is now ready to become a meaningful contributor to EOG's future growth. We worked hard to assemble and block up our position, as well as permit well locations, to capture our operatorship. During the second half of 2018, we'll drill the remaining Turner wells planned for the year and we'll conduct a couple of spacing tests in the Mowry and Niobrara. For 2019, we expect to increase our activity as we add infrastructure and prepare to bring the Powder into full development.", "Adding nearly 2 billion barrels of oil equivalent in the Powder River Basin from the Mowry, Niobrara, and Turner exemplifies EOG's differentiated investment profile of multiple diverse assets supporting long-term, disciplined, high-return growth. EOG's extensive and diverse asset portfolio is unmatched in the industry and now totals 11 plays across six basins. We have the flexibility to allocate capital to the best performing assets over the long run, ensuring consistent returns to our shareholders throughout the commodity price cycles.", "Next up is Lance Terveen to discuss our takeaway positioning in the Powder River Basin." ] }, { "name": "Lance Terveen", "speech": [ "Thanks, David. The existing midstream presence in the Powder River Basin is strong. For liquids-rich natural gas, there are four processors near our operating area with significant low-pressure and high-pressure gathering systems with backup connections as contingencies. This allows EOG to fully utilize existing plant capacity in the area. In conjunction with midstream providers, planning processing, and NGL takeaway expansions, we are designing an EOG gas gathering and compression system. This system is similar to the successful design of our infrastructure in the Bakken, Eagle Ford, and Delaware Basin, and accomplishes three goals: 1) control, 2) lower operating costs, and 3) access to multiple markets.", "Now, on the oil side, takeaway in the PRB is plentiful. The Casper and Guernsey hubs provide access to multiple refining markets, as well as the Salt Lake City and Denver markets. Other pipelines are available to access the Cushing market and we are studying all options, even the potential to move barrels to the Gulf Coast. Well head net backs today for lease sales are also strong and we currently anticipate the local market dynamics for oil and common state to remain strong into 2019.", "Finally, we are working on solutions for longer term oil gathering and oil terminal infrastructure. We are well-positioned for processing and takeaway in the Powder River Basin today and we are taking steps now to prepare for increased activity longer term. Infrastructure investments we make over the next 18 months will provide the flexibility to respond to changing market dynamics and access a wide variety of markets out of the Powder River Basin.", "Here's Tim." ] }, { "name": "Timothy K. Driggers", "speech": [ "Thanks, Lance. As Bill mentioned, the Board of Directors approved a $0.14 increase in the common stock dividend. The indicated annual rate is now $0.88. Combined with a $0.07 increase approved in February, the dividend has increased by 31% in 2018. This should send a strong signal about the effect of our shift to premium has had in lowering our cost structure and improving the profitability of the company, as well as our commitment to returning cash to shareholders.", "At the same time, we are making good progress strengthening EOG's financial position. Since year-end 2017, cash on the balance sheet increased by $174 million to $1 billion and our net debt to capitalization ratio decreased to 24% at June 30. $1.26 billion of debt is now classified as current on the balance sheet, as we intend to pay upon maturity a $350 million bond due in October of this year and a $900 million bond due in June 2019. I'm happy to report both Standard & Poor's and Moody's recognized EOG's growing financial strength. Standard & Poor's upgraded EOG's credit rating to A- and Moody's changed EOG's outlook to positive.", "We still expect to generate over $1.5 billion of free cash flow in 2018, assuming $60.00 oil prices. This is defined as discretionary cash flow less CapEx and dividend payments. The bulk of this free cash flow is anticipated to be generated in the second half of the year. The discretionary cash flow is forecasted to increase through the remainder of the year while our CapEx budget was more heavily weighted toward the first half of the year.", "Up next to provide details on our operational performance is Billy Helms." ] }, { "name": "Lloyd W. Helms", "speech": [ "Thanks, Tim. I'm happy to report that our operational teams delivered the well results and volume growth projections that we anticipated at the start of the year. In 2018, we are focused on increasing the net present value of our acreage through more efficient, larger development packages. Our 2018 capital plan was designed to increase our well inventory during the first half of the year in order to improve the operational flexibility for managing these larger development packages.", "As indicated on our last call, we expect to see more production growth in the third quarter following the increase in activity in capital spend that was weighted toward the first half of the year. In addition, our decentralized organization operating in multiple basins gives us the flexibility to adjust our activity to take advantage of changing market conditions.", "During the second quarter, our Eagle Ford oil production received favorable Gulf Coast prices that were nearly $3.00 per barrel higher than WTI. Premium Gulf Coast pricing may persist into next year, so we recently added two rigs in the Eagle Ford to build well inventory, providing us optionality as we begin to plan for 2019. I want to emphasize that we still expect to spend within our guided capital expenditure range, although most likely above the midpoint. About ten more Eagle Ford wells will be completed this year, with most of the additional inventory being carried into 2019. Operating in multiple basins makes this level of flexibility possible and is fundamental to our ability to deliver sustainable, long-term, high-return growth.", "We remain focused on our goal of reducing well costs and cash operating costs by 5% this year. Our overall unit operating costs are trending down year-over-year, and while certain lease operating costs are showing signs of upward pressure, we've been able to offset that pressure with other unit cost savings in transportation and DVNA. Total unit costs are still expected to be down at least 10% this year.", "Looking ahead to 2019, we anticipate the industry will see some inflationary pressures, possibly on the order of 5% to 10%. As we do every year, we are working diligently to find creative solutions to keep our costs flat in the upcoming year. While drilling rigs and tubulars may see upward pressure, we are positioning ourselves to take advantage of pricing softness in other areas. We have good line of sight into our sand and water costs, which we expect to be down in 2019. We currently have about 50% of our 2019 oil field service needs locked in at very competitive prices and are working to secure more of our service costs ahead of next year.", "Finally, we'll continue to benefit from efficiency gains and reduced cycle times obtained by optimizing well package size and increasing the use of multi-well pads and zipper fracks. Taken all together, we think we are well-positioned to keep cost at least flat in 2019.", "I'll turn the call over to Ezra Yacob to provide you an update on Eagle Ford and Delaware Basin plays." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Thanks, Billy. This quarter, we updated our premium inventory for our two largest oil assets, the Eagle Ford and the Delaware Basin, adding 520 net premium locations, primarily as the result of efficiency gains as well as productivity improvements. We added 145 net premium locations to the Eagle Ford. And in the Delaware Basin, we identified an additional 375 net locations across our four plays.", "The last major update to premium inventory for these assets was in early 2017. We have since drilled more than 500 net wells between the two basins: 270 in the Eagle Ford and 250 in the Delaware Basin. These two workhorse assets made up 73% of our oil production last year 58% of our total production. With this update to premium locations, we effectively replaced the inventory we have drilled over the last year and a half.", "Our Eagle Ford asset delivered another great quarter of consistent high-return results with 67 net wells brought online. Utilizing larger well packages, longer laterals, and zipper fracks, we continue to incrementally push the boundaries of this world-class play every quarter and it continues to deliver. Average lateral length on our western acreage is now approaching two miles while continuing to deliver excellent initial 30-day production rates. Wells drilled on our western acreage during the second quarter averaged more than 1,700 barrels of oil equivalent per day.", "Increased drilling efficiencies are driving down drilling days even as we extend lateral lengths. In fact, this year we are drilling the same total footage per month as we did in 2014 at the peak of our activity level, and doing so with only half the rig count. Furthermore, our drilling team is achieving this performance while staying within a precision drilling window that is approximately one-fifth the size it was four years ago. We've discussed the impact of precision targeting in the past. It is the No. 1 driver of well productivity and critical to optimizing net present value across our 520,000 net acres.", "In the Austin Chalk, the average lateral length of the five wells drilled during the second quarter was the longest yet at 7,900 feet. Average initial 30-day production exceeded 3,000 barrels of oil equivalent per day. Austin Chalk wells, on average, pay out in just over three months. We continue to examine the Austin Chalk's prospectivity in our South Texas Eagle Ford acreage. The target is less consistent than the Eagle Ford shale. However, where it is prospective, it consistently delivers prolific results.", "Earlier this year, one of our first successful Austin Chalk wells, the Kilimanjaro, reached 1 million barrels of oil in less than two years, averaging more than 1,500 barrels of oil per day for 626 days. Furthermore, the play has an advantageous location with well-developed infrastructure close to the Gulf Coast and benefits from our extensive seismic and log control collected through our Eagle Ford development program.", "In our Delaware Basin asset, we brought 70 net wells to sales in the Leonard, Bone Spring, and Wolfcamp plays. 20% of our Wolfcamp activity during the second quarter was in the Wolfcamp combo trend, a higher GOR play in Reeves County, Texas. Over the last 18 months, we've been building out infrastructure to transition a portion of this asset into a core development area and we are increasing activity commensurate with that construction. We've captured a 120,000 net acre position across this trend and the combination of increased operational efficiencies and well performance, permanent infrastructure, and our natural gas processing contracts generate some of the highest net present value per well across the company.", "This quarter, we brought online ten net wells, averaging over 8,000 feet in lateral length and delivering 2,200 barrels of oil equivalent per day per well. We're excited to see this trend become a larger contributor to our portfolio, delivering in excess of 200% direct, after tax rate of return.", "In our Leonard and Bone Spring plays, we completed one of the largest packages we've done to date. The State Viking wells in Loving County are a package of 13 wells drilled across four targets, two in the Leonard and two in the Bone Spring. The combined 30-day rate for this package was a staggering 21,000 barrels of oil equivalent a day, or approximately 1,600 barrels of oil equivalent per day per well, on laterals averaging about 4,500 feet.", "In every one of our unconventional plays, determining optimal well spacing is critical to maximizing the net present value of each acre. Determining optimal well spacing is also a problem-solving exercise that requires balancing multiple variables. Drilling widely spaced wells to maximize initial production rates in earlier turns can prevent optimal asset development over the long run due to the parent-child effect. However, overly aggressive well spacing will also have a detrimental effect due to potential communication between wells and potential over-investment.", "In each of our plays, we collect an extensive amount of robust drilling, completion, and production data, and integrate it with geologic analysis to build reservoir models. These complex models provide the basis to determine optimal development patterns to maximize the NPV of our acreage.", "A basin as target-rich as the Delaware is a great example. During the first half of 2018, we drilled a number of spacing and development patterns across six different Upper Wolfcamp targets in different combinations across the play. One of these packages was the Quanah Parker 8H through 11H, a four-well package drilled on our Texas acreage. Average 30-day IPs for the wells in this package were more than 2,500 barrels of oil equivalent per day per well on lateral lengths approaching two miles. The wells in this package were drilled 440 feet apart across two Upper Wolfcamp targets. This is some of the tightest spacing we've tested in the Wolfcamp to date and these wells are generating an outstanding NPV of $10 million per well.", "The Delaware Basin is still early in its development. Leveraging our experience and data from 15 years of developing unconventional resources across North America is a tremendous advantage in our efforts to maximize NPV across our 416,000 acre position.", "Now, I'll turn the call back over to Bill." ] }, { "name": "William R. Thomas", "speech": [ "Thanks, Ezra. I would like to leave everyone with a few closing thoughts. No. 1, EOG continues to solidly execute our 2018 premium drilling program. The company is delivering strong triple-digit direct well returns and strong double-digit U.S. oil growth.", "No. 2, EOG's exploration effort continues to deliver by organically generating premium drilling potential much faster than we drill it. This quarter's addition of 1.9 billion barrels of oil equivalent in the Powder River Basin is a remarkable and significant resource addition to our portfolio. Since permanently shifting to premium in 2016, we've essentially tripled our premium location count and more than quadrupled our premium resource potential.", "No. 3, EOG now has 11 premium options to efficiently deploy capital. Our multi-play options enhance our ability to deliver strong returns and growth, consistently and sustainably over the long haul.", "No. 4, we're committed to a disciplined growth strategy. For the remainder of the year, and as we look to start planning for 2019, you should expect EOG to remain disciplined about growth and capital allocation to maximize returns.", "And No. 5, executing our premium strategy will grow production and cash flow, produce double-digit ROCE, and fund dividend growth. More importantly, we can consistently deliver this performance over the long term and through commodity price cycles. We believe that is unique, not just in the E&P industry, but in any industry. And it is perfectly aligned with our ultimate goal to create significant shareholder value.", "Thanks for listening and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. The question-and-answer session will be conducted electronically. If you would like to ask a question, please do so by pressing \"1\" on your touchtone phone. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Questions are limited to one question and one follow-up question. We will take as many questions as time permits. Once again, please press \"1\" on your touchtone telephone to ask a question. If you find that your question has been answered, you may remove yourself by pressing \"*2\". We will pause for just a moment to give everyone an opportunity to signal for questions.", "Your first question today will be from Doug Leggate of Bank of America Merrill Lynch. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thanks. Good morning, everybody. Bill, I'm not sure who you want to direct this one to, but some time ago, I seem to recall you mentioning that Powder River had some of the best wells in the portfolio. Now that you've shown us what this can do by way of the additional inventory, how would you characterize how activity might evolve there relative to the other plays or be additive to the other plays in 2019?" ] }, { "name": "David W. Trice", "speech": [ "Yeah, Doug, this is David Trice. As far as the Mowry and the Niobrara go, we'll be increasing activity in 2019 in those plays. The volume impact of those will be more likely weighted to late 2019 and on into 2020 as we build out our infrastructure there." ] }, { "name": "Doug Leggate", "speech": [ "So, I guess there's no specifics you can give us at this time, but I'm presuming it's not going to be a two-rig program. Is that fair?" ] }, { "name": "David W. Trice", "speech": [ "Well, as far as any specifics, we'll give the specifics in February when we give our 2019 plan." ] }, { "name": "Doug Leggate", "speech": [ "Okay. Thank you. I thought I would try anyway. But my follow-up is, Bill, I kind of feel as if I ask you this question a lot nowadays, but the cadence of spending in the second half of the year, given even at slightly above the midpoint of your guidance, suggests that we're dropping off quite a bit to 1.25 type run rate. Is that realistic? And how are you starting to think about, dare I say it, share buybacks? Are they ever gonna be on the table, assuming you remain capital disciplined on a, let's say, a 6-year-old type of level? I'm just thinking about the amount of free cash you're generating this year. Despite the guidance on the debt reduction, it still looks like you're going to be turning out a great deal of free cash beyond your uses." ] }, { "name": "William R. Thomas", "speech": [ "Doug, we constantly evaluate all of our options. And we are very, very committed to doing what's right for the long-term shareholders. As you know, we manage the company for a sustainable success over the long term. So, currently, with the improving commodity prices, we believe certainly that the first thing we want to do is continue to reinvest in our premium drilling. Very, very high rates of return. And continue to invest in organic exploration, like that's produced these Powder River Basin results. And we're focused on debt reduction and we're certainly focused on and very committed to the shareholders, with a very strong dividend increase. And so at this point in the life of the company, that is certainly the best way we feel like to continue to create long-term shareholder value and leave our options open and leave us flexible to do what's right for the shareholders in the long term." ] }, { "name": "Doug Leggate", "speech": [ "So the first part of that question, Bill, sorry to push on this, but the drop off on spending in the second half of the year, is that run rate about right? And can you maybe just give us an idea what's driving the drop sequentially? And I'll leave it there. Thank you." ] }, { "name": "Lloyd W. Helms", "speech": [ "Yeah, Doug, this is Billy Helms. So the plan that we put together at the start of the year is consistent with the way it's being executed today. We planned about, and actually completed about, 40% of the wells in the company that were completed in the first half were Delaware Basin wells. That will decline in the second half of the year to about 30% of our overall completions. And on the flip side, our plays up in the Rockies that we've talked about -- the DJ, the Bakken, and the Powder River Basin -- will go from about 10% of our completions in the first half to about 20% of our completions in the second half. And so we're bringing in a mixture of just lower cost wells in the second half of the year as compared to the first half of the year, which is why the spending rate has declined a little bit. The goal in the first part of the year was to build, as we moved to these larger packages of wells, was to build up our inventory. That gives us a lot of flexibility in managing these programs." ] }, { "name": "Doug Leggate", "speech": [ "That's really helpful, guys. Thanks so much." ] }, { "name": "Operator", "speech": [ "The next question will be from Paul Sankey of Mizuho Securities. Please go ahead." ] }, { "name": "Paul Sankey", "speech": [ "Hi. Good morning, everyone. Gentlemen, I understand your excitement over the operational performance in the Powder River Basin but it seems to me, especially with the stock trading off this morning, that the inventory is getting sort of bewilderingly large. And you repeated on the call that you're adding inventory faster than you drill it. You're up to 13 years of future drilling. Is there a terminal point for that at which you don't need anymore? Or perhaps would you shift to an ultra-premium well location metric or a higher hurdle so that it sort of becomes more meaningful at a given level? Thank you." ] }, { "name": "William R. Thomas", "speech": [ "Well, I think our focus is certainly replacing and adding to our premium inventory but it's also very focused on improving the quality of the premium inventory. If you'll look at the slide, I believe it's Slide No. 8, you'll see that our inventory is growing very fast but at the bottom it shows the per well productivity and reserve potentials per well. And you can see that that's also going up too. So that went up again as we added the Powder River. And what that does, with multiple assets, that gives us the ability to continue to shift our capital based on returns. And that is what we're focused on, is maximizing and continuing to improve the returns in the company.", "And so that gives us more options and even better quality inventory to continue to do that. And it also gives us an option down the road that, if we're not going to drill that in a certain amount of time, we can certainly get value for that, maybe monetizing it or doing other things with it too. So generating more and better inventory is not a problem. That is a very good thing to do and that's what we're focused on and that's what's going to continue to create the value for the company going forward." ] }, { "name": "Paul Sankey", "speech": [ "So I guess what you're saying is that the per well metric that you highlighted is effectively an increase to the definition -- an ongoing increase to the definition of a premium well?" ] }, { "name": "William R. Thomas", "speech": [ "Yes. They're getting better as we continue to generate over time." ] }, { "name": "Paul Sankey", "speech": [ "Right. I've got you. And then the CapEx for this year was set at a lower price, I assume. I forget the exact number. But it's been maintained despite higher prices. Really a follow-up to Doug's question. Can we run this level of CapEx into the future because that becomes such an important way of looking at all this? Thanks." ] }, { "name": "William R. Thomas", "speech": [ "Well, we don't have any specific guidance for 2019 or forward. The methods and the way we're going to manage the company is we're gonna stay disciplined and we're gonna stay focused on returns and not growth. So we'll spend and increase our CapEx only with discipline. Obviously our cash flow is growing even if oil prices stay the same because our volume is going up. But we're not gonna go so fast that we begin to have rising costs or we exceed the learning curve. And we're focused on developing each one of our properties at the maximum NPV and returns and that takes discipline and it takes time. So we're gonna focus and stay very disciplined going forward." ] }, { "name": "Paul Sankey", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from Leo Mariani of NatAlliance Securities. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. I was hoping to dive a little bit more into the Powder River here. I'm just noticing that you haven't had a ton of wells in the Niobrara and Mowry but you guys are certainly coming out with a pretty robust inventory. I was hoping you could maybe just give us a bit more color, if there's a lot of industry wells that are sort of giving you confidence. And then also just trying to get a sense of how the new Powder River plays rank in comparison to some of your other premium plays." ] }, { "name": "David W. Trice", "speech": [ "Yeah, Leo, this is David Trice. So we've known for quite some time that the Mowry and the Niobrara have a lot of resource potential under our acreage. We began drilling on those actually in 2008 and 2009, as far as in the testing phase. So over the years we've collected a lot of data. We've drilled nine Niobrara wells and nine Mowry wells since that time. We have five proprietary cores in the Mowry and two proprietary cores in the Niobrara, in addition to all of the publicly available data. So what this has allowed us to do is build over 1,700 full petrophysical models across the Powder River Basin. And what that really does is allow us to define the very best targets, also the resource in place, and it helps with our completion as well, which is really critical to the success of the plays.", "And then, as you noted, there has been industry activity in the Basin. There's been over 200 Niobrara wells drilled in the Powder River Basin and about 30 Mowry wells. So we can take all that data, with all the petrophysical data and core data, and we can build some very sophisticated reservoir models that we can really apply across a lot of our different plays and to help us to understand both these plays. So all of that data that's been collected over the years has really helped.", "And then one of the biggest factors in converting this to premium is the fact that our cost structure has dramatically come down over the last several years. We've been able to kind of focus our drilling the last few years on the Turner, which is a higher permeability sandstone that's premium. And so, as we've done that, we've gotten a lot better at executing in the Powder River Basin and we've been able to bring down a lot of our drilling completions, facility, and LOE costs over time. So we've mentioned in some of these calls and even this call, we've set a lot of records over several years in the Powder. We routinely drill these Turner wells -- these are two-mile wells -- in 6-7 days. And our zipper frack operations allow us to complete up to ten stages a day.", "So all that really, really helps and it really helps deliver a really low finding cost. As you think about the low finding cost, that ends up flowing through to your corporate level returns. So that's going to drive the higher ROCE over time. So, really, we do have quite a bit of data and we've got a lot of experience in the Basin." ] }, { "name": "Leo Mariani", "speech": [ "Okay. That's helpful. I just wanted to shift gears a little bit over to the Delaware Basin. I just wanted to get you guys to talk a little bit high-level about kind of what your exposure is to some of the weaker differentials there and if you guys are able to maybe get a bunch of those barrels over to the Gulf Coast. And, I guess, if there is some exposure to the diffs, would you play to reallocate capital going forward?" ] }, { "name": "Lance Terveen", "speech": [ "Leo. Hey, this is Lance. Hey, thanks for the question. Yeah, I mean, I think you can really see the value of our transportations really flowing through. I mean, when you look at our gas differentials, you can absolutely see, for the first quarter and the second quarter, relatively very little exposure related to Waha in gas. And for the oil differentials, I think what you're seeing there, too, we've talked about 25% is kind of subject to the Mid-Cush.", "But when you look at our transportation that we have and we look at that with our kind of natural hedges that we have operationally -- I mean, the large focus that we have in the Rockies, our big Gulf Coast exposure -- it's really distilled. It's really diluted down. So when you really look at kind of the Mid-Cush exposure, even for the rest of this year, it's less than 10%. So then you add in our Mid-Cush hedges, I mean, we're very well-insulated in terms of the differential related to the Permian.", "But, I mean, maybe just to talk about the transportation, we've done an exceptional job there. I mean, we've got our Conan terminal that's up and running kind of full speed. We're going to have five market connections there long-term. We're moving barrels to Cushing today. We've got capacity down in Corpus today. I mean, we don't talk a lot about it, but when you think about a lot of the new pipeline expansions that are going to be starting up, starting in late '19 into 2020, I mean, EOG was the big reason why those got anchored. When you think about the Sunrise Expansion that's going to be starting very quickly going in to Cushing, that's EOG. When you think about Gray Oak Pipeline starting up, we're going to have a position behind that with our terminal.", "So we think not only '18, for the rest of this year, and then also into 2019 and beyond, especially looking into late 2019 moving into 2020, we're effectively going to have very minimal, if any, Mid-Cush exposure. And that's the value of having a lot of optionality. Because what we've seen in other basins, as you see the infrastructure get built out and somewhat overbuilt, you don't want to have too much exposure into one market. Because as we've seen things, and see things going into 2020, in an overbuild situation, you could actually see a lot of strength actually in the Midland local market. So long-term we're going to have the flexibility to sell in to all those markets." ] }, { "name": "Leo Mariani", "speech": [ "Okay. That's a great answer. Thanks." ] }, { "name": "Operator", "speech": [ "The next question will be from Bob Brackett of Sanford Bernstein. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Good morning. Talking a bit about the Powder River Basin, if I think about the way you've talked about those locations, it feels like there's a single landing zone in each of the Mowry and the Niobrara. We know that the Mowry and the Niobrara are regionally extensive but your sort of acreage footprint is a subset of your total acreage and you haven't even talked about more than half the targets out in the column there. How should we think about how well-refined the numbers are for locations and what's the potential they could grow?" ] }, { "name": "David W. Trice", "speech": [ "Yeah, Bob, this is David Trice again. Yeah, on the Niobrara and Mowry, those do overlap. And so, as you think about those, what we've given you there is a subset of our acreage. And it's only the portion that we feel is premium. So all the locations are premium. If you think about how they overlap, pretty much 100% of our Niobrara will be co-developed with the Mowry. So where the Niobrara is premium, the Mowry is also premium. And then the Mowry footprint is a little bit larger than the Niobrara footprint and so, if you think about that, about 60% to 65% of that area will be co-developed with the Niobrara.", "So, yeah, we haven't really talked a lot about the other zones or anything like that. But that's always something we're working on. We're always testing new zones, trying to find better targets. And currently in both the Niobrara and the Mowry, we're focused predominantly on single zones but we're also looking at potential to stack or stagger in either of those. So that's an ongoing process as we collect more data and get more tests in the ground." ] }, { "name": "Bob Brackett", "speech": [ "Great. Appreciate it." ] }, { "name": "Operator", "speech": [ "The next question will be from Irene Haas of Imperial Capital. Please go ahead." ] }, { "name": "Irene Haas", "speech": [ "Yeah. If I may, to touch a little bit on South Texas, on the Austin Chalk, right now you've got 582,000 net acres in the area. I was just wondering of what percentage is prospective for Chalk. And then in terms of the product mix, sort of oil, gas, and NGL, can you cherry pick and move into the more kind of oil and liquids-rich windows?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Irene, this is Ezra Yacob. And, as I mentioned in opening remarks, this quarter, we brought on five wells there in the Austin Chalk in South Texas at an average lateral length of about 8,000 feet and over 3,000 barrels of equivalents per day. The oil mix on those was about 87%. And we continue to be very pleased, very happy with our Austin Chalk performance down in the South Texas acreage. Part of what makes it so prospective down there is that we've collected an awful lot of data while we've been developing and producing the Eagle Ford underneath the Austin Chalk. And so integrating that core data, the log data that we've collected, along with our seismic, we've really been able to map out in high grade where we've been developing the Austin Chalk.", "As we've talked about in the past, it's geologically a bit of a complex play. Historically, while the industry's success has been pretty inconsistent from well to well, as it was more of a fracture play, we've really been focused on the matrix contribution in the Austin Chalk, making it a bit more repeatable. But outside of that, across our acreage and different GORs, I'm not sure if we're prepared to get into those details today." ] }, { "name": "Irene Haas", "speech": [ "May I follow-up also with your enhanced oil recovery. It looks like you guys have added some locations this year. Maybe a little color on what we should be looking forward to in 2019. Is it going to be sort of a consistent program that would be replicated each year? That's all." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Irene, again, we've been very pleased with our EOR performance in South Texas. As you know, that's a process that we really implement after the unit or the drilling area is fully developed. And so there's kind of a quicker ramp-up over the first few years and then there will be a little bit of a slowdown as we convert wells, because we need to make sure that we're optimally developing for primary recovery. The production profile so far is falling right in line with our early models. We're expecting to produce an incremental 30% to 70% more than the primary recovery and this year we're on target to turn over approximately 90 wells onto the EOR process. And, as far as the forecast out in 2019, I don't think we're prepared to give guidance on that at this time." ] }, { "name": "Irene Haas", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from Christine Alfonso of Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Hi, it's Brian Singer actually. Thanks. Good morning. I wanted to stick in the Eagle Ford for the first question here. You added 145 new premium locations. Still have substantial locations not classified as premium. Could you talk to the level of certainty that those non-premium locations could or will not become premium? And could you address your latest thoughts on well spacing in the Eagle Ford?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Brian, this is Ezra again. Hopefully I'll hit on all those points here. In the Eagle Ford, so the first thing I'd mention is that inventory update for the Eagle Ford and the Delaware Basin, that's a snapshot in time. We continue, between lowering well costs through operational efficiencies and increasing well productivity, continue to see and feel good about our ability to convert non-premium wells into the premium status. To date, we've got 7,200 total wells in our provided guidance on the Eagle Ford and those are actual sticks on a map, with 2,300 of those, approximately, as premium and about 2,600 of those as drilled wells. And so that leaves roughly about 2,000 wells that are currently non-premium.", "And with the advancements we've made just in the last few years on operational efficiencies, I think we feel very good about being able to convert a large portion of those. I mentioned in the opening remarks, we're averaging 10,000-foot laterals drilled out in the western Eagle Ford and we brought on 22 wells this quarter at that treated lateral length. And those wells were actually drilled in less than seven days' time, again in that precision target of just a 20-foot window. And so that, combined with our geologic understanding and our completions methodology, to really keep that stimulation near well bore and complex, I feel very good about increasing well productivity also.", "And then the second part of the question was on the spacing side. That's right. Yeah, we're developing currently between 330- to 500-foot spacing across the Eagle Ford. A lot of that is dependent on the different geologic trends that we're in, whether we're in the east or the west, whether or not there's more or less faulting in the area. Again, we strive not to get into kind of a \"one size fits all\" manufacturing mode. That's exactly what we don't want to do. We try to integrate as much data as we collect and we remain flexible to adjust our drilling patterns and our targeting based on the local geology across the asset base." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you. And my follow-up also is on the topic of spacing but shifting to the Delaware and the Wolfcamp. You highlighted over multiple quarters the expectations that the industry could struggle a bit here on parent-child issues and spacing tests. And here you're highlighting favorable results from your 440-foot spacing test in the Wolfcamp. Can you talk more about the implications of that, if any, across your acreage? How much acreage could be developed potentially at that spacing? And could you remind us what's built into your premium locations and what milestones that you're looking for further?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Brian, this is Ezra again. Let me start with your last question there. Our type curve for the Wolfcamp oil window, and that's across 226,000 acres in the oil window, that's a 1.3 million barrel of equivalent gross type curve on a 7,000-foot lateral on 660-foot spacing. And that type curve, of course, is an average across the 220,000 acres. And so, yeah, what we've highlighted over the last couple of quarters are we've been trying to optimize our spacing, really with a focus on maximizing the NPV for our acreage position. We've been happy year-to-date with our progress there. All of our Wolfcamp wells are performing at or above the type curve that we've released. So we're very, very pleased with that.", "Really, what happens across the play -- I think the way to think about it is, especially in the Delaware Basin, the geology is pretty complex. There's just an abundance of targets. And so, again, similar to how I referenced the Eagle Ford, the last thing we want to do is get going too fast and get into a manufacturing mode. I think the 440-foot spacing highlighted on the Quanah Parker highlights a good spacing for that area and that geology where those targets are applicable. I think, with as many targets as there is in the Delaware Basin and in the Wolfcamp, we think there's a tremendous amount of upside. But we're happy with what we've released right now and, as we gather more data and have more details for you, we'll certainly update you." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from Michael Scialla of Stifel. Please go ahead." ] }, { "name": "Michael Scialla", "speech": [ "Yeah, good morning. Lance, you mentioned in your prepared remarks about the midstream in the Powder River. It sounds like you're gonna build out your own gathering system and there's plenty of processing capacity. But I was wondering, it looks like there's going to be a lot of gas coming out of the play, what are your thoughts about the end markets for that gas? Where is most of that going to go?", "Yeah, no, great question, Michael. I mean, one thing to remember, too, we've been operating out here for a long time. So we actually have existing capacity on intrastate systems there today. And, as you think about a lot of that residue gas, it kind of makes its way down to Cheyenne. And then from Cheyenne, we have other transportation arrangements that we can move further downstream from there too. So, again, as we've looked back over time, when we look at making commitments, we're going to be very disciplined about it. I mean, we're looking at all the macro things. What's going on up in Wyoming? We're looking at all the takeaway on the pipes.", "And then we also want to be very careful just from a transportation standpoint. I mean, we don't want to make transportation commitments at different rates, as we know things are going to change, basis is going to change over time. So I'd say, to get you comfortable there, I mean, we're aware and familiar of all the markets. I mean, we've been operating in marketing in that area for a long time. And then as we look at layering in additional capacity over time, we're going to be very disciplined on that and ensure that it matches up. And, like we've said in the past, we typically like to have anywhere from 70% to 80% of coverage for the first 3-5 years. Because your crystal ball so far, looking out and what's happening out in the macro environment and with pricing. And so that's traditionally how we like to set things up from a capacity standpoint looking forward." ] }, { "name": "Michael Scialla", "speech": [ "Good. Thanks for that. And I was just wondering any update on the Anadarko in Woodford? You guys had talked about it in the prior quarter but not much this quarter. I was just wondering where that stands." ] }, { "name": "David W. Trice", "speech": [ "Yeah, Michael, this is David Trice. So on the Woodford, we were reasonably active there in the second quarter. We brought on a number of wells late in the quarter, including two four-well packages. Wells that are going to be spacing tests. And so, as you know, what we really like about that play is the high oil cut and the low decline nature of the play. So, really, coming out with 24-hour IPs are really not that beneficial. So what we're really looking to do is provide a little more color in the next quarter on those larger packages." ] }, { "name": "Michael Scialla", "speech": [ "Very good. Thank you." ] }, { "name": "Operator", "speech": [ "The next question will be from David Heikkinen of Heikkinen Energy Advisors. Please go ahead." ] }, { "name": "David Heikkinen", "speech": [ "Good morning, guys. A couple of \"in the weeds\" questions. You commented that you had two Wolfcamp targets in the 440-foot testing. What was the hypotenuse between those? I know you gave the lateral at 440." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, David, this is Ezra. You caught me off guard with the hypotenuse. I will say, in the vertical sense, the spacing between those two targets is approximately 120 feet. So 120 by 440, if you can do that math." ] }, { "name": "David Heikkinen", "speech": [ "Yep. And then your operating expense guidance was up due to the higher workover expenses and you expect that to trend down as your larger pads kind of get normalized. One question. For the offset wells post-workover, did they come back to the prior production levels before they were frack impacted?" ] }, { "name": "Lloyd W. Helms", "speech": [ "Yeah, David, this is Billy Helms. Yeah, what we experienced in our plays is we are successful in getting those wells pretty much back to what they were producing prior to the frack hits. I think one thing we've noticed in some of the plays is that production from the offsets can increase. But, in general, they do tend to come back to what they were producing prior to the cleanouts. And sometimes it just takes a little longer in certain plays to react. We've learned a lot about how to manage those larger packages of wells and the lumpy nature of the production that we see as a result of those, and then how to best manage the offset production and clean out the well bores. So that's why it gives us confidence that our expense workover costs are going to trend down through the rest of the year." ] }, { "name": "David Heikkinen", "speech": [ "How much down time did you have? Like how many barrels was that? Just curious. In the second quarter." ] }, { "name": "Lloyd W. Helms", "speech": [ "Well, it varies certainly by play. And also it varies a lot between -- so it's hard to give you a specific answer. But in each play, the amount of depletion that you have from that offset production prior to coming in with the new package affects it. The well spacing, the targeting, all those, and how big the fracks are that you're putting on the new wells. All those play a role in how much the production is down. So it's hard to give you a specific number really based on that." ] }, { "name": "David Heikkinen", "speech": [ "Alright. Thanks, guys." ] }, { "name": "Operator", "speech": [ "The next question will be from Robert Morris of Citigroup. Please go ahead." ] }, { "name": "Robert Morris", "speech": [ "Great. Thanks. I think you've hit on almost all my questions. But I just guess following up on Ezra. You mentioned that the type curve is 1.3 million barrels gross for a 7,000-foot lateral on 660-foot spacing on the Wolfcamp play. As you go down to 440-foot spacing, I know Slide 14 gives it on a 5,000-foot lateral basis, but what would you anticipate the degradation in the per well EOR as you go to that tighter spacing?" ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yeah, Robert, this is Ezra. So it's a little bit difficult to quantify. That 1.3 million barrels is an average across our 220,000 acres. Right now, the Quanah Parkers are outperforming that type curve on the 440. I don't want to mislead you and suggest that we're thinking 440-foot spacing is the correct spacing going forward across the entire 226,000 net acre position. Like I said, that's exactly kind of the route we prefer not to go down to, is to get into a manufacturing mode. We really integrate our completions data, our reservoir data, and our geology, most importantly, to right-size each of these well packages for the area that we're drilling in. This is the approach that we've taken really in each of our plays that we've been developing throughout the 15 years we've been developing unconventional horizontal plays. And so hopefully that gives you a little bit of color on the 440 there at the Quanah Parkers." ] }, { "name": "Robert Morris", "speech": [ "No, I appreciate it. I understand it's a lot of data and it's very complicated so I appreciate that. Thanks." ] }, { "name": "Operator", "speech": [ "And, ladies and gentlemen, this will conclude our question-and-answer session. I would like to turn the conference back over to Mr. Thomas for his closing remarks." ] }, { "name": "William R. Thomas", "speech": [ "In closing, we want to thank each EOG employee for their contribution to another excellent quarter. 2018 is turning out to be a banner year for the company. We're achieving record returns on investment and record oil production, while adding new premium drilling potential much faster than we drill it. EOG has a sustainable high-return business model and is positioned to deliver long-term shareholder value. Thank you for listening and thank you for your support." ] }, { "name": "Operator", "speech": [ "Thank you, sir. Ladies and gentlemen, the conference has now concluded. Thank you for attending today's presentation. At this time, you may disconnect your lines." ] }, { "name": "Robert Morris", "speech": [ "More EOG analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
EOG	2021-02-26	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "AllianceBernstein -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the EOG Resources fourth-quarter and full-year 2020 earnings conference call. [Operator instructions] Please note that this event is being recorded. I would now like to turn the conference over to Tim Driggers, chief financial officer. Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. We hope everyone has seen the press release announcing fourth-quarter and full-year 2020 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call.", "This conference call also contains certain non-GAAP financial measures. Definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call or in the accompanying investor presentation slides may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S.", "investors that appears at the bottom of our earnings release issued yesterday. Participating on the call this morning are: Bill Thomas, chairman and CEO; Billy Helms, chief operating officer; Ezra Yacob, president; Ken Boedeker, EVP, exploration and production; Lance Terveen, senior VP marketing; and David Streit, VP, investor and public relations. Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. Last year was historic, and we were tested like never before. In a challenging environment, I am proud to say our EOG employees who personify our unique culture responded exceptionally without a beat. I'd like to thank our employees for delivering such outstanding performance.", "We generated $1.6 billion of free cash flow, earned adjusted net income of $850 million and ended the year with $3.3 billion of cash on the balance sheet. We increased our sustainable dividend rate by 30% and shored up what was already an industry-leading balance sheet to a low 11% net debt-to-cap ratio. We lowered our finding and development cost, improved our capital efficiency and earned a direct after-tax rate of return of more than 50%, with an all-in after-tax rate of return of 25% based on our premium price deck of $40 oil and $2.50 natural gas. Such extraordinary results in a $39 oil price environment were made possible by our shift five years ago to our premium strategy, which established an investment hurdle rate of 30% direct after-tax rate of return using flat $40 oil and $2.50 natural gas prices.", "Using such a stringent hurdle rate shields the company from cyclic oil and gas prices. 2020 was a true test of that shield, and that is a testament to the power of our premium strategy. Beyond delivering stellar financial results last year, we continued to invest in long-term value of the company. Through our low-cost organic efforts, we added 1,500 net premium locations to our inventory, including 1,250 from the newest addition to our portfolio, Dorado, a South Texas natural gas play with 21 Tcf of net resource potential at a breakeven price of less than $1.25 per Mcf.", "We believe Dorado is one of the lowest cost and lowest emissions natural gas fields in the U.S. and expands EOG's portfolio of assets that we believe will play a significant role in the long-term global energy solution. We also completed two pilots of infield technology to reduce emissions, a hybrid solar and natural gas-powered compressor station that reduces combustion emissions and a closed-loop gas capture system to reduce force flaring as a result of downstream market interruptions. Reducing flaring is an industrywide priority, and we plan to publish our closed-loop gas capture technology for others to replicate.", "We entered the next phase of the cycle a much improved company. With the countless, creative and innovative ideas we implemented in 2020, we're in the process of making significant improvements to EOG's future performance. Looking forward, the following six steps summarize the foundation for our 2021 plan and outlook for the next three years. Number one, maintain fourth-quarter 2020 production.", "There is no reason to consider growth until the market rebalances. Signs of an earlier recovery will not change our $3.9 billion 2021 capital plan. Number two, shift to a double-premium drilling program. Our focus on increasing returns never waivers, and this year is no exception.", "We're raising the investment standard again. Double-premium wells earn 60% direct after-tax rate of return at $40 oil and $2.50 natural gas and make up the top half of our 23-year drilling inventory. Shifting to double premium will make another step-change in our future performance by delivering higher returns, lower decline rates and more free cash flow potential. We have more than 10 years of double-premium inventory and are optimistic we will replace double-premium locations faster than we drill them.", "Number three, accelerate new exploration projects. Last year, our exploration program focused on technical evaluations across numerous new prospects. We're excited to resume a more robust leasing and testing effort this year. We're evaluating a large number of double-premium oil plays in the U.S.", "and internationally with the potential to deliver low finding costs and development costs and low production decline rates. The focus of our exploration program is to continue to improve the quality of our inventory and EOG's total shareholder value. Number four, raise the bar again on our ESG performance and ambitions. After achieving significant improvements in safety, emissions and water performance in 2020, we have announced our ambition to reach net zero Scope 1 and Scope 2 GHG emissions by 2040.", "As one of the steps along the way, we expect to eliminate routine flaring by 2025. We believe this is possible using creative applications of current and future technology. We're currently implementing internally developed technology with a goal of measuring granular real-time emissions data for all facilities in the company. This will encourage innovation and development of unique solutions to achieve our net zero ambition.", "Number five, resume moderate production growth only when the market is balanced. Assuming a balanced market by year-end, we are positioned to grow oil 8% to 10% in 2022 and 2023. We forecast that our shifting well mix toward double premium will lower our base decline rate to less than 25% within five years from 34% last year. This optimal growth rate delivers the most long-term total value by delivering higher returns, lower decline rates and more free cash flow over the long term.", "And number six, generate significant free cash flow. All cash allocation decisions are focused on enhancing total long-term shareholder value. Our top priorities for free cash flow are to sustainably grow the dividend and reduce debt. Beyond these priorities, when excess cash materializes, we will evaluate other options opportunistically, such as supplemental dividends, share repurchases and low-cost property additions.", "With our deep inventory of double-premium locations, moderating decline rates and sustainable cost reductions, EOG's free cash flow potential is improving significantly. Before I turn it over to Billy, I want to address our thoughts on federal acreage. From the statements made by the current administration, we believe that our current existing federal leases and corresponding federal drilling inventory can be fully developed. EOG is well prepared to manage through any regulatory changes that could impact the pace of development on federal acreage.", "The combination of our large number of federal permits in hand, our flexibility to pivot within our deep inventory of double-premium locations and our ability to add new inventory through organic exploration gives us the confidence that the future performance of the company will not be affected. Now here's Billy." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Bill. Let me start by expressing my warmest appreciation to all of our employees. I am truly amazed by their talent, commitment and resiliency as demonstrated by the dramatic improvements achieved in 2020. Within weeks of publishing our initial 2020 capital plan, we quickly cut capital by scaling back activity by nearly half.", "To protect the company's financial strength, our employees responded with urgency and purpose, finding new ways to sustainably reduce our well cost structure further. What stands out the most to me is how the EOG culture of innovation and multidisciplinary collaboration and teamwork increased at a time when everyone was working remotely to protect themselves, their families and their communities. The results of that innovation and teamwork can be seen clearly in our 2020 operational performance. We significantly improved our capital efficiency by reducing total well cost 15% and per unit cash operating cost 4%.", "With respect to our year-end reserves and excluding the low impact of low commodity prices, we reduced finding and development costs 15% to a low of $6.98 per barrel of oil equivalent and replaced nearly 160% of our 2020 production. The speed with which we spread technical innovations directed at lowering cost and improving well performance throughout the company has increased. We believe the communication challenge presented by remote work and the teamwork required between individual operational areas to execute our significantly revised plan last year inspired what we believe will be a permanent improvement in how we integrate new learnings and innovations companywide. Our operational execution fired on all cylinders during 2020, reaching our stretch goal to reduce well costs 15% last year with about three-quarters of that coming from sustainable efficiency improvements.", "We expect to maintain this momentum and reduce well cost another 5% this year. We also expect to carry sustainable operating cost reductions into 2021. Our reductions to LOE during 2020 remarkably outpaced the volume reductions and shut-in production as a result of exceptionally low commodity pricing. We reduced LOE 22% on a total-dollar basis versus 8% decline in production volumes.", "Shutting in volumes afforded us the opportunity to take a closer look at our maintenance and workover programs and streamline our lease upkeep practices, resulting in sustainable cost reductions. We finished the year with fourth-quarter oil production at a little over 440,000 barrels of oil per day and having spent $3.5 billion of capital, exactly what we forecasted back in May when we revised our plan in response to the downturn in oil prices. We increased our rig count from a low of five rigs last summer and are now running about 24 rigs to support a 2021 program that will maintain essentially flat oil volumes. The rig count is currently at the high point, and it will drift down throughout the year to an average of about 22 rigs.", "Looking back to when we introduced the premium strategy in 2016, our per unit cash operating costs have declined by 18%, and our per foot well costs are down about 40%. This operational excellence has enabled EOG to raise the bar further and target double premium as our new investment standard. With such significant progress the past five years and the momentum we are carrying, I'm convinced we are only just getting started at being one of the lowest-cost energy suppliers. We also made significant strides in our ESG performance in 2020.", "First, on the safety side, our total recordable incident rate, the primary safety metric, improved more than 25%. Safety is always our first priority, and we continue to focus on ways to enhance our safety culture even further. On the environmental side, we increased the percent of reused water used in our operation to about 45% of our supply and significantly reduced total barrels of freshwater used. And we increased our already-strong wellhead gas capture rate from 98.8% in 2019 to an astounding 99.6% in 2020.", "Our ambitions for the future are a reflection of that performance. We have set a goal to raise the wellhead gas capture rate to 99.8% in 2021 and achieve zero routine flaring by 2025. We're literally fighting for the last remaining 0.1 percentage point now. Longer term, we have set an ambition to be net zero in Scope 1 and Scope 2 GHG emissions by 2040.", "Ultimately, it is our highly creative and passionate employees that gives me confidence in this aspiration. In the past five years, we have achieved a number of technical innovations and operational advancements that have enabled us to generate significant reductions in methane and overall GHG intensity rates to date. Our approach to emissions reductions remains operationally focused, investing with returns in mind and seeking achievable and scalable results. Our investments in projects such as closed-loop gas capture and solar-powered compression pay off in two ways: they lower emissions and function as learning mechanisms for future innovation.", "We know that to be part of the long-term energy solution, we not only have to be low cost; we have to do it with one of the lowest environmental footprints. Our newly formed Sustainable Power Group is working to identify low emissions power generation solutions and accelerate innovations to support our missions, goals and ambitions. I'm excited about all the innovation occurring in the company, and that gives me confidence we can achieve our goals and ambitions. Finally, I want to take a minute to express my sincere gratitude for the tireless efforts of our production and marketing teams in the wake of the severe winter weather event last week.", "The teams worked in difficult conditions without any safety incidents to manage the production interruptions caused by extensive freezing weather and delivered as much critical production to our downstream customers as possible. All of our production is now back online, and we expect our average daily production in the first quarter to be reduced by about 4%. Beginning with the onset of the storm, the production staff also worked in close coordination with our marketing team who communicated with our downstream customers to redirect natural gas production in Texas to local distribution companies that deliver natural gas to heat homes and to utilities for electric power generation. These efforts supported by critical -- these efforts supported critical human needs throughout the Dallas, Fort Worth, San Antonio, Austin, Houston and other Central and East Texas communities.", "Further, in line with our core values at EOG, we sold these redirected gas shipments at prices consistent with those received prior to the winter weather event rather than high and volatile daily spot prices. Through it all, the EOG culture of interdisciplinary teamwork and nonbureaucratic decision-making, technology leadership and commitment to do the right thing shone through, and I couldn't be more proud of everyone involved. Here's Ezra for an update on our exploration efforts." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Billy. Our organic exploration focus has always been the driver behind successfully replacing what we drill every year with better inventory. Our current effort is built around adding plays with shallower decline rates that also meet our double-premium hurdle rate, ultimately offering higher capital efficiency than our existing inventory. Dorado, the South Texas natural gas play we announced late last year, is the most recent example of EOG creating shareholder value through low-cost organic exploration.", "Early entry and capture of a high-quality reservoir across a contiguous acreage position with access to low-cost services and proximity to multiple markets is the recipe for a high-return investment opportunity and is exactly the type of prospect we're looking for. Our strong financial position, combined with our proprietary database of unconventional plays, has positioned us to capitalize countercyclically and capture exploration opportunities with little to no competition. We are focused on oil, and we are in the process of drilling and testing high-potential prospects. We are optimistic we can prove up a number of them and capture additional acreage at competitive pricing that will further improve the quality of what we believe is already one of the best portfolios of assets in the industry.", "Our vision is to develop double-premium oil plays in each operating area, including international. This is highly efficient and allows us to allocate capital across a wide array of plays to optimize returns and capital efficiency. This decentralized multi-basin approach is a hallmark of EOG, one that leverages our competitive advantages in exploration, technology and low-cost operations, all benefiting from knowledge transfer between the basins. The results, if we are successful, will flow through our financials with higher return on capital employed, lower operating costs, higher capital efficiency, shallower declines and even more free cash flow.", "When we look back at this time several years from now, I'm confident we will recognize 2021 as a step-change in EOG's performance and financial profile, much like we look back on our shift to premium drilling in 2016. Here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. EOG's financial performance in 2020 demonstrates the resiliency of our business model and portfolio of high-return assets. In response to the lower oil prices caused by the price war and pandemic, we elected to utilize our operational flexibility to quickly cut activity. Levered by the sustainable cost deductions that Billy discussed, we reduced capex in 2020 by 44% to $3.5 billion.", "The result was $1.6 billion of free cash flow, a great performance in what we certainly hope will prove to be the bottom of the cycle year. The board of directors voted to increase the dividend by 10% to an annual rate of $1.65 per share. EOG's dividend has grown at a compounded annual rate of 20% over the last 21 years. This reflects the continued improvement in the profitability and cost structure of the company and our confidence in EOG's long-term resiliency.", "I'm pleased to say we have never cut the dividend and never issued equity to support it. We analyze numerous stress down-cycle scenarios to evaluate the size of the dividend and to ensure it can be sustained over the long run. The regular dividend represents our first priority for returning cash -- free cash flow to shareholders. Beyond that, we have set a target to reduce debt outstanding by $2 billion from the level at the end of last year.", "We have made a down payment on that goal, paying off with cash on hand a $750 million bond that matured in February 1. There are no additional debt maturities until 2023 when a $1.25 billion bond is scheduled to mature. Beyond that, we have no plans to further reduce debt. Our goal is to maintain about $2 billion of cash on the balance sheet on average through cycles.", "This is not a hard-and-fast rule. The actual amount of cash on the balance sheet at the end of each quarter will vary depending on business conditions at the time, but this should give you some rough idea of what to expect going forward. EOG is firmly committed to generating significant free cash flow. Our top priorities for free cash flow remain -- is to remain sustainable dividend growth and debt reduction.", "As cash materializes and we have more visibility into the future, we will opportunistically consider other options, such as a supplemental dividend during the up-cycles or share repurchases during market lows, along with low-cost property additions with potential to improve EOG's performance. Now let me turn the call back to Bill." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim. In conclusion, I would like to note the following important takeaways. First, due to market conditions, EOG will not accelerate production in 2021. Second, after this year, once the market rebalances, developing our current drilling inventory at a moderate growth rate of 8% to 10% optimizes returns and free cash flow potential over time.", "Third, our shift to double-premium investment metrics paves the way for another step-change in EOG's returns and future performance. Fourth, our domestic and international exploration portfolio is stronger in both quality and quantity than it's ever been. This year, we are accelerating the testing and leasing efforts on many of those prospects that have the potential to significantly enhance total shareholder value of the company. Our exploration projects have the potential for higher returns, lower costs and lower decline rates than our current inventory.", "And finally, we are passionate and excited about the innovation and technology that continues to manifest itself in EOG. It gives us confidence that we will continue to lower well costs and operating costs and reduce our environmental footprint. Our goal for EOG is to be one of the lowest-cost, highest-return and lowest-emissions producers playing a significant role in the long-term future of energy. Thanks for listening.", "Now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] And our first question today will come from Arun Jayaram with J.P. Morgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning. Bill, my first one is for you. In 2021, you're gonna hold, call it, a maintenance program. And based on your '22 and '23 outlooks, you could have some growth, call it, 8% to 10%.", "I guess, my question is, given typical shale cycle times, would you have to spend any incremental capital in 2021 to prepare you to meet that 8% to 10% growth in '22?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, hi, Arun, I'm gonna ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Arun, no, we don't anticipate that we would have to spend any additional capital this year to be able to accommodate growth in the future. And beyond this year, I would add that we'll only add activity once we see a more balanced market, as Bill described." ] }, { "name": "Arun Jayaram", "speech": [ "Fair enough. Fair enough. Tim, I got one for you. In the guide, we did note a step-change lower in the tax deferral with the company's current tax mix now above 90%.", "Can you talk about the drivers of the higher cash tax mix in 2021? And as we would have thought some of your IDCs would have led to a lower cash tax rate. And can you just talk about, is this a one-year phenomena or indicative of the go-forward tax rate?" ] }, { "name": "Tim Driggers", "speech": [ "Arun, this is Tim. Yeah, so as we become more and more profitable, obviously, it has lowered the price that we have to make a taxable income. So that's the first thing. We are an extremely profitable company now.", "And if you go back and look to the -- to 2020, for sure, in the $39 oil, there wasn't much tax profit there. So in the $50 environment, we have significant taxable income, and we have no net operating losses left to offset that with. So it's a simple math of being a very profitable company and paying taxes. So beyond that, I could clarify it more offline, if you'd like, but that's the general answer." ] }, { "name": "Operator", "speech": [ "And our next question will come from Jeanine Wai with Barclays." ] }, { "name": "Jeanine Wai", "speech": [ "Hi, good morning, everyone. Thanks for taking our questions. So sorry, Tim, not to keep pushing you on Arun's question right now. But in terms of '22 and '23 on the deferred tax, how that might trend, is it possible that the deferred guidance might improve a little bit next year as you get back to growth to 8% to 10% because you'll be spending more money? The strip is backward dated, which, I guess, is lower cash, so good news, bad news for this.", "As well as you've got a lot of gains on the nat gas side for this year that maybe may not material next -- materialize next year. So maybe just furthering on Arun's question, is it possible that 0% to 15% could be something different in '22 and '23 as you get back to growth?" ] }, { "name": "Tim Driggers", "speech": [ "That's exactly right. As we spend more capital in a growth mode, obviously, we'll have more IDCs to deduct to lower our cash taxes. So in a backwardated environment where we got lower oil prices, then yes, it would lower that deferred ratio." ] }, { "name": "Jeanine Wai", "speech": [ "OK, great. Thank you for the clarification. My second question is just on cash returns. So given the high-class problem of your forecasted free cash flow and you formally set the total debt target to $3.7 billion with no plans to further reduce debt, what's the minimum operating cash balance that you're comfortable? And I guess, it's a backdoor way of asking like does your new formalized debt target, does that imply that you plan on paying out 100% of excess free cash flow in a year after dividend and after whatever you may allocate toward low-cost property acquisitions? Or am I just getting ahead of myself here?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Jeanine, I'm gonna let Tim talk about the cash needed to operate the company." ] }, { "name": "Tim Driggers", "speech": [ "So what we have said is that of around $2 billion is the number we feel comfortable with through the cycles. That doesn't mean it's a hard-and-fast rule that we will have $2 billion on the balance sheet. Some quarters, it will be more; some quarters, it will be less, especially during the quarter based on how money comes in and out of the company. So that's the level that we're comfortable with for now." ] }, { "name": "Bill Thomas", "speech": [ "Yeah. And Jeanine, the second part of the question is, I think it's important to know that our board is very, very committed to returning cash to shareholders. And we -- I think we've demonstrated that certainly, over the last 20 years, a 20% compounded annual increase in the dividend, the last four years, 146% increase. And then, last year, even in a down year, we increased the dividend and sustained it by 30%.", "So we're very committed to giving cash back. At the same time, we think it's important to be flexible and opportunistic, which means we want to be able to give the cash back in the way that it creates the most return, the most total shareholder return. And so that will be different in different situations. In an up-cycle, it certainly could be we want to continue to work on the regular dividend.", "That's the primary way we want to give cash back. And so we are gonna continue to work that really, really hard. And then, on top of that, we'll consider other things opportunistically. As the company continues to improve and get better and improve our free cash flow potential, which we think we're gonna be able to do very consistently over time, we'll consider other options.", "As Tim mentioned, potentially, a supplemental dividend; potentially, in certain situations, stock buybacks. And then, we are always looking at opportunistic low-cost, high-return bolt-on property acquisitions. And we did a number of those last year. Some of those were in our exploration plays.", "Some of those in -- really in the Delaware Basin, where we're actually drilling bolt-on acquisitions. So we're always looking to improve the drilling potential of the company through those kind of things, too. So we've got a lot of great options. We're very excited about having a lot of free cash flow and continuing to build on that.", "That's not a problem. That's a great opportunity. And we're just looking for the right way to redistribute that and generate the highest returns for the shareholders." ] }, { "name": "Operator", "speech": [ "And our next question will come from Bob Brackett. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Hey, good morning. I was comparing the net expected well completions for this year by play versus last year. And am I over-interpreting it? But I see a decrease in the nonfederal areas, call it, the Texas Eagle Ford. I see a rise in the PRB in the Delaware.", "Is that program predicated on federal lease concerns or desires? Or am I over-interpreting?" ] }, { "name": "Bill Thomas", "speech": [ "Hey, Bob, yeah, this is Bill. I'm gonna ask Billy to answer that one." ] }, { "name": "Billy Helms", "speech": [ "Yeah, good morning, Bob, no, I would say, we've -- in the past 10 years, a lot of our growth previously came from the Eagle Ford, and that is a more mature play at this point. And going forward, they still have quite a bit of inventory, and a lot of that is still double premium. But we see a lot of the growth coming from the Delaware Basin and the Powder River Basin, as you mentioned. Part of that is that in the last couple of years, even last year, we built out some infrastructure on federal land.", "And just as a natural progression of our development program, we start moving activity into those areas. That's true both in the Delaware and the Powder River Basin. But that's kind of where we see activity moving. And that will also help in the decline rate that Bill and Ezra we talked about earlier in the call." ] }, { "name": "Bob Brackett", "speech": [ "Thank you for that." ] }, { "name": "Operator", "speech": [ "And our next question will come from Scott Gruber with Citigroup. Please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yes, good morning. I want to continue on Jeanine's line of questioning. Thinking more about this year, you'll have about $2.5 billion of cash on the balance sheet post bond repayment, and you mentioned retaining $2 billion over the long term. But you also have the '23 maturity, and then you'll generate $1.5 billion of free cash at $50 this year and even more, another $1 billion or so at $60.", "So just how do you think about use of cash this year, especially if capex is not going to flex? How do you think about building cash for the '23 maturity? Is that above and beyond the $2 billion you mentioned? And how do you balance that against returning cash this year if the strip is right?" ] }, { "name": "Bill Thomas", "speech": [ "Tim, do you wanna take that one?" ] }, { "name": "Tim Driggers", "speech": [ "Sure. So we've already committed to spending $1.7 billion of the free cash flow through the payment of the bond that matured and then our regular dividend. So that's the first thing. And then, at the end of each quarter, we will review with the board what our cash position is, and we will look at, sight into the future and see what the condition as an industry look like and make decisions based on where we are at that point in time.", "So there's no hard-and-fast rule on what that answer will be. It's a long-term outlook, not a short-term outlook. So that's the way we're building this model." ] }, { "name": "Scott Gruber", "speech": [ "Is the $2 billion kind of how you're thinking about the right cash balance for this year? Or does it -- is that a little bit higher given the '23 maturity? How does that come into consideration?" ] }, { "name": "Tim Driggers", "speech": [ "No, the $2 billion is -- two pieces to the $2 billion: one is normal operating conditions and one is a surplus for abnormal operating conditions. So they're both built into that number, and that's the number that Tim Driggers feel comfortable with. So that's how that number was derived. Having lived through a lot of these cycles and knowing the size of our company, I know what I feel comfortable with to not be stressed in a stressful situation on the cash side.", "So that's how we derive that number." ] }, { "name": "Operator", "speech": [ "And our next question will come from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hi, guys. Just wanted to delve a little bit into the capex here in 2021. Certainly noticing from the slides that you guys are spending an extra $500 million kind of above maintenance. I wanted to get a sense of how much of that is devoted to some of these new exploration plays that you guys were discussing here.", "And then, ultimately, it sounds like there's quite a bit of testing happening with the drill bit in '21 versus last year. Do you guys see this year as really having a potential as kind of a breakout year for exploration success for EOG, given the higher spend?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Leo, let me start that, and then I wanna ask Ezra to give some color on it. But the important thing to consider on our exploration program is that we're investing in plays that we believe will make a significant step-change in the performance of the company. And when I talk about that, that's in addition to the double-premium change we are making this year. It's above and beyond that.", "We're really looking for plays that are really the new technology we see for the future of horizontal drilling for the most part. These are much, much better rock and have the potential to be much better than -- and deliver results like lower decline rates to help us to generate even more free cash flow and higher returns than ever before. So we're investing in very significant potential -- future potential for the company. The breakdown on the half of the $500 million is $300 million in exploration and $100 million in international and $100 million in ESG projects.", "And I'm gonna let Ezra comment just in general on our exploration efforts and give a little bit more color." ] }, { "name": "Ezra Yacob", "speech": [ "Yes. Thank you for the question, Leo. So as Bill highlighted, we pulled back in 2020 a little bit on our exploration budget, commensurate with reducing the capital spend across the board. And so we are excited this year to be able to return 2020 levels to kind of a pre-pandemic level or more of a historic balance level for the exploration side.", "And while I can't promise specifics on timing or anything like that, I can give you a little bit of color on how the process goes. And obviously, we like to capture leasehold, and we prefer not to talk in too great a detail about our exploration plays until we get the leasehold captured. And especially what we think is not only the Tier 1 areas, the sweet spot of these plays, but also in a contiguous position. And then, as you can see from the last few announcements, Dorado, the Powder River Basin and the Wolfcamp M and Third Bone Spring, we like to have a handful of wells tested, not only testing the geologic concepts and the producibility of the play but also just testing the repeatability on it.", "And so those things are different from each of these plays, each of the rock types, giving us the confidence and the transparency to start talking about those publicly. As Bill said, and you highlighted, we are leasing and testing across multiple plays this year. We're very excited about the potential that they'll dramatically increase the quality of the already-robust inventory that we have. And as we shifted from premium in 2016 to focus on double premium this year, we really think these exploration plays have the potential to deliver another significant step-change for EOG's performance in the future.", "And we're -- last thing I'd highlight is we are doing this at a time when much of the industry has really pulled back on any new exploration at all. And that leaves us in kind of a countercyclic opportunity here where we are excited that we've been able to put together these prospects and get them drilled and tested and provide a little additional color for you, guys, when we have the information." ] }, { "name": "Leo Mariani", "speech": [ "That's great color, for sure. I really appreciate that. Just for my follow-up question, I just wanted to ask a little bit about kind of production cadence here on the oil side in 2021. Obviously, the goal is to kind of keep things roughly flat with the 4Q '20 levels of 442,000.", "You're kind of, obviously, starting at a lower point in 1Q because of a lot of the storm downtime. Does that imply that we're gonna see a bit of a gradual ramp on those volumes to kind of get to the average as we work our way into midyear and second-half '21 for the U.S. oil volumes?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Billy, would you?" ] }, { "name": "Billy Helms", "speech": [ "Sure, Leo, no, the production each quarter will be about the same, targeting around that 440,000 barrels a day, which really was our target here in the first quarter. Obviously, the storm affected basically a one week of production, and that came largely in the Delaware Basin and Eagle Ford areas. All that production is back on now. And that downtime is gonna result in about a 4% decrease in the first-quarter production.", "And we've stated we've not -- we are not gonna grow production in an oversupplied market. So basically, once we kind of get this production -- now that the production is back on, we'll maintain this rate at around the 440,000 barrels a day in each of the remaining three quarters." ] }, { "name": "Operator", "speech": [ "And our next question will come from Neal Dingmann with Truist Securities. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Morning, guys. Bill, just a quick or easy question for you, or Tim, just wondering about hedging these days, your thoughts. You did pretty well with it in '20, when you had some on, you took off, realized the gains on that. So I'm just wondering, with the improvement we've seen in oil prices here, although we're in kind of, obviously, steep backwardization, how are you all thinking about that?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Neal, we remain opportunistic on our hedging. Obviously, the price has moved up very dramatically here in the first quarter of the year, faster than really we had thought. We added a few hedges there at the beginning of the year, just to lock in above 50 and 55.", "But we're currently watching the market and watching it move up, and we'll be opportunistic and add hedges as we feel that they will be beneficial. And we have no hedges in natural gas at this time." ] }, { "name": "Neal Dingmann", "speech": [ "OK. And then, just you guys have been successful on your organic exploration you've talked about. I'm just kind of curious, with the plan this year, as you have -- I guess, my question is, do you have a set plan on sort of regardless what happens to either pricing or the success of these plays throughout this year and into the '22 what you would do activity and sort of spending-wise on that? Is it pretty set? Or is that -- could that still ebb and flow?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. I'm gonna let Ezra talk about that." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neal, thanks for the question. We have kind of a base plan setup for our exploration, but what I would say is much of it's going to be dependent on what we see -- how we get these leases put together and what we see on the early results of these plays. So we remain fairly flexible on how quickly we think we could start to allocate capital to these. What I would say, just a little more color, is all of our domestic exploration plays, as we've highlighted in the past, are in areas of preexisting oil and gas operations.", "So they're not frontier basins or anything like that. There is some form of infrastructure, albeit maybe legacy. And so we would be able to get these things kind of produced and up and moving once we have the results on the repeatability of the plays and have the acreage tied up." ] }, { "name": "Operator", "speech": [ "And our next question will come from Brian Singer with Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you, and good morning. My first question is a two-part question with regards to the decline rate impact from the shift to double-premium locations. What characterizes either the underlying geology or what you're doing in your completion techniques to achieve these lower decline rates? Or is it just a shift away from the Eagle Ford? And then, if this represents a new capital-efficient shift for the company, why would it not push down maintenance capital below the $3.4 billion?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Billy, will you wanna talk about that?" ] }, { "name": "Billy Helms", "speech": [ "Sure, Brian, good morning. So as far as the decline rate shift, that's coming mostly from focusing our areas on better rock, to be honest, that as we mature the Eagle Ford Play, as we mentioned earlier, and more of our capital is going toward the Delaware Basin and even the Powder River Basin, in general, those are plays that had essentially better rock and capability of a lower decline. So that's a large part of that. And then, on the new -- with the shift in the capital efficiency and the maintenance capital, I would remind you, the $3.4 billion, when we set that, I guess, a year or so ago, that was at a production rate of about 420,000 barrels a day.", "And that was also pre-Dorado. So we are maintaining the $3.4 billion at a higher oil production rate of 440,000 barrels a day, and we've also added in the capital on Dorado because that is part of our announced plays going forward." ] }, { "name": "Brian Singer", "speech": [ "Great. Thanks. And my follow-up actually does involve Dorado because you mentioned that a couple of times in your prepared remarks as a potential global energy solution. And I wonder how you monetize that.", "Is there an LNG contract or partnership with a global player? Or are you taking a more bullish view on medium- or longer-term U.S. natural gas prices?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Brian, I'm gonna ask Lance to talk about the LNG potential for Dorado." ] }, { "name": "Lance Terveen", "speech": [ "Hey, Brian, good morning. This is Lance. Yeah, I mean, I think as we've talked about in the past, that's what makes it so exciting about the Dorado play. It's just -- when you think about the proximity to the market, I mean, we're so close to the proximity to both -- all our domestic customers, but then also the LNG markets as well.", "So I think the biggest thing, again, is just the proximity. It's the location. It all -- it's very complementary with what we've done in the past in a lot of our plays, moving gas downstream to, obviously, try to capture the highest prices. So we'll just continue to stay very opportunistic there, but the big thing I want to focus on is just the proximity and what's in place today." ] }, { "name": "Operator", "speech": [ "And our next question will come from Doug Leggate with Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Good morning, it's Doug Leggate, actually, from Bank of America. I'm afraid that I'm just going to focus on one issue, Bill, and you have to forgive me, it's on the growth plan post 2021. And I want to kind of just set this up a little bit. And then, my question really is why 8%, 10% is the right number and how you define a balanced market? Now I know I've gone through some of this before, but I just want to set it up here a little bit.", "Basically, just about everybody has dropped their breakeven price. And I think Saudi would argue that their optimal production rate is a lot higher than where it is today. So when you talk about an optimal plan, you talk about a $53 average oil price in the last four years, but we know that Saudi was subsidizing that. So I'm back to the same question I had a number of years ago, which is why when you represent 0.5% of global supply, it's OK to grow at 10% or 5% of global demand because that puts you back to being part of the problem? Hopefully, you see where I'm going with this because if everyone else said the same thing.", "The U.S. is 500,000 to 1 million barrels a day. And your price war comment, my last comment, I want to just offer a little different perspective on that. Saudi put 2 million barrels of a day on the market in April, put it on a ship and sent it to the U.S.", "That was a price war. It wasn't a Russia price war. It's an E&P U.S. subsidized growth price war.", "And so my question for you is, why is 10% OK? How do you define a balanced market? And will you revisit this at some point in the future because it puts us back in the same place you were a few years ago?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Doug, yeah, thank you for the question. It's -- first of all, we've been really clear. We're not gonna push oil in an oversupplied market. We're very, very cognizant of the fragile recovery that we're in, and it's important that we don't put any more pressure on that and allow the market to recover.", "And we are going to watch that the rest of this year. Obviously, we're not gonna -- we've made a commitment. We're not going to be increasing production this year, and we'll watch it next year before we set our plan. So we're not -- we are not interested in growing oil in an oversupplied market, period.", "And when the market is right and we begin growth again, the reason that 8% to 10% is the right number because it really optimizes all the metrics in the company, returns and free cash flow potential over time. We got a great chart that we put together in Slide No. 10, and it really shows that the operating efficiency, the operating cost, the earnings and cash flow per share growth, the return on capital employed, the three-year cumulative free cash flow and the long-term free cash flow, all are at an optimal level at an 8% to 10% growth rate. If we go slower, some of those are not optimal; they're worse.", "If we grow faster than that, at the same thing, some of those are not optimal; they're worse. So the 8% to 10% really optimizes a balanced growth rate, a moderate growth rate, where the company can continue to get better very fast and optimize our returns, our earnings potential, our cash flow potential and our long-term free cash flow." ] }, { "name": "Doug Leggate", "speech": [ "Maybe as a quick follow-up then, Bill, on the same topic. So I understand the point about optimal, but optimal is because of what the strategy you decide to adopt. So for example, you don't need to spend $0.5 million or $1 billion on exploration. If you do, you could high grade.", "You never rightsize the company with a slow growth rate. And you still describe taking 5% of global demand as moderate. So I guess, my question is, between 2017 and 2019, Saudi have 2 million barrels a day held up to market before COVID. Is your definition of a balanced market that the lowest cost producer is still subsidizing the business by bringing back any production? Because that, by definition, is subsidizing your business.", "So optimal -- I'm just having a tough time understanding why you're not learning any lessons from growing nine times in 10 years with very little cumulative free cash flow, and your share price response, obviously, was terrible. So why is 5% global demand growth for a company with 0.5% global supply OK?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. I think there's two elements that we look at really closely, obviously, to determine whether the market is relatively balanced or not. One of them is the inventories. We want to see them get down to the five-year average or lower and keep hitting lower.", "Then the other is spare capacity, worldwide spare capacity. So we're watching spare capacity, and as it's -- at the moment, it's still 10 million barrels a day, and we need to have some work. So we want to get spare capacity down in the world to kind of a historic normal level. And so we'll be watching both of those.", "And we are very definitely committed to not overpressuring the market and working with the market we have to work with and staying disciplined and not trying to push oil or grow oil into an oversupplied market. We're making that commitment. We've always done that. We did it in 2015 and 2016.", "We didn't grow. We, obviously, shut in production last year, and we're staying -- we're maintaining that exit rate this year. So we're very disciplined and we're very cognizant of that. Beyond that, when the market is available, we want to run a company to generate the highest total return for the shareholder value.", "That is our job. We want to generate value, business value, really core business value. And that's what we're about, and that's what we're going to stay focused on." ] }, { "name": "Operator", "speech": [ "And our next question will come from Charles Meade with Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Bill, to you and whole team there. I wanted to ask a question about your double-premium inventory and really the rate of change there. If you took that definition of double premium and applied that to your '19 program and your '20 program, what percentage of that '19 program or '20 program would have fit -- would have qualified for that double-premium bucket? And what's it gonna be in '21?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Charles, Yeah, the double premium, we've been building more double premium every year as we get our cost down and improve our well productivity. Last year, it was about 50%. In 2019, it was less than that. So last year, it was about 50%.", "And this year, our goal is to get it up to 75%, maybe even higher percent as that. And then, next year, it will even be higher than that. So we're focused on improving the wells, not only with the cost, but there's a slide, Slide No. 7, I think it is.", "It shows that these double-premium wells are much, much more productive. In fact, over the first two years, they cumed 39% more oil than the wells we've been drilling in the last several years. So they're better wells. Obviously, we're lowering our costs at the same time.", "And I think that's really a differentiator for EOG. As the industry data shows, most of the industry well productivity is flattening out. Where at EOG, the well productivity is continuing to increase. So we're not through.", "We're gonna get better every year. We figure out how to target better rock. Our completion technology continues to increase. Obviously, our well costs are going down significantly.", "And all that is sustainable. And that's on really the EOG culture and our methodology of not really getting into a maintenance mode and just doing routine every well the same. We are in the learning process. We gather tremendous amount of data and technology.", "We're learning the geologies. We drill the wells. We're learning the pay quality. And we're figuring out just continuously on a real-time basis how to get better in every aspect of the company.", "And so we're excited about our future and continuing to increase returns and capital efficiency and free cash flow potential as we go forward." ] }, { "name": "Charles Meade", "speech": [ "Thank you, Bill, that's helpful insight into your thinking process. And perhaps, picking up that one thread on better rock, am I interpreting that the right way that -- is that essentially the shift from these -- the resource shale plays more toward these combo-clastic kind of plays? And is that a -- is that just kind of a coincidence? Or is that more of a fundamental arrow for you guys?" ] }, { "name": "Bill Thomas", "speech": [ "Well, it's not a coincidence. I'm gonna let Ezra talk about that." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Charles, thanks. That's perfect. You kind of hit the nail on the head.", "As you move away from these, the actual true shale plays themselves are some of the tightest rock. And so as we've moved into not only different basins and different formations but especially targeting the specific landing zones. As we've developed some of our petrophysical, some of our geologic models to really understand the specific landing zones in rocks like the Austin Chalk per se, you fundamentally have higher porosity and permeability, just better all around rock quality that adds to not only the returns but also, as Bill was highlighting, to the shallower decline profile." ] }, { "name": "Operator", "speech": [ "And our next question will come from Paul Cheng with Scotiabank. Please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning, guys. Two questions, please. Last year, you signed a gas supply agreement.", "That seems to be well timed, given the sharp rise in the JKM prices. Can you tell us that what is that volume for this year? And how quickly you would ramp to 440 million cubic feet per day? How many years that we get there? And also that since it's linked to both JKM and Henry Hub, can you tell us that what percent is on JKM and what percent is in Henry Hub? That's the first question. Second question, I think this is probably for Bill. Some of your competitors have decided to formalize the excess cash return framework that once that they have excess free cash after capex and paid dividend, they will pay that out.", "Just curious that why from EOG standpoint, you don't think that will be a maybe workable program for you because I think the market would love cash return, but that they also love transparency and sort of understanding that under what circumstances they can get what. So just curious that, why that we do not believe that will fit into the EOG model? Thank you." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Paul, I'm gonna to ask Lance to talk about the JKM." ] }, { "name": "Lance Terveen", "speech": [ "Hey, Paul, good morning. This is Lance. How are you?" ] }, { "name": "Paul Cheng", "speech": [ "Very good. Thank you." ] }, { "name": "Lance Terveen", "speech": [ "Hey, yeah, thanks for your question, especially related to LNG. Yeah, I'd say it was fairly bearish last year, right, related to JKM and just global LNG pricing with the warm weather and, obviously, the oversupply. And things have changed, haven't they, quite drastically to where, on a go forward, it looks very constructive, definitely, as you look at global prices. So yes, just as a reminder there, Paul, we've got 140 million a day that goes into that agreement that we have with Cheniere.", "Like you said, we're excited for the benefit there that we've seen, especially in a go forward. We kind of had that view going into before and finalizing our agreement. We're definitely constructive kind of long-term related to global prices. And obviously, having exposure to JKM and being very correlated with oil too and having the upside, that's where we kind of wanted to be positioned from an LNG pricing standpoint.", "So yes, we've been very pleased here in the first quarter with that pricing and constructive from a long-term standpoint as well. And yes, your second question was -- there was just kind of how it ramps up, and you're right. It's the 140 million is the JKM, and there's an additional 300 million that will be tied to Henry Hub." ] }, { "name": "Paul Cheng", "speech": [ "And for the JKM link, is that a one to one or that does affect us?" ] }, { "name": "Lance Terveen", "speech": [ "Paul, could you ask that one more time, please, sir?" ] }, { "name": "Paul Cheng", "speech": [ "For the link to the JKM, is it a direct price you get the JKM? Or you say factors? Is there an S-curve or anything like that?" ] }, { "name": "Lance Terveen", "speech": [ "You know it's -- I'm not gonna go into the specifics contractually, but it's very familiar from what you've heard from Cheniere as well in their IPO model. And so that's how we've structured that." ] }, { "name": "Operator", "speech": [ "And this will conclude our question-and-answer session. I'd like to turn the conference back over to Bill Thomas for any closing remarks." ] }, { "name": "Bill Thomas", "speech": [ "2020 was a year with many challenges, and I'm so very proud of the employees of EOG. They responded with an exceptional performance in an exceptional year. We entered 2021 and this next up-cycle with lower cost and more potential than ever in the history of the company. Our organization and culture are focused on improving returns, playing a significant role in the future of energy and delivering substantial long-term shareholder value.", "So thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2022-02-25	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources fourth quarter and full year 2021 annual results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release and EOG's SEC filings. This conference call also contains certain non-GAAP financial measures.", "Definitions and reconciliations schedules for those non-GAAP measures can be found on the EOG's website. Some of the reserve estimates on this conference call may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chief executive officer; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, VP, investor and public relations. Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. 2021 was a record-setting year for EOG. We earned record net income of $4.7 billion, generated a record $5.5 billion of free cash flow, which funded record cash return of $2.7 billion to shareholders.", "We doubled our regular dividend rate and paid two special dividends, paying out about 30% of cash from operations. And we are continuing to deliver on our free cash flow priorities this year with an additional special dividend announced yesterday of $1 per share. The last time we set an earnings record was in 2014. We earned $5.32 per share while oil averaged $93.", "Last year, we shattered that record earning $7.09 per share with $68 oil. That's 50% higher earnings with a 27% lower oil price. The catalyst for that improvement was our shift to premium six years ago. Premium is our internal investment hurdle rate that uses low fixed commodity prices to calculate the returns that drive our capital allocation decisions, $40 and $2.50 natural gas for the life of the well.", "While our premium strategy ensures high well-level returns and quick payouts in any given year, the more significant and durable impact is to our full-cycle development cost. The benefit of making investment decisions using fixed low commodity prices has the enduring impact of steadily improving corporate level operating and cash margins over time. That impact is now directly observable on the face of our financial statements. And last year, we raised the bar again to double premium.", "Our hurdle rate increased from 30% to a minimum of 60% direct after-tax rate of return using the same low fixed prices of $40 oil and $2.50 natural gas. The switch promises to further improve financial performance in the years ahead and is what gives us great confidence in our ability to continue delivering shareholder value through commodity price cycles. We expect to look back on 2021 like we do on 2016 as the year we made a permanent increase to our return hurdle that drove another step change in the financial performance of EOG. We also delivered as we promised operationally in 2021 with production volumes, capex and operating costs in line or better than target set at the beginning of the year.", "We were able to successfully offset emerging inflationary pressures during the year to lower well costs by 7%. 2021 was also a big year for ESG performance. We reduced our methane emissions percentage and injury rates and increased water reuse. We announced our 2040 net-zero ambition and added our goal to eliminate routine flaring by 2025 to our existing near-term targets for greenhouse gas and methane emissions rates.", "We continue to develop creative solutions, leveraging existing technology to make progress on our path toward our net-zero ambition. There's growing recognition that oil and gas will have a role to play in the long-term energy solution. We know that to be part of that solution, we not only have to produce low-cost, high-return barrels, we also have to do it with one of the lowest environmental footprints. As we look into 2022, the global oil market is in a position to rebalance during the year.", "Our disciplined capital plan aims to increase long-term shareholder value through high-return reinvestment that optimizes both near-term and long-term free cash flow. The plan also funds exploration and infrastructure projects to improve the future cost structure of the business. With the improvements we made in the business last year, combined with a higher commodity price environment, EOG is positioned to once again generate significant free cash flow. We continue to follow through on our free cash flow priorities.", "Our stellar fourth quarter performance allowed us to further strengthen the balance sheet, and we are returning cash to shareholders with the $1 per share special dividend declared yesterday. Combined with our $3 per share regular dividend, we have already committed to return $2.3 billion of cash to shareholders in 2022. We remain firmly committed to our long-standing free cash flow and cash return priorities, and you can expect EOG to continue to deliver on them as the year unfolds. EOG has exited the downturn a much better company than when we entered it.", "Higher returns with the shift to double premium, a lower cost structure, more free cash flow, a smaller environmental footprint and a culture strengthened by the challenges we have overcome together. Our culture is the No. 1 value driver of EOG's success. By remaining humble and intellectually honest, we sustained the cycle of constant improvement that drives our technology leadership.", "Of all the fundamentals that consistently create long-term value, none of them matter without the commitment, resiliency and execution from our employees. Now, here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. EOG generated record financial results in the fourth quarter with adjusted earnings of $1.8 billion and free cash flow of $2 billion. Capital expenditures of $1.1 billion were right in line with our forecast while production volumes finished above target. For the full year, adjusted earnings were a record $5 billion or $8.61 per share.", "This yielded return on capital employed of 23%, while oil prices for the year averaged $68 per barrel. Perhaps most important than setting records is what drove our outperformance. 2021 illustrated EOG's success at driving down our cost structure. ROCE would have been 10% or better at oil prices as low as $44.", "Keep in mind that back in 2016, when the premium investment standard was introduced, the oil price required for 10% ROCE was in excess of $80 per barrel. The dramatic improvements we have made to the profitability of our business reflect the benefits of using the highest investment threshold in the industry. The bottom line financial impact of double premium is just beginning to show up. But like our original switch to premium, it will grow over the coming years.", "Our goal is to position the company to earn economic returns at the bottom of the cycle, less than $40 oil and generate returns that are better than the broader market on a full cycle basis. Free cash flow in 2021 was a record $5.5 billion, and we deployed this cash consistent with our long-standing free cash flow priorities. We doubled the regular dividend rate, which now stands at an annual $3 per share and represents a 2.7% yield at the current share price. We are confident in the sustainability of our high-return low-cost business model to support a dividend that has never been cut or suspended in its more than 20-year history.", "We solidified our financial position, finishing the year with effectively zero net debt. We were also able to address additional cash return priorities. We paid two special dividends for a combined $3 per share. We also refreshed our buyback authorization, which now stands at $5 billion.", "We will look to utilize this on an opportunistic basis. In total, EOG returned $2.7 billion of cash to shareholders in 2021. This represents 28% of discretionary cash flow and 49% of free cash flow, putting EOG among E&P industry leaders for cash returned in 2021. Looking ahead to 2022, our disciplined capital plan and regular dividend can be funded at $44 oil.", "At $80 oil, we expect to generate about $11 billion of cash flow from operations before working capital. The $4.5 billion capital plan represents about a 40% reinvestment ratio, resulting in more than $6 billion in free cash flow. This, of course, is on an after-tax basis, as we expect to be a nearly full cash taxpayer in 2022 as we were last year. We are in an excellent position to continue to deliver on our free cash flow priorities in 2022.", "EOG declared a $0.75 regular dividend yesterday, which is our highest priority for returning cash to shareholders. The size of the regular dividend is evaluated every quarter. As the financial performance and cost structure of EOG continues to improve, we expect that will be reflected in continued growth of the dividend. Turning to our second priority.", "This period of high oil prices allows us to further bolster the balance sheet. To support our renewed $5 billion buyback authorization and prepare to take advantage of other countercyclical opportunities, we plan to build and carry a higher cash balance going forward. We expect there will be opportunities in the future to create significant shareholder value by deploying a strong balance sheet and ample liquidity at the right time. Finally, we also announced an additional cash return to shareholders yesterday with a $1 per share special dividend to be paid in March.", "Along with the regular dividend, EOG has already committed to return $2.3 billion of cash to shareholders in 2022. We are fully committed to continuing to deliver on all of our free cash flow priorities. Here's Billy." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. First, I want to thank all of our employees for their outstanding accomplishments and stellar execution last year. I'm especially proud of their safety performance. In addition to outstanding operations and financial improvements, we achieved a record low injury rate.", "2021 was another year of execution. Throughout the year, we consistently exceeded our oil production targets, primarily due to strong well results. Our operations teams continue to innovate and find opportunities to increase efficiencies and lowered the average well cost by 7%, beating the 5% target we set at the start of the year. Our drilling teams are achieving targeted depths faster with lower cost by focusing on reliability of the tools and technical procedures that drive daily performance.", "For example, in our Delaware Basin Wolfcamp play, our teams have improved days to drill by 42% since 2018. In our Eagle Ford oil play, after drilling several thousand wells, our teams continue to refine the drilling operation to drive consistent performance from our rig fleet, resulting in a 21% reduction in the drilling costs since 2018. And with our decentralized organization and collaborative teamwork across operational areas, we continue to generate ideas for improvement through our innovative approach to areas such as improved bit design and drilling motor performance and share them throughout the company. On the completion side, we made great starts to expand the use of our super zipper or simo-frac technique to about one-third of our wells completed last year.", "Completion costs also benefited from reduced sand and water cost through our integrated self-sourcing efforts and water reuse infrastructure. Utilizing local sand and water pipelines includes the added benefit of removing trucks from the row of contributing to a safer oilfield with lower emissions. Cash operating costs were in line with forecast. And while delivering a higher level of total production, they were nearly equivalent to our cash operating cost pre-pandemic in 2019.", "The savings are a result of a focus on reducing workover expenses and improvements in produced water management. These efforts will expand in 2022 to help offset additional inflationary pressure. We also had another great year improving our ESG performance metrics. Preliminary calculations indicate that we reduced our methane emissions percentage by about 25% and our total recordable incident rate by 10%.", "We also achieved a 99.8% target for wellhead gas capture and increased water resource from reuse to 55%. Again, these are preliminary results as our final metrics will be published in our sustainability report later this year. As we enter 2022, EOG is not immune to the inflation that we're seeing across our industry. But we have line of sight to offset these inflationary pressures through innovation and technical advances, contracting for services, supply chain management and self-sourcing and materials.", "Over 90% of our drilling fleet and over 50% of our frac fleets needed to execute this year's program are covered under existing term agreements with multiple providers. Our vendor partnerships provide EOG the ability to secure longer-term high-performing teams at favorable prices while providing the vendors a predictable and reliable source of activity to run their business. EOG's technical teams take ownership of various aspects of the drilling and completion operations to drive performance, improvements and eliminate downtime. As a result, we will -- we still see opportunities to sustainably improve our performance.", "Some of the largest efficiency gains will be in our completion operations this year. For example, we expect to utilize our Super Zipper technique on about 60% of our wells, increasing the amount of treated lateral per day. We're also enhancing our self-sourced local sand efforts, which we expect to not only secure the material needed for the year, but also offset the effects of inflation. We continue to expand our water reuse capabilities that will assist in offsetting inflation in both our capital program and lease operating expense.", "We remain confident that we'll be able to keep well cost at least flat in 2022. EOG's capital efficiency continues to improve as a result of EOG's culture of continuous improvement. 2022 looks to be a year of challenges and inflationary headwinds. And I'm excited about the opportunity to bring our talented employees to further improve our business through innovation and improved operational execution.", "Here's Ken to review the year-end reserves and provide an inventory update." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. Last year, we replaced more than two times what we produced and reduced our finding and development costs by 17%. Our permanent shift to premium drilling and focus on efficiencies driven by innovation and our unique culture keys as to why our capital efficiency continues to improve, and our corporate finding costs and DD&A rate continue to decline. Our 2021 reserve replacement was 208% for a finding and development cost of just $5.81 per barrel of oil equivalent, excluding revisions due to commodity price changes.", "Since 2014, prior to the last downturn and the implementation of our premium strategy, we have reduced finding and development cost by more than 55%. With our double premium standard and the high grading of our future development schedule, we grew our reserve base in 2021 by over 500 million barrels of oil equivalent for total booked reserves of over 3.7 billion barrels of oil equivalent. This represents a 16% increase in reserves year over year. In terms of future well locations, we added over 700 net double premium locations across multiple basins to our inventory in 2021, replacing the 410 drilled last year by 170%.", "Our double premium inventory is growing faster than we drill it and the quality of the locations we are adding to the inventory is improving. Innovation continues to drive sustainable cost improvements and operational efficiencies. And when you combine that with our focus on developing higher quality rock, we further improve the median return of the portfolio. We don't need more inventory.", "We are focused on improving our inventory quality. With this in mind, our double premium inventory now accounts for 6,000 of the 11,500 total premium locations in our inventory, representing more than 11 years of drilling at the current pace. Now, let me turn the call back to Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Ken. In conclusion, I'd like to note the following important takeaways. First, investment decisions based on a low commodity price puts the emphasis on full cycle cost of development and demands efficient use of capital. While the benefits of such discipline are realized immediately, the larger impact builds over time.", "The seed to our stellar results in 2021 was the premium strategy established six years ago, and we have set the stage for the next step change in financial performance by instituting double premium last year. Second, we are confident EOG's innovative and technology-driven culture can offset inflationary pressures this year. Our disciplined capital plan is focused on high return reinvestment to continue improving our margins in not only 2022 but in future years as well. Third, we are committed to returning cash to shareholders.", "We demonstrated this through the return of nearly 50% of free cash flow last year, and this quarter's special dividend, our third in less than a year, doubling our regular dividend rate indicates our confidence in the durability of our future performance. The regular dividend is our preferred method to return cash to shareholders and as we continue to increase the capital efficiency of EOG through low-cost operations and improved well performance, growth of the regular dividend will remain a priority. We truly believe the best is yet to come. Going forward as a company and an industry with a financial profile more competitive than ever with the broader market and a growing recognition of the value we bring to society, EOG has never been better positioned to generate significant long-term shareholder value.", "Thanks for listening. Now, we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question today comes from Paul Cheng from Scotiabank. Please go ahead. The line is yours." ] }, { "name": "Paul Cheng", "speech": [ "Hi, thank you. Good morning, guys. First, we have been asked by many clients that with your capex plan and your production profile, if the current commodity price falls by mid-year, will you change the plan? Or that under what circumstances that that plan may get revised? That's the first question. The second question is that in your future capital allocation, is 2022 the way how you allocate will be a reasonable proxy in the future? Or will we see the percent in the new domestic drilling, which is about 10% this year, and also that the facility and the gathering and processing of those percentage will go up as a total percent of your capex as you're trying to prove up more new resource area? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Paul, this is Ezra. I'll answer the first question, and then I'll hand the second question over here to Billy to answer for you. With regards to our plan this year, as we've talked about, the way we're approaching our planning is not based on the oil price that we're seeing.", "We're really looking to see the broad market fundamentals that are underlying and supporting that oil price and other macroeconomic indicators. So when we look at our '22 plan, we think we've designed a very high-return capital program. It balances our free cash flow this year with increased free cash flow in future years. And it really starts with investing in the double premium wells.", "When we bring those low-cost reserves into the company's financials, it helps drive down the cost basis of the company and it continues to expand the margins. It's what allows us to continue delivering high corporate level returns, as well as increase the cash flow potential of the company, and that further supports our free cash flow priorities. So the program this year is at a pace that allowed us to capture and incorporate technical learnings to continue to improve each of our assets. And that's the most important thing that we look to do every year, not only in 2022, but to go forward into future years as well.", "And I'll turn it over to Billy to answer the second part of the question." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Paul. Good morning. On the second part of the question, going forward beyond 2022 and the percent we have allocated to new domestic drilling potential are really our exploration plays and infrastructure spend, it's been fairly consistent in the past and I expect it to be fairly consistent going forward. The largest amount of our capex spend will always be dedicated to our more developing -- development plays like the Delaware Basin play.", "And then, going forward, we remain excited about the exploration potential we see in many of our new emerging plays. And we'll continue to fund those at a pace where we can continue to learn and get better just as Ezra mentioned. The infrastructure spend has always been about the same percentage each year, and I expect that will continue to be managed in the same way. We want to make sure that we don't get too far out in front with the infrastructure spending, but it's done at a pace commensurate with the development activity in a given area.", "So I expect that will continue to be the case." ] }, { "name": "Paul Cheng", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question today comes from Arun Jayaram from J.P. Morgan Securities. Please go ahead.", "Your line is now open." ] }, { "name": "Arun Jayaram", "speech": [ "Good morning. Global gas is clearly in focus right now. So I wanted to get your thoughts on the revamped agreement with Cheniere, which will provide you more linkage to JKM. I think today, you're selling about 140,000 MMBtu, and that increases to 420 over time.", "So I was wondering if you could give us a sense of timing and shed some light on the type of realizations you get from marketing the gas to LNG? And how is the economic rent shared among you and Cheniere." ] }, { "name": "Lance Terveen", "speech": [ "Arun, hey, good morning. This is Lance. Thanks for taking my question. How are you today?" ] }, { "name": "Arun Jayaram", "speech": [ "Doing well." ] }, { "name": "Lance Terveen", "speech": [ "Well, hey. Just saying Good morning But hey, we're very excited about the new amendment that we have with Cheniere. And you're exactly right, I mean, we've got 140,000 MMBtu today that started in 2020. And I think that just really speaks to being really a first mover too, because as you can see right now, you can look at the price realizations, you can see JKM spot prices are near $40, having that first-mover capability, moving quickly there to get that exposure is exactly right.", "As you mentioned in your question, it's been very impactful in a positive way as we think about our price realizations. We're very excited about the commitment. You're right, it ramps up. So we've got the 140 today that will ramp to 420 as they go into service.", "That's estimated to be probably with the first train here for stage three in 2026. But if you remember there, we ramp up. We kind of go to the 140 today we started into the 420 as stage three goes into service. And we still will maintain, and we extended the 300,000 MMBtu a day sale that we have that's linked to Henry Hub.", "So we're excited about it. It's a brownfield facility. They've demonstrated being early on many of their projects. So we're excited to see our relationship grow from that standpoint and expect to see the price realizations materialize as well." ] }, { "name": "Arun Jayaram", "speech": [ "Great. And my follow-up is just on the 2022 program. Ezra, you guided to 570 net wells, we want to get a bit more color on the decision to allocate more capital to the Delaware versus Eagle Ford? It looks like your Eagle Ford activity will be down, call it, more than 50% year over year, while your Delaware will be up 30% more, including a little bit more second bone activity. So I was wondering if you could give us a little bit of color there." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Arun, this is Billy Helms. So yes, we're allocating a little bit more money to the Delaware Basin. And it's really just a function of the maturity of the Eagle Ford at this point.", "The Eagle Ford has been an active play for more than, I guess, 12 years and certainly has been a highly economic play for the company and continues to be. I would remind everybody that last year was the single best returns we've ever generated in the Eagle Ford play since its inception 12 years ago. And so, it's still a very valuable play, but it is more mature. The Delaware Basin on the other hand is still a lot earlier in its maturity in this life cycle and still has a lot of opportunity to grow and test new horizons and expand our development capabilities over time.", "So it's just a lot younger in its maturity phase. So I think it naturally will command a little bit more activity on that side." ] }, { "name": "Arun Jayaram", "speech": [ "OK, great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question today comes from Doug Leggate from Bank of America. Please go ahead. The line is yours." ] }, { "name": "Doug Leggate", "speech": [ "Good morning, Ezra. Good morning, team. Guys, last time I spoke to you, you were talking about the mix of the double premium wells in the production profile and of course the impact on sustaining capital and breakeven oil prices. So I wonder if you could just walk us through how you see that? The 32 breakeven you've given us today obviously comes with a, I guess, some element of growth in the capital.", "So how do you see the sustaining capital? How do you see that breakeven trending? That's my first question." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Doug, this is Ezra. Thanks for the question. Our maintenance capital on the back of a 7% well cost reduction last year and then additional well improvement, combined with increasing the percentage of double premium wells.", "And what I mean by that is a lower cost of the reserves, bringing those into the company's financials. Our maintenance capital continues to decrease, which is fantastic for us. You're right, the $32 breakeven that we provided today is actually with our -- commensurate with the capex program that we have for this year. But the double premium wells, we can't stress enough.", "Not only is it -- does the impact show out on very rapid payout and a high rate of return, but really by bringing those lower-cost reserves and a lower decline into the base of the company, over time, it really does start to show up an impact the full cycle returns and free cash flow generation potential of the company in the future." ] }, { "name": "Doug Leggate", "speech": [ "So where do you think those two numbers are today, the sustaining capital and the ex-growth breakeven?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. So we didn't release a maintenance capital this earnings call due to the fact that we've started to allocate some additional capital into the Dorado play. And so, it starts to get a little bit messy as you start going from oil into a BOE equivalent as we are starting to see the phenomenal results there with the Dorado play as we dedicate additional capital to it. Nevertheless, I think what we've outlined is with the 7% well cost reduction and slight improvements on the well mix year over year, we've continued to drive down that breakeven.", "And for the full cycle return, we have a slide in our deck that shows the one way that we like to present it is the price required for a 10% return on capital employed. And you can see we made a big step change last year as we drove that price down to $44." ] }, { "name": "Doug Leggate", "speech": [ "OK. Thank you for that. My follow-up is a capital allocation question, and it's really -- maybe it's for Tim. The free cash flow you're showing in your slide deck of north of $4 billion a year after the special, could essentially wipe out the majority of your share buyback authorization.", "I'm just wondering why you still feel no need to offer some kind of capital return framework. Because clearly, with the transparency of that breakeven level with the duration of your inventory and so on, valuation becomes a little bit more transparent. Therefore, buybacks could perhaps be more justifiable. So I'm just curious why you've been reluctant now to go down that route? I'll leave it there.", "Thanks." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Doug. This is Ezra again. Just to reiterate our free cash flow priorities. Now, first, the commitment begins with the sustainable dividend growth of our regular dividend.", "In '21, we doubled that regular dividend. And to us, that regular dividend is really indicative of what we're trying to accomplish. It reflects the continuing increase in the go-forward capital efficiency of the company. And it's also focused on creating through-the-cycle value and free cash flow, and that's ultimately what we're trying to do.", "Again, going back to what we were just talking about with the investment in the double premium wells and lowering the cost base of the company, trying to take at least a small step away from the inevitable commodity price cycles of our industry. The second free cash flow priority for us is a pristine balance sheet, which obviously provides tremendous competitive advantage in a cyclical industry. And then, the third, what we're talking about right now is the additional cash return in the form of specials or opportunistic repurchases. And as we talked about, last year, we demonstrated the commitment with $2.7 billion in cash return through the form of $3 per share special dividends and are regular.", "And then, we also retired that $750 million bond early in the year. In general, what we've talked about is we're going to use our -- reserve our repurchase opportunities to be more opportunistic than programmatic. So in times one way to think is that in times of rising share or oil price, you can expect us to prefer to do special dividends. And really, the way that we think about the share repurchase is, we measure it as an investment the same as we measure any investments across our business.", "So we want to make sure that it competes on a returns basis. And that's why we still prefer in an environment like this to stick with the special dividend as the priority for additional cash return." ] }, { "name": "Doug Leggate", "speech": [ "I'll keep pressing on it. Thanks, Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Doug." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question today comes from Scott Gruber from Citigroup. Please go ahead. Your line is open." ] }, { "name": "Scott Gruber", "speech": [ "Hi. Good morning. Just following on that line of questioning, given that your net debt negative here at the start of the year, should we think about the cash build as largely being over?" ] }, { "name": "Tim Driggers", "speech": [ "This is Tim. No. First of all, we are excited to have to be in a position where we are to have a cash balance going -- our net cash balance going forward. So we will continue -- as I said in my opening remarks, we'll continue to build cash on the balance sheet during these high oil price scenarios and look to -- for opportunities in the countercyclical times to deploy that cash in a meaningful way in the form of more specials or stock buybacks or just opportunistic things that come along in the countercyclical environment.", "So the answer, again, is no, we will be -- in these high price environment, we will be building more cash on the balance sheet." ] }, { "name": "Scott Gruber", "speech": [ "Got you. Appreciate the clarification. And then, congrats on the expanded export agreement. Just thinking about the broader backdrop here, there's likely another round of LNG project sanctioning along the Gulf Coast.", "It seems like the industry is in an advantaged position there. How aggressive EOG be on entering additional agreements, thinking kind of similar terms? Do you guys foresee and expanded JKM to Henry Hub spread that you'd want to capture? Do you think that's sustainable and you want to capture that spread? Or do you kind of look at additional agreements more through traditional diversification lens?" ] }, { "name": "Lance Terveen", "speech": [ "Yeah, Scott. Hey. Thanks for your question. This is Lance.", "I think what I can really point you to is like you think about each of our operating areas and you think about our transportation positions that we have, it really puts us, one, we're in close proximity, but two, we have the capability that we can transact very quickly. So I think first, I would point you to that. And then, I'd say secondly, yes, we're always interested in new opportunities. So we'll be continuing to look at that from like a business development standpoint.", "And it's really going to be commensurate like you heard from Billy as you talk about -- as you think about growth, our volumes. And then, as we move forward, we'll be looking at new opportunities, but that will be definitely commensurate with our plans on a go forward as we look at our plan." ] }, { "name": "Scott Gruber", "speech": [ "That's it. Appreciate the color. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question today comes from Neal Dingmann from Truist Securities. Please go ahead. The line is yours." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning. Appreciate the details so far. Maybe for you or Tim, maybe just ask one more on the shareholder return. I know most popular question.", "But you guys continue now to pay out over 50% of your free cash flow. And I'm just wondering on a go forward, I know there were some estimates out there thinking you all would even have potentially a higher payout. is that something that you're targeting? I know you're not going to have the exact metrics on how you want to pay out up to a certain amount. But is that something internally you're always continuing to sort of look at paying out over 50% or 60% or something like that on a go-forward, given your strong free cash flow?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Thanks for the question. This is Ezra. We continue to evaluate our cash position with respect to dividends on a quarterly basis.", "And what I would say is that, you're correct, we're thrilled to be in the position where we are, where we can offer to the shareholders such a competitive regular base dividend that, again, I think, is our No. 1 priority as a way to create value through the cycles. But on top of that, we are in a great position to offer continued strength of our balance sheet to support that dividend and then continue to offer cash return -- additional cash return of excess free cash flow in the form of these specials and buybacks. We don't have a specific target that we do.", "We stay away from providing a formula because we want to be able to have the flexibility to do the right thing at the right time to really maximize the shareholder value in a way that is protected through the cycles. Said another way, I think we've demonstrated that over the past year. We've taken the opportunity to both strengthen the balance sheet last year. And again, last year pay out a significant amount, $2.7 billion in cash returns.", "And we've doubled down on that basically with this first quarter announcement with the $1.75 per share cash return this quarter. And essentially, that reflects the evaluation, the positive commodity price environment that we were experiencing in and the strength of the underlying business and our confidence in it going forward." ] }, { "name": "Neal Dingmann", "speech": [ "Can't help but notice a nice bump on the NGL guide. Maybe could you talk about it? Can you -- [Inaudible] wells up in the sort of liquids Utica area, is that what's driving the growth there? Or if you could talk about sort of plans in the Marcellus type area, or the Appalachian area if you see it feasible?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. We actually divested of our Marcellus position a couple of years ago that was in a dry gas part of the Marcellus acreage there in Pennsylvania. With respect to some of the other opportunities that we haven't really discussed publicly, that's really exploration, as you guys know. First and foremost, we're an exploration company.", "We're always striving to be a first mover and organically improve the quality of our inventory. So I will provide you a little bit of color on that. Domestically, we continue to explore across the U.S. Our exploration program that we've talked about for the last year or so has been progressing.", "We finished last year drilling 12 wells across multiple opportunities, all dominantly oil-focused and we'll be slightly increasing that number this year to about 20 as we're encouraged with some of the results that we had last year. In general, though, like I said, we don't discuss the details of the exploration other than just to say that the opportunities are low-cost entry, they're oil-focused, there are reservoirs that we think can exploit with our horizontal drilling and completions expertise. And this year, we look forward to doing some more delineation and appraisal drilling. And as we've said in the past, the goal of our exploration program is not just to find oil or find reserves.", "It's really to add to the quality of our inventory from a lower finding cost and higher returns perspective. And so, it takes time to be able to evaluate that we can actually discover these opportunities and bring them into the mix where they're really going to help lower the cost basis of the company and be a significant contributor to our portfolio going forward." ] }, { "name": "Tim Driggers", "speech": [ "And I guess just a follow-up on that. As far as the NGL guide going up, that's simply a function of the fact that we have opportunity to make an election as to how much we recover or reject going forward on several of our processing contracts -- and with the strength of much of the NGL pricing, we're simply assuming we'll be in recovery mode more than rejection mode in several of those contracts this year." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question today comes from Scott Hanold from RBC Capital Markets. Please go ahead. The line is yours." ] }, { "name": "Scott Hanold", "speech": [ "Thanks. And maybe just since you talked a little bit about the exploration opportunities in the U.S. Can you give us a sense of how you think about international exploration opportunities? I know you all were doing some work in Oman in offshore Australia. Is there any update there? And how do you think about international versus onshore or U.S.", "opportunities?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Scott, in general, as we've talked about, the international opportunities have -- they have a higher hurdle to really be considered additive to the quality of our inventory simply because we need to have access to services there. We need to have access to contracts, and we need to find the subsurface geology that actually makes it, not just competitive, but really superior to much of what we're drilling here. In Australia, to start with that one, we still have that opportunity.", "We plan -- we're in the permitting phase currently, and we plan to initiate drilling in that one early next year. And then, in Oman, we did announce, as you recall, we had a low cost of entry into Oman. It included a two-well commitment. And during the second half of '21, we drilled those two exploratory wells, one of which was a short horizontal.", "We completed that horizontal, made a natural gas discovery there. But ultimately, as I was just saying the prospect, we decided is not going to compete with our existing portfolio. So we won't be moving forward with that project. In general, we do feel encouraged with the international opportunities out there because we see really kind of a lack of exploration competition out there.", "And we see that many times, national oil companies or ministries, the owners of those lands have really started to realize that they can't rely on traditional conventional term contracts to be able to get some unconventional type prospects drilled. And so, we're seeing a little bit more flexibility on the negotiation side, which gives us some encouragement." ] }, { "name": "Scott Hanold", "speech": [ "Great. Thanks for that. And I'm going to hit on the shareholder returns too because obviously, you all are in a very enviable position. But Ezra and Tim, you guys talk about being opportunistic and countercyclical ways with your balance sheet then -- during the fourth quarter, I guess, post Thanksgiving there was a little bit of a disconnect there.", "Your stock was a lot lower than it is today. Why not take that opportunity then to buy back stock? Can you -- so just trying to frame for us like when you think the right opportunities to buy back stock are." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. In general, Scott, we didn't see that as one of the opportunities that we're looking for there in the fourth quarter. When we talk about the significant dislocation, we're talking about something more so than that. Like I said, we consider share repurchase in the same way that we do any investment decision.", "It's how does it create the most long-term shareholder value. And we're in a cyclical industry, and that's why we prefer to use it opportunistically with a significant opportunity. The challenge, of course, as we recognize that being in a position to execute during the market dislocation is a challenging thing to do. However, we feel with the strength of our balance sheet and the low cash operating cost that we have, we'll be well positioned when we see the opportunity." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question today comes from Leo Mariani from KeyBanc. Please go ahead. The line is yours." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. I wanted to see if there's any update on the PRB. Certainly noticed in the slide deck that activity there is going to be down a little bit in terms of a few less wells in '22 versus what you did in '21. So perhaps you could kind of speak to how well costs have trended and kind of where that opportunity is on your list among the different plays? Clearly, you described a significant increase in Delaware activity this year.", "So how does the PRB rank?" ] }, { "name": "Jeff Leitzell", "speech": [ "Hey. Leo, this is Jeff Leitzell. The PRB, we're really excited about where it's going. In 2021, we had a record year, both from a well performance and an economic standpoint.", "Last year, our team, they continue to really delineate our core areas. They completed about 50 wells, and half of those exceeded our double premium threshold. So we're really encouraged by that. On top of that, we also brought on multiple record wells in the basin, both in the Niobrara and the Mowry formations, all doing this while reducing our cost year over year by about 10%.", "So the one thing that we really look at with the Powder River Basin is it's a little bit more geologically complex compared to our other basins. So it's really important that we operate at the right pace, and we don't outrun our learnings. So looking forward kind of to 2022, we plan on maintaining a similar amount of activity. And as our team up there really high grades our acreage, refines our well spacing and strategically builds out our infrastructure, we really expect the Powder River Basin asset to be able to increase activity in 2023 and beyond." ] }, { "name": "Leo Mariani", "speech": [ "OK. No, that's helpful for sure. And then, if I can just take another crack at the kind of exploration. So I certainly noticed that you guys are spending about, if my numbers are right, about $100 million more on some of these U.S.", "plays here in '22, and you clearly talked about drilling more wells. I guess a common question I hear from investors out there is it's been a number of years since EOG has kind of announced the strategy, and I guess we'd kind of get to see a new significant U.S. oil play for the company. I know these things are hard to predict, but if I had to just kind of look at a high-level time line, I mean, do you think that's likely in '22 or maybe '23? I mean anything you can kind of say from a high level to get people some assurance that maybe these are progressing?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Leo, what I'd say is it's just really hard to predict, and I'd hate to commit to something to lead you down the wrong path. I might point to historically, we did some early drilling in the Powder River Basin, and it was a number of years before we felt comfortable. We've gotten that to a point where we want to talk about it publicly in a big way.", "And then, the same with Dorado. I know there was a lot of speculation as to our Austin Chalk exploration program for a number of years. And as you can see, we waited until we had some long-term production and felt confident as to what we had there before we started really talking about it publicly. The current exploration program was definitely slowed down, even maybe a little bit more than we anticipated during the pandemic.", "It was just a little more difficult even to get leasing done and things of that nature. As we talked about in 2021, the plays coming out of the pandemic had really started to move it kind of various paces or various rates. Some of the wells last year that we drilled were the initial wells in these plays. In other prospects, some of the wells, we're really testing a little more delineation, repeatability, more appraisal.", "Because again, like I said, almost more than an exploration program, what we're trying to find is not just oil. That's not necessarily the most difficult thing anymore. It's really, as you guys can appreciate, trying to find low-cost barrels, barrels that are additive to what not only we have already discovered but what the industry has really discovered. What the world wants is access to lower-cost barrels, and that's what we're searching for.", "And so, it takes a little bit longer to be able to really get the appraisal on these and make sure that these opportunities are really going to be additive, again, to the quality of our inventory." ] }, { "name": "Leo Mariani", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. The next question today comes from Jeanine Wai from Barclays. Please go ahead. Your line is open." ] }, { "name": "Jeanine Wai", "speech": [ "Hi, good morning, everyone. Thanks for taking my question. Our first question is maybe just back to the double premium. You added 700 new net double premium locations in 2021.", "And were these additions spread out across your plays? Or are they concentrated in, maybe one or two of them? And where do you see the most runway for future conversions?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Jeanine. Thanks for the question. This is Ken. We added double premium locations over a number of our active premium plays, really in line with where we drilled our wells last year, mainly in the Permian and the Eagle Ford.", "And this is really just an example of our culture where we're working to get better, continuing to lower well costs while focusing on increasing the recovery is what leads to significant increases in returns and really allows us to convert wells to premium and double premium through time. And our goal is to always replace at least as many double premium locations as we drill every year." ] }, { "name": "Jeanine Wai", "speech": [ "OK, great. Thank you. Maybe our second question, maybe one for Tim or Ezra. In the past, I think if memory serves me correctly, I think you've commented that after you pay off the 2023 notes that you don't really have a desire to pay down any further debt.", "I just wanted to check in if that was still the thinking? And I think we're just really looking for a little bit more color on how you decided that $1 per share for the special this time around was the optimal level? Thank you." ] }, { "name": "Tim Driggers", "speech": [ "Yeah. This is Tim. No, we have not announced any intention of paying off more bonds as they become due. We'll continue to evaluate that as we go forward, but we -- that did not figure into the dollar.", "The dollar was a way of giving back just meaningful amount of cash to the shareholders in this period. And as we said, that's a backward-looking thing, not a forward-looking thing." ] }, { "name": "Operator", "speech": [ "Thank you. Our final question today comes from Neil Mehta from Goldman Sachs. Please go ahead. The line is yours." ] }, { "name": "Neil Mehta", "speech": [ "Thank you very much. I know EOG has developed some more internal macro forecasting capability. And I'd just be curious on your views on U.S. shale production in the United States.", "How are you guys thinking about it, entry to exit U.S. oil growth? And talk about the moving pieces ranging from what you're seeing from your competitors in the private market to services constraints such as pressure pumping, your thoughts on U.S. growth would be valuable." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Neil, I'll add a bit of an overview, and then maybe I'll hand it off to Billy for some more details for you on the activity side. But in general, when we think about the growth forecasts that are out there and have been publicly discussed, we're probably a bit more on the lower end in general on the crude and condensate side. And the reason for that is I think you're seeing commitment from the North American E&P space to remain disciplined and then you couple that with some of the inflationary and supply chain pressures.", "And we think the U.S. is definitely going to face some headwinds in growth on this year. And I think Billy can provide a bit more details on it." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Neil, this is Billy. I'm sure you've heard the same comments from many of our peers about the supply chain constraints in the industry is seeing across all the sectors, certainly on the drilling rig side, there's certainly most of the active super-spec rigs are being -- are deployed and active today. There's not a lot of new pieces of equipment that can come into the market.", "The same is true on the frac side of the business, most of the good equipment is already under employment today. And then, bringing in new fleets, both on the drilling side and on the frac side, is challenged also from the standpoint of attracting labor to the market. So there's a lot of headwinds to try to -- for the industry to try to ramp up activity and grow production this year. So it will be probably viewed as maybe a transition year also in that light.", "And hopefully, the industry can strengthen and get better on a go-forward basis. But this year is going to be a challenging year from that side." ] }, { "name": "Neil Mehta", "speech": [ "And then the follow-up is around natural gas, both U.S. and global. A lot of moving pieces, obviously, right now from a geopolitical standpoint, but the most of the industry has been of a lower-for-longer U.S. natural gas view.", "Do you see that evolving as we have more LNG linkage into the global market? If you think about global gas, especially in light of your announcement with Cheniere, do you see a structural change in this market until Qatari supply comes on mid decade?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. Neil, this is Ezra. In general, what I would say is the U.S. has discovered a very vast supply of natural gas and it's important that we get that gas offshore and into the global market for some of the reasons that you talked about now, not only geopolitical, but just developing nations, so on and so forth.", "And that's one of the reasons where we're so glad to partner and continue to take out some of our LNG. For us, the way we think about the natural gas globally is really it's going to be a cost of supply. And we say that we want to be the low-cost producer, and that might sound like we're talking about oil dominantly, but that goes for gas as well. And it's one reason we're very excited about our Dorado prospect.", "We think it competes in North America, it's basically the lowest cost of supply, especially because of its geographic location, close to so many marketing centers, including the Gulf Coast. So we're very excited and very fortunate to have it. And I think the U.S. is going to continue to be, in the long term, a significant player in the global gas supply." ] }, { "name": "Operator", "speech": [ "Thank you. This concludes today's Q&A session. So I'll now hand the call back to Mr. Yacob." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah. We want to thank everyone for participating on the call this morning, and we want to thank our shareholders for their support. As we said, EOG had an outstanding performance in 2021, and we're poised for an up great year in 2022. And it really comes down to our employees.", "Our employees are the keys to our success, and it's why I'm convinced are to being one of the lowest cost, highest return and lowest emissions energy suppliers that can play a significant role in the long-term future of energy. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2020-11-06	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Bernstein Research -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Northland Securities -- Analyst", "name": "Subash Chandra", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Sankey Research -- Independent Analyst", "name": "Paul Sankey", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, and welcome to the EOG Resources third-quarter 2020 earnings conference call. [Operator instructions] Please note this event is being recorded. I would now like to turn the conference over to Tim Driggers, CFO. Please go ahead." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. We hope everyone has seen the press release announcing third-quarter 2020 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call.", "This conference call also contains certain non-GAAP financial measures. Definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures, can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call or in the accompanying investor presentation slides may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S.", "investors that appears at the bottom of our earnings release issued yesterday. Participating on the call this morning are Bill Thomas, chairman and CEO; Billy Helms, chief operating officer; Ken Boedeker, EVP, exploration and production; Ezra Yacob, EVP, exploration and production; Lance Terveen, senior VP of marketing; and David Streit, VP, investor relations and public relations. Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. Our third-quarter results underscore EOG's unique ability to organically create sustainable shareholder value through the commodity cycle. Along with substantial cost reductions and solid earnings results, we announced Dorado, our new premium South Texas natural gas play. We also introduced a three-year reinvestment and production outlook.", "First, I want to highlight our stellar execution this year, then provide some context on our capital allocation and three-year outlook. We continue to make rapid and sustainable improvements to our cost structure and capital efficiency through innovation while also improving the quality and size of our premium portfolio through exploration. Our results show we can invest in both innovation and exploration to improve the company while also generating significant free cash flow, improving the balance sheet, and protecting the dividend. Capital spend for the third quarter was $2.7 billion, over $300 million less than our revised plan had forecasted.", "In the third quarter, we substantially beat our cash unit cost targets, as well as each of our oil, NGL, and natural gas production targets. As a result, we have generated more than $930 million of free cash flow year to date, already more than enough to cover the full-year dividend. Our 21 Tcf Dorado natural gas play announced yesterday is a great example of EOG's ability to identify and capture high-quality rock and add substantial premium inventory to our organic exploration efforts. We believe Dorado will be one of the lowest-cost and lowest-emission natural gas plays in the U.S.", "with advantaged access to both domestic market hubs and international market via LNG. EOG has a long and successful exploration history, and we continue to be excited about the potential of our current exploration portfolio. I'm incredibly proud of EOG employees' performance during this pandemic. They remain highly motivated and have demonstrated EOG's return-focused culture by improving the company at a record pace in a volatile environment.", "We will emerge from this downturn an even stronger company, positioning EOG to excel through the commodity price cycles. Yesterday, we also introduced a three-year outlook. The goals of disclosing this outlook are to provide more transparency into our capital allocation process and meaningful visibility into the next three years, particularly given the ongoing level of uncertainty in the oil and gas market. Our capital and growth profile optimizes the total shareholder value of the company through the cycles.", "Our strategy remains dynamic, and our operations are flexible enough to adjust our spending to match market conditions. At the bottom of the cycle, as we find ourselves today, we have no interest in growing oil into an overbalanced market. In an improved market, our disciplined growth strategy compounds the benefits of growth and continuous operational improvements to optimize returns and free cash flow potential and maximize long-term shareholder value. EOG represents a full-cycle investment opportunity.", "At lower prices, EOG is clearly a sustainable business. Maintenance capital and the dividend can be funded with oil in the mid-30s. In a more constructive market, EOG has significant leverage to higher oil prices through high-return reinvestment and significant incremental free cash flow. EOG has a unique business model in our industry.", "We approach this business differently, which has become more apparent than ever with recent industry developments. First, the state of recent M&A activity stands in contrast to one of our most distinctive competitive advantages, organic exploration. Capturing high-quality rock is the primary way of improving the quality of our premium inventory. It's how we create more value than our competitors.", "Our newest play in Dorado is a prime example. It's great rock in a great location, and that's a resource you can't buy through M&A. Second, we're decentralized. Value is created in the field, not at headquarters.", "The exploration idea behind Dorado emerged bottom-up from one of our eight operating areas. In fact, perhaps for the first time in our history, every one of our eight areas has significant potential for premium plays, plays that, if successful, will add to the top of our inventory, not the bottom. Third, the improvements we're making are sustainable. The No.", "1 source of our cost reduction this year is from innovation, not cyclic service price reductions. Once again, that's the power of our decentralized organization. It's an innovation incubator and a driving force behind EOG's leading performance. Fourth, we execute our operational plans reliably and consistently.", "This year, we worked hard to provide transparency in our operations by providing guidance throughout one of the most volatile periods in the industry's history, and we've delivered on our plan. Fifth, performance drives our ESG efforts, not PR. We believe the demand for oil and natural gas will gravitate toward the most efficient producers, the most efficient from a capital perspective, and the most efficient from an emissions perspective. Our goal is to be part of the long-term global energy solution while generating strong returns for our shareholders.", "Finally, and most importantly, we believe we have the most talented and motivated employees in the industry. We've not laid-off employees, and we've empowered our workforce by leveraging our robust information technology infrastructure to support collaboration and innovation. Our employees and culture are a massive competitive advantage during these unusual times. And we're not standing still.", "Our relentless drive to improve means that this is just a starting point. We are confident that we will continue to improve performance through the development of new plays like Dorado, further cost reductions, and well productivity improvements. We're excited about the future of EOG. Now, here's Tim." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Bill. Our goal is to maximize shareholder value through the cycles. We measure our progress against a number of metrics: return on capital, free cash flow, sustainable dividend growth, operating cost, and finding cost and financial leverage. We create business value through a balanced approach that maximizes returns, as well as the current and future free cash flow generation.", "It's an integrated optimization exercise, not a simple formula. Reinvestment ratios and growth rates are outputs of this exercise. Our three-year outlook provided this quarter addresses the currently oversupplied market and assumes gradual improvement over the next three years. Our plan each year is based on conservative price assumptions.", "The pace of activity is optimized to generate high returns on incremental capital, increased return on capital employed, support improvements in operating efficiencies and technical advances, and fund our free cash flow priorities. That said, our outlook is just that, an outlook. We have operational flexibility to adapt quickly to changing supply demand conditions. At $50 oil, reinvesting 70% to 80% of discretionary cash flow generates up to 10% oil growth with significant free cash flow.", "At higher prices, we would expect to maintain this optimal level of activity and production growth, while returns and free cash flow expand significantly. But why grow at all? And how is the optimal growth rate determined? Volume growth drives higher ROCE, free cash flow potential, and the fundamental driver of a growing sustainable dividend. Reinvesting in high-return wells with low operating and finding costs improves the company's recycle ratio, expanding our return and cash flow leverage. We have determined the optimal growth rate from our current assets through 2023 is about 8% to 10%.", "This pace of activity and growth maximizes the operational and capital efficiency of our current premium inventory. Due to the short payback periods of our investments, capital invested today is quickly recovered by free cash flow in the future. Relative to a lower growth scenario, the value of the additional cash flow we earn after the third year of our outlook far outweighs the incremental reinvestment to support our 8% to 10% plan. The proof is in our performance.", "During 2017 to 2019, EOG improved our return on capital employed, improved our return of capital through the dividend, reduced debt, and grew production while reinvesting less than 80% of discretionary cash flow at $58 oil. Reinvesting at high returns and growing production the last three years is the reason we believe EOG will generate more free cash flow over the next three years at $50 oil than we did at $58 oil. Sustainable dividend growth is our highest priority for returning cash to shareholders. It is a stream of cash flow that clearly demonstrates our confidence in the resiliency of our financial model and reinforces capital discipline.", "Strategically, free cash flow generated from higher oil prices should be at least partially directed to shoring up the balance sheet to preserve financial flexibility for future downturns. Value preservation and value creation are two sides of the same coin when it comes to managing the balance sheet in a capital-intensive cyclical industry. This year has demonstrated the value of a strong balance sheet like no other, and we worked hard to maintain our financial strength. Cash at the end of the third quarter was $3.1 billion, offsetting total debt of $5.7 billion for a net debt to total capitalization ratio of 12%.", "We remain committed to pursuing our objective to strengthen our balance sheet further during upturns. Beyond the regular dividend and debt reduction, we regularly review performance scenarios that may present options for additional cash return to shareholders. We haven't ruled out buybacks or a variable or special dividend, and we'll consider all options for additional return of cash to shareholders when the opportunity presents itself. Next up is Billy to review our operational performance." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. During the third quarter, we exceeded our volume expectations across the board while spending well below our forecasted capital. The capital savings were largely attributed to achieving our 12% well cost-reduction target for the year. Our expectation for full-year capital expenditures remains $3.4 billion to $3.6 billion.", "The savings provided by our well cost reductions allows us to increase activity and exit the year near the level required to maintain production through 2021. Savings will also be used this year to invest in future value drivers for the company. Our organic exploration program is as active as ever, and we are optimistic we can capture additional acreage at competitive pricing. That will further improve the quality of what we believe is already one of the best portfolios of assets in the industry.", "Finally, we are excited to initiate a number of infield innovations to improve our environmental performance. These projects have the potential to both reduce future emissions and improve efficiencies to generate a healthy return on capital. In the third quarter, cash operating costs, which includes LOE, transportation, and gathering and processing expenses were 13% below target. LOE savings were generated across the board as we have streamlined our lease-up key practices and other facets of our production operations.", "We track about 100 different categories of LOE spending, and 94 of these were flat to down in the third quarter compared to the second quarter on a per-unit basis. We are excited about the steady improvements we continue to make. I am confident that most of the capital efficiency gains and operating cost reductions we are making this year will sustain into 2021. With current oil market fundamentals, we plan to maintain flat oil production in 2021 at about 440,000 barrels per day, which is where we expect to exit the fourth quarter this year.", "Capital required to maintain fourth-quarter production throughout the year is about $3.4 billion. Due to sustainable cost reductions achieved this year, maintenance capital and the current dividend can now be funded with oil in the mid-30s. If oil prices allow, additional funds will be allocated to, one, balanced activity across all of our premium plays, including our new South Texas gas play, Dorado, and the Powder River Basin; two, fund infrastructure investments that further improve our cost structure, increase water reuse and reduce emissions; and three, advance both our domestic and international exploration opportunities. At $40 oil, we can meet all of these priorities while spending within 80% of discretionary cash flow and comfortably funding our dividend.", "In late September, we published our 2019 sustainability report that details a number of step-change improvements to our performance on emissions, flaring, water use, and safety. We reduced our total greenhouse gas intensity rate more than 15%, improving emissions efficiency across all significant sources. For the second year in a row, we reduced our methane intensity rate 45%, thanks to an effort to retrofit and remove pneumatic controllers and pumps in the field. We continue to find opportunities to reduce flaring.", "Our wellhead gas capture rate improved to 98.8% last year, and we are on track to be over 99% this year. Freshwater volumes used in our operations declined nearly 30% as a result of significant expansion of our water reuse capabilities. And most importantly, our safety rates, both total recordable incidents, and lost time incidents improved significantly. The goal of preparing this report every year is to clearly demonstrate how our ESG efforts are integrated into our strategy, planning, and operations.", "In this year's report, we want to step further with our commitments. We established longer-term targets for greenhouse gas and methane rate reductions. We have also set annual goals to reduce emission rates, which are tied to executive compensation. At EOG, our approach to ESG is performance-based.", "While we are committed to enhancing disclosure of our policies and metrics that are important to our operations, we evaluate the success of our ESG efforts by performance and performance improvement. And just like every other area of our operations, we drive performance improvement through innovation. New ideas are coming from every corner of the company, driven by passionate employees who are excited about the opportunity to invent new ways to lower emissions, reduce our freshwater use and make a stronger positive impact in the communities where we live and work. Finally, I want to thank our employees for maintaining focus in a volatile year.", "We have significantly reduced both well cost and cash unit operating cost. We kept a close eye on our environmental and safety performance. In fact, the trend indicates we will once again improve wellhead gas capture rate and safety rates this year. Constant experimentation, exceptional companywide collaboration, and a no-limits mindset are why I'm confident EOG will continue to lead the industry on performance and technology.", "Here's Ken to provide details on our newest play, Dorado." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. We're excited to announce a major new natural gas discovery in the Western Gulf Coast Basin. Located in South Texas Webb County, we've named this discovery Dorado. With a breakeven cost of less than $1.25 per Mcf, we believe this play represents the lowest cost supply of natural gas in the United States.", "We have identified an initial resource potential of 21 Tcf net to EOG in the Austin Chalk and Lower and Upper Eagle Ford formations. Both targets display premium level economics. At Henry Hub prices of $2.50 per Mcf, Dorado competes directly with our premium oil plays. This play is a textbook example of how our exploration program is focused on adding to the top of our premium well inventory, elevating the overall quality of our assets.", "We first identified the potential of the Austin Chalk formation as an oil play on top of our Eagle Ford footprint back in 2016. We have since completed about 100 gross Austin Chalk oil wells in that area, capturing 59 million barrels of oil equivalent of reserve potential, net to EOG. Shortly following that discovery, we began evaluating the Austin Chalk formation in the Gulf Coast Basin and identified its potential as a dry natural gas play in Webb County. Our current 163,000 net acre position is a combination of legacy acreage and new acreage captured through low-cost organic leasing, trades, and a bolt-on property acquisition.", "We believe our position covers the majority of the sweet spot of the play. We completed our first two wells in Dorado in January of 2019, targeting the Austin Chalk in the Eagle Ford. To further delineate the play and collect more data, we completed 15 more wells over the remainder of 2019. We paused our drilling activity during 2020 to evaluate both the production results and the significant amount of technical data we collected from cores, petrophysical logs, and 3D seismic surveys.", "This data, including a year's worth of production history from our drilled wells, has generated a robust reservoir model, giving us confidence in our resource estimates and projections for well performance. We are leveraging our proprietary knowledge built from prior plays to move quickly down the cost curve with our initial development. We currently estimate a finding cost of $0.39 per Mcf in the Austin Chalk and $0.41 in the Eagle Ford. Combined with EOG's low operating costs, an advantaged market position located close to a number of major sales hubs in South Texas, access to pipelines to Mexico, and several LNG export terminals, Dorado is in an ideal position to supply low-cost natural gas into markets with long-term growth potential.", "Dorado is dry gas with close proximity to multiple markets. Therefore, we expect Dorado's gas will have a lower carbon footprint than most other onshore gas plays in the U.S. In addition, the recently formed Sustainable Power Group we introduced last quarter is leveraging companywide expertise to build out an operationally efficient and low emissions field. As we expand development of Dorado into a core asset, we expect it will help lower EOG's companywide emissions intensity rate.", "In 2021, our preliminary plan is to turn about 15 net wells to sales, with initial development targeting the Austin Chalk. Eagle Ford development, where we are expecting lower drilling and completion costs, will follow. The Eagle Ford utilizes a lower cost wellbore design optimized to a more forgiving drilling environment compared to the Austin Chalk. In addition, we can leverage water and gas gathering infrastructure put in place for the Austin Chalk.", "We will evaluate the capital allocation to the South Texas gas play each year based on market conditions. Dorado adds 1,250 net locations on fee acreage to our premium inventory, with 530 of those from the Austin Chalk and 720 from the Eagle Ford. These new premium Dorado locations, along with approximately 150 new locations from other premium plays, make up the 1,400 new net premium locations added in 2020, replacing 3x what we drilled, and more importantly, improving the overall quality of our portfolio. The number of wells in our premium inventory that have returns of 30% or more at $30 oil and $2.50 natural gas has now increased from 4,500 to 6,000 wells.", "We also divested the remainder of our Marcellus Shale position during the third quarter for proceeds of about $130 million. The sale of this non-core sub-premium asset will fund much of Dorado's development capital next year and upgrades the quality of our gas portfolio. This is a great example of how EOG's organic exploration strategy and disciplined capital management creates significant shareholder value. Now, I'll turn it over to Bill for concluding remarks." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Ken. In conclusion, I'd like to note the following important takeaways. Number one, EOG continues to significantly lower cost, operating costs, and well costs with sustainable technology and efficiency gains. The company will emerge from the downturn a much lower-cost company.", "Number two, our organic exploration effort delivers another significant industry-leading play. We believe EOG's Dorado and natural gas play will be one of the highest margin and lowest emission gas plays in the U.S. Dorado is an example of how our robust exploration portfolio will continue to lower the cost structure and improve the future capital efficiency of the company. Number three, our multiple year outlook is designed to deliver industry-leading financial performance and free cash flow.", "It's a balanced strategy that maximizes total shareholder value through the cycle. EOG represents a full-cycle investment opportunity with significant leverage to higher oil prices. Number four, EOG is a leader in innovative initiatives to lower GHG and methane emissions. Every aspect of ESG is embedded in and driven by EOG's talented and return-focused culture.", "New ideas are coming from every corner of the company, driven by passionate employees who are excited about making our environment and communities a better place to live. EOG is committed to being a leader in the future of energy. And finally, EOG's third-quarter results demonstrate our unique and sustainable organic business model, whether it's exploration, operations, information technology, or ESG performance. Our culture-driven value creation throughout the company has never been better.", "EOG's ability to maximize long-term shareholder value through the cycles has never been stronger. Thanks for listening. Now, we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question comes from an Arun Jayaram, pardon me, with JP Morgan. Please go..." ] }, { "name": "Arun Jayaram", "speech": [ "[Audio gap] about your 2021 outlook and how you're thinking about the incremental investments that you highlighted on the slide beyond the $3.4 billion sustaining number. And any preliminary thoughts on mix as it does sound like you'll be shifting some activity among the premium plays to the PRB and Dorado?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Thanks, Arun. I'm going to ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Good morning, everyone. Just to make sure I understood your question, I guess for the 2021 outlook, our maintenance capital, as we've stated, was about $3.4 billion. We are likely to evaluate.", "It's early yet to say what our capital might look like next year, but we'll certainly do the same as we always have. We'll allocate it based on our outlook at oil prices at the beginning of the year, of course. And as we move into that year, we have certainly a lot of flexibility to allocate between our different plays. So as we mentioned in the prepared remarks, we can fund our maintenance capital and our dividend down to oil prices in the mid-30s.", "So as we see oil prices moderate, either above that level or wherever they might be, we'll have flexibility to allocate capital to our new play, Dorado and the Powder River Basin, as we explained in our prepared remarks." ] }, { "name": "Arun Jayaram", "speech": [ "OK. Fair enough. But you did say, Billy, at $40 oil, you could reinvest 80% of -- or have an 80% reinvestment rate and cover the dividend and some of these incremental investments. Is that --" ] }, { "name": "Billy Helms", "speech": [ "Yes, that's true." ] }, { "name": "Arun Jayaram", "speech": [ "Is that fair?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Well, I'm sorry. We missed the first part of your question, so I apologize." ] }, { "name": "Arun Jayaram", "speech": [ "No problem, no problem. And just my follow-up, maybe for Tim. EOG has historically been pretty conservative on the oil and gas prices that underpin your outlook. So some question from investors on just the rationale for using $50 per barrel.", "I know it is a bit longer term but which is quite a bit above the strip. And maybe if you could help sensitize those future growth outlooks, if we assumed, call it, a $40 to $45 WTI-type number?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Arun, this is Bill. Yes, the outlook, $50 is how we ran the model to determine how to optimize the company and what the most important parameters are. But I wouldn't get too hung up on $50.", "Whether it's $45 or $50 or $55, the fundamentals of the outlook stay the same. We're focused on returns. The first thing that we have to determine each year are the market fundamentals. Is the market still in an overbalanced situation? If it still is, we don't want to force oil into that situation.", "But if it's a balanced market, and it turns out at $45 oil, certainly, we believe the 8% to 10% growth rate, the reinvestment rate of 70% to 80%, the focus on optimizing returns and compounding the growth with operational improvements and margin improvements and maximizing current and future free cash flow and doing all that to maximize the total shareholder value of the company. And so the guidelines really apply to almost any price that would be in a balanced market." ] }, { "name": "Arun Jayaram", "speech": [ "Great. Thanks, Bill." ] }, { "name": "Operator", "speech": [ "The next question comes from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. Just wanted to kind of ask a couple of things just surrounding Dorado. If memory serves me correctly, this seems to be kind of EOG's first kind of major foray into a gas play, probably harkening back to sort of the 2003, 2004 time frame, where, I think, you guys made a concerted effort to kind of move more to oil plays based on the macro, which was certainly the right decision over that period of time. Just wanted to get a sense, are you guys sensing that there may be some shifting macro-dynamics on the gas side, which can make the Dorado play something that becomes a lot more meaningful in the years to come? You guys did outline 15 wells for 2021, which in the grand scheme of things, given EOG's size, doesn't seem like a big number.", "I just wanted to kind of get your sense on how that can play out over the next few years." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Leo. I think the first thing is we've had a premium price deck. It's based on $40 flat oil and $2.50 flat gas prices. And so any kind of play that would have premium economics, 30% rate of return at those flat prices, that's OK with us.", "We're not particular on the commodity, whether it's gas or oil or even a combo play. So that's the first thing. And then the second thing is, yes, we do believe that gas has got a prominent future in the future energy supply. There's no doubt about that.", "And this play just happens to be, we believe, one of the best play, the best play, probably dry gas play, onshore U.S. It is a fantastic play, and it's really driven primarily through the extremely high rock quality of the Austin Chalk. And so it fits everything we're looking for in the company. It upgrades our portfolio.", "It gives us more exposure to gas going forward. It gives us a lot of optionality in the future to switch capital between types of plays as commodities prices might vary a little bit. But all of it is based on our premium price deck, $40 flat, and $2.50 flat gas, and this one certainly generates super high returns at $2.50 flat gas." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's great color. And just focusing on third quarter for a second. It certainly looks like EOG beat production guidance pretty handily, but it did also look like that the shut-ins that you had were actually slightly higher than you projected for the quarter.", "So just wanted to get a sense of what kind of drove the better-than-expected third-quarter production performance." ] }, { "name": "Bill Thomas", "speech": [ "Billy?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo, this is Billy. So, yes, the outperformance is really driven by, and you touched on it there, the shut-in wells, bringing those back on production. As we brought the wells back on production that had been shut in for some time, we exhibited some amount of flush production from those wells as we've talked about before. And then the second part of that is we did start bringing on a few newly completed wells, and those outperformed our type curves.", "So that's really kind of what drove the two parts of our beat on the volumes." ] }, { "name": "Leo Mariani", "speech": [ "OK. Thanks for the color." ] }, { "name": "Operator", "speech": [ "The next question is from Brian Singer with Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning. I wanted to ask on the maintenance capital of $3.4 billion. This is the number you've been talking about for the last couple of quarters, and I think you were a bit more upfront.", "And I think it was Slide 8 of talking about in an ideal world, some of the potential other additional investments you want to fund. And I wondered if you could kind of quantify what those would represent, the ESG exploration, cost structure improvements, and balancing activity, how much is a normal level of spending there? And then potentially to offset that, I think you've talked in the past that cost savings and efficiencies and cost reductions for the last couple of quarters are not included in the $3.4 billion. What would that represent based on today's cost structure?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Good morning, Brian. This is Billy. So our $3.4 billion maintenance capital, you're right.", "You are correct. It does not anticipate any improvements in our cost structure on a go-forward basis. It's based on our current existing cost. So that's the first thing.", "And then as far as the amount of capital over and above that, as we go into the year, I think we're trying to provide a little bit of a framework on how we would think about allocating capital. As we look into next year, based on the outlook for oil prices, we're just looking at merely maintaining our exit rate in the fourth quarter into next year. So if oil prices moderate above or below where they are today, we'll look at how much money we can spend on these types of other projects, the infrastructure or exploration-related activities or ESG-focused projects in relation to what that oil price indicates and stay within our guidance of spending certainly within a 70% to 80% of our discretionary cash flow. So that's kind of the outline, the framework.", "So it's a little bit early to speculate on what that magnitude of that dollar might be." ] }, { "name": "Brian Singer", "speech": [ "Got it. Thanks. And then my follow-up is with regards to the exploration portfolio. And if we look at the plays you've announced in recent quarters, Trinidad and this, the Dorado play, they've been more natural gas-focused.", "And I wondered if you could characterize the exploration optimism from here or at least the exploration portfolio from here on oily versus wet gas versus dry gas plays and how you see that playing out over the next year or two." ] }, { "name": "Ezra Yacob", "speech": [ "Yes. Brian, this is Ezra. Good morning. Thanks for the question.", "I think as Bill highlighted, really, what we start with that exploration program, our focus right now is to find plays where we can capture the sweet spot acreage positions in those plays. And we're looking for plays that are really going to be additive to the front end of our inventory. So as we've talked about -- we've got multiple exploration plays we're currently evaluating. And we just don't want to build a deeper inventory but really strengthen that inventory.", "And if we look at what we've done this year, the minimum rate of return on our 11,500 premium well inventory generates a 30% direct after-tax return at $40 oil and $2.50 flat natural gas price. But in this year's program, we've illustrated the significant value of focusing on the top end of our inventory. We've delivered lower well costs and production outperformance and high-grading our investment criteria to focus on the upper half of that inventory. And so said another way, our 60% premium rate of return median well inventory will pay out approximately twice as fast as a 30% rate of return well.", "And so our emphasis on organic exploration has always been a key to our success, and it continues to be how we sustainably replace what we drill every year in our inventory. The Austin Chalk announcement today, I think, provides a very good example of what a higher rock quality can do in this exploration effort. The Austin Chalk is really more of a hybrid play, so it shares characteristics of unconventional and conventional reservoirs. And when we apply our technology, our data collection on core and log to really identify the sweet spot landing zones that will react very well to our horizontal completions technology, that's when we really get excited and see the power that these hybrid plays can add.", "As we translate that into oil plays, we expect a very good outperformance with these hybrid zones. And we should be able to see a shallowing decline profile and lower finding and development costs as we move forward into those." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Jeanine Wai with Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Good morning, everyone. Thanks for taking my questions. My first question is on the base decline.", "I think in the 2022, 2023 outlook, you now anticipate that BOE growth will outpace oil growth. And I think some of that is related to Trinidad and Dorado, but how does the oil base decline trend in your 8% to 10% per year growth rate scenario? And is that level of growth enough to kind of allow the base to moderate?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Hi, Jeanine. I'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes. Good morning, Jeanine. Yes, I think you're correct. The base decline from the oil properties is moderating over time.", "That's a function of really the activity levels this year but also the quality of the inventory that we're bringing to production. The better-quality rocks just simply have a lower decline over time. So it's really those two things that are helping to moderate the oil base decline. And certainly, the outlook that we have with our maintenance capital is sufficient to maintain that on a go-forward basis." ] }, { "name": "Jeanine Wai", "speech": [ "OK. Great. That's very helpful. Thank you.", "My follow-up question is maybe dovetailing on a few of the other ones about the other capex that is going to be included in the 2021 outlook. So on the potential investments on Slide 8 that you list, we know that the amount of capex will depend on the headroom that you have in oil prices. I think I heard you say that previously. But can you comment on how that 2021 amount might compare to prior years? But I guess, more specifically, how much of that other capex is really embedded in that $50 2022, 2023 outlook? Thank you." ] }, { "name": "Billy Helms", "speech": [ "Yes. Jeanine, this is Billy again. You're right. The level of how much we spend on those different categories will certainly depend on the oil price.", "And I'd say there is some amount of that baked into the $50 estimate in the outer years, but it's not a major portion of our capital spend. So I'd say it's in keeping with what we've done in the years past." ] }, { "name": "Jeanine Wai", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is from Bob Brackett with Bernstein Research. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Hi. Good morning. You've gone quite down dip in Dorado. And those 9,000-foot laterals imply some of these wells are approaching 4 miles measured depth, and so it seems cost control is absolutely critical.", "Is there some innovation there to share with us?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Bob, I'm going to ask Ken to comment on that." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Bob, this is Ken. We have a significant history of developing the Austin Chalk in addition to the Eagle Ford, up-dip in the oil window. So we've also had 17 wells that we've drilled in that area that have provided excellent results. And we haven't had many drilling issues or completion issues to deal with.", "So keeping the costs in those areas are anticipated to be what we've shown right now in our 2021 program. So it looks like we have a very, very good confidence that we'll be able to generate those returns we've shown that are competitive with our other premium oil plays at $2.50." ] }, { "name": "Bob Brackett", "speech": [ "So I'll do a combo follow-up. So it's not sort of managed pressure drilling, say, like the Powder River. And then my follow-up would be, you mentioned domestic and international exploration activities in that seriatim that people keep referring to. Could you remind us of what is included in the international bucket?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes. Bob, this is Ezra. On the international front, I'd highlight, we did just recently wrap up our recent drilling campaign in Trinidad with some additional outstanding results. We highlighted some of the discoveries on the last call.", "But I'd follow-up and say our most recent completion, a well off the Oilbird platform came on in the third quarter at over 60 million cubic feet a day of natural gas with an additional 2,500 barrels of condensate per day. We brought on a well off of our Kitscoty platform that's cleaning up right now, its flowback rates of approximately 30 million cubic feet per day of gas. And so we continue to be excited about the discoveries that we made during this campaign and look forward to sharing future results from this high-return asset. And then also during the third quarter, we entered into the country of Oman with the acquisition of about 4.6 million net acres in Block 36.", "Block 36 is in the southwest portion of the country. It's located in the Rub Al Khali basin, which is a well-known hydrocarbon-bearing basin. And we've been looking really outside the U.S. for the right opportunity to apply our expertise in tight oil development, and we view Oman is really offering that.", "They offer a very low geopolitical risk, and they offer access to competitively priced oilfield services and equipment that we think is going to be required to make tight oil successful. And so as part of the agreement, we plan to drill two test wells in the next two years to evaluate the potential of the acreage. And we're very excited about the low cost of entry in Oman and the option to evaluate a basin with significant potential upside. And I think maybe Ken could add some color in addition to that." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. I wanted to clarify something, Bob. When you talked about managed pressure drilling like the Powder River Basin, we are doing managed pressure drilling like the Powder River Basin in Dorado, but we have a significant amount of experience doing that across several plays in the company." ] }, { "name": "Bob Brackett", "speech": [ "Great. Thanks for all that." ] }, { "name": "Operator", "speech": [ "The next question comes from Subash Chandra with Northland Securities. Please go ahead." ] }, { "name": "Subash Chandra", "speech": [ "Yeah. Hi, everybody. Just doing some, I guess, bar napkin math using your decline rates and the dollar for flowing capital efficiency calculation. I'm coming up with, I don't know, maybe around $5 billion for what capex requirements are for 10%-type oil growth.", "Do you think I'm in the right ballpark there?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Subash, this is Billy Helms. It's a little premature to maybe give out a directional number, but I think you can approximate. With the data we've given you, I think you can derive some pretty close estimates. I'd say you're probably not too far off the right numbers." ] }, { "name": "Subash Chandra", "speech": [ "OK. Great. Thanks. And then secondly, just on dividend decision.", "I guess the next one comes up early part of the new year. I'm just curious, the $3 billion in cash, you talked about having the right balance sheet cushion to ride out the cycles. From a cash perspective, is there a right number that we should be assuming? And should we also assume that the cash does not go into the dividend decision, that the dividend decision is just derived from operating cash flows or free cash flows?" ] }, { "name": "Tim Driggers", "speech": [ "This is Tim. And you're exactly right. It is the operating cash flows that determines a sustained dividend. As far as the $3 billion in cash, we do have a bond coming due in February.", "And currently, we are anticipating being able to pay that bond off with that cash, but we have significant flexibility if the market changes to do whatever we need to do. So we're in a good position to manage that situation." ] }, { "name": "Subash Chandra", "speech": [ "OK. And to ask it a different way, should we assume some sort of minimum cash that you'd want to keep on the balance sheet?" ] }, { "name": "Tim Driggers", "speech": [ "Again, we evaluate it depending on the conditions at the time. So to give you a number, there's not a number I can give you. It all depends on what the stock -- I mean, the price of the commodities are at the time as to how much cash we need to have on the balance sheet and also what our budget is, our capital budget, and how much capital we'll be spending." ] }, { "name": "Subash Chandra", "speech": [ "OK. Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Paul Cheng with Scotiabank. Please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Hi. Thank you. Good morning. Just curious that when you look at the three-year outlook for your capital allocation and the growth target or that the maximum growth ceiling, should we assume that that's also applied for the longer term? And if not, is there any reason that the same will not be applied?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Paul, I think three years with those parameters are a good guide. We did not include any additional well cost, operational cost advancements in those projections. So certainly, we expect to continue to do that.", "We have a very sustainable model of being able to do that. So as time goes on, and certainly, in three years, we expect we'll be a lot better company. So I wouldn't just apply those numbers to what we could do four years from now. I think we're hopeful.", "Through these exploration efforts, getting better rock, and continuing to reduce our costs, we should be a much better company." ] }, { "name": "Paul Cheng", "speech": [ "Well, I'm sure that the company will be operationally much stronger. I'm more referring to that is the ceiling of 10% growth is a variable over the longer term or that is only applied for the next two or three years?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. I think right now, it's just for the next two or three years. We'll just have to evaluate where the company is in the four or five years from now and see where we are." ] }, { "name": "Paul Cheng", "speech": [ "And then my second question is whether it's the Dorado or that your overall capex spending, certainly, that the price signal is important. But with the future strip moving quite substantially from one day to another, so that's probably not a very good indicator or at least, let's say, a forecast vehicle. So what are the factors that you guys are using maybe that's more determinating how you decide on your program for a particular year if the price signal from the future market are unreliable there as we can see?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Paul, I think the first thing is what's the price based on, and that's whether we're in an overbalanced market situation or a balanced market. And we believe there's significant structural changes, obviously, have been going on in the business, particularly in the U.S. with a lot more capital discipline, a lot more return of cash to shareholders.", "They need to work on balance sheet, consolidation, etc. In the international arena, there's been folks that have basically changed their business philosophy, and they're certainly not going to be investing as much in oil in the future. So there's a lot of things that go on in there. And all that leads to -- in the future, certainly, we believe OPEC will be the swing producer, really, totally in control of oil prices.", "So we want to take that in consideration and make sure that the market is balanced. And we've taken all that in consideration as we formulate our plans." ] }, { "name": "Paul Cheng", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "The next question is from Doug Leggate with Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thank you. Good morning, everyone. Bill, I'm really just looking for a little clarification on a couple of the things you've announced today. First of all, the beginning of the year, you talked about your cash breakeven being around $40.", "Second quarter, you said it was a little less than $40. Now, it's dropped to the mid-30s. Can you tell us what's changed there, given that the sustaining capital is still $3.4 billion?" ] }, { "name": "Bill Thomas", "speech": [ "I'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes. Good morning, Doug. It's really the cost structure of the company continues to improve. We continue to drive down our well cost.", "As I mentioned earlier, we've already achieved our 12% cost reduction that we expected throughout the year. And then our unit costs, we've driven down our unit operating costs quite substantially this year. So those combination of things is allowing us to continue to reduce that breakeven cost." ] }, { "name": "Doug Leggate", "speech": [ "Is the gas price a factor, Billy?" ] }, { "name": "Billy Helms", "speech": [ "No, sir, it's really not. It's really driven mainly by the cost reductions, the structural changes we've made and the cost reductions of the company." ] }, { "name": "Doug Leggate", "speech": [ "OK. My follow-up is really, Bill, I hate to do it, but go back to the 10% growth number. I know you've been asked a lot about it today. But I want to put a hypothetical to you.", "So let's assume oil is $50, but it's only there because Saudi is still -- or OPEC+ has still got 7 million barrels off the market. That's not exactly a balanced market. So what does EOG do in that scenario?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Doug, that's exactly right. We would not want to force oil into that kind of situation. We don't want to put OPEC in a situation where they feel threatened like we're taking market share while they're propping up oil prices. So that much commitment by them, that's not a time we would force oil." ] }, { "name": "Doug Leggate", "speech": [ "That's the clarity I was looking for. Thanks so much, guys. I appreciate it." ] }, { "name": "Operator", "speech": [ "The next question is from Paul Sankey with Sankey Research. Please go ahead." ] }, { "name": "Paul Sankey", "speech": [ "Thank you. Good morning, everyone. Guys, could you -- on the Dorado, could you give us an activity and volume outlook to help us with valuation? And given it's an organic success, could you just talk a bit about your perspective on the consolidation that we've seen in the sector from EOG's point of view? Thanks." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Paul, this is Ken. On Dorado's volume and activity outlook, it's a little early to give any volume outlook for 2021 or the future years. We have talked about a 15-well program in 2021 that we should be bringing on some gas early in the year and then toward the second half of the year from there.", "As far as M&A..." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Paul, this is Billy. I'll touch maybe on the M&A question. I think certainly, I think the industry needed to go through some M&A, some consolidation in the space.", "And I think we're certainly supportive of what we've seen so far. For EOG, we've looked at just about every possible combination that's out there. And we certainly understand the financial uplift or the accretion that you might get from a corporate M&A, but we look at that more as a one-time event. And we're really looking -- for us to be entering that market, we would look at the longer-term impact that a possible M&A would have on our current inventory.", "And so we look at the inventory that a company might have in comparison to the inventory we already have or what we're seeing in our exploration program, and we just don't see anything that we need to allocate any funds to at this point in time. Nothing that really meets our objectives. And I guess it just stems from the fact we have such a high level of confidence in our current exploration program, which is mainly aimed at improving the quality of our premium inventory." ] }, { "name": "Paul Sankey", "speech": [ "Thought you might say that, Billy. The follow-up is you've adjusted your framework somewhat here. Could you just talk about your philosophy on hedging the latest -- if anything's changed regarding how you think about hedging? And I'll leave it there. Thank you." ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Paul, thanks. Yeah, we haven't changed our philosophy there. We're always opportunistic.", "We have a very robust rigorous commodity analysis, macro view. We're working all the time. It's quite a rigorous process. So we believe we're not always right, but we believe we've got a pretty good idea where oil prices are headed.", "So we'll just stay opportunistic on that. And same thing with gas prices." ] }, { "name": "Paul Sankey", "speech": [ "So you're less hedged right now?" ] }, { "name": "Bill Thomas", "speech": [ "Sorry, what was the question? I'm sorry. I missed it." ] }, { "name": "Paul Sankey", "speech": [ "Which is to say that you're less hedged right now?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, that's right. We're not hedged on oil." ] }, { "name": "Paul Sankey", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Charles Meade with Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Bill, to you and your whole team there. I just wanted to ask a question, kind of pull on the thread about this Dorado play you have. The Austin Chalk, the D&C cost you put for the Austin Chalk is a little higher, I believe, than the Eagle Ford. And I'm just kind of wondering what's the driver of that? Is the Austin Chalk in a -- is it perspective in a deeper session? Or is the lateral a little slower to drill? Or is that a relevant piece of the puzzle? And what does it point to?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Charles, this is Ken. We just see a little bit harder drilling conditions when we're drilling the Austin Chalk compared to the Eagle Ford, so we've added in additional cost for that at this point. We always work on lowering our cost basis, and you can see that on every one of our plays.", "So we anticipate that we'll be able to lower the cost in Dorado, as well as we drill some additional wells in that play." ] }, { "name": "Charles Meade", "speech": [ "Got it. Thank you. And then as a follow-up, I wanted to touch on the Delaware Basin. It's still a big driver for you guys, obviously.", "Are you guys seeing anything different? Or do you expect to see anything different either in the operating environment out there or the opportunity set to continue to add out there?" ] }, { "name": "Billy Helms", "speech": [ "Yeah. Charles, this is Billy. Really, nothing's changed except our continuous improvement we're seeing in the well performance and the cost structure of our Delaware Basin plays. We're extremely proud of the team we have there and the improvements they continue to make.", "We haven't really changed a lot as far as the well spacing or anything like that, that a lot of other companies talk about. I think we continue to make improvements in the way we drill and complete the wells. And I think we're delivering a lot more consistent results as a result of that. So we're extremely confident in our ability to continue to execute that program and deliver superior results.", "We are continuing to have success in blocking up acreage through trades, and we've been doing that really for many years. So I don't expect that's going to continue to change. But outside of that, that's kind of what we see." ] }, { "name": "Charles Meade", "speech": [ "Great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "At this time, the question-and-answer session is concluded. I will turn the conference over now to Bill Thomas, chairman and CEO, for concluding remarks." ] }, { "name": "Bill Thomas", "speech": [ "Yes. In closing, I'd just like to say, we cannot be more proud of our EOG employees. Our third-quarter results were outstanding, thanks to everyone in the company. The culture of EOG is performing better than ever, and our ability and commitment to creating long-term shareholder value has never been stronger.", "Thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2020-05-08	[ { "description": "Executive Vice President and Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "KeyBanc -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "SunTrust -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Doug Leggate", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources First Quarter 2020 Earnings Results Conference Call. [Operator Instructions]", "At this time, for opening remarks and introductions, I would now like to turn the conference over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, and good morning. Thanks for joining us. We hope everyone has seen the press release announcing first quarter 2020 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. Definitions as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call and in the accompanying investor presentation slides may include estimated potential reserves and estimated resource potential, not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S. investors that appears at the bottom of our earnings release issued yesterday.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Billy Helms, Chief Operating Officer; Ken Boedeker, EVP, Exploration and Production; Ezra Yacob, EVP, Exploration and Production; Lance Terveen, Senior VP, Marketing; and David Streit, VP, Investor and Public Relations.", "Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. I first want to acknowledge those responding to the COVID-19 pandemic, in particular, the healthcare workers, first responders and other dedicated professionals addressing this crisis on the frontlines. Some of you are part of the EOG family, and we thank you for your dedicated and courageous service. EOG is a resilient company. And we believe the severity of this process will demonstrate just how resilient we are. The COVID-19 pandemic compounded what started as an oil price war, which drove oil prices to levels we have not seen in more than 20 years. While this shock to the market is unprecedented, and it's difficult to predict exactly how long it will take demand to recover and inventories to decline, like every other downturn, EOG will emerge a stronger global competitor, uniquely positioned to capture the upside of the oil market recovery.", "There are two reasons we're confident in our resiliency. First is the EOG culture and second is our premium drilling strategy. Times like these are when the EOG culture shines and becomes even more valuable because downturns supercharge our ability to improve. Our culture has responded quickly by aggressively reducing capital spending to a level that will allow EOG to generate free cash flow this year, assuming current commodity strip prices. We continue to be innovative and entrepreneurial by identifying creative ways to rapidly reduce operating expenses and develop new technical improvements that we can sustain into the oil price recovery. EOG is decentralized, driven by interdisciplinary teams that are empowered to make real-time data decisions based on basin-specific market conditions. Most importantly, we are rate of return-driven, and we will not invest the dollar unless it earns a good return, even in this price environment.", "The EOG culture is rising to the challenge and making a difference at every level and in every area of the company. Our super-talented EOG employees, armed with our advanced information technology analytics, are at the heart of this culture, and I am incredibly grateful for the way they have responded to this unique downturn. I can't thank our employees enough. The second reason we're confident that EOG will weather the severe downturn is our premium drilling strategy. We believe it's the most strict investment hurdle rate in the industry. Premium requires that all investments earn a 30% direct after-tax rate of return using an oil price of $40 flat. We initiated our premium strategy in 2016 during the last downturn. Since then, we have continued to improve the quality of our drilling inventory with substantial and sustainable well cost reductions. The improvement in our returns and cost structure has made EOG more resilient to low oil prices and positioned us to respond quickly to this unprecedented downturn and manage our business efficiently should the downturn be prolonged. As a result, we have a significant amount of premium inventory, more than 4,500 identified locations, in fact, that earn at least a 30% direct after-tax rate of return with $30 oil, which is even lower than the $40 used to meet the premium hurdle. Armed with this high-return inventory, EOG is well positioned to continue to be a leader in returns.", "We entered this downturn in a position of operational and financial strength, and the reason for this is our consistent approach to the fundamentals of our business: return-focused capital allocation, supported by a strong balance sheet. Rest assured that EOG's priorities will remain the same throughout the duration of this crisis. First, only invest capital if it generates premium rates of return. Our disciplined approach to reinvestment does not change. We invest to make a return, even with low oil prices. We will not drill a well if it doesn't earn at least a 30% direct after-tax rate of return. Second, utilize our operational flexibility to cut expenditures quickly. We exercised the operational flexibility allowed by our contracts with service providers to revise our development plan to be consistent with our outlook for oil prices over the next three quarters. Third, accelerate technical innovation across the company. Lower activity does not hamper our innovation. In fact, true to the EOG culture, each of our divisions have already started to implement multiple initiatives to further reduce our cost structure, improve well productivity and advance our exploration program. Fourth, exit 2020 with momentum by increasing production and to the price recovery. While we remain flexible and responsive to the pace of the price recovery, we have a large inventory of newly completed wells waiting to be put online. We plan to bring those to sales as prices begin to recover during the second half of 2020 and exit the year with momentum heading into 2021.", "Fifth, protect the financial strength of the company. Our goal each year is to spend within cash flow and maintain an impeccable balance sheet to support operations and protect our dividend through challenging times. Sixth, continue to strategically invest in the long-term value of our business. Through each of the prior downturns, EOG has emerged a stronger business because we continue to invest in the long-term value of the company. Whether it was leasing exploration acreage in the Eagle Ford to jump-start our transition to oil or the Yates acquisition in 2016. Challenging times for the industry often offer the best opportunities to invest. And finally and most importantly, maintain our unique culture. Our culture is the key to our success, and we put a priority on protecting our unique ability to sustainably reduce costs, improve our inventory and strategically adjust to market conditions. Our ultimate goal has not changed: to be one of the best companies in the S&P 500. We believe the company will make tremendous progress toward this goal in 2020. By making EOG more cost efficient, by fostering innovation, by sharpening our technical edge and progressing new exploration potential, we will emerge a stronger global competitor, uniquely positioned to capture the upside when all markets recover and continue creating long-term value for our shareholders.", "Next up is Tim to review our current financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Bill. A conservative approach to our capital structure has been a cornerstone of EOG's financial strategy throughout our history. This is borne out of a recognition that oil and gas business has always been capital-intensive and cyclical. These cycles are as inevitable as they are unpredictable, and so a business must be built not just to withstand them, but to have the financial strength at the right times to be able to take advantage of them. EOG entered the downturn in very good shape. Cash at the end of the first quarter was $2.9 billion, which included roughly $760 million of collateral from hedge contracts. This compares to total debt of $5.2 billion for a net debt to total capital ratio of less than 10%. This is down from 13% at the end of last year and a recent peak of 34% in 2016.", "We reduced net debt by $4 billion in the last four years. Our liquidity position is further supported by a $2 billion unsecured revolving line of credit, which has no borrowings against it. Our long-term debt ratings, which were recently reaffirmed by S&P and Moody's, stand four notches into investment grade. Furthermore, on April 14, EOG issued 10- and 30-year bonds totaling $1.5 billion, enhancing our already strong liquidity position. Last month, we also repaid a maturing $500 million bond, and we plan to repay with cash on hand, the $500 million bond maturing on June 1. Given the outlook for oil prices for the remainder of the year, EOG has also added additional hedges for 2020. We now have hedged more than 95% of our second quarter oil production at an average price of $48 and more than 50% of our third quarter production at $47. This mirrors how we view the periods of greatest price risk and adds another dimension to our approach to maintaining a resilient business by securing that portion of our cash flow. We will begin to look at adding additional 2021 hedges later in the year if prices look attractive relative to our assessment of the market fundamentals. Maintaining and growing the dividend remains a top priority as it is the most tangible output of EOG's high-return premium business model. We have never cut the dividend, never issued equity to support the dividend and have not relied on asset sales at fire-sale prices to make it through a downturn.", "The Board yesterday declared a quarterly dividend of $0.375 per share or $1.50 per share annualized rate, which maintains the rate from the 30% increase declared last quarter. The dividend is designed to be sustainable through low price cycles without straining the balance sheet or sacrificing other priorities. We test these priorities against numerous down cycle scenarios so we can be confident these goals are achievable even under extremely stressed conditions. This resilience reflects EOG's strong returns, low-cost structure and financial flexibility. EOG's financial strength also gives our operations teams to be able to take necessary actions with a focus on long-term benefits to the company instead of making forced short-term decisions.", "Next up is Billy to review our operational performance." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. I want to highlight the major steps taken to adjust our operating plan by providing some detail. First, on our capital and operating cost-reduction efforts. And second, the steps taken to reduce production during the low points in the oil price curve. Our swift response to the current environment is evident in our first quarter performance. We reduced capital by $265 million or 14%, while essentially hitting the midpoint of the guidance for oil volumes. For the entire year, we reduced our capital plan to $3.5 billion, more than 45% lower than the original plan. Demonstrating the flexibility in our operational plan, we reduced our drilling rig fleet 78% from a peak of 36 rigs down to eight in the span of just six weeks. On the completion side, we reduced activity 69% from 16 frac fleets to just five. Our flexible contracting strategy, combined with our established reputation as a consistent operator that values strategic vendor relationships, have allowed us to make these adjustments without incurring significant costs. The goal is to generate high rates of return for the capital we choose to invest along with free cash flow while maintaining our leverage to the up cycle as demand recovers.", "Our ability to reposition the company to achieve that goal in a few short weeks is a testament to EOG's strong culture and decentralized organization, and most of all, our fast-acting innovative employees. I'm incredibly proud of them. We also reduced exploration and infrastructure capital without sacrificing projects with the highest long-term benefit to the company. Exploration capital has been focused on the prospects with the most promise to add future shareholder value. On the infrastructure side, the concentration of our activity in the Delaware Basin and Eagle Ford, where we have existing well-developed assets in place, naturally reduces infrastructure needs. And we are also maintaining our commitment to reducing our environmental footprint by retaining investment in high-impact projects. On the operating cost side, we reduced lease operating expense by more than $300 million or approximately 20% compared to the original plan. Our operations teams are highly engaged in cost reduction, and we are realizing savings from many areas, including fewer expense workovers, reduced maintenance and repairs, water disposal and compression expense and contract labor. While reducing activity has driven significant initial cost reductions, we are maintaining a level of activity that allows us to accelerate technical innovation. The biggest opportunity from the downturn will be to identify a step-change efficiencies and operational improvements that lead to sustainable cost reductions. For example, our drilling and completion teams continue to establish new performance records in each area as illustrated on Slides 39 and 43 of our investor presentation. Across all our operations, we believe we will be able to lower well cost another 8% this year, most of which will be sustainable as a result of the improved efficiencies. This is a testament to the continued drive and innovation to raise the performance bar in the spirit of continuous improvement that allows us to consistently reduce well cost in each of our plays.", "The cadence of our new capital plan is heavily front-end-loaded. Most of the $1.7 billion of first quarter capital was spent before the downturn began. As a result of rapidly reducing activity, we expect to spend about $650 million in the second quarter and decline sequentially in the third and fourth to total just $3.5 billion for the year, nearly half of our original plan. Our 2020 production profile reflects a rate of return decision. Even though 90% of our shut-in production is cash flow positive at $10 per barrel and we have access to multiple markets, rather than produce at potentially the lowest price point of the year, we elected to shut in existing and deferred additional production by delaying the start-up of new wells. We plan to continue to defer production through the first half of the year. This deferred inventory of new wells has been completed and is simply waiting to produce. This allows us to exert more control over the cash margins of every barrel we produce and provides us the ability to quickly increase oil volumes into an improving oil price environment. We began deferring production during the first quarter. And even after delaying initial production from new wells and shutting in 8,000 barrels a day in March from existing wells, we achieved the midpoint of our guidance. First quarter and second quarter represent the peak and the trough, respectively, of our U-shaped production profile in 2020. Between deferred start-ups and new wells drilled and completed, we anticipate turning online approximately 300 additional wells in the second half of the year, for a total of 485 by the end of 2020.", "Volumes are currently forecasted to increase in the second half of 2020, with fourth quarter production averaging about 420,000 barrels of oil per day, establishing momentum going into next year. The capital required to maintain this level of production going forward would be approximately $3.4 billion per year. Our production profile corresponds to the current outlook for oil prices. However, we will remain flexible to make further adjustments if the operating plan as conditioned to the operating plan as conditions change. If prices stay lower for longer, we can make additional reductions to our capital and operating costs and further defer bringing new wells online. To be clear, we would rather shut in production than sell in to an uncertain low-price market. Ultimately, the decision to begin increasing production will be based on a more sustainable and constructive outlook for oil prices in the second half of the year. For the oil that we do choose to sell, we have secured favorable prices through various contracts providing exposure to Brent, Gulf Coast, WTI and fixed prices. The marketing strategy provides flexibility to pivot each of our producing areas to multiple markets to capture the highest margin. In conclusion, I am proud of how decisively and thoughtfully our employees responded to this downturn. We exercised our flexibility to quickly cut capital and operating costs. And the decision to reduce volumes at the lowest point of the price curve supports our intent to accomplish two primary objectives: one, enhance the margins from each barrel that is produced; and two, maximize our rate of return for any investment.", "While EOG is not immune from the effects of low oil prices, we have the tools and the information to make real-time adjustments to maximize our profitability. We will remain disciplined, invest wisely and constantly evaluate market conditions to generate the most shareholder value.", "Now here is Bill to wrap up." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Billy. EOG is a resilient company. And while we aren't completely immune to the level of demand disruption caused by the pandemic...", "[Technical Issues]" ] }, { "name": "Operator", "speech": [ "Pardon me, this is the operator. It appears the main speaker line does not produce an audio. Please stand by for one moment.", "[Technical Issues]" ] }, { "name": "Bill Thomas", "speech": [ "Yes, this is Bill." ] }, { "name": "Operator", "speech": [ "Thank you, Bill. We missed the last part of your presentation, sir." ] }, { "name": "Bill Thomas", "speech": [ "All right. In conclusion, EOG is a resilient company. And while we aren't completely immune to the level of demand destruction caused by the pandemic, we are prepared for it. Our financial structure is very conservative, and our capital-allocation process is hyper-disciplined. This is an unprecedented downturn. U.S. oil production is in severe decline, and it could take years for domestic production to turn around. We believe that the historic and prolific oil production growth by U.S. shale may have been forever altered. And while the timing and level remains uncertain, we are confident demand will improve. Therefore, current prices are not sustainable. In the inevitable price recovery ahead, there is tremendous opportunity for EOG. With a strong balance sheet in hand, a culture that drives continuous improvement and our commitment to generate strong returns with free cash flow, EOG will be ready to provide much-needed supply when prices show sustainable improvement. We don't believe there's a better company positioned to capture the upside as the oil market recovers. EOG will not only survive this downturn, but emerge as a stronger competitor in the global market.", "Thank you for joining us this morning. Our thoughts are with you as we navigate this pandemic together. We sincerely hope your family, friends and colleagues are healthy and safe.", "Operator, that concludes our remarks, so please open up the lines for questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And today's first comes from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Just wanted to ask in terms of the budget this year. Obviously, you cut it a couple of times here, clearly prudent response to oil prices. I, too, agree that oil prices are unsustainable at these levels on a global basis. If we were to see just a rapid increase, say, in oil prices as we got later in the third quarter and fourth quarter, would you guys consider adding more capital back late this year to get you guys a little bit more ready for growth mode in 2021?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Leo, this is Bill. And I think we're going to be very cautious before we add capital this year. And it's unlikely that we would add any more additional capital until we want to get into 2021 and see how demand continues to recover. And so we wouldn't I don't think we're going to be adding any capital in the remaining of the year." ] }, { "name": "Leo Mariani", "speech": [ "Okay. That's helpful. And Bill, you certainly talked about emerging stronger from this pandemic. You kind of referenced potential M&A is an option. What do you think sort of other than kind of continuing to lower the cost structure of what you guys are doing, what are the other keys to kind of emerging stronger? And you think maybe there could be some likely M&A late this year, if there are opportunities?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. I want to be I think we've been pretty clear over the years about M&A. We're not really interested at all in any, certainly, low-return M&A or acquisitions. It's really difficult. It has been historically as everybody knows M&A market. It's very difficult to make a good acquisition and generate a strong return at the same time. And everything we do, as you know, EOG, we're totally focused on returns. And so every dollar we spend, every deal we do has to be competitive on a return basis. And it's very difficult to compete with organic exploration effort. We're adding a lot of very low-cost acreage that we believe contains drilling inventory that will be better accretive to the quality that we have now. So it's very unlikely we'll do certainly a large M&A.", "We do do small bolt-on acquisitions to supplement our exploration efforts just to get low-cost acreage. But large M&As are really not, in our view, competitive. Other than the cost reductions that we're making, obviously, we've spelled out a lot of those here, Billy has, we continue to be very innovative all over the company. We continue to see excellent technical work and a focus on innovation and new ideas. And those are just coming out in multiple areas of the company, completion technology, a lot of great geotechnical work going on in the company. And we haven't taken our eye off of our exploration effort, and I'm going to ask Ezra Yacob to maybe comment on that a little bit." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Bill. As everyone knows, we entered the year with a pretty exciting exploration program. We're focused on capturing positions in basins where we capture the Tier one position, and we're working plays that we think will be improving the inventory quality with low decline and certainly low-cost plays. And we're we entered this year with a plan of testing and leasing in 10 different prospects. And we've obviously reduced our exploration budget this year, commensurate with reductions across other categories.", "But we're still planning to progress each of those prospects a little bit this year. We'll remain flexible as we do. But really, the purpose, as Bill said, is that these all have the potential to add significant long-term value creation for the business and for our shareholders.", "And as Bill pointed out, we've all seen here, over the past, say, six or eight weeks since our employees have been working from home, is really just an amazing effort from all of them on the development side and the exploration side to come up with and generate new ideas. And we just couldn't be more impressed or commend the employees for their efforts on that." ] }, { "name": "Leo Mariani", "speech": [ "That's great color. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Brian Singer with Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Thank you. Good morning." ] }, { "name": "Billy Helms", "speech": [ "Good morning, Brian." ] }, { "name": "Brian Singer", "speech": [ "We appreciate the specificity on guidance for production for the remainder of the year and the quantification of the expected shut-in. When we look at the production, excluding the shut-ins, second quarter's oil production is implied down about 19% from the first quarter. Can you just talk to the drivers of that and whether to use that 19% as indicative of an annualized natural decline, whether there are other factors that are influencing that?" ] }, { "name": "Bill Thomas", "speech": [ "Brian, I'm going to ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes. Good morning, Brian. The way I would look at that, we're still I would still like to emphasize that our annual decline rate that we've provided in previous guidance of 32% is still accurate and true. The shape of that on a quarter-to-quarter basis depends a lot on the nature and the timing of when you bring on wells prior to that. So it can be a little bit it can fluctuate quite a bit. It can be a little bit lumpy as you might think of it. It's strictly depending on the timing of bringing on wells in a quarter or two prior to that.", "So naturally, it's a little steeper at the first part of the life of a well and then flattens out later in the life. So that's kind of what you're seeing in the second quarter. I wouldn't take the decline you're calculating there. That 19% is an indication of a change in our quarterly or annual decline that we've given you in the past." ] }, { "name": "Brian Singer", "speech": [ "Great. And then my follow-up is both an EOG and then a broader question with regards to maintenance capital and shale supply cost. How much of the $3.4 billion of the maintenance capital do you think includes cost reductions you believe are secular versus cyclical? You talked about, I think, 8% cost reductions coming from here to well cost and wondering whether that was factored into the $3.4 billion.", "And then I guess that the lower maintenance capital, you and other companies are highlighting reflect another large step down in the supply cost for EOG and shale generally? Or is it just a function of the market and the low oil price environment that we're in?" ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask Billy to talk about the first part of the question." ] }, { "name": "Billy Helms", "speech": [ "Yes, Brian. So just to be clear, our $3.4 billion maintenance capital we talked about is to maintain the 420,000 barrels a day we plan to exit the fourth quarter at. And to give you a little more color on how we calculate that, that does not anticipate the cost savings that we've talked about here today. We are our capital programs are based on the kind of a backward-looking actual well costs that we've been able to attain to date and doesn't bake in costs, anticipated cost savings on a go-forward basis.", "So in light of that, I think there's we always think about that as potential upside to achieve better results. So our capital plan this year and our capital plan or the maintenance cost that we've quoted here, the $3.4 billion, doesn't bake into the 8% cost savings that we're talking about in this call.", "In addition to that, I think it's important to know that the $3.4 billion, just to go back to that, it's maintained the 420,000 barrels a day that we're exiting the year-end." ] }, { "name": "Bill Thomas", "speech": [ "On the second part of that question, Brian, as we look at the whole industry, there certainly are companies that are doing a good job continuing to lower costs, but we believe there's a really small set of those because it really takes scale. It's probably one of the biggest drivers to be able to continue to lower cost. A lot of the cost reductions are certainly in infrastructure in a very continuous drilling program and completion program, et cetera, et cetera. I think really so I think a few companies, as I kind of commented in the opening remarks, we believe there will be less companies after this downturn than there were before. We think they'll be more disciplined. Certainly, there'll be more there'll be less capital employed in the shale business. But we believe, as we said, that EOG is going to emerge as a leader. And most of our cost reduction, nearly all of our cost reduction, is driven internally through the technical innovation in the company and the efficiencies.", "We just there's a lot of data in our IRR chart that shows the amount of stages per day. Certainly, the feet per day on drilling, et cetera, et cetera, as well as I want to note, maybe there's a slide in the Powder River Basin, on our recent completions in the Mowry, in the Niobrara, where our completion technology is certainly making a huge difference in the well productivity.", "So most of the improvements in EOG are driven from our internal culture and our innovation and our just desire to always continue to get better. We have a very sustainable model and culture, and we do not see any end in sight in EOG getting better." ] }, { "name": "Brian Singer", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Charles Meade with Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Bill. I appreciate the sentiments you expressed there at the end of your prepared remarks, and I just reflect that back to you and everyone there at EOG. One question, I was a little bit surprised to see that you guys still are forecasting some shut-ins to go into 4Q.", "And I'm curious if you could kind of characterize what sort of production that is that's still shut in 4Q. I could see an argument for it being the last sort of legacy vertical wells to come back on, but I could also see an argument for it being high-rate wells that you want to deliver to the strongest market. So I wonder if you could add some color there." ] }, { "name": "Bill Thomas", "speech": [ "Charles, I'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes. Charles, so that's a good question. I'm glad you asked it. It's the 20,000 barrels a day that we referenced that would likely still be shut in, in the fourth quarter, is simply wells that have some form of expense that's required to bring them back on production. For instance, you have a lot of reasons why production goes down. These are wells that might have to replace gas lift valve in downhole or maybe a hole in the tubing or things that require some expense work-over to bring back to production. And we just haven't made the decision yet to expend the capital or the expense dollars to bring those wells back to production until we see the margins improve to a point where we would do that.", "So for the sake of the plan, we just assume those wouldn't be brought back on until next year." ] }, { "name": "Charles Meade", "speech": [ "Got it. That's helpful. And then maybe perhaps related to that, it's interesting to me that, Bill, you mentioned in your prepared remarks that you guys have gone ahead and completed wells but are waiting to turn them to sales. And that's a little different from what we're what I've heard from a number of other companies that are maybe just electing to build DUCs and not complete. And I'm wondering if that's just a function of you guys wanting to honor your commitments to frac crews or if that's actually expression of some other view about the best way to leave your well or the response time that you want to have when you do see a price signal?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Charles, this is Billy, again. So the way I would think about that is two things. I guess, we started as the downturn started to happen, we were in the process, of course, of completing several wells. As I mentioned in the prepared remarks, we dropped our frac fleet count quite considerably there at the start of the year. But we still had wells that were in the process of being completed or just being completed. We elected to not bring those on production at a time when prices were falling so steeply.", "And likewise, as we continue to cut our frac count down, I think we're running about five today, then, those wells, as they're finishing up to completions, we're not bringing those wells on either. So it's just built up, I'd say, an inventory of wells that are in that category that we're waiting on the right timing as to when we view the market fundamentals improving and being constructive going forward to bring those wells on production." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Paul Cheng with Scotiabank. Please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning, gentlemen. Two questions. One is either for Bill or Billy. I think one of the silver lining of the COVID-19 is that it triggered a lot of creativity, and you guys certainly have done a lot of that, as you mentioned. So what have we learned from this whole episode? And what is the some of the best practice that may impact your future how you run your operation?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Paul. This is Bill. Every situation I've been with the company over 40 years, and I've been through a number of these downturns. This is certainly the most unique one that we've ever experienced. What it is really what we've really seen inside the company is the tremendous value that our information systems and technology has allowed EOG to make a very granular evaluation of everything we do. Every well in the company, we know about it. We have all the data. And through our decentralized organization, we've been able to analyze down to a very granular level everything we're doing.", "And so we've learned how important it is to have a great information systems and technology and how effective our employees have been to perform and most of them are working from their homes, like everybody else in the world. So that's been a great experience for us on a learning curve. And we see areas in that we can continue to improve and get better in.", "The I think on the technical side of it, we just do not see any end in the advancements coming from the company because, as you all know, EOG, all the ideas all the creativity, all the improvements in the company are from every really, every person in the company. It's not from the top down, it's really from the bottom up. And everybody is engaged. And the communications have been really good.", "We're using Microsoft Teams to have big meetings, divisional meetings and department meetings and meetings between different groups in the company, and that's working out really well. And so it's been a learning experience, but I think we're fortunate to have a lot of that in place, but it's we can see some areas in that process that we can continue to improve in." ] }, { "name": "Paul Cheng", "speech": [ "Bill, you said a couple of examples, you can say that in the post-COVID world I mean, at some point that we will come out from that, that you think it will fundamentally change because of the experience that you learned will be fundamentally changing how you manage your business? Any process or any example that you can cite?" ] }, { "name": "Bill Thomas", "speech": [ "I think the fundamentals of the company, return-driven, certainly committed to generating strong free cash flow, maintaining the balance sheet, a strong balance sheet, spending within our means and then focus on returnswe are so focused on returnsthose things are not going to change. Those are the fundamentals that drive our business. I think the changes that you see in EOG are just the organic changes that are happening every day as we continue to just gather data and analyze it and apply it.", "And I think those are the things that make EOG who we are. So I don't see those things changing. We're focused on totally getting better literally every day. And we believe the opportunity in front of us, because we believe this unique downturn has been so severe, we believe our opportunities will be greater in the future than they've been in the past." ] }, { "name": "Paul Cheng", "speech": [ "A final question for me, a short one. On the curtailment, can you tell us that maybe how is the regional or basin split? And also that whether all the curtailment is essentially shut-in or you're moving some of the well production?" ] }, { "name": "Bill Thomas", "speech": [ "Paul, I'll ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes, Paul. So the way we go about analyzing our business to shut-in wells is at a very granular level. All of our areas are operating in the same manner. We have the tools, as Bill described, the information technology to gather the information, analyze it and push that decision down to the lowest level in our organization to understand the profit margins on every well throughout the company.", "So with that information, we can make decisions on when and where best to shut-in wells to maximize our cash flow at any given time. So the shut-ins occur on economics based on that way. We also analyze things from a market perspective in the same manner. We have the same information to understand the markets we can take the products to, how to maximize our netbacks for every product on a well level. And so we can do the same kind of analysis from a marketing perspective. And simply part of that decision is making a larger rate-of-return decision that helps us think about, is it better to produce most of that volume into a more volatile and lower-priced environment or based on a macro outlook for the product? Is it best to wait a month or two or potentially longer to bring that production back on?", "And so I'd say most of the production falls into that realm. And it's made pretty much on every basin across the company in every area. So that's how we analyze it. It's a very granular look across the company. It takes a lot of effort. All of our it goes back to the culture of the company, though. And we have so many engaged employees that are really committed to the company and making sure we all do the best thing we can to continue to make the company better. So we couldn't be more proud of the people that we have to make it all work." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Neal Dingmann with SunTrust. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning. My first question is just around your return requirements. I'm wondering, you all took certainly some major steps this quarter in curtailing existing production suspending D&C. I'm just wondering, are your margin Bill, are your margin requirements different when you look at bringing those curtailments back versus thinking about ramping up the D&C activity?" ] }, { "name": "Bill Thomas", "speech": [ "I think when we look at when we're going to bring wells to shut-in or new wells on, we're really just looking at the strip. And we obviously stay very engaged really daily, weekly basis on the world events and the macro view of oil.", "And so when that becomes more positive and we get more firm that that's sustainable recovery, that's when we'll begin opening things up. We don't have an exact number on the margin. We're just looking for the trends. And then certainly, we're not, as Billy has talked about what we've done, we're not interested in selling our oil at the lowest part of the market. When there's a steep contango in the prices, there's no use selling it now when we can get double in a few months. So that's really that's all we're doing on that in that area." ] }, { "name": "Neal Dingmann", "speech": [ "Very good. And then just one last question. You definitely hit this quite a bit, but just on activity. I was looking back in 2016, it looked like, I think you all had gotten down to, I think, nine or 10 rigs during that time when we were around $26. And I'm just wondering, does some of that decision on sort of D&C activity and all and just pure, I guess, activity and all, come to how many of these premium locations you have? Or is it simply, Bill, what you had just mentioned, just not wanting to produce into sort of this environment? I guess I was just sort of comparing today versus 2016 maybe and maybe you could just tell us a little color on how you're looking differently at these two periods at this point?" ] }, { "name": "Bill Thomas", "speech": [ "Well, certainly, we're not limited by inventory. That we have a tremendous inventory. Like we said, we've got 4,500 locations already identified that will do a 30% rate of return at $30, and I'm sure that will grow over time. So that's not the issue at all.", "Really, our investment pace every year is set on a very conservative price deck in our view of the macro. And the limitations on that are we want to generate free cash flow. We want to spend within our means and generate free cash flow and maintain an impeccable balance sheet, and also, obviously, generate very, very high rates of return.", "So those are the things that guide us. And so in this particular instance, we're just looking for a bit of better view of the future and what the recovery is going to look like, not only in the price but what's U.S. shale going to look like and then where is our spot in there. We think we'll continue to be the leader in returns and continue to be the company that continue to add very, very significant value." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Jeanine Wai with Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi, good morning everyone. My first question is probably a follow-up to Charles' and Neal's question. It seems to us that EOG is just taking a more aggressive approach on production shut-in than others. And I know it all depends on your macro view and whatever contracts or lease stuff you have or any related shutdown or start-up costs, but do you have an estimate on the NPV uplift for the year for doing the shut-ins and the well deferral versus maybe the business-as-usual case with no shut-ins and no deferrals?" ] }, { "name": "Bill Thomas", "speech": [ "Jeanine, I don't no, we don't have a number. We can certainly calculate that, but it's more just common sense. We just don't like giving our oil away. We want to make money. We're focused on returns, and we believe just waiting a few months or a quarter that we could get twice as much for oil than we are today. And so it's really just a common sense approach and a return focus and our view on a market that's improving." ] }, { "name": "Jeanine Wai", "speech": [ "Okay. And then my second question is, I know we're in the middle of an oil rally here, but we're still only at, call it, $25 WTI. If we see a pullback in oil prices, to what extent are you willing to lean on the balance sheet to support long-term value? I know you're not trying to maximize dollars today or tomorrow, but in terms of the long term, if we see the pullback, is there a point where it becomes just too detrimental to long-term value to keep cutting CapEx? And if so, kind of, what is that level?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Jeanine, we certainly have a lot of flexibility to continue to cut capital. I'm going to ask Billy to comment a bit on that." ] }, { "name": "Billy Helms", "speech": [ "Yes, Jeanine. So we cut back to the level we did to basically be able to do the things Bill talked about, make sure we generate a rate of return and generate free cash flow and while we see the commodity price outlook today. If that changes and we feel like that we need to cut more, certainly, we have that flexibility to do so and would continue to push that lever down throughout the end of the year, depending on the outlook. So we could still try to manage within cash flow, even with prices stay lower for longer." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Arun Jayaram with JPMorgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning, Bill, we've seen a lot of different approaches to shut-ins with EOG, Conoco, Exxon and Chevron announcing significant shut-ins. I was wondering how clear is this the decision to shut-in versus not? And I'd also just want to see if you could address one of the questions that came in last night, was just the execution risk in shutting down hundreds, maybe thousands of wells and then restarting those consistent with what you've guided to in the deck." ] }, { "name": "Bill Thomas", "speech": [ "Yes, Arun. I'm going to ask Billy to comment on the execution part." ] }, { "name": "Billy Helms", "speech": [ "Yes. Arun, thanks for the question. Yes, I think, as we talked before, one of the unique things that we built the company around is our ability to gather data and analyze it very quickly and have that information basically in the hands of every employee in the company, including at the field level.", "So the actual execution of being able to shut-in and bring back the wells on is fairly painless. It's very simple exercise by communicating that data down to the people out there in the field to be able to make those actions happen. So that effort is very easy to do.", "As far as any risk of shut-ins, there's really not any risk in our part. I think the cost of shutting in the wells is very minimal, if not 0. The cost of bringing the wells back on is kind of the same thing. And we could actually have all the wells back on production in just a matter of days because, you have to remember, we are a decentralized organization. We have these assets across the country, we have people managing those assets that are very capable and committed to making sure that we do the best things we can, as quick as we can, safely.", "So the effort is very easy to attain with the culture of the company that we have and the operations we have set up." ] }, { "name": "Bill Thomas", "speech": [ "And I would just this is Bill. Just one more comment on that. I think we have multiple years and years of experience of shutting in wells for different lengths of time. And we've got a chart in the IR deck that shows, on these shale wells, there's absolutely no damage when you shut them in and bring them back on for whether it's two weeks or two months, we feel very confident about that.", "So we just view shutting-in as just well-cost storage. That's the lowest-cost storage that we can come up with. And it's a great way to manage your business, especially in a price environment like we're in." ] }, { "name": "Arun Jayaram", "speech": [ "Yes, that's a clever way to think about it. Just a quick follow-up. You guys cited the $3.4 billion sustaining capital for the 4Q exit rate at $4.20. How fully loaded, Billy, is that $3.4 billion? I know you talked a little bit about the ability to even maybe push that down based on incremental cost savings, but how fully loaded is that CapEx number?" ] }, { "name": "Billy Helms", "speech": [ "It's in keeping with how we would run our business. So it's the way I would think about it is maybe a little more high-graded than it was in the $4.1 billion capital plan that we announced some time ago that people might remember. In that previous maintenance capital plan, it was pretty much designed to keep each division kind of operating flat. This one is truly we're going to go to the wells that have the highest return at today's prices. And so it is a little bit more high graded you might think of.", "It's still spread across multiple basins, though. So I wouldn't jump to the conclusion as just one area. It's still spread across multiple areas. And it includes the infrastructure and facility costs and ESG spending and those kind of things that we typically would include in a normal budget, just maybe at a little bit lesser scale." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Doug Leggate with Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Good morning everyone. I hope everyone is doing well out there. Bill, you made a number of comments, if I could read them back to you. U.S. shale is forever altered. This is a unique downturn, and there's been a price war. So my question is, can you share with us what that means for your go-forward strategy? And you kind of know what I'm getting at here as the U.S. is doing 50% and Saudi removed the lowest-cost barrels off the market. So it sounds like there's a little bit of a pivot here, and I'm just wondering if you if I'm reading that right, if you can walk us through how you see the right mix of reinvestment, growth, cash flow. And I've got a follow-up, please." ] }, { "name": "Bill Thomas", "speech": [ "Yes, Doug. I think, looking into the future, as we said, we believe there's going to be a structural change in U.S. shale. There's going to be less players. I think, certainly, the industry is becoming more disciplined, and it will be even hyper-disciplined coming out of this downturn. So we believe there's going to be significant less capital invested in growth in the U.S.. And so and certainly, there will be substantially less growth. We have a hard time seeing that the U.S. production will be able to, certainly, in the next several years, get back up to the levels we've been just a few months ago. So in that lies a tremendous opportunities for the companies that survive, and it's an enormous opportunity for EOG.", "If you look back on our last three years, we've generated an industry-leading return on capital employed of 14%. We generated $5.6 billion of free cash flow, and we returned $3.3 billion back in shareholder-friendly ways with substantial dividend growth and debt reduction. And over that last three-year period, we've increased our proven reserves by 55%. And we've accomplished this all with an average WTI oil price, WTI oil price of $58. So fundamentally, we're not going to change. We're as we've been talking about, we're return-driven and believe in a strong balance sheet. And we believe we're improving at a rate much faster than we have in the past and that we're going to emerge a much better company in the next recovery. So we're going to continue to stick with our fundamentals, evaluate the market conditions and continue to create value." ] }, { "name": "Arun Jayaram", "speech": [ "I appreciate the answer. My follow-up is going to be a related question because I'd just like to press you a little bit on this. Because the $58 oil price, Bill, was subsidized by Saudi. And the U.S. growth rate, in my opinion, is no longer going to be tolerated, and obviously, you've been a larger part of that growth. So everything there's no issue around the operational capability of the company. You are clearly the leader, if not one of the leaders, in the industry. The issue is whether the business model continues to reinvest 90% of its cash flow and grow, in the words of the Texas Railroad Commission, at a wasteful level in excess of reasonable demand.", "So the question is really not about your capability, it's about the behavior coming out the other side of this. Going from 36 rigs to 6, do we see you go back to that level of growth? Or do we see you rightsize the organization to pivot more to what I'm getting at? Because that $58 you referred to was Saudi taking the lowest-cost barrels off the market." ] }, { "name": "Bill Thomas", "speech": [ "Well, I mean, let me make one correction there right off the bat. We've invested about 80% of our cash flow, which is about a really good level. We've been very committed to generating substantial amount of free cash flow. We paid off all that debt, increased our dividend, end of the year last year with $2 billion of cash on the balance sheet. So we haven't been spending all our cash. We've been very disciplined in generating tremendous value with that.", "As we go ahead and we look to the future, again, we think it's going to be different. So we'll certainly we'll be continuing to evaluate that and continue to stick with our fundamentals and see what's the best way for EOG to continue to generate significant value." ] }, { "name": "Operator", "speech": [ "Thank you. This concludes the question-and-answer session. I'd like to turn the conference back over to Bill Thomas for any final remarks." ] }, { "name": "Bill Thomas", "speech": [ "Thank you. In closing, I just want to say, we've never been so proud of the employees of EOG. The way you have responded to this historic COVID-19 crisis has been outstanding and heroic. During every downturn in my over 40 years with EOG, the company responds with record-breaking improvements. Sooner or later, this crisis will be over and oil will recover. We believe EOG will emerge with the ability to be a stronger and a higher-return company than ever before. Thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
EOG	2020-08-07	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ezra Yacob", "position": "Executive" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Bernstein Research -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "SunTrust Robinson Humphrey -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Capital One Securities -- Analyst", "name": "Phillips Johnston", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "TD Securities -- Analyst", "name": "Juan Jarrah", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the EOG Resources second-quarter 2020 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thank you, and good morning. We hope everyone has seen the press release announcing second-quarter 2020 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release, in EOG's SEC filings, and we incorporate those by reference for this call.", "This conference call also contains certain non-GAAP financial measures. Definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures, can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call are in the accompanying investor presentation slides, may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S.", "investors that appears at the bottom of our earnings release issued yesterday. Participating on the call this morning are Bill Thomas, chairman and CEO; Billy Helms, chief operating officer; Ken Boedeker, EVP, exploration and production; Ezra Yacob, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, VP, investor and public relations. Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thank you, Tim, and good morning, everyone. EOG's second-quarter results demonstrate the company's ability to quickly adapt to an unprecedented drop in commodity prices. We exceeded our own expectations by delivering more oil for less capital and lower operating costs, allowing the company to generate significant free cash flow during the quarter. In May, we published our revised plan, which aggressively reduced our full year of capital, more than 45%, and LOE more than 20%.", "EOG employees rose to the challenge, not only achieving the incredible reduction targets we set but beating them. Compared to our aggressive plan and guidance for the second quarter, we produced 7% more oil, spent a whopping 26% less capital and our cash operating costs, which includes LOE, transportation and gathering and processing were 10% lower. With the rapid reduction in capital and operating costs, the company generated nearly $200 million of free cash flow, while oil prices averaged less than $28 a barrel. Our second-quarter results are a testament to the return-focused culture of EOG employees and our ability to pivot quickly in response to the unprecedented level of market volatility and industry conditions.", "Last quarter, we laid out seven strategic focus points for the remainder of 2020. Here's a quick progress report. Our first strategic point is only to invest capital if it generates a premium rate of return. Premium return is defined as a 30% or higher direct after-tax rate of return using a price deck of $40 flat oil.", "In this downturn, we have raised the return bar even higher by using $30 oil instead of $40 to calculate our 30% rate of return. Our second focus point this year is to exercise operational flexibility to quickly reduce costs. With capital 26% below target and cash operating cost 10% below target, our second-quarter results demonstrate our ability to move quickly in a volatile environment. Our third focus point is to accelerate our technical innovation across the company.", "This is an area we're most excited about. While we anticipated some additional opportunity for innovation because of the slowdown in our pace of development, our employees' ability to accelerate innovation even while working remotely has exceeded our expectations. We recently completed our yearly technical conferences across each discipline, all via video conferencing. We are amazed at the volume of new innovative ideas presented from creative ways to cut costs to new tools to identify and evaluate prospects.", "I am confident that the tremendous progress we've made this year will accelerate EOG's lead as these sustainable improvements start paying dividends in the future by driving down the price of oil required to generate double-digit returns and extend EOG's industry leadership and return on capital employed. Our fourth focus point is to exit 2020 with momentum into next year by increasing production into the price recovery. As Billy will cover in a few minutes, we've increased our quarterly and full-year production volume estimates. In addition, with the cost reductions we're making this year, we have improved our maintenance capital outlook for 2021.", "We now expect we will be able to maintain higher volumes for the same capital and cover both capital and the dividend with cash flow at less than $40 oil. Our improvements in volume, coupled with reductions in well and operating costs, are setting us up for strong performance next year. Our fifth focal point this year is to remain hyper-diligent about maintaining our financial strength. Our goal each year is to spend within cash flow and maintain an impeccable balance sheet to support operations and protect our dividend.", "This downturn has demonstrated the value of EOG's historically strong balance sheet more than ever. With this goal in mind, we reduced capex more than 45% to $3.5 billion, so that full-year cash flow funds capex in the low 30s. If oil prices average $40 for the year, full-year cash flow also funds the dividend and generates free cash flow. Sixth, our focus is to continue to invest in the long-term value of the business.", "In fact, once again, this break in our pace of development has actually accelerated our progress by creating more time to fine-tune our quality exploration market. We continue to drill on prospects that we believe will further improve company performance. You will hear from Ezra in a moment regarding recent exploration progress. The seventh focus point this year is the most important.", "Protecting and enhancing EOG's culture is the key to our continued success. We have highly skilled employees who are focused on constantly improving every area of the company. We remain committed to our employees as they are the ones who are making EOG a much better company during this downturn. Armed with extensive data, proprietary apps and information technology, EOG employees are overcoming the challenging conditions by continuing not only to innovate but to accelerate innovation.", "We believe we're in the process of making another significant improvement in EOG's performance similar to the last downturn when we initiated our premium drilling program in 2016. As a reminder, with premium standards in place from 2017 to 2019, EOG delivered an industry-leading average return on capital employed of 14%, generated $4.6 billion in free cash flow, increased the dividend by 72% and reduced net debt $2.2 billion and increased proved reserves by 55%. The EOG culture is rising to the challenge again with innovation that is significantly improving the company's current and future performance. EOG's long-term game plan has not changed.", "We remain focused on high-return reinvestment, disciplined organic growth and generating substantial free cash flow to fund a sustainable growing dividend and maintain a strong balance sheet. EOG will emerge from the downturn a much better company and our commitment to creating long-term value for our shareholders has never been stronger. Before I turn it over to Tim and Billy, I want to note how excited we are to continue our progress toward reducing GHG emissions. We are near the start-up of our eight-megawatt solar and natural gas hybrid electric-powered compressor station.", "In addition, we recently formed a sustainable power group within the company. This group will support our innovative culture to bring return-focused, low-emissions technology and projects forward quickly. EOG is committed to being an innovative leader in sustainability and the long-term energy solution. Next up is Tim." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Bill. EOG proved to be exceptionally resilient during one of the most severe quarters for the industry in our memory. I'd like to review the high level changes in EOG's cash position during the second quarter. EOG had $2.9 billion of cash at the end of the first quarter.", "During the second quarter, the company generated discretionary cash flow of $672 million. And after deducting capex of $478 million, we generated $194 million of free cash flow that nearly covered dividend payments of $217 million. Over time, EOG's working capital position tends to be fairly balanced between current assets and liabilities. However, during periods of market volatility, our working capital balance can fluctuate significantly from quarter to quarter.", "Changes in working capital in the second quarter represented a net cash outflow of $1 billion, which was more than offset by net cash inflow from working capital in the first quarter of $1.2 billion. We expect changes in working capital will be approximately neutral for the full-year 2020 based on the current outlook for commodity prices. Moving on to the financing side of the ledger. EOG issued $1.5 billion of new debt and paid off a total of $1 billion of maturing notes during the quarter.", "This left the company with $2.4 billion of cash on hand at the end of the second quarter. Considering total debt of $5.7 billion, this yields a net debt to total cap ratio of 14%. In addition to cash on hand, our very strong liquidity position is further supported by a $2 billion unsecured revolving line of credit, which has no borrowings against it. Looking ahead, we expect discretionary cash flow to exceed capex and dividend payments for the remainder of 2020 at oil prices in the mid-30s.", "In late April and early May, we elected to close out most of our hedge positions for the remainder of the year as the volatility in commodity markets had abated and prices seem to have more upside than downside. We effected this primarily by entering into offsetting contracts for those hedge positions we elected to close. Therefore, the timing of cash received or paid for settlement of these closed-out hedges will remain in the periods for which they are effective. We expect to receive $360 million in net cash payments in the second half of 2020 from these hedge positions that have been closed.", "As 2021 comes into focus, we will be opportunistic about adding hedges if prices look attractive relative to our assessment of market fundamentals. Next up is Billy to review our operational performance." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. Last quarter, we made the decision to shut in existing production and defer new wells rather than sell into an uncertain and low-price market. Our intent was that our lowest activity levels, lowest capital expenditures and lowest production volumes would coincide with the lowest point of the commodity price curve. In doing so, we enhanced the cash flow and margins for each barrel produced and maximized the rate of return for our investments.", "Our employees' execution of our challenging new plan during the second quarter was stellar. They answered the challenge by beating by a wide margin nearly every capital expense and production goal we targeted under the new plan. After rapidly reducing our full-year capital plan by nearly half, second-quarter capital came in an additional 26% below target. We also reduced our cash operating expenses a total of 10% compared to the target.", "One of the hallmarks of EOG is driving for continuous improvements, but the downturn brought a new intensity to this effort. Our employees delivered even more by continuing to innovate capital and expense reductions that will benefit future operations. For example, we increased our full-year total well cost reduction target to 12%, up from 8% just a few months ago. Our operating teams continue to drive efficiency in every aspect of our business.", "Drilling times are consistently improving, yet completion costs have seen the most improvement during the quarter, down more than 15%. About half of the capital savings can be attributed to cost efficiencies and the other half to service cost reductions. Our drilling rigs and frac fleets are largely under existing term contracts, so service cost savings have been more from ancillary services. As rig and frac fleet contracts expire, we expect to see further cost reductions.", "Therefore, we believe most of these savings to be sustainable. Our cash operating costs were down more than $50 million or 10% relative to our second-quarter guidance. Our operating teams went into high gear to identify opportunities to reduce expenses during the second quarter with a focus on every category. Some of the largest cost reductions are our reduced work over expenses, water disposal and lease maintenance and repairs.", "These reduced expenses played a major role in helping to generate free cash flow during the second quarter. It is also important to note that we have reduced our full-year cash operating cost guidance by almost $20 million or 6% on a per unit basis. On the production side, we also beat our forecast. This is mainly due to bringing the shut-in volumes back on sooner than anticipated.", "One observation from our production data revealed that almost every well exhibited some level of flush production before returning to its previous decline profile, further evidence that the well sustained no damage from the shut-in period. In addition, the decline observed from the base production was less than previously forecasted, also contributing to the production beat. As a result, we have raised our full-year oil production guidance by 16,000 barrels of oil per day or 4%. Our dramatically reduced activity and the temporary shut in of production, combined with the expense reductions, generated positive net cash flow and deferred a large amount of production into a higher-price quarter.", "Slide 12 of our presentation this quarter illustrates the updated shut-in volumes and the corresponding product price. While we have slowed our overall spending, we have maintained our commitment to reducing GHG emissions by continuing to invest in innovative new technologies and initiatives. Our focus on reducing flaring continues with our gas capture rate now exceeding 99.5%. To further minimize flaring, particularly when caused by unpredictable downstream market interruptions, we tested a new EOG innovation we have named closed-loop gas capture.", "Closed-loop gas capture is an automated process developed in-house to reroute natural gas back into existing wells when a downstream interruption occurs. Initial results were successful and indicate that our closed-loop gas capture process has the potential to both reduce flaring and return the majority of the captured gas from the well back to production. In late 2019, we initiated a pilot project in New Mexico to combine solar and natural gas to power electric motor-driven compressors. Compressors typically use natural gas to power the engines and are a source of GHG emissions from stationary combustion.", "Since solar power is only available during the day, we designed a hybrid power plant to supplement daytime solar power generation with reliable natural gas generation at night. During the day, the solar panel should produce eight megawatts of power with no combustion emissions. Compared to the traditional natural gas-powered compression, we believe our hybrid power compression will result in lower operating expenses and a meaningful reduction in emissions. This facility will become operational later this month.", "Both of these projects demonstrate that we approach ESG like every aspect of our business, focusing on sound economic decisions and continuously improving our operations. EOG has a long history of adapting to changing industry conditions and using technology to improve the company. As Bill noted earlier, to further enhance our efforts to be a leader in GHG reduction, we recently announced a new strategic initiative to identify and implement returns-focused, low-emissions power generation within EOG. We are confident that this initiative led by our sustainable power group will be another area in which EOG will lead the way in finding more cost-effective methods to generate power while reducing our impact on the environment and generating a healthy rate of return.", "And finally, I am extremely proud of how all of our employees have responded to this year's challenges and doing so while adapting to remote working conditions. Here's Ezra for an update on recent exploration success in Trinidad." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Billy. EOG has had a very successful business in Trinidad for 27 years. About 20% of EOG's natural gas production comes from shallow water offshore fields in the Columbus Basin of Trinidad. Most of the gas is sold as feedstock into a sizable petrochemical industry on the island, primarily producing ammonia and methanol.", "Trinidad has had a competitive financial profile within EOG due to our competitive advantages in the country as a low-cost operator and our long track record of exploration success. While our capital investments in Trinidad typically make up a small percentage of our overall capex budget, the returns on that capital are competitive with EOG's domestic portfolio and consistently generate free cash flow and net income. The latest round of exploration and development in Trinidad kicked off in the spring of 2018 with the acquisition of a set of modern seismic images. The combination of new seismic and updated geologic models provided a deep inventory of prospects to develop our exploration plan.", "This plan included farming into new acreage held by another operator where we could apply our low-cost structure to improve the economics on these high-potential exploration blocks. Drilling began in July 2019, and we have recorded four initial discoveries with estimated natural gas potential of one tcf gross and 500 bcf net to EOG. The discoveries are located in shallow water off the Southeast Coast of Trinidad. Our two open water exploration wells support the installation of new production platforms beginning in 2021.", "The final two wells in the current drilling campaign are in process and should be completed by year-end. Production from this drilling campaign will more than offset natural declines from existing wells and provide a foundation of growth for EOG's total production in Trinidad. Lastly, the initial success of this latest exploration program sets up the potential for additional delineation and exploration drilling in Trinidad in future years. I would also like to take a moment to discuss our ongoing domestic exploration effort.", "We have made good progress moving multiple prospects forward during 2020 despite a reduction to our initial capital plan. Leasing across multiple basins is going well, and we are capturing contiguous positions in what we feel are the sweet spots of these plays. We have initiated drilling in some projects and are currently incorporating modern well logs and core data into our geologic models. We look forward to providing updates regarding the testing of these prospects at an appropriate time.", "Next up is Bill to provide concluding remarks." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Ezra. In conclusion, I would like to note the following important takeaways. First, our second-quarter operational results were outstanding. We rapidly reduced capital and operating costs while increasing volumes.", "This resulted in significant free cash flow. Second, we have improved our full-year 2020 guidance by increasing volumes and further reducing costs. Third, our 2021 maintenance outlook has improved to include more oil with no increase in capital. We can maintain higher volumes and cover both capital and the dividend with cash flow at less than $40 oil.", "Fourth, as demonstrated by ou results, the EOG culture continues to rapidly and sustainably improve the company. During this downturn, we believe we're in the process of making another step change to improve profitability. And finally, EOG's fundamentals have not changed. Our focus on returns, disciplined growth and generation of significant free cash flow to fund a growing sustainable dividend and strong balance sheet have not wavered.", "Our commitment to creating long-term shareholder value has never been stronger. Thanks for listening, and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] And our first question will come from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey guys. I was hoping to get maybe a little bit more color on some of the cost reductions on the well side from a capital perspective this year. Just looking through the slides, I mean, it looks like maybe it's a little bit more concentrated in the Permian in terms of your expectations. I know that's where a lot of your activity is occurring.", "But are you seeing kind of outsized gains there maybe relative to the Eagle Ford in terms of your expectations for rest of the year?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Thank you, Leo. We're going to ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yes, you're right. Most of our capex is generally directed toward the Delaware Basin. So certainly, on a dollar basis, that's where most of the savings are as well. Just to give you a little more color on the capital savings, about a third of the capital savings are from efficiency gains, a third are from pricing improvements and a third is really just delaying facilities and infrastructure from the second quarter into the future third and fourth quarter.", "So from that, we were able to see most of the cost savings probably on the completion side of our business, as I mentioned during the notes on the call. And you have to remember, we're still under some long-term contracts for drilling rigs and frac fleets. So as those roll off, we expect to be able to capture some of the market rate savings on those in the future. But we're seeing savings on some other ancillary services that I mentioned, largely things like maybe chemicals being down 20 to 25%, some of the equipment rentals being down 20 to 30% and things like that.", "So you're seeing some savings on some of the other aspects of the business, not necessarily on the frac fleets and drilling rigs." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's helpful color for sure. And I guess I was hoping maybe you could talk a little about the potential issue surrounding federal acreage here. Certainly saw from the slides that you guys are kind of saying roughly half your premium inventory is located on federal land.", "So obviously, the election is clearly uncertain, but do you guys have any thoughts as to kind of whether or not there might be any limitations going forward on the event of a Biden victory?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Leo, this is Bill. We've got a lot of experience drilling on federal land for decades. And we've been able to successfully navigate all the changes in the past. We've had many changes over the years.", "And so I'm confident we're well positioned to continue to adapt and not let those changes significantly affect us. There are two reasons why I'm confident, and then I'll ask Billy to add some additional color. The first is we've got a large amount of premium quality drilling potential on nonfederal land. So we have a tremendous inventory that's really not affected federal changes that provides significant operational flexibility.", "On top of that, our exploration program that Ezra mentioned, we believe, is going to provide some outstanding opportunities to continue to improve our inventory with better rock, and most of that is located on nonfederal land. So we've got a lot of confidence that we can continue to generate and add nonfederal potential that's even better than what we have. And then we've got a very strong growing backlog of approved drilling permits on federal land. And I think Billy has got some numbers on that.", "And then number two, our government has a system of checks and balances that allow the voices of many stakeholders to be heard. And as a part of these checks and balances, any changes would take time and have to consider all those stakeholder interests. And so the success of our responsible development is aligned with many important states and communities where we operate. For example, from federal lands, they're shared -- the revenues are shared with the states.", "And in 2019, over $2 billion of revenue was paid out to over 35 states. So it's not an easy thing to change significantly the federal drilling potential. So I'm going to ask Billy to add some more color." ] }, { "name": "Billy Helms", "speech": [ "Yes. Thanks, Bill. As Bill mentioned, we're starting with a lot of flexibility. With our decentralized culture, multi-basin approach, we have the ability to move activity around quite extensively.", "On top of that, our exploration program, which is in basins really outside of our current operating areas, has the opportunity to further add to our nonfederal drilling inventory. As Bill mentioned, we have quite a few premium locations that we've announced. And about half of those are on nonfederal lands. In addition, almost half of our premium locations that work at $30 are also on nonfederal lands.", "And you can look at Slide 10 of our deck that illustrates that. So the part of those that meet the rate of return hurdle at $30, about half of those are nonfederal. So a pretty good distribution of both federal and nonfederal make up that entire inventory list. And the non-federal inventory is just as high-quality as our federal.", "So in fact, of our nonfederal inventory, it supports at least eight years of drilling with similar capital efficiency as we're experiencing in our 2020 plan. And Bill mentioned, we have quite a few federal permits. We have about 2,500 federal permits that are approved or in progress, which is certainly more than four years of inventory. And also in the Permian Basin, over 90% of our federal acreage is held by production.", "Our government also provides, as Bill mentioned, an important system of checks and balances, which provides for due process before any regulatory changes, and these changes have to consider the interest of all stakeholders. Ultimately, regulatory and legislative changes that deny access to current property rights could amount to a government taking. So there'll certainly be some legal consequences of going through the process. And then just to point out, too, we have a very close alignment with our stakeholders, including the communities we work in.", "New Mexico is a great example of that. We recently conducted a very successful partnership with the state to complete our closed-loop gas capture project that I mentioned earlier. And on a day-to-day basis, I'm very proud of that close working relationship we have built with the regulatory agencies really to have a responsible development, open communication, paying attention to their needs. It also enables us to meet our goals and operate in a timely and efficient manner.", "And our success, in turn, has helped support the quality of life for the people of New Mexico, for example. In 2019, the state received nearly 40% of its overall revenue from the oil and gas industry. And that certainly supports the initiatives to increase funding for public health, education, infrastructure improvements and so on. On top of that, oil and gas development supports 100,000 jobs in New Mexico, along with the associated economic activity and benefits.", "A significant amount of that revenue from oil and gas activities on federal lands is also disbursed to the state governments to support local communities. And of course, the two states that benefited the most are New Mexico and Wyoming. New Mexico received $1.2 billion and Wyoming $641 million in 2019 alone. And the BLM estimates that oil and gas activity on federal lands provided about $70 billion of economic uplift nationally and supported about 300,000 jobs.", "So there's a lot of important considerations and stakeholders involved in any of these decisions to consider when changing the rules on federal land. So for these reasons, along with our diverse and really growing inventory, we remain extremely confident that EOG will be able to continue to navigate through any changing regulatory landscape just as we have in the past." ] }, { "name": "Operator", "speech": [ "And our next question will come from Bob Brackett with Bernstein Research. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Good morning I'm intrigued by the comment that bringing back shut-ins led to flush production and lower-than-expected decline. Is there a learning there to apply to future developments? And is the mechanism understood?" ] }, { "name": "Bill Thomas", "speech": [ "Billy, do you want to comment on that? Or Ken?" ] }, { "name": "Ken Boedeker", "speech": [ "Yes, this is Ken, Bob. The majority of our wells are single-zone wells under primary depletion. So as we shut those wells in, they continue to build bottom-hole pressure. And then, when we turn them on, those wells will show flush production until that bottom-hole pressure has gone down to what it was prior to that.", "So it's a mechanism that's well understood for the horizontal wells that we have that are under that. We don't have any wells that are under waterfloods or multiple zones where you can have one zone damaging another. So it is well understood, and it's following exactly what we expected on the flush production profiles." ] }, { "name": "Bob Brackett", "speech": [ "And then what about the lower-than-expected decline?" ] }, { "name": "Ken Boedeker", "speech": [ "On the base decline, in terms of the base decline, we see the lower base decline was just that we saw those wells. We had forecasted them conservatively, and the wells are performing better than what we thought they would." ] }, { "name": "Bob Brackett", "speech": [ "OK, that's great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question will come from Paul Cheng with Scotiabank. Please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning. Bill or Billy, I'm just curious, I mean, one of the comments is that with the slowdown in the activity, you have seen a substantial improvement in the efficiency because you have more time there to work on. So if we extrapolate that, I mean, even when the commodity prices are returning to a higher level, is it better off for the company from a return standpoint for you to slow your activity level and not trying to grow as fast?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Paul, thank you. The efficiencies, we've seen a substantial amount of innovative ideas that have been generated. And I think when people have more time to think, instead of doing things, they think through and able to look at the data and analyze it, they're able to come up with more ideas and a lot of creative ideas. One of the basis of our disciplined growth strategy is to grow at a pace that we can get better.", "We don't ever want to grow so fast and have so much activity that we cannot get better at the same time. So it really is a balance. You can only allocate capital at a certain speed. If you go too fast, you outrun your learning curve, etc., etc.", "So there is a benefit to a proper pace, and we have been able to benefit from this slowdown. Every downturn that we are in, and we experienced multiple ones over my 40 years, every downturn, we make the biggest improvements in the company. It's a challenge. The times are challenging.", "This has been, though, different than any of the others, other than we're working more remotely than we ever have. And we're very fortunate to have in place our very extensive inflation technology system and our database and all of our apps in that we've leveraged all that technology to analyze and to make changes and to come up with ideas how to try to continue to improve the company. So we're super excited about where we're headed. I think we're going to exit this downturn a much, much better company, able to generate even higher returns than we have in the past and really do all of our business better than we have in the past.", "So it's a very exciting time for us." ] }, { "name": "Paul Cheng", "speech": [ "Can I follow up on that slightly different way? One of your major competitors is also a well-known premium growth E&P company had drastically shifted their business model and taken a more balanced growth and cash return and with a well-defined cash flow reinvestment approach or a distribution approach. And one of the arguments that they also make is that while growing faster may, on paper, see a higher net present value but in the margins, you are at the mercy of OPEC. And I think the behavior of MBS and Putin in the recent times show that that may no longer be reliable to depend on. So I mean do you guys agree with that kind of argument? And if not, why not? I mean we're trying to understand why a premium operator like EOG will not want perhaps to have a more balanced growth and cash return business model and trying to grow at a slower pace than what you previously has been, even when the commodity price is getting much higher?" ] }, { "name": "Bill Thomas", "speech": [ "Paul, yes, that's an excellent observation. And we are fundamentally a return-focused company, and that's what we've been doing for a number of years. If you look back at the last three years -- we gave out these numbers, they're on our slide deck, and I talked about it in opening -- we've been a leader in the industry in return on capital employed. So we're focused on improving returns every year, and we've also been a leader in generating free cash flow.", "We generated $1.5 billion of free cash flow over the last three years, every year, for $4.6 billion. And that funded a very sustainable growing dividend. We increased the dividend by 72%. And we reduced our debt, our net debt by over $2 billion.", "So we've been a very disciplined company, and we did all that at a spending level that was our cash -- our capex to cash flow ratio was about 80%. So really, what you're hearing from really the rest of the industry is we're now moving into the model that EOG has been working really for the last three years. And we're thrilled about that. That is fantastic for the industry, for investors.", "And certainly, it's very positive for oil prices as we move forward. So we agree. They're doing the right thing. And that's the thing that we've been doing for a number of years, and we fully support their move." ] }, { "name": "Operator", "speech": [ "Our next question will come from Neal Dingmann with SunTrust. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning. Nice to see the continued diversified approach. My first question is around comments in your release about the improved 2021 maintenance capex leading to a higher 4Q exit rate. And really, I guess, Bill, my comments on this, based on this, could you speak to what this means for the trajectory for next year, as well as what this potentially could mean for even '22?" ] }, { "name": "Bill Thomas", "speech": [ "Billy, do you want to address that?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Neal, this is Billy. So our 2021 maintenance capital, previously, in the previous quarter, we outlined the same capital number for about 420,000 barrels a day, which was believed to be, at that time, what our exit rate would be for 2020. And certainly bringing on a bunch of extra production this year, but also incorporating the cost savings we're achieving this year, we believe we can do the same capital dollar number, $3.4 billion, but maintain the exit rate we're seeing this year of 440,000 barrels a day, which is a significant improvement again in our capital efficiency number.", "So we believe we can maintain that as we go forward. That is not just meant to be a single snapshot. I think one thing it doesn't bake into -- and to make sure everybody understands this, it's forecasted on what we're achieving today. It doesn't bake in any improvements in well performance that we expect to be able to continue to see, as well as cost reductions.", "If things stay where they are and we're staying in this environment, we're extremely confident we'll continue to see cost improvements that will drive our maintenance capital number improvements in the future. So yes, I'm extremely confident we can have an ongoing maintenance capital program in this same kind of area that we're talking about today." ] }, { "name": "Neal Dingmann", "speech": [ "Very good. My second question, just around your technical innovations. Given the strength that I think you all have really above anybody else on the upstream side, would this ever lead you to consider broadening the business by considering any sort of clean tech or NGL-related investment?" ] }, { "name": "Bill Thomas", "speech": [ "Neal, yes, our focus on GHG reductions is -- and forming this sustainable power group within our company is to really focus on technology, bringing technology forward more quickly inside the company, and it's really another organic like we do everything else inside the company to really improve our emissions but also make sure that we can do it at a very high rate of return. And so it's really to facilitate our ongoing culture. We have tons of ideas that are coming from our divisions and our folks involved in the field operations. And so we're really excited about the technology and the innovations that's coming forward, and we're really excited about continuing to reduce our emissions.", "And certainly, any kind of technology in this area, we believe, will not only benefit EOG, but it could benefit the industry. And so we're open with that. It's not a proprietary thing. It's something we're doing to really continue to improve our environment." ] }, { "name": "Operator", "speech": [ "Our next question will come from Phillips Johnston with Capital One Securities. Please go ahead." ] }, { "name": "Phillips Johnston", "speech": [ "Hey, guys. Thank you. Just a follow-up on Paul's question. EOG really stands out because unlike all your peers, you never cut the dividend over the last six years.", "And you also resisted all the pressure to buy back your stock over the last few years, while most of your competitors destroyed a lot of value doing that. The company that Paul talked about has laid out plans to start paying variable dividends or special dividends on top of the regular base dividend. I realize you guys want to continue to grow the base dividend at a healthy clip. But my question is, is there any appetite at the board level to supplement your regular dividend with a recurring variable dividend? And if not, what kind of flaws do you see with that type of payout strategy that would prevent you guys from going down that road?" ] }, { "name": "Bill Thomas", "speech": [ "Yes. Phillips, yes, your observation is right. We believe a sustainable growing dividend backed by an impeccable balance sheet is certainly the best way to return cash to shareholders, and we're very committed to that. And we don't want to take anything away from that.", "Having said that, we're certainly open to consider other additional options. And so we certainly welcome any shareholder input on that, and we remain open and flexible to do what's best for everybody." ] }, { "name": "Phillips Johnston", "speech": [ "OK. Are there any flaws or drawbacks that you kind of see with that type of variable dividend strategy?" ] }, { "name": "Bill Thomas", "speech": [ "Well, I think the biggest one is it's kind of unknown and inconsistent. And the feedback we've received from many folks is they would rather us focus on a more consistent growing dividend. And certainly, as you pointed out, we've never ever cut the dividend. And we want to make sure it's sustainable and certainly backing it up with an impeccable balance sheet.", "And so the mix we've had over the last several years, as we talked about, we believe, is a really good mix, and we believe that that will create a very, very significant shareholder value going forward." ] }, { "name": "Operator", "speech": [ "And our next question will come from Doug Leggate of Bank of America. Please go ahead." ] }, { "name": "Bill Thomas", "speech": [ "Yes, Doug, I think as we stated in the opening remarks, fundamentally, we believe we've got a very, very strong game plan. And we've got a tremendous track record to back that up, being the leader in return on capital employed in the industry while generating very significant free cash flow and giving it back in a very strong dividend increase and strengthening our balance sheet. And we believe that was the right strategy before the downturn. It certainly has put the company in a tremendous position where we are right now.", "And going forward, we believe that's the right strategy going forward: to continue to create significant shareholder value going forward. So we believe our game plan is really solid. Our growth has always been very disciplined. Again, we've only allocated about 80% of our cash -- the capex.", "And so we've been able to grow the company at a very disciplined pace. And as we go into 2021 and in the future, obviously, we need to keep our eye on the macro view of oil. We need to be aware of the market conditions. We're not interested in growing oil volumes at a strong pace in an oversupplied market.", "Certainly, that's not the right thing to do. But we want to continue -- when the time is right, we want to continue to grow the company at a disciplined pace, at a pace to where we can continue to improve our returns and improve our performance." ] }, { "name": "Doug Leggate", "speech": [ "Bill, but as a footnote to the question, I think people would really appreciate your leadership as a company here because you are one of the bigger companies, and capital discipline needs to be defined, and I would urge you to try and do that. My follow-up is maybe an obtuse way of asking the same question. You're running 10 or 11 rigs right now. You've got the potential clearly to run three times that amount.", "So I guess what I'm really trying to get at is, are you planning to retain the same operational capability? In other words, the risk that you'd move back to that level or is -- like, some of the other companies, is there an opportunity here to address the cost base of the company by rightsizing to perhaps a lower level of activity? And I'll leave it there." ] }, { "name": "Bill Thomas", "speech": [ "Yes, Doug, the -- we are really committed to our employees. They are the ones that are making our company better. They're the most valuable asset we have in the company. And so we have a lean, we run lean.", "We actually peaked on employment about four or five years ago. Even though we've gotten a much bigger company, our employee base has really not grown. And so they're very highly productive. They're highly motivated.", "And they're certainly the part of the company that we want to keep intact and take care of and encourage. So we believe we're at the right size to be effective, to be ready as the downturn is over. So we're focused on continuing to maintain and to actually increase our culture, our ability as we go forward. So we're very committed to keeping the company in great shape going forward." ] }, { "name": "Operator", "speech": [ "And our next question will come from Scott Gruber with Citigroup. Please go ahead." ] }, { "name": "Bill Thomas", "speech": [ "Yes. Good morning, Scott." ] }, { "name": "Scott Gruber", "speech": [ "Good morning. Can you hear me?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, sir. We can hear you. Yes." ] }, { "name": "Scott Gruber", "speech": [ "I actually think -- your rig count today, I think, is around half a dozen rigs. Correct me if I'm wrong on that number. Given the continued efficiency gains that you guys continue to achieve, what is the new level of maintenance rig activity and frac activity?" ] }, { "name": "Bill Thomas", "speech": [ "Billy, do you want to answer that one?" ] }, { "name": "Billy Helms", "speech": [ "Sure. Scott, this is Billy. So yes, you're right, we have actually seven rigs, counting the one in offshore Trinidad. So six domestically and one offshore.", "And our maintenance capital plan would require about 20 rigs and 10 frac fleets, and we're generally running, as I mentioned, seven rigs and five or six frac fleets today. So we're well under. And when we pulled back our activity, we dropped to a level well below our maintenance capital level. And that's important to note.", "So the plan, certainly, going into the third and fourth quarter, is to be looking at whether or not we want to add a rig or two going into the next year to get to that maintenance level or not." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then you had mentioned also that you have -- most of your rigs and frac is under long-term contracts. I imagine those were the ones you kept just given the cost of ending those contracts. Are these generally multiyear contracts in support of new e-frac fleets? Or did the majority roll off over the next 12 months? I'm trying to ascertain when those savings manifest.", "I imagine the rigs and frac crews today, given the deflation on other services, these rigs and frac crews may be pushing toward 40 or 50% of your direct well cost. So just trying to get my head around when you could see those savings roll through." ] }, { "name": "Billy Helms", "speech": [ "Yes. Sure, Scott. Yes, they are multiyear contracts. And I'd say there are various terms on the contracts.", "But in general, they're starting to roll off in the next 12 to 18 months. I think the one thing that's important to note is we build what we think are valuable relationships with our most trusted service providers. And we work through this in partnership with them to make sure we retain not only the performance and the high-performing equipment and personnel but the ability to ramp back up when we need to. So it gives us a lot of flexibility as we work through this.", "And I think certainly, we build a lot -- by building that relationship, it's a very trusted relationship we have, it allows us to capture some cost savings, just being able to capture rates at below market rates in current times, but also maintain the high-performing levels of activity that we need to sustain our business. So we're very proud of our relationships we have with them. But they typically roll off in the next 12 or 18 months. And we'll kind of reassess where we need to be working with those trusted partners." ] }, { "name": "Operator", "speech": [ "Our next question will come from Juan Jarrah with TD Securities. Please go ahead." ] }, { "name": "Juan Jarrah", "speech": [ "Yes. Thanks guys, and thanks for squeezing me in. Congrats on the exploration success in Trinidad. I did want to follow up a bit on your onshore exploration efforts.", "And I know this is easier said than done, but can you comment on any other exploration efforts you'd consider pursuing outside of the Lower 48? And with that, Canada comes to mind. And as you know, one of your peers recently announced adding a position to their Montney in Canada. So just curious on that, and I'll stop there." ] }, { "name": "Bill Thomas", "speech": [ "Ezra?" ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Juan. This is Ezra. As you know, we've got -- you mentioned our Trinidad exploration effort, and then our domestic exploration effort. And so when we think about anything else outside of the lower 48, it really comes down to how competitive can it be with our preexisting domestic portfolio.", "And that's the main driver on it. When we talk about any of our new exploration ideas, whether it's Trinidad or the new domestic portfolio, we're exploring for prospects and rock quality that will be additive to the front end of our preexisting inventory. At 10,500 premium locations, I'm not sure if we necessarily just need more to continue to backfill that deep inventory. What we're really trying to do is add to the front end of it.", "And that's what the exploration effort is focused on." ] }, { "name": "Juan Jarrah", "speech": [ "I had to ask. But thanks for your time." ] }, { "name": "Operator", "speech": [ "The next question will come from Brian Singer with Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Good morning You mentioned in the 10-Q that you expect to replace the 750 million of debt coming due next year with other long-term debt. And I thought that was interesting because you've been talking a while, I think, about paying down debt and having the cash on the balance sheet to do so. And so I wondered if you could add a bit more color on, a, how you're thinking about the right level of free cash flow to pursue; and then, if not allocated to paying down debt, where you see the best areas of allocation between incremental drilling, returning it to shareholders or keeping a high amount of cash on the balance sheet or deploying it elsewhere, like M&A." ] }, { "name": "Bill Thomas", "speech": [ "Tim?" ] }, { "name": "Tim Driggers", "speech": [ "Yes. So the reason we chose to keep the debt and long-term debt at June 30 was just the uncertainty of the market going forward between now and February when our next debt is due. Certainly, the goal has not changed, and that goal is to pay down debt. So if market conditions play out as such that we have the cash -- sufficient cash, then we will pay down that debt.", "But to be conservative, we left it in long-term just because of the uncertainty in the market. And I guess Bill will address the capital allocation portion of your question." ] }, { "name": "Bill Thomas", "speech": [ "Yes, the right level of free cash flow, Brian, is really a function of -- it's obviously variable every year, number one, based on the oil price. We -- normally, we have and we will continue to kind of use a conservative view, our macro conservative view, of what oil prices will be that year. And then we certainly have a goal every year to generate significant amount of free cash flow. As an example, the last three years, we've generated about $1.5 billion a year, on average, free cash flow.", "And we want to use that to continue to, as Tim said, consider paying our debt down. Our goal is to continue to pay our debt down more and certainly continue to work on our dividend when the environment is healthy. And then after that, we will allocate the capital, continue to allocate it at a very disciplined level just like we have in the past. And discipline means that we're not going to allocate the capital at a speed that's too fast to where we cannot learn and grow and get better.", "We want to always be increasing our capital efficiency, lowering our funding costs, continuing to lower our operating costs and those kind of things. And so you have to go at the proper speed to do that every year, and that's really the governor on allocating the capital. And whatever free cash flow is left over after all those things are done, obviously, that will be variable year by year according to the commodity prices. We will continue to be committed to using that capital to continue to create shareholder value and making sure we get the highest return possible avenue on using that cash." ] }, { "name": "Brian Singer", "speech": [ "Great. And then my follow-up goes back to the exploration program. I think Ezra, you mentioned a couple of comments I thought was interesting. One was that the exploration you're pursuing is even better than what you have and then that it's in basins outside the current operating area and largely not on federal land.", "And I wondered if you could add a bit more color on what type of impact the onshore exploration you're pursuing could have on your potential production or capital investment one or two years out, what the proximity is to being able to really move these plays into development and have a level of materiality on your production and then whether there are aboveground issues that need to be worked out with the areas from a midstream or other perspective." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Brian. This is Ezra. Let me try to unpack that one by one here. First, I'd say our -- as we've talked about in the past, our domestic exploration effort, these aren't really in frontier or wildcat basins.", "These are in basins where there is established legacy oil and gas production. And so if these prospects work out, the way that we think they will, and they're additive to the front-end quality of our inventory, we should be able to move them into an active development basis pretty quickly, obviously, pending results. The second part of that, going back to just the quality of what we're looking for, this is -- it's a better rock quality, as we've talked about before. A lot of what we're looking at is tied to what we think we can develop with our horizontal completions technology.", "And what I mean by that is just exactly how does the rock, how is it going to respond, how is it going to actually be stimulated and fracture in combination with our stimulation designs. And so those are the two things we think are really -- we're focused on. It is definitely not traditional, unconventional types of rocks that have been focused on in the past. And so as we continue to kind of push these prospects forward and get data on them, we will update you guys with our results on the testing.", "But we're feeling very confident, everything that we're seeing to date, that they are going to continue to be, as I said earlier, additive to the front end of our -- of what really is a pretty deep inventory to begin with." ] }, { "name": "Operator", "speech": [ "This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Thomas for any closing remarks. Please go ahead, sir." ] }, { "name": "Bill Thomas", "speech": [ "In closing, first, we want to thank all EOG employees for the outstanding job you're doing to improve the company during this historic and challenging downturn. As we said, the company is improving very rapidly. And we're going to emerge from this downturn a better and stronger company. And so we're eager to extend our leadership in return on capital employed, disciplined growth, free cash flow generation and sustainability.", "Thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2023-08-04	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "ROTH MKM -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Derrick Whitfield", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Roger Read", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources second-quarter 2023 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I'd like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thank you. Good morning and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release and EOG's SEC filings.", "This conference call also contains certain non-GAAP financial measures. Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website. Some of reserve estimates on this conference call may include estimated potential reserves and estimated resource potential, not necessarily calculated in accordance with the SEC's reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chairman, and CEO; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, treasurer and VP, investor relations and finance.", "Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. Our second-quarter results reflect exceptional execution throughout our multi-basin portfolio, production volumes, capex, cash operating costs, and DD&A all beat targets, driving another quarter of excellent financial performance. We earn $1.5 billion of adjusted net income and generated $1 billion of free cash flow.", "Year to date, we have generated free cash flow of $2.1 billion. Net free cash flow and cash on the balance sheet funded year-to-date cash return to shareholders of $2.2 billion, including more than $600 million of share repurchases executed during the first half of the year. Taking into account our full-year regular dividend, we have committed to return $3.1 billion to shareholders in 2023, or about 67% of our estimated 2023 cash flow, assuming a $75 oil price, well ahead of our target minimum return of 60%. EOG's peer-leading regular dividend is currently the majority of the $3.1 billion of cash return committed to shareholders this year.", "Our sustainable growing regular dividend, which we have never cut nor suspended, remains the first priority to return cash. We also continue to leverage special dividends and buybacks to return additional cash depending on market conditions. Through the first two quarters of 2023, we have deployed more than $600 million to opportunistically repurchase shares during times of increased volatility. And while our cash return strategy remains consistent, what has evolved since putting the $5 billion repurchase authorization in place over a year and a half ago is the fundamental strength of our business, and we continue to get better through relentless execution of and commitment to EOG's value proposition.", "We invest in high-return projects across our multi-basin portfolio, adding lower cost reserves which reduces our breakevens and expands our margins. We are now active -- actively investing in five premium basins more than any time in our history. Our foundational assets in the Delaware Basin and Eagle Ford continue to consistently deliver, and we are pleased by the outstanding progress across our emerging southern Powder River Basin, Ohio Utica Combo, and South Texas Dorado plays. Well productivity and cost performance are meeting or beating expectations across our portfolio as we invest and develop each asset at a pace that supports consistent execution and continued innovation.", "We continue to lower the cost basis of our company, utilizing technology and innovation that improves well performance and lowers well costs to sustainably reduce our finding and development costs. Efficiencies and infrastructure investments are lowering current and future unit operating costs and contribute to our emissions reduction efforts. Finally, we have further strengthened our pristine balance sheet this year while generating significant free cash flow and funding our transparent cash return strategy, which is designed to deliver consistent shareholder value through the cycle. And heading into the second half of 2023, our continued performance gains will be complemented by strong fundamentals.", "Oil demand has been resilient despite volatility in the first half of the year, and demand is showing signs of continued growth through the second half of the year. Strong inventory draws since the start of the year have pulled oil inventories below five-year averages, and refinery utilization remains high. Production growth in the U.S. is on pace to deliver similar rates as 2022 while exiting the year with significantly less activity as public companies continue to demonstrate discipline.", "And it appears OPEC+ are following through on announced production cuts. The culmination of these actions should further reduce inventory levels and place upward pressure on pricing through year-end. Regarding North American natural gas, while inventory levels remain above the five-year average, prices have firmed up recently, reflecting a reduction in natural gas drilling and an increase in demand from both power generation and LNG exports. These trends should support a more balanced supply and demand environment late this year and heading into 2024.", "We remain constructive on the longer-term gas story for the U.S., supported by recent LNG project approvals and the growing petrochemical complex on the Gulf Coast, and we are especially pleased with Dorado's place in the market as one of the lowest-cost supplies of natural gas in the U.S. with an advantaged location and emissions profile. EOG's value proposition is delivering results, and the strength of our business has never been better to deliver value for the shareholders through industry cycles and play a leading role in the long-term future of energy. Now, here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. EOG delivered excellent operating and financial performance in all areas in the second quarter. Oil production increased 3% year over year, while total production increased 5%. Per unit cash operating costs remained essentially flat from the prior year period despite industrywide inflation.", "Compared to the first quarter, however, per unit cash operating costs declined by 5% and were lower in all four categories. We're beginning to see the benefits of lower costs improve our operating margin. The DD&A rate fell by 10% year over year, driven by the addition of reserves at lower funding costs compared to our production base. Capital expenditures came in at $1.5 billion, $130 million below our target and just slightly above the first-quarter level.", "The difference was mostly due to the timing of non-well-related costs such as infrastructure projects. Year-to-date, capex of $3 billion is -- is 50% of the full-year budget. The improving capital efficiency of our assets, consistent operational execution, along with the application of innovation and technology to lower costs, is making a big impact on the financial performance of the company. We earned adjusted net income of $2.49 per share in the second quarter and generated free cash flow of $1 billion.", "Return on capital employed for the last 12 months is 29% at an average WTI oil price of $81 and Henry Hub natural gas price of about $5. Here's Billy to review operations." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. I would like to first thank our employees for their commitment and dedication that led to another quarter of exceptional execution. EOG once again beat our forecasted targets and delivered a near-perfect quarter. As a result, we have completed the first half of the year ahead on volumes and ahead on total per unit cash operating cost.", "Our volume performance in the first half of the year is due to several factors. The performance of new wells is outpacing our forecast, primarily in the Delaware Basin, part of which is due to our new completion design. We're also experiencing less downtime due to market interruptions than previously planned. Our investments in infrastructure, along with real-time data analytics, provided the control and flexibility needed to redirect sales volumes to different markets to maintain production.", "Unit cash operating costs through the first half of the year averaged 5% below the midpoint of our quarterly guidance due to a combination of several factors, including lower lease operating expenses as well as reduced transportation costs. Lower workover and compression-related expense reduced LOE, while transportation costs benefited from the flexibility to sell into more favorable markets throughout the quarter. Credit goes to the cross-functional efforts of our production, marketing, and information systems teams who remain focused on sustainable, low-cost operations quarter after quarter. We have line of sight to maintain these cost improvements throughout the year and, as a result, have reduced our full-year guidance for total unit cash operating costs.", "Operationally, EOG is firing on all cylinders. Our foundational Eagle Ford and Delaware Basin plays are delivering exceptional results, while our emerging plays benefit from learnings and technology transfer across our multi-basin portfolio. Our decentralized structure supports innovation in each operating area which functions much like independent technology incubators and compounds the impact of that innovation by taking ideas born in one area and expanding them across multiple basins and across multiple functions. Across every operating area, our front-line engineers and geologists work the technology every day to lower costs and improve well performance.", "We look for strategic opportunities to vertically integrate certain services within the supply chain where we find an opportunity to better align those services with our goals. That includes areas like downhole drilling motors, drilling mud, sand, and water. Developing such capabilities in-house significantly improves the cost structure of the company. This quarter, we are highlighting drilling performance improvements in the South Texas Dorado, south Powder River Basin Mowry, and the Ohio Utica Combo plays.", "Our emerging plays are moving up the learning curve faster due to the benefit of drilling advancements and the application of technology over the past decade. We continue to evolve our proprietary suite of applications powered by real-time high-frequency data and analytics to assist our front-line employees to collaborate and make decisions faster. The combined benefit of these efforts has already contributed to an increase of up to 25% in drilling feet per day for wells in our emerging plays this year. In our Ohio Utica play, we recently drilled a 15,700-foot lateral in 2.6 days and 100% end zone.", "Capital expenditures for the first half are also running light due primarily to the infrastructure span that has been deferred into the second half of the year. It is worth noting the economic impact of our investments in EOG-owned infrastructure. Our realized U.S. oil price in the second quarter was $1.23 above WTI, and U.S.", "natural gas was essentially flat to Henry Hub. Capex for our drilling and completion program are right on track. The rate of change for inflation this year is consistent with what we had anticipated at the start of the year. So, we still see line of sight to limit year-over-year well cost inflation in '23 to just 10%.", "While any additional softening of service costs this year has the potential to impact 2024, it's simply too early to predict. The market remains too dynamic, particularly given the constructive outlook for oil in the second half of the year. Furthermore, we remain focused on generating long-term sustainable cost reductions driven by utilizing the highest-quality equipment and the highest-performing teams which are less exposed to the leading-edge price declines that we see in more marginal equipment. Our $6 billion capital program is focused -- is forecasted to deliver 3% oil volume growth and 6% total liquids growth.", "In Dorado, our South Texas natural gas play, we delayed the timing of planned completions earlier this year, and about five wells have been pushed into early 2024. Thus, we reduced our full-year gas volume guidance accordingly. We maintained our drilling pace in Dorado to build operational momentum and capture the corresponding efficiencies. As a result, we are seeing a 16% improvement in our drilling times for Dorado as shown on Slide 11 of our updated investor presentation.", "We are constructive on natural gas longer term and believe Dorado will be one of the lowest-cost and lowest-emission supplies of natural gas in the U.S. and will compete on a global scale. This year started out with many challenges but also many opportunities to continue to improve the company. I'm very pleased with the progress our teams continue to deliver and remain optimistic about the second half of the year and how the company is positioned for the future.", "Now, I'll turn the call over to Ken to discuss progress on lowering our emissions." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. We're continuing to make outstanding progress on our emissions goals. As a preview to our 2022 Sustainability Report that will be published in September, we are excited to announce that we've reached three significant near-term goals well ahead of schedule. First, our 2022 GHG intensity rate of 13.3 metric tons of CO2 E per MBOE is less than our 2025 goal of 13.5.", "Second, our 2022 methane emissions percentage is 0.04% of our -- of our natural gas produced and is significantly less than our 2025 goal of 0.06%. And third, we have achieved our zero -- zero routine flaring goal in 2023 well ahead of our 2025 target and significantly ahead of the World Bank initiative, which strives to attain zero routine flaring by 2030. We have also confirmed that our wellhead gas capture rate for 2022 was 99.9% of the gas produced. We continue to expand our in-house continuous methane monitoring technology named iSense, and finished 2022 with 95% of our production in the Delaware Basin covered by iSense monitoring.", "As a reminder, the power of iSense is incorporating continuous methane monitoring data with our production and facilities data, and monitoring this data on a 24-hour basis in one of our four control centers. This enhances our ability to identify potential leaks and prioritize repairs that are needed in the field to minimize fugitive emissions. As with a number of EOG operations, it is anticipated that collection and integration of iSense data will lead to continuous improvement in facilities and production design and operations. We're excited about the progress we've made in the last several years on our emissions performance and are very proud that we have such dedicated employees who are continually making our operations more efficient.", "Their innovative solutions and push to beat expectations have driven us to exceed our goals early. We are currently assessing new goals with our operations groups and anticipate publicizing those goals in the first half of 2024. Now, here's Ezra to wrap up." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Ken. Our second-quarter results demonstrate once again that EOG's value proposition works. We invest in high-return, low-cost assets across a diverse multi-basin portfolio. We leverage technology and innovation to sustainably lower well costs and reduce emissions.", "These high-return, low-cost investments generate significant free cash flow to fund our transparent cash return strategy, backstopped by a pristine balance sheet to deliver consistent shareholder value through the cycle. Most importantly, our culture is at the core of our value proposition and is our ultimate competitive advantage. Thanks for listening. We'll now go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question comes from Paul Cheng of Scotiabank. Paul, please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Oh, thank you. Good morning. Can you hear me OK?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, sir. Paul, go ahead, please." ] }, { "name": "Paul Cheng", "speech": [ "Yeah, thank you. Two questions please. First, on the cash return, on the free cash flow. I think that you are paying more than 100% but just want to see how you determine that this is the right time to pay more than 100%.", "Or how should we read that into the future given you're already in a net cash position? So, we think that that's a little bit of change in the management view, and the payout that's going to perhaps closer to 100% until that -- maybe that market condition change. And also that whether we should read the second consecutive quarter of the buyback means that management now see the buyback as more of a ongoing part of the two blocks on your cash return. That's the first question. Second question that, on the legal, the decision that to delay the five Dorado well in this year, can you maybe share with us, I think Billy had mentioned that, but can you share with us the -- what's the thinking behind the delay? I know that the street has been bugging you that you should delay the [Inaudible]. You guys do it in this quarter but want to understand a little bit better in terms of the decision-making process behind -- and the -- the full-year guidance reduction I think is all related to that, right? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Sure, Paul, this is Ezra. I think I'll take that first question, and then -- and then Billy can address the second question regarding Dorado. So, you know the first one, it's kind of a broad question on our cash return strategy. So, the -- hopefully, I hit on all the points that you were trying to get at.", "But first, let's start with our guidance, which is -- has always been the minimum of 60% of free cash flow. So, we've never guided to that 60% as being a specific target. It's always been a minimum of 60% of our free cash flow. And the reason we like that guide is -- is honestly, it's pretty simple and dynamic. It's easy to understand and communicate.", "The minimum of 60% is it can be supported over a range of price scenarios, especially when there's a pullback in prices. And really, we can underpin that with the growing, you know, sustainable regular dividend that we highlight and talk about so much, and that's what can provide really a meaningful amount of cash return through the cycle. Again, I do want to emphasize, we consider that regular dividend to still be the true hallmark of a strong and improving underlying business. And we like the message that it sends. We increase that regular dividend commensurate with the strength of the business, lowering the cost basis of the company, and also in consideration with -- with -- with strengthening our -- our balance sheet, more specifically to kind of payouts that you've seen this year.", "We do recognize the value of opportunistic buybacks as part of that -- that cash return strategy as a way to -- to create shareholder value. So, I would say that really the decision that you've seen is consistent with our overall capital allocation strategy where we buy back shares in an opportunistic manner as a means to -- to -- to return cash above and beyond that minimum of 60% in addition to our regular dividend. And, you know, at times, instead of paying a special dividend, we basically evaluate that buyback, just like we do any of our other investment decisions. Whether it's exploration or drilling high-return oil and gas wells or investing in infrastructure. It's how is that investment going to create long-term shareholder value. That's what we primarily focus on.", "And so, the percent will fluctuate depending on -- on a specific moment in time and what the circumstances are around our cash return strategy. But what we have guided to and what you can bank on is it's the minimum of 60%. Now, we highlighted we paid 67% out last year, and we're very well positioned halfway through the year right now where we've already committed or paid 67% as I highlighted in the script. And all -- for the Dorado timing, I'll hand it over to Billy." ] }, { "name": "Billy Helms", "speech": [ "Yes, good morning, Paul. On Dorado, we had indicated earlier in the year that we were evaluating the potential to delay some of our completions in Dorado, and we are consistent with that strategy. We elected to maintain our drilling operations there, and we're seeing the benefits of that decision to play through the efficiencies we're gaining on the operational side. And we've given some color on that on our new investor deck, illustrating the improvements in drilling times there in that place.", "So, we're very pleased with that progress. But don't forget, you know, our investment strategy includes a gas price of investing for $2.50. That's our premium prospect when it relates to gas prices. We certainly were watching inventory levels on the gas side and -- and just prudently decided to delay a little bit of the completions there until we saw the fundamentals improve. And so, we will be just laying some of those completions as we go into late this year, which pushes five wells into the next year.", "So, that's simply the thinking on that." ] }, { "name": "Operator", "speech": [ "Our next question comes from Neal Dingmann of Truist. Neal, the line is yours." ] }, { "name": "Neal Dingmann", "speech": [ "Morning guys, nice quarter. Ezra, my question is on productivity. Specifically looking at that Slide 10 of yours, certainly appears that your Delaware's wells continue to notably improve. And so, what I'm wondering is if this is driven more by just continued D&C inefficiencies, or is it more informational targeting? I asked that, I just was looking at the bottom-left corner of those pies, and it looks like over the years, noting the wells' improvement, but it looks like they're becoming more focused on that Wolfcamp oil.", "So, I'm just wondering what is driving that, but it does look -- it does look very positive." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Neal. This is Ezra. I'm actually going to let Jeff Leitzell step in and address your question." ] }, { "name": "Jeff Leitzell", "speech": [ "Hey, Neal, this is Jeff. You know, on our Permian productivity, we've been really happy with how the wells have performed in the Delaware, you know, through the first half of the year. So, all of our primary targets, they're performing right now as forecasted or better. And I'd say this is primarily due to just our stack pay co-development strategy in combination with the new completion design we've talked about, which has continued to be really successful in our Wolfcamp targets.", "And in regards to that new completion design, just kind of a quick update, we're still observing a 20% increase in both first-year production EUR for both oil and BOEs in the Wolfcamp. So, you know, for the full year of 2023, we're planning on bringing on about 70 total Wolfcamp wells with this new design, which is nearly twice the number we've completed in 2022. And also with it, you know, as we've talked about, we're continuing to test and expand the technique in other areas and targets in the Delaware Basin, along with all across our emerging plays and our multi-basin portfolio." ] }, { "name": "Neal Dingmann", "speech": [ "Yes, very helpful. And then -- sorry about that. My second question is just on [Inaudible] costs. In the past, you all have been among the best, not only just what I would say renegotiating contracts, but I know in the past to be able to stockpile pipe at the right time and all those sort of things.", "I'm just wondering if maybe give us a little bit of details of how you see the market now." ] }, { "name": "Billy Helms", "speech": [ "Yes, Neal, this is Billy. So, certainly, we're seeing the service prices start to soften, but these savings from lower service costs really probably won't manifest into a lower well cost until later this year and certainly into 2024. These leading-edge prices are falling across various products and services for the industry, and certainly, it varies depending on the product in the area. I'd add that there are several factors that kind of reflect kind of where our '23 capital program is. As a company, as you mentioned there, we focus on sustainable cost reductions through our operational efficiency gains.", "As a result, we do seek out the highest-performing equipment and crews, super spec rigs, electric frac fleets, etc. That's really less exposed to some of these headline inflation numbers that we're seeing on the more marginal end equipment on the spot market." ] }, { "name": "Ezra Yacob", "speech": [ "And the second part of that is we really anticipate that service costs would moderate through the year when we put our plan together since, you know, rig count really peaked back in November and we built our plan in February, expecting well cost would increase no more than 10% relative to this last year. So, things are really playing out exactly the way we'd planned. Another point there is we do try to secure about 50% of our well cost in the start of any given year that really helps insulate us from inflationary impacts to our activity levels. And then, lastly, you know, based on how we do manage our business, we are less exposed to the volatility and service costs in any given year. And I would remind you, as you've kind of alluded to there, our well costs are -- really only increased about 7% last year compared to the over 20% inflation that we saw in the market. So, yeah, it really helps us kind of manage our activity level with confidence as we go through the year.", "And we'll certainly remain flexible as we look into next year to see how we can position ourselves for next year." ] }, { "name": "Operator", "speech": [ "Our next question comes from Arun Jayaram of J.P. Morgan. Arun, the line is yours." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning. I was wondering if you could help us think about the second half oil production profile for EOG. It looks like your updated guidance points to a slight sequential decline in 3Q. And I just wanted to get some thoughts on -- you know, to hit if there's still kind of confidence on hitting the midpoint of the oil guidance range because that would imply a fourth-quarter oil production number in the mid-48s to upper 480s.", "So, help us think about the sequential movement in volumes in the second half of the year." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Arun, this is Billy. Yeah, I think the thing to keep in mind is we do operate in more than one basin and multiple plays, and we have varying sizes of well packages in each play. So, the timing of really the quarter-to-quarter variance in production is really driven by the timing on a quarter-to-quarter basis of how these packages across different plays come online and, even within the quarter, how that varies month to month within the quarter can vary can drive the volume profile. And I would remind you and just ask you to go back and look at the change from the first quarter to the second quarter, it's actually larger than what you're seeing in the forecast from the third quarter to the fourth quarter.", "So, we would -- we are maintaining ratable activity throughout the year and just as a matter of simply timing on bringing on some of these larger packages. So, so far this year, we've either met or exceeded our volume of content forecast and have complete confidence in being able to meet the midpoint of our guidance." ] }, { "name": "Arun Jayaram", "speech": [ "Great. Just to follow up, I want to get some thoughts on the Ohio Utica. One of the midstream providers, you know, highlighted how they're building out, call it, a backbone in the Utica. Looks like you may be the anchor E&P for that investment.", "But I'd love to get some thoughts on the Utica. We did see that you maybe pulled your total guidance down a little bit this year but just an update would be helpful." ] }, { "name": "Lance Terveen", "speech": [ "Arun, hey, good morning. This is Lance. Yeah, I would say what we're most focused on right now is just getting all the midstream infrastructure in place. So, we do have two ongoing projects that are going on.", "We've got one in the north and then another one in the south as well. So, what we're really focused on is linking our production to the available processing capacity. And really what's happening is, it's a consistent strategy that we've done in all our place, where we're going to have a balance of EOG-owned infrastructure along with strong relationships with really good working third parties. We're going to need both in the Utica Combo up there.", "And so, right now, just focused on setting up 2024 and beyond with the infrastructure." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Arun, this is Ken. I just want to give you a quick update on the -- on the Utica. You know, we're making excellent progress on that -- that program this year. We do plan to bring a four-well package online this month and our -- our frac crew will be starting up again in a few weeks.", "So, you know, the wells we drilled and completed in 2022 do continue to deliver at our expected performance, and we also continue to add acreage and look for additional low-cost opportunities to add to our position up there." ] }, { "name": "Operator", "speech": [ "Our next question comes from Doug Leggate of Bank of America. Doug, the line is yours." ] }, { "name": "Doug Leggate", "speech": [ "Oh, thanks. Good morning, everyone. Ezra, it's a long time since we had to worry about the U.S. growing too quickly and all the whole market share battle issues that we all lived through over the last four or five years with OPEC.", "But in your opening remarks, you did talk about Saudi's decision to support the price of extend your cuts. So, I'm wondering, when you sit in the boardroom and you look at what is an artificially high oil price because Saudi is cutting production, arguably to support price, how do you think about what that means for your business, the appropriate level of spending the -- you know, the right allocation of, one could call it, windfall cash flow because it's not a -- you know, it's an artificially supported price by definition? So, I'm just curious how you think about what that means for your business, your cash flow is basically being subsidized again by Saudi." ] }, { "name": "Ezra Yacob", "speech": [ "Good morning, Doug. Thanks for the question. This is Ezra. Yeah, it's -- it's a dynamic environment, right? We had a large SPR release last year that -- that increased the inventory levels kind of entering this year.", "And as those have started to come down now, they're going to start -- you know, all indications that they're going to start coming down significantly faster because OPEC+, as I said, looks like they are going to support, you know, their cuts to kind of bring those inventory levels down. So, your point is it's a very interesting one, and it's one we discussed regularly. Obviously, we do different scenarios around. So, you know, in general, what I'd say is, you know, on this year, what we look at is, you know, whether it's crude products, gasoline, distillates, either globally or domestically, you know, inventory levels are basically in the lower half of a -- of five-year range. Now, that's a -- that's a choppy five years, like we said, because of 2020 with COVID and then of course with 2020 with half the year being exceptionally low and then half of the year being somewhat, you know, artificially higher with the SPR. Outside of the last month, you know, the last month, we've seen kind of gasoline and distillate demand being just a bit weaker domestically. But otherwise, products demand has really been in line all year with our expectations.", "Crude demand has continued to increase, continue to grow, and not only with the -- the high inventory levels that we entered the year with, but really supply, I think, has surprised everybody a little bit to the upside. And it's not necessarily, as you pointed out, U.S. growth or new barrels, but it's really historically displaced barrels that are back online. And, you know, dominantly, what I'm talking about is Venezuela and Iran and maybe a little bit of -- you know, I think everyone's been a little bit surprised, at least we have, on the resiliency of the Russian barrels to hit the market. So, we don't forecast those as having a significant longer-term effect.", "And one thing that we think about when we talk about the spare capacity, it's now offline with OPEC+ is some of that spare capacity is really offsetting the previous spare capacity I just highlighted from Venezuela and Iran. So, it is a little bit different from prior years. Ultimately, what we see is the increasing oil demand, overall, exiting this year. You know, most estimates have it at least at 102 to exit the year, which would put us at a -- at a significantly high point.", "Now, to your ultimate question on how we actually look at that internally, you know, our planning begins with everything we just talked about, kind of an evaluation of the macro environment with respect to supply and demand fundamentals, including spare capacity that's offline just by choice and spare capacity that's offline for, you know, true geopolitical reasons. But then, more than that, Doug, it really does come down to evaluating across our -- all of our premium assets. Both individually and collectively, we evaluate the correct investment level for each of those, the activity levels to make sure that each asset will deliver improved metrics year over year. And ultimately, that'll be driving optimized returns and free cash flow generation at the corporate level.", "And that's what we'll continue to set up EOG to create shareholder value in the near and long term. Honestly, the growth ends up being a real output of our ability to invest and continue to lower the cost basis of the company and provide, you know, both near-term and future free cash flow generation." ] }, { "name": "Doug Leggate", "speech": [ "It's an interesting dilemma as well. Thank you for your perspectives on that. A quick follow-up. hopefully as a quick one.", "I wanted to touch on -- I think this was asked earlier. I wanted to elaborate just a little bit the comments about inflation limiting to 10% this year, but it's too early to talk about 2024. You're pretty much the second to last company to have your earnings call this -- this quarter, and pretty much everybody else has been pointing to, yeah, we're going to see some deflation in 2024. I'm just -- are you just being conservative, or do you genuinely believe that there's still upside risk to' capital in '24 from inflation [Inaudible]?" ] }, { "name": "Billy Helms", "speech": [ "No, Doug, I don't think we are anticipating that you'll see inflation into next year. I think what the comment was, you know, we started out the year -- let me just clarify something. You know, we saw inflation last year coming in the business. Rig counts kind of peaked in 20 -- in November of last year.", "We anticipated we would see deflation in the market going into this year. And so, we built our plan based on the fact that our well cost in 2023 would increase no more than 10% relative to 2022. So, that's where the 10% comment comes from. As we go into '24, I think we recognize and clearly we're seeing deflation in our business. I'd say it's too early to predict what that level of deflation is going to do to our well costs next year. There's still a lot of market dynamics that we see in the business, as Ezra just went through.", "And so, it's early to predict what that's -- impact that's going to have on next year's capital program, as well as kind of how we choose to develop our plays across the different plays that we have to invest in. So, that's the comment about too early for next year. It's just too early with the market dynamics we have for next year." ] }, { "name": "Operator", "speech": [ "Our next question comes from Leo Mariani of ROTH Capital Partners. Leo, please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Yeah, good morning. Just wanted to kind of touch base on some of the emerging plays, really thinking about kind of Utica and PRB, and also some of the undisclosed exploratory plays, you know, out there as well. Just trying to get a sense if, generally speaking, you've seen any increased competition, you know, in these plays during the course of -- of 2023. I mean, it still seems like EOG's being a bit of a lone wolf in pursuing some of these plays where, you know, others, you know, maybe aren't doing as much.", "But maybe there's more kind of going on behind the scenes that you guys can help out with here." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo, this is Ezra. Yeah, we continue to see very limited competition domestically on any exploration, I think. And you can kind of see that, too, just in the -- in the public comments that are made. Most operators, companies, whether private or public, have really kind of picked a basin and are honing in on more of a, you know, drill down kind of specialist manufacturing mode.", "We continue to explore. And as Ken said, we're still looking to put on low-cost, high-quality bolt-on opportunities in some of those plays. With respect to, you know, the Utica and PRB, in specific, you know, it's a little bit early this year on Utica. We're pleased with what we're seeing on the operations side. And as Ken said, we'll get a completion spread in there and get some results here coming up.", "On the PRB, we've had a very strong year. Everything's really falling into line there. And again, the PRB and Dorado are really benefiting from more of a continuous operations program this year as we focus on, you know, Austin Chalk and a little bit of co-development in the Eagle Ford and Dorado. And then, we center most of our focus in the PRB -- in the southern PRB is basically on the Mowry this year. And then, shifting to international for just a minute on the exploration side, as you guys know, we both explore onshore and offshore in shallow water internationally.", "I would say, onshore, you know, there's still limited competition on the exploration side for unconventionals than what we see. Of course, it's still a high bar that we have for international opportunities to -- they really do need to compete with our domestic portfolio. You know, we're not just exploring internationally to try and say that we've got something internationally; it really needs to compete and deliver value for the shareholders. And then, the shallow water, probably a bit of the same, maybe a little bit more exploration out there. But dominantly, I think what you're hearing about in -- in --in offshore international exploration is a bit more in the deep and even ultra-deepwater than really in the shallow water that we're focused on." ] }, { "name": "Leo Mariani", "speech": [ "OK, appreciate that. Just wanted to turn to capex for a minute here. You talked about this a little bit in your prepared comments, but you guys are kind of at 50% of the budget, you know, in the first half, kind of right on where you expected here. You know, looking at guidance, third-quarter capex is up a fair bit, you know, versus second quarter? So, do we expect to see kind of a commensurate drop, you know, in 4Q capital to kind of get you back to that kind of midpoint on the full year? Just trying to get a sense of kind of capex cadence in the second half." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo, this is Billy. So, on the capex, I'd say, you know, our drilling and completion activity has been very ratable throughout the year, and we're pretty much on track with what our plan had laid out. The reason third quarter is up is simply due to the timing of our non-drilling and completion capital, and it moved from the second quarter into the second half of the year. Everything else, all of our drilling and completion capex is really on pace with what we laid out.", "We've spent about half the capex for the year, and we've completed about half the wells that were planned for the year. So, I'd say everything is pretty much on track. But fourth quarter will be a reflection of how that non-D&C, non-drilling, and completion capex gets spent in the third." ] }, { "name": "Operator", "speech": [ "Our next question comes from Scott Gruber of Citigroup. Scott, the line is yours." ] }, { "name": "Scott Gruber", "speech": [ "Thanks, and good morning. I'll just go ahead and ask a few questions upfront here since they're related. You guys now to continue the efficiency gains in the emerging plays. What do you see in terms of efficiency gains more broadly across the portfolio? Obviously, the gains are always greatest in the new plays, but I'm curious if you're still seeing solid gains more broadly across the portfolio.", "And if you are, without adding rigs and frac crews next year, just curious how much the overall well count could potentially grow next year, just on the back of those efficiency gains. Is that a kind of low single-digit type figure, potentially a mid-single-digit figure?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Scott, this is Billy. We're still seeing continued improvements, although as you noted, at a lesser pace in our more active foundational plays like the Delaware Basin and the Eagle Ford, simply because we've been active there for a long period of time. And as you noted, the emerging plays benefit from that transfer of technology more -- more rapidly, I guess, than some of the existing plays. And really, you know, I just like to tie that back in a little bit. We still experiment quite a bit with applying technology across all of our assets and especially true of our foundational plays.", "The efforts we've gone to put in our data systems and track data across our plays gives us a lot of insights on how to -- how things are performing. That goes back to our bringing in-house, our -- our drilling tools, our drilling motors, those kind of things. So, we still see improvements. In some of our supplemental deck in the back, you can see some of the increase in drilling times, say, in our Permian program, and how that's improved over time, and we'll continue to drive that down. And -- and so, that's an effort there. And then, the same for the Eagle Ford, I think those are some of the slides in the back of our deck.", "So, we're still seeing improvements in both the drilling times and the completed lateral feet per day. And we're very encouraged with that because that enables -- the technology transfer enables quickly to go to the emerging plays and continue to reduce our costs. How that translates into next year, again, I'd say we're still a bit early to see how things are going to play out on the macro side depending on what the market looks like. So, it's -- it's early to see, but I'm encouraged with the efficiency gains that we're seeing that we'll continue to find sustainable ways to improve our business and lower our cost basis going forward." ] }, { "name": "Operator", "speech": [ "Our next question comes from Derrick Whitfield of Stifel. Derrick, please go ahead." ] }, { "name": "Derrick Whitfield", "speech": [ "Good morning, all. For my first question, I wanted to focus on long lateral development, which has been a theme throughout Q2 and is a development you're highlighting in the Eagle Ford with an over 15,000-foot lateral this quarter. As it relates to the Eagle Ford and, perhaps more broadly for your portfolio, are there considerations beyond these geometry and legacy development that would limit your ability to pursue more 15,000-foot laterals?" ] }, { "name": "Ken Boedeker", "speech": [ "Derek, this is Ken. Really, you know, longer laterals are where we're increasing our capital efficiency in the Eagle Ford. If you -- if you look at it, we've drilled over 85 wells with laterals over 2.5 miles long across the Eagle Ford. And we've utilized these longer laterals over the last five-plus years where appropriate.", "If you think about it, the faulting across the Eagle Ford does make these longer laterals challenging. But our data-driven approach and multidisciplinary teams enable us to steer the laterals within some narrow target windows and apply an optimal completion design to maximize that capital efficiency. These longer laterals have really contributed to us lowering our cost bases in Eagle Ford and -- and are an example of how we're focused on increasing our efficiencies even in that play where we've been developing it for over 10 years." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Derek, this is Billy. And I might just add, you know, the lessons we're learning from our longer laterals we're pushing in the Eagle Ford, we're applying across all of our portfolio. And so, we're seeing those opportunities across every asset that we have." ] }, { "name": "Operator", "speech": [ "Our next question comes from Neil Mehta of Goldman Sachs. Neil, please go ahead." ] }, { "name": "Neil Mehta", "speech": [ "Yeah, thanks. Thanks very much. The first question is just around Dorado. Maybe you could talk about how that's tracking versus your target.", "How do you think about the timing of recompleting those Dorado wells?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, yeah, Neil, this is Ken. As far as the way that's tracking, the five wells that we've deferred, we would see that we'd be completing those early in next year. And, you know, it's still early in the play, and the wells in our core area are really performing as we've anticipated." ] }, { "name": "Neil Mehta", "speech": [ "Timing dynamic. And then, would love your perspective, stepping back to talk about the M&A markets, we've seen a pickup in consolidation throughout U.S. shale. How do you think of EOG's role in future consolidation? And is the best strategy, given the exploration program that we've been talking about here, is to continue organically or -- to grow the business? Or do you think there are going to be opportunities a la Yates to bolt on?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neil, this is Ezra. I think, you know, we've been 30 years strong as an organic exploration company, you know, 20 years separated there. And I think that's the -- the thing about that is the way we look at these deals is that it's similar to how I described every investment decision, is it's a -- it's a returns-based decision, how is that investment going to create long-term shareholder value. We don't think of M&A versus exploration.", "But as a first mover looking trying to capture the sweet spots of new plays, obviously, you can get a lower cost of entry, and that offers a higher return. So, the exploration, I think -- organic exploration, you know, stands on itself. With regards specifically to M&As, you know, we're aware of opportunities. We evaluate many many opportunities, and the challenge with it always comes back to is that opportunity really going to be additive to the corporate portfolio, is it really going to be something that we is better than what we're already drilling, is that something that's going to add to the returns and add to the 10 billion barrels of -- of equivalents that we've already captured as premium resources. And we continue just to -- just to, you know, evaluate opportunities but kind of come up short with that evaluation." ] }, { "name": "Operator", "speech": [ "Our next question comes from Roger Read of Wells Fargo. Roger, please go ahead." ] }, { "name": "Roger Read", "speech": [ "Yeah, good morning. I'd like to come back to two things that have been discussed a little bit. One, Ezra, just you talked about, you know, the low carbon advantage or the emissions advantage of Dorado. I wonder if you could go in a little more depth on specifically what you see there.", "And then, my other question was -- would be on the inflation side. With oil at 80, 85 right now, aren't we sitting in a situation where inflation pressures might be reversing rather than behind us? And if that's not a right way to look at it, I'd be curious, you know, what you are seeing that says deflation is the right track here." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. Roger, this is Ken. I'll go ahead and answer the first part of that, with Dorado. You know, we're really confident that our gas production at Dorado generates significant returns, and that -- that development will be both operationally efficient and have a small emissions footprint because of the dry nature of the gas and really the proximity of that gas to the -- to the Gulf Coast markets." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Roger, this is Billy. On the inflation question, I think you're spot on. I think that's why we're saying, you know, certainly we see deflation in the market today, but it's too early to think about 2024 because of the dynamic markets that we're seeing play out. And we're kind of be patient and watch the market and see how it develops before we make any comments about where cost would go in 2024.", "I think, as a company, we're certainly well positioned to take advantage of any opportunities that are present in -- in our market. And our strategy about contracting and seeking out the highest-performing crews are things that drive really our focus on sustainable cost improvements through the long term. And that's really what drives our advantage over trying to capture the -- the premium barrel, premium price for all of our products." ] }, { "name": "Operator", "speech": [ "We have no further questions on the phone line, so I'll hand back to Mr. Yacob." ] }, { "name": "Ezra Yacob", "speech": [ "We appreciate everyone's time today on the phone call. Thank you to our shareholders for their support, and I just want to give a special thanks to our employees for delivering another exceptional quarter. Thank you, everybody." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2023-11-03	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "ROTH MKM -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Capital One Securities -- Analyst", "name": "Philips Johnston", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Johnson Rice and Company -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Derrick Whitfield", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Nitin Kumar", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Josh Silverstein", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day everyone, and welcome to EOG Resources third quarter 2023 earnings results conference call. As a reminder, this call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to the chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. This conference call includes forward-looking statements, factors that could cause our actual results to differ materially from those and our forward-looking statements have been outlined in the earnings release, and EOG's SEC filings. This conference call also contains certain non-GAAP financial measures, definitions and reconciliations for these non-GAAP measures can be found on the EOG's website. In addition, some of the reserve estimates on this conference call may include estimated potential reserves, and estimated resource potential not necessarily calculated in accordance with the SECs reserve reporting guidelines.", "Participating on the call this morning are Ezra Yacob, chairman and CEO; Billy Helms, president and chief operating officer; Jeff Leitzell, EVP exploration and production; Lance Terveen, senior VP marketing; and Piers Hammond, VP investor relations. Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. Over the past five years, EOG has increased production 33%, decrease per unit operating costs 17% generated over $20 billion of free cash flow and over $20 billion in net income. We've increased our regular dividend rate nearly 350% and including both regular and special dividends paid and committed to have returned about $13 billion directly to shareholders, all while reducing total debt by more than 40%.", "At the core of our historical and future success of EOG's employees who embrace and embody the EOG culture. And our third quarter results continue to reflect our employees outstanding execution, strong performance and our foundational Delaware basin and Eagle Ford assets, as well as continued progress across our emerging plays have delivered production volumes, capital expenditures, and per unit operating costs better than expectations, and enabled us to raise our full year oil production guidance and reduce our full year cash operating costs guidance. In addition to announcing third quarter results yesterday, we demonstrated our confidence in the outlook for our business by increasing the regular dividend 10%, announcing a $1.50 per share special dividend and raising our cash return commitment to shareholders beginning in 2024, to a minimum of 70% of annual free cash flow. Our annualized regular dividend is now $3.64 per share, which represents the highest regular dividend yield among our peers and is competitive with the broader market.", "This dividend increase reflects two things. First, the progress we continue to make on our cost structure by leveraging technology and innovation sustainably improves EOGs capital efficiency. Furthermore, we expect the advantages of operating in multiple basins will drive additional improvements to EOGs cost structure and returns and reduce the break-even oil price to fund the dividend in the years ahead. Today we estimate that we can maintain our current level of production and fund the $2.1 billion regular dividend commitment at an oil price as low as $45 WTI.", "Second, this dividend increase reflects our confidence in EOGs expanding portfolio of premium plays to grow the company's future income and future free cash flow. This quarter we've highlighted recent well performance results in the newest addition to our premium portfolio of assets, the Utica combo play. Over the last several years, our success in organic exploration continues to add low-cost reserves and consistently drive down our DD&A rate enabling EOG to create value through industry cycles. Beyond our regular dividend, which we've never cut or suspended, we raised our cash return commitment to shareholders to a minimum of 70% of annual free cash flow beginning in 2024.", "Alongside our portfolio of premium assets, and our cash flow margins EOGs balance sheet continues to strengthen allowing us to supplement the dividend with a larger commitment of future free cash flow through special dividends and share repurchases. In addition to the $1.50 per share special dividend declared yesterday, we executed additional opportunistic share repurchases for the third consecutive quarter. For 2023, we estimate our committed cash return will be about 75% of free cash flow. EOG continues to consistently execute lower our cost structure through innovation efficiencies, and organically grow the quality of our portfolio to improve capital efficiency and free cash flow potential.", "Our transparent cash return strategy is anchored to a sustainable growing regular dividend and backstopped by an impeccable balance sheet. EOG is in a better position than ever to deliver value for our shareholders through industry cycles and play a leading role in the long-term future of energy. Here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. EOG delivered superb operating and financial performance in the third quarter. Oil production increased 4% year over year, while total production was up 9% year over year per unit cash operating costs declined by 5% from the prior year period. The DD&A rate fell by 9% year over year driven by the addition of reserves at lower finding costs compared to our production base.", "Capital Expenditures came in at $1.52 billion, $140 million below our target, mostly due to the timing of non-well related expenditures, such as infrastructure projects. Year-to-date, capex of $4.5 billion is 75% of the full year guidance. We earned adjusted net income of $3.44 per share in the third quarter, and generated free cash flow of $1.5 billion. We announced a $1.50 per share special dividend and during the third quarter we spent $61 million on share repurchases, bringing total 2023 share repurchases through the third quarter to $671 million, at an average price of $108 per share.", "In total, we're on track to return $4.1 billion of cash to shareholders this year, in the form of regular dividends, special dividends and repurchases. This equates to about 75% of our estimated 2023 free cash flow higher than our 2023 minimum commitment of 60% of annual free cash flow return to shareholders. Overall, it was a strong quarter driven by solid operational execution and improving capital efficiency. Here's Billy to review operations." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. EOGs operational performance continues to improve and this quarter is another example. We exceeded our third quarter forecast across the board on volumes per unit operating cost and capex. Thanks goes to our employees for consistently delivering the EOG value proposition quarter after quarter.", "Third quarter volumes exceeded guidance largely due to accelerated timing of activity within the quarter driven primarily by improved efficiencies, as well as some benefits from better well productivity. Efficiencies in our completion efforts have reduced the time to bring wells to sales. For example, in our Eagle Ford play, the completed lateral fleet per day has increased 19% year over year. The team has also reduced non-productive time by 31%, which is the added benefit of lowering total well cost.", "In addition, our new completion design continues to drive performance improvements in the Delaware basin, with targeted laterals realizing a 20% increase in productivity. Well productivity improvements is the primary reason we were able to increase the full year oil guidance by 1500 barrels of oil per day. Last quarter, we reduced our full year guidance for total unit cash operating cost, mostly due to lower release operating expense and reduced transportation cost. Our third quarter performance continued that trend.", "Our production teams are optimizing both production and cost through our many technology applications that allow for real-time decisions to maximize production and reduce interruptions of third-party downtime. These cross functional efforts by our production, marketing and information systems teams continue to pay dividends. Once again, we are lowering our guidance for full year cash operating costs by approximately 2% this quarter, bringing our total reduction since the start of the year to 3% or nearly $0.30 per BOE. Capital Expenditures in the third quarter were lower than expected due to timing of infrastructure projects, as well as variances in activity across our multi-basin portfolio.", "We expect to maintain our current levels of activity for the remainder of the year, and our full year capital guidance is unchanged. For 2024, we are currently evaluating this year's results as we develop our plans for each of our plays. As a reminder, we invest to generate returns and growth is a byproduct of the investments in our highly economic multi-basin portfolio. We are very pleased that the levels of activity across our portfolio are at a pace that allows for continuous learning and improvements, and thus we'd expect to maintain similar levels of activity through 2024.", "With the strong results we're achieving in our emerging plays, we anticipate a few additional wills in both the Utica and Dorado. As we typically do each year, we will remain focused on managing costs through the cycle by contracting for about 50% of services and leveraging our scale and consistent activity levels to build and maintain strong partnerships with service providers. As a result, we're able to take a longer-term view to sustainably lower well cost over time. This year is shaping up to be another solid year performance for EOG.", "And I remain excited about the opportunities we see through the remainder of the year and into 2024. Now, here's Jeff to talk about the updates on the Utica play." ] }, { "name": "Jeff Leitzell", "speech": [ "Thanks, Billy. In addition to sharing new well results, I'd like to review a few unique characteristics of our Utica asset to provide distinct advantages including our low cost of entry, our mineral rights position, held by production status, geologic operating environment, and downstream infrastructure status. This year we added 25,000 net acres and have now accumulated 430,000 net acres predominantly in the volatile oil window across 140-mile trend running north to south. Our leasehold cost of entry remains less than 600 per net acre.", "We've also acquired 100% of the mineral rights across 135,000 acres of our leasehold. Mineral rights significantly enhance the value of this play by adding 25% to our production and reserve streams for no additional well cost or operating expense. Furthermore, over 90% of the Utica acreage is held by production and requires only a handful of wells to be drilled every year to maintain. The result is more control over our development to allow us to invest in an appropriate pace to capture and incorporate technical learnings and continually improve the play.", "Another unique advantage of the Utica is its geologic operating environment. Due to the place favorable geologic properties, the opportunity to drive down cost through efficiencies is significant. The target zone is both shallow and consistent, which lends itself easily to drilling 3-mile laterals, and we anticipate testing even longer laterals as we continue to delineate and collect more data. Consistent geology also allows for precise targeting of the very best most productive rock.", "We're able to regularly drill 99 plus percent in zone within a narrow 10-foot window. As a result, this play provides an excellent geologic environment for significant efficiency improvements and low-cost operations. On Slide 11 of this quarter's investor presentation, we highlighted our strong and consistent well result to span our acreage position from the north and to the south. Our initial four-well Timberwolf package was drilled at 1000-foot spacing and has been performing well above type curve.", "These 3-mile laterals each deliver an initial 30-day production averaging 2150 barrels of oil equivalent and an 85% liquid cut. With a large amount of liquids in the product mix all of the wells we have drilled today support double premium potential across our acreage position. The Utica also has the advantage of abundant midstream infrastructure, the existing processing fractionation and residue build out eliminates the need for significant new build commitments, which was a well-recognized advantage when we evaluated the play. In the north, we have placed into service, a pipeline that runs east of our acreage into the market center.", "In the south, we have an established reliable third-party building out a new pipeline that is expected to be in service late this year. With these trunk lines in place investment will be limited to in-field gathering as we prepare for a modest increase in activity next year. Our current plans for 2024 are to run approximately one full drilling rig that will continue to test optimal well spacing and improve operational efficiencies. Our Utica asset is another textbook example of our differentiated approach to build a diverse portfolio of premium assets predominantly through low-cost organic exploration, which adds reserves at lower finding and development costs and lowers the overall cost basis of the company.", "The end result is continuous improvement to EOGs companywide capital efficiency. Our track record of successful exploration and strong operational execution has positioned the company to create shareholder value through the industry cycles. Here's Lance with a marketing update." ] }, { "name": "Lance Terveen", "speech": [ "Thanks Jeff. In our South Texas Dorado play, we recently completed two projects to service future gas flows from this premium, dry natural gas play and natural gas treatment facility and the first phase of a 36-inch pipeline. The facility was recently placed in the service to treat gas from the Dorado play prior to transportation through our 36-inch natural gas pipeline to sales near Freer, Texas. Both projects were delivered on time and under budget, a testament to our operational team and foresight to procure a pipe counter-cyclically, along with other long lead time materials.", "The second phase of the natural gas pipeline will kick off construction in early 2024 and is expected to be complete late next year. Phase 2 of the pipeline will terminate in the Agua Dulce, which provides access to three other pipelines with connectivity to the growing demand along the Gulf Coast and Mexico, and potential premium pricing relative to Henry Hub. Our pipeline will be instrumental in expanding our gas sales options for the 21 TCF of net resource potential we've captured in Dorado, and perhaps more importantly, save $0.20 to $0.30 per MCF in transportation costs over the life of the asset versus third-party alternatives. Now, here's is Ezra to wrap up." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Lance. EOG continues to deliver on our value proposition and our approach remains differentiated for several reasons. First, our premium return standard investments are governed by one of the highest hurdle rates in the industry 30% direct after-tax rate of return using $40 oil, and $2.50 natural gas pricing. Second is organic exploration, by prioritizing organic exploration we add inventory and reserves at lower finding and development costs.", "Third, our assets are unique. By remaining focused on the first two returns and organic exploration, we have built one of the largest highest return lowest cost and most diverse portfolios of assets in the business. We operate in 16 plays across nine basins and have a mass resources of 10 billion barrels of equivalents with an average finding and development cost of just $5 per barrel. At our current production level, that's equivalent to about 30 years of low cost, high margin inventory, and our assets continue to grow.", "Fourth is technology. We have never considered as a manufacturing process. We leverage both infield technology and information technology to improve well productivity and efficiencies. Our goal is to lower costs and expand our margins to constantly improve our existing assets and new discoveries.", "Thanks for listening. Now, we will go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] And our first question comes from Scott Hanold of RBC Capital Markets. Please go ahead." ] }, { "name": "Scott Hanold", "speech": [ "Thanks. Good morning. Congrats on the strong quarter. Ezra, I think it was pretty notable, the way you all took a step up in your fixed dividend payments.", "I mean, you've got a history of doing that, but it was a good step up this quarter, in addition to boosting the shareholder return program to 70%. So, can you talk about some of the more significant factors like, why make those pretty pronounced moves now? Is there something in the business model, you guys get more confidence at this point to make those moves?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Scott, thanks for the question. The decision to raise minimum cash return to 70%. Overall, it just demonstrates our commitment our shareholders. It reflects our continual improvements since the initial commitment was made nearly two years ago.", "And really to your question on the business model change, it's really just our ability to deliver that shareholder value. It's grounded in the fact that our strong cash return generation capacity continues to improve the strength of our industry leading balance sheet continues to improve and our commitment again to just being disciplined with our reinvestment across the entire portfolio. So we're in a position now where we feel very confident that and proud that we can increase that minimum commitment to 70%. And we look forward to being able to deliver that to the shareholders." ] }, { "name": "Scott Hanold", "speech": [ "So when you look at those breakeven points to do that, sort of this base business, is that breakeven point then lowered from, say, where you were a year or two ago to where it is now?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes. That's right, Scott. As we continue to invest in these higher-return, lower-cost reserves and bring them into the base business, we continue to do some strategic infrastructure spending to lower the overall cost of the company going forward. That continues to expand the free cash flow potential of the company.", "And that, in addition to strengthening the balance sheet, everyone knows we retired a $1.25 billion bond earlier this year, and we've been able to be not only net zero but actually put a little bit of cash on the balance sheet. All of those things are what gives us confidence in the base business going forward and the fact that we can continue to increase this minimum cash return to our shareholders from the 60% up to the 70%." ] }, { "name": "Operator", "speech": [ "The next question comes from Leo Mariani of ROTH MKM. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey. You guys spoke about sort of similar '24 activity versus 2023, but also kind of said that there might be a handful of more wells in the Utica, in the Dorado. So I just kind of wanted to get a sense there. I mean, do you see this as kind of a give-and-take proposition, where if you do a little bit more in some place, you might have kind of a few less wells and some other plays? And just trying to get a sense of how maybe costs are trending overall in wells today." ] }, { "name": "Billy Helms", "speech": [ "Yes, Leo. This is Billy. Yes, as far as 2024, certainly, it's too early to get into many specifics about the plan. But I would say that our plan will be based on a couple of different factors.", "One would be the macro environment, kind of what that looks like going into next year. The other one is really governed by what's the optimum level of activity across each of our plays that supports the objective of having continuous improvement. And so, on that, on our core plays say, our foundational plays, the Eagle Ford and the Delaware Basin, we're very pleased with the activity levels we currently have there. And we'd expect to maintain similar levels of activity in those plays.", "We see the advantage of that is we are seeing continued improvement in each one of those plays, as we've talked about already on this call, And then, for our emerging plays, the Utica and the Dorado, for instance, we're very pleased with the results we're seeing to date. And so, as we move into next year, we certainly want to continue that learning, and you may see a few additional wells in those plays on top of what we've done this year. As far as the cost trends, that's one reason we like to maintain these levels of activity. It allows us to improve our cost basis, improve operationally on how we're executing these wells, and we're seeing the benefits of that play out.", "So I'll maybe leave it at that and see what your follow-up is." ] }, { "name": "Leo Mariani", "speech": [ "OK. No, that's helpful. So maybe just to kind of jump over to the Utica. Obviously, you brought a new package of wells online here.", "I know it's sort of early days, but when you look at these wells, do you tell yourself that you've already been able to see some improvement over the last year? Just trying to get a sense, are these wells a little better than they were, say, a year ago? And then, on the cost side, in the Utica, are you starting to see maybe the cost come down a little bit here? Or maybe it's kind of early. I think you've had a target of sort of sub-$5 F&D, just not really sure kind of where you're at today." ] }, { "name": "Jeff Leitzell", "speech": [ "Yes. Thanks, Leo. No, we're really excited about the latest package that we brought on. That's our Timberwolf package that we highlighted on Slide 11.", "It's in a 1,000-foot space test. And of note there, as we've talked about our new completion design down there in the Permian and the Wolfcamp, we were able to go ahead and implement that on that. And as you can see from the initial results that we talked about, the 30-day IPs on that or 2,150 BOE per day over that 30-day period. So really excited about how that's turning out from the spacing test.", "We have an additional package. We actually highlighted in our slide deck, Xavier. We're going to tighten the spacing on that to 800 foot, and we should have results coming on here fairly shortly. So we're very excited with the results.", "And with that application of new completion design, it's going to be tough to tell if that's really what the big mover is, but we're extremely excited about the results that we're seeing so far. And from a cost standpoint, we really haven't disclosed specific costs in the Utica. We're still in the early stages, as we talked about in learning in this play. We've got a lot of room for operational efficiency gains.", "We've got some infrastructure, small infrastructure to develop that we can install like water gathering, reuse and sand to drive down costs. And then, as we said, with the well results we're seeing, we feel really confident in supporting that sub-$5 F&D cost." ] }, { "name": "Operator", "speech": [ "The next question comes from Arun Jayaram of J.P. Morgan Securities. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Good morning. Ezra, I wanted to get your thoughts maybe at a high level in 2024. On the third quarter call of last year, you provided some soft [Inaudible]. I was wondering if you could maybe give us some thoughts on overall, how you see the year kind of playing out.", "If I look at consensus forecast, it's for about $6.1 billion of capex with [Inaudible]. So I want to get your thoughts if you could give us some soft guidance around next year." ] }, { "name": "Billy Helms", "speech": [ "Yes, Arun. This is Billy. Let me try to weigh in on that for you. And I apologize if I missed some of your question, you were breaking up a little bit there.", "As far as 2024, as I said earlier, it's a little bit early to give specifics on the plan, but I would say just look at our activity levels we're seeing today. And I would expect to see similar levels of activity on our core foundational plays going into next year, give you some hint as to what activity levels we might have. I would expect a few additional wells next year in our emerging plays, such as the Utica and maybe Dorado. And then, as far as service costs, let me just weigh in a little bit on that while we're talking about that.", "We certainly understand service costs have moderated in the industry as industry activity has dropped throughout the year. The magnitude of those declines certainly varies between the services and in which basins we're operating in. We remain focused on just continuous improvement that we see in our efficiency gains throughout our operations. So we tend to use the latest technology in the highest-performing crews, which includes super-spec rigs and frac fleets.", "That equipment continues, as you know, to be in high demand with service pricing proving to be more resilient. We have seen drops in tubular and casing costs for next year that will tend to reduce overall well cost. But again, the magnitude of that effect on overall well cost is yet to be quantified. So as we go into next year, certainly, we expect to maintain our activity levels that we see in our core plays, a few extra wells, some softening on well cost.", "Overall, I think that's kind of where we're headed." ] }, { "name": "Arun Jayaram", "speech": [ "OK. Fair enough. Maybe one for Jeff. Jeff, if you can give some more details.", "You've provided your Utica type curve on Slide 11. Just wanted to get a sense of is that type curve for the entire play? Is it for the volatile oil window only? And would that be representative of both the North and the Southern portions of the play?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yes. That would just be the general type curve in mix across the 140 miles kind of from North to South there in the play. So it's pretty consistent. You can see on the slide that we put our first handful of wells on there, and that's really what a lot of the type curve was going to be built off.", "And you can see the Timberwolf package is the most recent one that we brought on and the outperformance in that one." ] }, { "name": "Operator", "speech": [ "The next question comes from Philips Johnston of Capital One Securities. Please go ahead." ] }, { "name": "Philips Johnston", "speech": [ "Hey, guys. Thanks. Just a few quick follow-ups for Jeff on the Utica. First, on the 55% oil cut, what sort of API are we talking about on that crew? Or is it more of a quasi-condensate type of mix there?" ] }, { "name": "Lance Terveen", "speech": [ "Hey, Philip. This is Lance. Yes, what we're seeing is still early, but what we're seeing is kind of APIs in kind of the 40s to 50s." ] }, { "name": "Philips Johnston", "speech": [ "OK. Sounds good. And then, the wells so far are pretty much all been up along the eastern edge of the acreage. And I'm pretty sure you guys have previously cited the black oil window.", "It's sort of in the exploratory phase still. But how does the geology change as you go West? And when would you expect to test other parts of your acreage?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yes. Good question. So to kind of start off, why do we started off on the East, really the big reason with that is just we had good quality seismic data over on the east side of it when we were first starting out. And obviously, that's really important, so you can get a really good look at the detailed subsurface, any kind of drilling hazards to make sure you perform really, really clean tests.", "So where we started, where that seismics at, obviously, we started the delineation. We've got spacing tests in place. And then, as we start to zero in on that spacing, we'll be able to kind of step out more to the west and be able to apply some of those spacing techniques to start developing out there. But we do know there's going to be variation in productivity.", "And as you did state, we do expect it to get more oilier as you do move out to the west." ] }, { "name": "Operator", "speech": [ "The next question comes from Neal Dingmann of Truist Securities. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Morning guys. Thanks for the time. I'll maybe stick with the Utica. Just my first question, typically, would your AMI in the eastern side of the play limit in any way thoughts about incremental activity or potential additional acquisitions in that Eastern oil window?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neal, this is Ezra. We're pretty happy with the footprint that we've been able to put together since we entered the play. I think we highlighted on the call that we've added an additional 25,000 acres, bringing our total up to 425,000 acres at very low cost. And let me just highlight again that we actually own the minerals across 130,000 mineral acres down in the southern portion of the play.", "So when we look at it right now, as Jeff said, we're drilling some initial spacing packages, some delineation tests where we currently have seismic. We're also this year acquiring seismic in a couple of different parts of the play. So we can continue to step out and gather results on that and provide a bigger better estimate of what we've captured here for you guys. As far as being limited on incremental activity.", "I want to think of it that way. Like I said, we've put together a very large contiguous acreage position. And really, our activity right now as far as investment in pace, as Billy said, is going to be determined on our ability to collect data and integrate the production data that we're seeing back into the front-end of our geologic models. The activity is really always considered to be at a pace where we can continue to learn and incorporate those learnings on the next set of wells." ] }, { "name": "Neal Dingmann", "speech": [ "Great details, Ezra. And then, just to follow up, I want to make sure, I'll stick with the Utica. Just it sounds like you have more than ample takeaway if I hear right, on the Southern Utica, but I just want to make sure it was clear for plans on the Northern portion that. Bill, I think you're one of the guys just talking about it.", "Maybe just talk about the infrastructure plans and if that would capture any of the upside if you decided to boost activity in that northern area." ] }, { "name": "Lance Terveen", "speech": [ "Yes, Neal. This is Lance. Good morning. I think what makes this place so unique is that it is just positioned to so much existing capacity.", "I mean, actually, in fact, when -- there's even some idle processing capacity and fractionation, ideal processing capacity that's nearby on our acreage. So when we look at that just from an infrastructure standpoint, we've been focused on more just the gathering infrastructure. And as Jeff mentioned, we put into service our pipeline in the North and then we're going to have a pipeline in the South as well. So we're going to have plenty of running room, just long-term running room as we think about the infrastructure that we're putting in place along with third parties and then also the available capacity that's in place." ] }, { "name": "Operator", "speech": [ "The next question comes from Doug Leggate of Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thank you. Good morning, everyone. Excuse me, I'm not loving the new dial-in system, but thanks for getting me on. Ezra, I wonder if I could hit first two things.", "I want to hit the cash return change and the evolution of the portfolio as you look forward. So dealing first with the 70% number, that obviously is subject to whatever the level of capital is. And I guess, the flow on the machine is that 60% of free cash flow or 70% of free cash flow is still free cash flow, which means it's entirely dependent on what you decide as a discretionary spending, which to me doesn't mean a whole lot. So what commitment can you give or at least guidance or framework for what the level of spending looks like in order for us to interpret what the increase in free cash flow commitment actually means?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug, it's a good question. We based our cash return model on free cash flow for a couple of reasons. It's simple but it's also pretty dynamic, and it's close to the intentions that we have over a range of different price scenarios. So we're not entering into an area where we need to modify the commitment going forward.", "It's something that once we come out with that commitment, hopefully, our shareholders can see by our track record that once we come out with something, we're very consistent with it. The 70% return is a minimum of free cash flow is pretty consistent with our long-standing strategy, I would say, to build shareholder value and position the company to be able to do it through industry cycles. And that means that reinvestment at the right pace in our high-return inventory, that's the best thing we can do to create shareholder value. Ultimately, the cash return strategy, it begins with our commitment to a growing and sustainable regular dividend which, again, we raised that.", "We increased that just 10% and that dividend has never been cut or suspended over the 25 years that we've been paying one. In addition, we've committed now to return either additional specials or buybacks to reach that 70% minimum commitment. For us, hopefully, the increased commitment, the reason we like the 70% of free cash flow is, it's consistent with our free cash flow return in that it puts the emphasis on our regular dividend, which we think is peer-leading and competitive with S&P 500. And again, we feel that we can maintain current levels of production and cover that base dividend at WTI prices as low as $45." ] }, { "name": "Doug Leggate", "speech": [ "I appreciate the new breakeven number, Ezra. That's very helpful. Thank you. My follow-up is on portfolio evolution because, I guess, we all know that 10 years is not the number, I guess, for EOG.", "But yet your slide deck continues to refer to 10 years of double premium. So if I assume that's dominated by the Eagle Ford and the Permian given that you're happy with that level of activity, how does it evolve if the next leg of growth is Dorado, Utica in terms of mix? And I guess what I'm really driving at is, our channel checks on midstream suggests you could potentially be drilling north of 300 wells in the Utica in 2026. Does that sound reasonable to you in which case, what's the implication for mix?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug, I'm not going to speculate on 2026. As Billy said, it's a little bit early to be speculating on 2024. What I'd come back to is our disciplined base of investment. We have a lot of flexibility in the Utica.", "Specifically, we've got over 90 or roughly 90% of the acreage there is held by preexisting production. We only have a minor drilling commitment there. So we're in a great spot where we can actually develop that asset in a disciplined ability to increase activity commensurate with the increase of our learnings. Now, overall, your question is recently our exploration efforts have yielded very high return, more combo plays, or in Dorado case, a gas play, and that's true.", "And there's something to be said for that. Our exploration and emphasis, I would say is dominantly more oil-focused because the margins are a bit more forgiving on oil from what we see. But ultimately, with our premium investment hurdle rate, and that's at bottom cycle pricing of $40 oil and $2.50 natural gas through the life of the asset, we're somewhat agnostic to the product mix. Now, it does require a heavy lift, by Lance, to discover new market potentials for us.", "And we continue to invest in different parts of the infrastructure and supply chain to lower our costs and lower our break-evens. But ultimately, we're investing in high-return assets and we continue to build out the inventory in a high return framework. More than the 10 years of double premium drilling, I think I'd steer you toward the 10 billion barrels of equivalents overall that is, at a finding and development cost, lower than our current DD&A rate. And as I said in the opening remarks, that contemplates maintenance levels at current levels of production, roughly 30 years of production.", "So we're very confident in the high-return inventory that we put together and believe that it's going to continue to deliver great shareholder value in the future." ] }, { "name": "Operator", "speech": [ "The next question comes from Charles Meade of Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning to you and the whole EOG team there. Billy, I'm going to make one more run at the '24 outlook. I think you've laid out that the activity levels are going to be pretty similar to '23. If I look at or if I try to think about the big moving pieces, you're going to have some efficiency gains, some capital efficiency gains, especially as some costs come down.", "On the other side, you have a slightly higher base production. So is it a reasonable stake in the ground to think that you guys can have similar results of '23 in the sense of low single-digit oil growth and kind of low-teens NGL and natural gas growth?" ] }, { "name": "Billy Helms", "speech": [ "Thanks, Charles. Yes, this is Billy. For '24, we've kind of said it's a little early to get specifics about things. But I would point you to the fact that we're running at a pretty decent level of activity now.", "We're going to maintain that same level of activity going into next year. Now, just a reminder, we're spending about $6 billion on our capex program this year, and it has proved to be fairly ratable through each quarter of the year. Similar levels of activity, there will be some upward movement maybe on efficiency gains. Like you said, we'll have a little bit more efficiency gains to factor in maybe some cost reductions due to casing cost, those kind of things.", "We'll still have some infrastructure spend. We may drill a few more wells in the Utica and Dorado plays. And we're trying to quantify that as we go toward the end of the year. But directionally, that kind of hopefully points you toward what next year might look like.", "We're not going to see a big ramp up in activity in any play as we see today, small changes in capital efficiency and well cost as we go into next year, we have some infrastructure spend." ] }, { "name": "Charles Meade", "speech": [ "Got it. Thank you, Billy. And then, I'm not sure who this would be best for, but I'm curious about your 3-mile laterals in the Utica. It seems to me like you're pleased with the results because you mentioned that you're even considering longer laterals in the Utica.", "But curious if you could address that point? And then, also whether we can expect to see 3-mile laterals in other key plays for you guys? And if yes, where, or if no, what's special about the Utica that it works there and not in other places?" ] }, { "name": "Billy Helms", "speech": [ "Yes. Charles. This is Billy again. Let me give you kind of an overview and then Jeff may add some more color.", "The 3-mile laterals in the Utica, yes, we're very excited about that play and its ability to do these longer laterals very efficiently on the operational side. We're drilling these things in record times and making progress with each pattern of wells we drill. And we feel we have line of sight on being able to continue to reduce cost over the longer-term period as we apply learnings from other plays into this area. So that's going to continue.", "Now, we're also drilling longer laterals in some other plays. We've drilled some 3-mile laterals in the Eagle Ford and we're drilling 3-mile laterals in the Delaware Basin. So we expect that trend to continue in each of our plays. Now, Jeff might want to add some colors on what we're seeing on performance there, too." ] }, { "name": "Jeff Leitzell", "speech": [ "Yes. Just a little bit to add in. In the Delaware, in the Eagle Ford and in Utica, we've had great operational efficiency with our 3-mile laterals. And that's one of the things, as you start stretching out the length of these laterals, you want to make sure that operationally you don't have any issues on the drilling side and you're able to optimally complete that.", "And we've seen really, really good results with that. The other thing we're also seeing is by drilling these longer laterals, we're able to supplement one vertical with a 3-mile lateral versus two verticals and a 2-mile lateral. So we're able to see substantial cost savings there anywhere from kind of 15% to 25%. So we're definitely excited about where we're seeing it.", "Obviously, it ties in with our leasehold, and we have to see where we can actually drill 3-mile laterals. But we are looking to expand that across our plays moving into next year and beyond." ] }, { "name": "Operator", "speech": [ "The next question comes from Scott Gruber of Citigroup. Please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yes. Good morning. The enhanced completion technique in the Delaware appears to be a success, if I heard correctly, 20% uplift in productivity. But there has been a question regarding applicability as you've talked about in the past.", "What's your latest thinking on how widely applicable the technique is across the play? And will there be an increase in the number of wells completed with the technique next year?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yes, Scott. Just there's no major updates this quarter, especially just in the Permian with the Wolfcamp. We're still seeing the outstanding strong results that we talked about earlier. Consistently 20% uplift in the first year production in EOR.", "The thing I would say is there in the Permian, we do have a handful of tests up in the shallower targets, and that's really where our focus is shifting out there. We hope to bring those on toward the end of this year and kind of the first half of next year. And once we get those results, we'll go ahead and share those with. But then around the rest of the plays, we talked about in the Powder River Basin, we do have a test in the ground we're currently evaluating there.", "And then, more so over in the Utica, obviously, we started applying that with all of our new designs there. So seeing good results, but we're still just kind of collecting data and we'll see exactly what formations that we have success with moving forward." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then, a follow-up on the South Texas pipeline. Does the completion of Phase 2 of the pipeline later next year influence how you think about the cadence of activity in Dorado? Are you inclined to add rigs into the play later in '24 to set the stage for a stronger growth once the pipeline is complete?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Scott. This is Billy. Phase 2, first of all, we're very excited about that project. Getting that pipeline is going to give us access to multiple markets in that basin.", "The pace of activity in Dorado is really governed by our learnings and results more so than the pipeline date. Certainly, we're excited about the pipeline, because as Lance laid out, it's going to allow us to save $0.20 or $0.30 in Mcf over the life of those reserves, which is 21 Tcf of reserves, But the pace of activity is really governed by how we see the macro and our learnings as we progress to play really independent of the pipeline." ] }, { "name": "Lance Terveen", "speech": [ "And then, this is Lance, too. Some of the other strategic things we've done as you think about Phase 2, once we go in service, just to start, we already have existing capacity with other existing markets that are in place. But as Billy mentioned, really excited about getting to what we're going to potentially see as premium markets because we've got offtake agreements already in place, two of those which are very strategic. One of those, obviously, is with Cheniere and excited to see the development and momentum they're getting with the Stage 3 facility where we'll be a big piece of.", "And then, just two, the Transco, we'll have a strategic connection there. And that's going to give us access all the way up essentially the Gulf Coast Corridor, getting all the way into the premium market. So again, really excited about that as well, just from an offtake capability as well." ] }, { "name": "Operator", "speech": [ "The next question comes from Derrick Whitfield of Stifel. Please go ahead." ] }, { "name": "Derrick Whitfield", "speech": [ "Good morning. I have two questions related to topics not covered yet. So first question, I wanted to focus on your CCS pilot, was the benefit of a year of experience in the pilot. I wonder to see if you could speak to some of the learnings to date and applicability of the pilot to your larger operations as a means to achieve net zero." ] }, { "name": "Billy Helms", "speech": [ "Yes, Derrick, this is Billy. Yes, the CCS pilot project, we're very excited about that project, what we've learned and how we can move forward with the play. So as far as how we've learned, there's a lot of operational things we've kind of uncovered as we develop that project, how we think about the CO2 we're sequestering, how we store it, how we move it, the pipeline infrastructure, the equipment we need, those kind of things. But also technically, what we've learned there as well.", "One thing we bring to the table on all these CCS projects, we have an immense amount of understanding of geological areas to store the carbon and our ability to map out those zones. And then, we're also very good at drilling wells. So applying those two things give us some advantage on projects as we move forward. What we've learned in some of the monitoring we've done so far is very supportive of our initial thoughts on the play and how we can store the CO2 and observe its movement in the ground and be able to have confidence that we can store that for a sustainable period of time.", "So we're learning a lot. We're very pleased with the results we're seeing. Now, we're also looking beyond our pilot project to see where else we can apply that technology. And it's early to say yet where we're going to take that, but needless to say, we're encouraged with what we're doing and excited about the opportunities moving forward." ] }, { "name": "Scott Gruber", "speech": [ "Great. And then, second, I wanted to lean in on your shallow water exploration schedule. With offshore drilling rig rates approaching historic levels and industry messaging sustained strength, how does that impact your views on the timeline for exploration wells and, more importantly, development activities, assuming exploration success?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Derrick. This is Billy again. Certainly, for offshore, as you mentioned there, the rig utilization is pretty tight or I'd say it's pretty high. So the market remains pretty tight on offshore rigs.", "We are very happy and pleased with the activity we have ongoing in Trinidad. We've been in the Trinidad, just a reminder, we've been in Trinidad for over 30 years. And currently, we have line of sight on probably one of our longest running programs we've ever had in the history of that play. And so, we've secured a rig there for that operation and very pleased with the results we've seen to date.", "So now moving forward, as far as our exploration activity, certainly we're interested in pursuing other shallow water offshore opportunities in the company, and mainly because we've built quite a bit of expertise of drilling these offshore wells very efficiently and cost competitively compared to the industry. So we think that gives us a strategic advantage being able to pursue these kind of opportunities around the world. So we're continuing to look for those opportunities. And certainly, those opportunities would factor in the cost of doing business today the current offshore rig environment.", "And they'd have to be competitive with what we're doing in the rest of our portfolio. So looking at it that way, we see opportunities to continue to pursue that and excited about what that looks like going forward." ] }, { "name": "Operator", "speech": [ "The next question comes from Nitin Kumar of Mizuho. Please go ahead." ] }, { "name": "Nitin Kumar", "speech": [ "Hi. Good morning, guys, and thanks for taking my questions. Why don't we go back to the Delaware for a minute? As I look at your slides, and there were two things that you were doing in the Delaware this year. You were also increasing the mix of your Wolfcamp oil in the drilling schedule and then there were the enhancements that you made.", "Could you break out the improvement that you're seeing between the mix and then the new technologies that you're talking about?" ] }, { "name": "Jeff Leitzell", "speech": [ "Yes. This is Jeff. The first thing I'd say is in the Delaware, our technical teams, they're doing an outstanding job of continuing to build on their understanding of the subsurface geology, their geologic models. And really what they're focused on is increasing the value of each of our development units by maximizing and improving the overall NPV.", "So really, we look at it from kind of a total bench standpoint when we go into development. Now, when we're looking at productivity and you talk about that, the wells are looking outstanding and we're kind of seeing a marked improvement year over year. We've seen good increase in productivity across the majority of our benches, and really the Wolfcamp as about a lot is kind of leading the way due to that new completion design. But the one thing that we always want to go ahead and highlight is, we have a large acreage footprint, over 400,000 acres.", "We've got high number of unique targets that we co-develop based off the very unique geology in each one of these areas. So you're going to see when you look at individual well results or even roll-up for the play, you're going to see that quarter to quarter variations in productivity and well performance. But ultimately, we're really happy with all the results that we see and it's hitting all the expectations and we have all of that built into our forecast." ] }, { "name": "Nitin Kumar", "speech": [ "Great. I guess the reason I'm asking this question is one of your peers in the play has talked about improving recovery rates, not just optimizing the well but actually improving recovery rates with the application of technology and they've talked about 20% gains. So I guess, given your experience in shale and, of course, your track record, I'm curious to see if you have seen technologies or are seeing technologies that could help that recovery factor increase not, just optimizing the wells but really a step change in what you're drawing from the rock." ] }, { "name": "Billy Helms", "speech": [ "Yes, Nitin. This is Billy. Let me give you a little more color on that in general. As far as the recovery factor, we're constantly improving or working to improve the long-term recovery in all of our plays, and it's something that goes really back to the foundation of the company and is something historically we've done, as you mentioned.", "We leverage a lot of technology to help us understand how we're targeting those plays and how we're completing each well. And so, it involves a lot of things. And let me just talk about that in the sense of how we think about it. I mean, these unconventional plays, the completion efficiency is really important how we evolve over time.", "And so, just thinking about how we've applied new technology, it goes back several years where we talked about the frac design itself, how we change the way we attack the well from the type of sand we pump, the spacing of the perforations, the cluster spacing, the frac rate, how we target reservoirs, our understanding geologically of how we understand the best place to place the target so we can co-develop like zones and those kind of things. So that evolution over time has caused us to see dramatic improvements in production, which is a proxy for a recovery factor over time. And the most recent example is, this is what Jeff just talked about, the improvements we've seen in our Wolfcamp play. And you can readily see, the 20% uplift we're seeing in completions in production performance is due to the completion approaches.", "So all those things over time lead to improved recovery factor." ] }, { "name": "Operator", "speech": [ "Next question comes from Josh Silverstein of UBS. Please go ahead." ] }, { "name": "Josh Silverstein", "speech": [ "Thanks. Good morning, guys. Just on the updated 70% shareholder return level. How are you thinking about excess free cash flow beyond this? Will you look to increase the exploration budget, or could you, in theory, increase the shareholder returns to 90%? Any thoughts would be helpful here just to get the cash balance can keep growing substantially next year and there's no maturity until 2025." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Josh. This is Ezra. Ultimately, I think the answer to your question is that 70% is a minimum hurdle. In the last couple of years since we first came out with the initial cash return guidance, we had a minimum cash return commitment of 60%.", "In 2022, we were at 67%, and this year you see that we're on track to be north of 70%, probably closer to 75%. So I think that's the way you should be thinking about the guidance on there. And really, the big thing with our free cash flow commitment, it's a minimum of that 70%. But again, it's really founded in and hopefully, it doesn't remove the focus from our regular dividend.", "The regular dividend, we feel, is the best indicator of a company's ongoing performance, the improved capital efficiency going forward. And it's a commitment that we give to our shareholders based on our ability to continue to lower the break-evens and expand the sustainable future free cash flow generation in the company. It's backstopped with a pristine balance sheet. And in this quarter, when we raised it to 10%, One of the ways that we raised is by looking at what does it take on a breakeven there.", "And as we talked about before, we can support this new $2.1 billion regular dividend in commitment. At a range of maintenance capex scenarios, the higher end of that range would be with a $45 WTI price. And when I say a range of maintenance capital scenarios, let me be clear when I say that. For a company like ours that has multiple basins, differing amounts year over year of infrastructure spend or exploration, different product types.", "We look at maintenance capital through the lens of what does it take to keep production flat for a five-year period, but also across those different investment scenarios. Are we investing in the health of the company longer term with exploration or are we really just narrowing it down to just a focus on maintaining production? And so, we end up with basically a range of maintenance capex between $4.2 billion and $4.8 billion and so a midpoint of about $4.5 million. And as I said, at the higher end, that's where we can maintain that level with the $45 WTI." ] }, { "name": "Josh Silverstein", "speech": [ "Got it. And last for me. As you guys are thinking about the portfolio, how are you thinking about any kind of long cycle or conventional opportunities like Trinidad to kind of add in relative to bringing on some additional unconventional growth opportunities? Thanks." ] }, { "name": "Billy Helms", "speech": [ "Yes, Josh. This is Billy. Let me give you a little bit of hint maybe of kind of what we're looking at. Certainly, we have a deep portfolio of unconventional plays in the things we're currently drilling today.", "But our active exploration program is continuously looking for all opportunities. And they're geared toward, first of all, generating solid returns and being competitive with what we're investing in today. So they will include things that are conventional or unconventional, offshore or onshore, U.S. or not.", "So we're looking at all kinds of things that are competitive with what our portfolio is generating today." ] }, { "name": "Operator", "speech": [ "This concludes the question-and-answer session. I would like to turn the conference back over to Mr. Yacob for any closing remarks." ] }, { "name": "Ezra Yacob", "speech": [ "Yes. I'd just like to say that we appreciate everyone's time today. One final takeaway I'd like to leave you with is that EOG's cash return announcements in the third quarter demonstrate our commitment to creating long-term value for our shareholders. We've increased our free cash flow payout minimum to 70% and increased our regular dividend 10%, and we're confident in the sustainability of our regular dividend due to the consistent execution of our value proposition that improves the company year-after-year.", "EOG is in a better position than ever to deliver value for our shareholders through industry cycles and play a leading role in the long-term future of energy. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2021-08-05	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Douglas Leggate", "position": "Analyst" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "JPMorgan Chase & Co. -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Stifel Nicolaus -- Analyst", "name": "Michael Scialla", "position": "Analyst" }, { "description": "Sanford C. Bernstein -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources second-quarter 2021 earnings results conference call. As a reminder this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. We hope everyone has seen the press release announcing second-quarter 2021 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings, and we incorporate those by reference for this call.", "This conference call also contains certain non-GAAP financial measures. Definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call or in the accompanying investor presentation slides may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S.", "investors that appears at the bottom of our earnings release issued yesterday. Participating on the call this morning are Bill Thomas, chairman and CEO; and Billy Helms, chief operating officer; Ezra Yacob, president; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP marketing; and David Streit, VP, investor and public relations. Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. EOG is focused on improving returns. Results from the first half of the year are already reflecting the power of EOG shift to our double-premium investment standard. Once again, we posted outstanding results in the second quarter.", "We delivered adjusted earnings of $1.73 per share and nearly $1.1 billion of free cash flow, repeating the record level of free cash flow we generated last quarter. Our outstanding operational performance included another beat of the high end of our oil production guidance, while capital expenditures and total per-unit operating costs were below expectations. We are delivering exceptional well productivity that continues to improve. In addition, even though the industry is in an inflationary environment, EOG continues to demonstrate the company's unique ability to sustainably lower cost.", "Our performance clearly proves the power of doubling our reinvestment hurdle rate, double premium requires investments to earn a minimum of 60% direct after-tax rate of return using flat commodity prices of $40 oil and $2.50 natural gas. I'm confident our reinvestment hurdle is one of the most stringent in the industry and a powerful catalyst to drive future outperformance across key financial metrics, including a return on capital employed and free cash flow. As double premium improves our potential to generate free cash flow, we remain committed to using that cash to maximize shareholder value. The regular dividend, debt reduction, special dividends, opportunistic buybacks and small high-return bolt-on acquisitions are our priorities.", "In the first half of this year, we reduced our long-term debt by $750 million and demonstrated our priority to returning cash, significant cash to shareholders with a commitment of $1.5 billion in regular and special dividends. We also closed on several low-cost, high potential bolt-on acquisitions in the Delaware Basin over the last 12 months. Year-to-date, we have committed $2.3 billion to debt reduction in dividends, which is slightly more than the $2.1 billion of free cash flow we've generated. Looking ahead to the second half of the year and beyond, our free cash flow priorities and framework have not changed.", "As we generate additional free cash, we remain committed to returning cash to shareholders in a meaningful way. We are focused on doing the right thing at the right time in order to maximize shareholder returns. Over the last four years, we've made huge progress reducing our GHG and methane intensity rates, nearly eliminating routine flaring and increasing the use of recycled water in our operations. We are focused on continued progress toward reducing our GHG emissions in line with our targets and ambitions.", "This quarter, we announced a carbon capture and storage pilot project, which we believe will be our next step forward in the process of reaching our net-zero ambition. Ken will provide more color on this and other emission reduction projects in a few moments. Driven by EOG's innovative culture, our goal is to be one of the lowest costs, highest return and lowest emission producers playing a significant role in the long-term future of energy. Now, here's Ezra to talk more about how our returns continue to improve." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Bill. While we announced our shift to the double-premium investment standard at the start of this year, the shift has been underway since 2016 when we first established our premium investment standard of 30% minimum direct after-tax rate of return using a conservative price deck of $40 oil and $2.50 natural gas for the life of the well. In the three years that followed, our premium drilling program drove a 45% increase in earnings per share, a 40% increase in ROCE in an oil price environment nearly 40% lower compared to the three-year period prior to premium. This comparative financial performance can be reviewed on slide 15 of our investor presentation.", "In addition, premium enabled this remarkable step change in our financial performance, while reinvesting just 78% of our discretionary cash flow on average, resulting in $4.6 billion of cumulative free cash flow. The impact from doubling our investment hurdle rate from 30% to 60% using the same conservative premium price deck is now positioning EOG for a similar step change to our well productivity and costs, boosting returns, capital efficiency, and cash flow. Double premium wells offer shallower production declines and significantly lower finding and development costs, resulting in well payouts of approximately six months at current strip prices. The increase in capital efficiency resulting from reinvesting in these high-return projects is increasing our potential to generate significant free cash flow.", "This year, we are averaging less than $7 per barrel of oil equivalent finding cost. Adding these lower-cost reserves is continuing to drive down the cost basis of the company, and when combined with EOG's operating cost reductions is driving higher full-cycle returns. Looking back over the last four quarters, EOG has earned a 12% return on capital employed with oil averaging $52. We are well on our way to earning double-digit ROCE at less than $50 oil, and it begins with disciplined reinvestment in high-return double-premium drilling.", "While EOG has 11,500 premium locations, approximately 5,700 are double-premium wells located across each of our core assets. We are confident we can continue to grow our double-premium inventory through organic exploration, improving well cost and well productivity and small bolt-on acquisitions, just like we did with the premium over the last five years. In the past 12 months, through eight deals, we have added over 25,000 acres in the Delaware Basin through opportunistic bolt-on acquisitions at an approximate cost of $2,500 per acre. These are low-cost opportunities within our core asset positions, which, in some cases, receive immediate benefit from our existing infrastructure.", "Premium and now double premium established a new higher threshold for adding inventory. Exploration and bolt-on acquisitions are focused on improving the quality of the inventory by targeting returns in excess of the 60% after-tax rate of return hurdle. EOG's record for adding high-quality, low-cost inventory predominantly through organic exploration is why we do not need to pursue expensive large M&A deals. 2021 is turning into an outstanding year for EOG.", "Our exceptional well level returns are translating into double-digit corporate returns and our employees continue to position EOG for long-term shareholder value creation. Here's Billy with an update on our operational performance." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Ezra. Our operating teams continue to deliver strong results. Once again, we exceeded our oil production target, producing slightly more than the high end of our guidance, driven by strong well results. In addition, capital came in below the low end of our guidance as a result of sustainable well cost reductions.", "We have already exceeded our targeted 5% well cost reduction in the first half of 2021. We now expect that our average well cost will be more than 7% lower than last year. As a reminder, this is in addition to the 15% well cost savings achieved in 2020. We continue to see operational improvements outpace the inflationary pressure in the service sector.", "Average drilling days are down 11%, and the feet of lateral completed in a single day increased more than 15%. We are utilizing our recently discussed super-zipper completions on about one third our well packages this year and expect that percentage to increase next year. In addition, our sand costs are flat to slightly down year-to-date. We have line of sight to reduce the cost of sand sourcing and processing and expect to start realizing savings in the second half of 2021 and into 2022.", "Water reuse is another source of significant savings, and we continue to expand reuse infrastructure throughout our development areas. Finally, we have renegotiated several of the expiring higher-priced contracts for drilling rigs and expect to see additional savings the remainder of this year and next. We also use the strength of our balance sheet to take advantage of opportunities to reduce future costs in several areas. As an example, last summer, we prepurchased the tubulars needed for our 2021 drilling program when prices were at their lowest point.", "EOG is not immune to the inflationary pressures we're seeing across our industry. But this forward-looking approach helps EOG mitigate anticipated cost increases. As a reminder, 65% of our well costs are locked in for the year, and the remaining costs we are actively working down through operational efficiencies. As usual, we have begun to secure services and products ahead of next year's activity, with the goal of keeping well cost at least flat in 2022.", "But as you can rest assured that with our talented and focused operational teams, our ultimate goal is to always push well cost down each year. The same amount of air freight is being placed on reducing our per-unit operating cost, with the results showing up in reduced LOE, driven mainly by lower workover expense, reduced water handling expense and lower maintenance expenses. Savings are also being realized from our new technology being developed internally to optimize our artificial lift. We have several new tools that help us reduce the amount of gas lift volumes required to produce wells without reducing the overall production rate.", "These optimizing tools not only reduce costs, but also help reduce the amount of compression horsepower needed, which ultimately reduces our greenhouse gas footprint as well. These and other continual improvements are a great testament to our pleased but not satisfied culture. This quarter, we can also update you on our final ESG performance results from last year. We reduced our greenhouse gas intensity rate 8% in 2020, driven by sustainable reductions to our flaring intensity.", "Operational performance in the first half of this year indicates promise for future -- further improvements to our emissions performance in 2021, putting us comfortably ahead of pace to meet our 2025 intensity targets for GHG and methane and our goal to eliminate routine flaring. Achieving these targets is the first step on the path toward our ambition of net-zero emissions by 2040. Water infrastructure investments also continue to pay off. Nearly all water used in our Powder River Basin operations last year was sourced from reuse.", "For companywide operations in the U.S., water supplied by reuse sources last year increased to 46%, reducing freshwater to less than one-fifth of the total water used. These achievements and other, along with the insight into ongoing efforts to improve future performance will be detailed in our sustainability report to be published in October. We are starting to fill in the pieces on the road map to get to net-zero by 2040. Here's Ken with the details." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. Earlier this year, we announced our net-zero ambition for our Scope 1 and Scope 2 GHG emissions by 2040. Our ambition is aggressive but achievable and we expect it will be an iterative process requiring trial and error. This approach mirrors how we develop an oil and gas asset.", "We pilot creative applications of existing and new technologies to determine the most effective solutions to optimize efficiencies by minimizing costs and maximizing recoveries of oil and natural gas. Here, we are aiming to maximize emissions reductions. We then apply the successful technologies and solutions across our operations where feasible. Our net-zero strategy generally falls into three categories: reduce, capture or offset.", "That is, we are focused on directly reducing emissions from our operations, capturing emissions from sources that can be concentrated for storage and offsetting any remaining emissions. Reducing emissions intensity from our operations is a direct and immediate path to reducing our carbon footprint. Our approach is to invest with returns in mind and seek achievable and scalable results. We made excellent progress in the last four years through initiatives to upgrade equipment in the field, invest in pilots using existing and new technologies and leverage our extensive big data platform to automate and redesign processes to improve emissions efficiencies.", "As a result, since 2017, we have reduced our GHG intensity rate 20%, our methane emissions percentage by 80% and our flaring intensity rate by more than 50%. We recently obtained permits to expand the successful pilot of our closed-loop gas capture project, which prevents flaring in the event of a downstream interruption. We designed an automated system that redirects natural gas back into our infrastructure system and injects the gas temporarily back into existing wells. The project requires a modest investment to capture a resource that would have otherwise been flared and stores it for further -- for future production and beneficial use.", "The result is a double-premium return investment that reduces flaring emissions. Our wellhead gas capture rate was 99.6% in 2020 and roll-out of additional closed-loop gas capture systems will help capture more of the remaining 0.4%. Turning to our efforts to capture CO2. We are launching a project that will capture carbon emissions from our operations for long-term storage.", "This project is designed to capture and store a concentrated source of EOG's direct CO2 emissions. We believe we can design solutions to generate returns from carbon capture and storage by leveraging our competitive advantages in geology, well and facility design and field operations. Our CCS efforts are directed at emissions from our operations, and we are not currently looking to expand those efforts into another line of business. We will provide updates on our pilot CCS project as it progresses.", "EOG is also exploring other innovative solutions for GHG emissions reductions. Over the past 18 months, we have deployed capital into several fuel substitution projects to power compressors used for natural gas pipeline operations and natural gas artificial lift. Compressors are the largest source of EOG's stationary combustion emissions. By replacing NGL-rich field gas with lean residue gas, EOG can reduce the carbon intensity of the fuel which lowers CO2 emissions and improves engine efficiency.", "Using lean residue gas also earns a very favorable financial return by recovering the full value of the natural gas liquids versus using those components as fuel. Another fuel substitution test we conducted recently was blending hydrogen with natural gas. While it is still in the early stages, we are analyzing the test data to evaluate the emissions reductions that would be possible from this blended fuel at an operational and economic scale. We're very excited about this part of the business, just like cost reductions, well improvements or exploration success.", "This is a bottom-up-driven initiative. EOG employees thrive on this type of challenge. We create innovative solutions and apply technology to solve problems, improve processes and optimize efficiencies while generating industry-leading returns. The EOG culture has embraced our 2040 net zero ambition, and we are focusing our efforts to minimize our carbon footprint as quickly as possible.", "Now, here is Bill to wrap up." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Ken. In conclusion, I'd like to note the following important takeaways. First, by doubling our reinvestment standard, the future potential of our earnings and cash flow performance are the best they've ever been. Results from the first half of this year demonstrate the power of double premium and the beginning of another step change in performance.", "Second, EOG is not satisfied. We are committed to getting better. Sustainable cost reduction and improving well performance are driving returns and free cash flow potential to another level. At the same time, the same innovative culture that is driving higher returns is also improving our environmental performance.", "Third, our commitment to returning cash to shareholders has not changed. As we have already demonstrated, returning meaningful cash to shareholders remains a priority. And finally, as Ezra transitions into the CEO role, I could not be more excited about the future of the company. The quality of our assets and the quality of this leadership team are the best in company history, all supported by EOG's talented employees and unique culture that continues to fire on all cylinders.", "The company is incredibly strong and our ability to get stronger has never been better. The future of EOG is in great hands. Thanks for listening. Now, we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] The first question comes from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. You obviously highlighted some success on kind of the small bolt-on deals here. And I guess, just from my perspective, it seemed like those were very, very economic, just very cheap per acre cost at around $2,500 per acre. Is a lot of this just a function of the fact that these are very small deals and sort of captive to EOG existing acreage and infrastructure, which just gives you kind of the natural ability to kind of buy these without a lot of competition, and just want to get a sense of how repeatable these type of bolt-ons can be for you guys going forward?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Thanks, Leo. I'm going to ask Ezra to comment on that." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Leo, you described that very, very well. These are smaller deals, as I highlighted, it's 25,000 acres across eight different deals that we've captured and put together over the -- over the past 12 months, and these are low-cost opportunities in our core positions within the Delaware Basin. And typically, these are things that are either contiguous with our preexisting acreage position or very, very close to our acreage position. And so, there's not a lot of outside competition.", "A lot of times, we're just by all regards, we're the partner that makes sense to go ahead and get these deals because like I said, we have the surrounding wells, information, seismic. And oftentimes, some of these deals can go immediately right into our existing infrastructure. And these are typically -- we highlighted the last 12 months, but we wanted to give a sense of the type of scale and the impact that these low-cost opportunities can have when we're focused on them, and these deals are pretty continuous throughout all of our plays and throughout the year." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's helpful. And I guess I also wanted to ask about your comment around seeing a less than $7 per BOE F&D year to date. Clearly, you attributed some of the factors there, where you talked about how your well costs are coming down.", "I know that's part of it and also the move to double premium. But maybe you can provide just a little bit more color. I mean, I guess that less than $7 seems like a very low number out there. Are there any other just kind of key factors where maybe there's more of a mix shift to certain plays or perhaps your higher concentration of certain zones in the Delaware this year? And now you guys are also drilling some gas wells in South Texas might be helping.", "Just any color around kind of some of the key drivers that are getting you to under $7." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Leo. Billy Helms will comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Leo, it's strictly a function of moving to our double-premium strategy. We saw a similar change, if you remember back when we shifted to premium a few years ago, and we're seeing that same compounding effect as we shift to double premium. The quality of our wells improves and as you noted, we have a history of continuing to focus on lowering well costs and just our continued effort in those areas.", "So it's not really attributable from -- to one basin or the other, it's just a function of the impact of shifting to double premium across our portfolio. And I might add as we look to add wells to the inventory of double-premium wells, they'll be in that same category to compete on both returns and finding cost." ] }, { "name": "Leo Mariani", "speech": [ "Thanks, guys." ] }, { "name": "Operator", "speech": [ "The next question is from Neal Dingmann with Truist Securities. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning, guys. Nice quarter. My first question is really just around when you've talked about shareholder return, obviously, that seems to be the hot topic these days. Bill, I'm glad you don't do this, but my thoughts about if you guys would ever -- there's been others out there that have sort of guaranteed type of return or an amount or something like that, you guys seem to want to stay more flexible. But I just would just love to hear more color on -- again, obviously, you guys have a monster amount of free cash flow coming in.", "That's not the issue. I'm just wondering how you think about if you put any sort of guarantees on the type or amount going forward?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Neal. We've outlined a very clear framework and we've consistently delivered on our priorities. And so, maybe the best way to think about the future is to look what we've done in the past. And I want to ask Ezra to give more color on that." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Neal. In our investor presentation there on Slide 5 and 6, I think we can reference that. This year, we've been very successful executing on all of our cash flow priorities in the framework that we've kind of laid out. We've been able to increase the regular dividend by 10%, which we feel is our primary mode of capital return.", "Secondly, we were able to reduce our debt earlier this year by $750 million by retiring a bond. And then, third, we just paid a $600 million special dividend on July 30 of this year, which we had announced during the last earnings call. So our year-to-date free cash flow commitment is $2.3 billion, which is slightly more than the $2.1 billion we generated. And going forward, our framework and priorities have not changed.", "Lastly, we also highlighted in the opening remarks, as we just spoke about a little bit with Leo, some of the small bolt-on acquisitions we've done, which is one of the avenues to growing our inventory. And that's really the -- where the entire process begins, is having the depth and quality of inventory to continually improve the business. And with our shift to drilling these double-premium wells, the free cash flow potential of the company continues to expand. And as it does and as we realize the cash, we're well positioned to continue executing on our priorities.", "We're committed to creating the most shareholder value and our cash return strategy is really a reflection of that. So as the company continues to improve, we're excited about that potential." ] }, { "name": "Neal Dingmann", "speech": [ "I agree guys. I really like the cash return strategy. And then, just one follow-up. Exploration opportunities that really you guys continue to stick out there.", "You obviously continue to be the leaders, mentioned a number of things that have you excited. Could you just remind us, again, I think the last was it -- I forget, Bill, was it maybe 13 or 15, was it unique projects here in the U.S.? I'm just wondering, could you -- again, could you tell us maybe or just talk about the upside potential you see for that business this year going into 2022 for the exploration upside?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Neal. I think what we've outlined is we've got about 15 exploration wells built into the capex this year, so in the U.S. So I'm going to ask Ezra to give some more color on that." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Neal. the exploration prospects are all moving forward. As we discussed on the last call, the prospects have all started to move at different phases, really kind of as a result of some of the slowdown during COVID and during 2020. So we're -- as Bill just mentioned, we're planning on drilling 15 wells outside of the publicly discussed assets.", "Some of these -- some of the prospects are initial exploration wells. Some of them are more what we call appraisal wells, evaluating kind of the repeatability of these plays. We're still leasing across many of the plays as well. And as we've discussed, the opportunities are really targeting a higher quality rock than what's typically been drilled horizontally.", "It's an outgrowth of a lot of technical work we've done across multiple basins to combine modern drilling and completions technologies and apply those to reservoirs that have been traditionally overlooked. And really, we're very happy with our progress to date, and we look forward to sharing additional information at an appropriate time." ] }, { "name": "Neal Dingmann", "speech": [ "Great detail. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from Doug Leggate with Bank of America. Please go ahead." ] }, { "name": "Douglas Leggate", "speech": [ "Thank you, guys. I think this is the first time I've had a chance to say, Bill, congratulations on your retirement. And Ezra, excited to see what you -- how you move forward with the business. But I wonder, Bill, if I could ask you just to maybe a little bit of a retrospective here as you walk out the door, so to speak.", "There's been a lot of changes in the business model, growth transitioning to free cash flow and so on. So I'm just wondering if you can offer any thoughts as to how this business should look going forward, both at the sector level and at EOG level as you kind of look back on your tenure and the changes that have taken place over that time." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Doug. Well, thank you very much. And you're right. I mean, the business has involved -- evolved over the last year since the shale business really started, and it's -- obviously, it's moving in an incredibly great positive direction right now, the focus on returns.", "We've always been, I think, a leader in focus on returns, and we're like super excited about that. The capital discipline, spending well below cash flow and generating high returns and giving significant amount of cash back to shareholders, I think, is certainly all very positive. And so, I think really, we're entering a super new era, and I think it's more positive than it's ever been before. I think we, as an industry, are going to generate better returns and going to give more back to shareholders.", "And I think we're in a more positive macro environment than we've been in since really the shale business started. I think OPEC+ is solid. I think the U.S. will remain disciplined.", "And so, I think the industry is in for a long run of really good results." ] }, { "name": "Douglas Leggate", "speech": [ "We've enjoyed butting heads with you over the years, Bill. So congratulations again, good luck. Ezra, this is my follow-up maybe for you. EOG has obviously been an organic story for many, many years.", "And you've touched on exploration again today, but Yates was one of the, I guess, the step-out acquisitions that you did. And if we look at your portfolio position today, there's clearly a large asset potentially for sale right in your backyard in a very high-quality acreage position, you could argue. Why would M&A not be a feature of the business at some point? And maybe I go so far as to say, would you rule yourself out of being interested in that shale package? And I'll leave it there." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Doug. No, we're not evaluating any large acquisition packages at this time. We're focused on these small, high-return bolt-on acquisitions. And as discussed in the opening remarks, the larger expensive M&A deals, the opportunity struggle to compete with the existing return profile that we have within the company due to either high PDP cost, the high acreage costs or both.", "Oftentimes, acreage being marketed, it might be additive to the quantity of our inventory but not additive to the quality. And as we've discussed, as you know, we're always working to improve the quality of our assets. We're having a great success with the small bolt-on acquisitions. We're feeling very confident with our ability to increase the quality of our deep inventory through our organic exploration program.", "And so, we're excited about our prospects there." ] }, { "name": "Douglas Leggate", "speech": [ "Very clear. Thanks." ] }, { "name": "Operator", "speech": [ "The next question comes from Paul Cheng with Scotiabank. Please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning, gentlemen. Two questions, please. The first one, maybe that, Bill, you can help us to frame it to understand the decision a little bit better.", "If we look at the last quarter, when you announced the special dividend, I think you set a number of preconditions, and that's all being met, such as you generate substantial free cash flow. You don't have much of the debt maturity in the near term and your cash is already in excess of what you think is a reasonable level, which is $2 billion. If we look in this quarter, basically, all those conditions are still being match, but you decided not to declare another special dividend. So we're just trying to understand that what is the additional consideration in that decision.", "And also, if you can talk about between buyback and special dividend at this point of the cycle, which is more preferable for you or how do you look at the differences? So that's the first question. The second question is related to I think that you guys clearly is one of the unquestioned leaders in many of the basins. You are not interested in large scale M&A, which understandable. Does it make sense, however, that to work with some of your peers to pull together the asset to form a really large joint venture? So everyone still have their own equity ownership.", "You don't pay any premium, but you will be able to allow to use your technical know-how to apply to even a larger scale asset and drive even better efficiency gains. Do you think that it makes sense for EOG for that kind of structure?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Paul. So on the first question, I think it's super important. And I think we've already shared this. We've got a very clear framework and we've consistently delivered, as you pointed out, on that framework and significantly given -- in that framework, significantly given a lot of money back to shareholders.", "And going forward, our framework and priorities are not changed at all. So as we generate additional free cash flow, we're committed to returning cash to shareholders in a very meaningful way. It's really all about doing the right thing at the right time. As the company continues to improve, we're excited about our potential to increase total shareholder return, and in the framework, we do have the option for opportunistic buybacks as long as -- along with special dividends.", "And so, we look at opportunistic buybacks as being able to have the opportunity to consider buying back shares and countercyclic environments where the market is not well and our stock price is significantly undervalued. Well, that would be an opportunity to consider buybacks. In good times, we think the special dividend is the way to go, and that's what we're executing on now, and that's what we're hopeful to continue to execute in the future. On the second part of your question on the large-scale M&A, I'm going to ask Billy to kind of think through that question and give his feelings on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Thanks, Bill. On the large-scale M&A, as Ezra just talked about a minute ago, certainly, we're not interested in adding quantity to our inventory, but it's more about the quality of the assets we have. And as we think about forming maybe a potential larger JV, that same approach needs to apply as we look across the fence.", "If our -- if our assets are in what we consider the core acreage position in the play, adding in acreage outside of that ring fence would dilute our efforts. We've also taken -- as you know, taken a lot of effort to build out the infrastructure to make our -- to lower our unit cost and continue to improve our returns. And we build out that infrastructure to meet the volume expectations that we have for developing our acreage that may or may not apply as you add in additional acreage outside of that. So I think each operator looks at how to make the most efficient use of the acreage and their capital as they can and forming JVs doesn't necessarily improve overall company metrics.", "So I think while we've looked at bolt-ons as a way to shore up a lot of our core area acreage, I think that is a very applicable part of maybe thinking about JV expansions, continuing to core up in your base areas where it adds the same quality, doesn't dilute your quality of the assets, but just expanding in a basin may or may not do that." ] }, { "name": "Paul Cheng", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from Arun Jayaram with JPMorgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah. Good morning. Tim, maybe starting with you. I just wanted to get maybe some of the order of operations around a potential incremental cash return beyond the dividend.", "Last quarter, you mentioned that EOG like to keep a $2 billion minimum cash balance plus fund the $1.25 billion bond maturity. So that suggests that you'd like to get to $3.25 billion of cash and anything beyond that is available for cash return beyond the dividend?" ] }, { "name": "Tim Driggers", "speech": [ "Certainly, you can do that math, but it's more than that. As Ezra and Bill talked about further, we have to look at all of our priorities and the timing of those priorities to determine when and if there's another special dividend or share repurchases or bolt-on acquisitions. All those things are in play at all times, and the $2 billion is not an end-of-the-month number. It's during the cycle.", "So cash can vary tremendously during the month. So the $2 billion is the low point during the month, not necessarily at the end of a month. So you have to keep that in mind as well. But yes, you can do that math, but that's not all there is to it.", "We have to look at all of our priorities and where we're at in the cycle. And as has been pointed out on slide 6, we've already distributed more cash than we brought in, in the first half of the year. So we're well on our way to achieving that. So as we move through the second half of the year, we'll look at what other cash is generated, and we'll evaluate how to use that cash at that time." ] }, { "name": "Arun Jayaram", "speech": [ "Great. And maybe just a follow-up to Paul's question. Could you give us maybe some feedback you've gotten from some of the shareholders on the special dividend? And your thoughts on the pros and con of moving to a formulaic type of approach around cash return and either special dividends or buyback." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Arun. This is Bill. We've got enormously positive responses from every shareholder on the special dividend. That was a super hit, and they like our framework.", "When you really think through it, it's not really a complicated framework. It's a framework where we want to be in a position to maximize total shareholder returns. And as we said, I said, be able to do the right thing at the right time. If you look at the history of what we've been doing, really, over the last several years, we have been -- we've increased the regular dividend by 146%.", "And now, we're working on a special dividend. So as we go forward, it is certainly our goal to continue to return meaningful cash back to the shareholders through the process. So really, it's a pretty straightforward process if you kind of think through it and the framework is pretty, pretty simple, and it's just a matter of giving us the ability to have the options to do the right thing to maximize total shareholder return." ] }, { "name": "Arun Jayaram", "speech": [ "Great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "The next question is from Michael Scialla with Stifel. Please go ahead." ] }, { "name": "Michael Scialla", "speech": [ "Good morning, everybody. And Bill, I'd like to offer my congratulations on a great career as well. I know it's too early to give details on 2022 but wanted to see if you could speak to at least at a high level, given your outlook for flat to lower well costs next year. If you still see barrels held off the market by OPEC+, would you just look to hold production flattish? And could you do that with kind of equal to lower capital than you spent this year?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Mike. Well, thank you very much again. We appreciate your comments. It's a team effort in EOG.", "I'd tell you what, we've got a lot of great employees and a super management team. So it's a team effort, and it's been an honor to be able to work with all the -- everybody. About 2022, it's really too early to talk about growth. We need to watch the pace of demand and recovery and the spare capacity drawdown.", "So we don't want to really speculate on anything specific for 2022. But I'm going to ask Ezra to make some additional color on that." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Michael. As Bill said, it's pretty early on 2022. It's still pretty early to discuss any type of growth. EOG is -- we're committed.", "We're not going to grow until the market clearly needs the barrels, and we've outlined what we're looking for, we're committed to staying disciplined. And currently, we want to see demand return to pre-COVID levels, low spare capacity and we want to see inventories at or below the five-year average. Every year, market factors are going to determine the plan for that year, and we're going to remain flexible and modify our plans to fit the market conditions. As you said, we have made great progress this year on our total well cost reductions.", "And going forward, that's strengthening the underlying capital efficiency of the company and continuing to lower the cost base of the company. And so, as we move forward, regardless of any type of growth rates, we've set the company up with this double-premium investment plan to continue to expand the free cash flow generation potential of EOG." ] }, { "name": "Michael Scialla", "speech": [ "OK. And I guess really just my question there was if you were to hold the production flat, it looks like the capital required to do that is not going up at least over the next 12 to 18 months as you see the world now. Is that fair to say?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Mike, that's certainly fair to say. I mean, we're reducing costs all the time and improving well productivity. So we're hopeful that our maintenance cost in the future will be lower than it is today, and that's certainly directionally what we've done in the past, and that's hopefully what we're going to do in the future." ] }, { "name": "Michael Scialla", "speech": [ "OK. Great. And then, I just want to follow up with Ken on you mentioned the CCS pilot you have there. Is there any more detail you can offer Ken in terms of -- it sounds like it's EOG specific, at least at this point? Can you talk about what the source of emissions are, where you're focused within your footprint? And are you looking at storing CO2 in depleted fields or aquifers? Just any more detail you can give us there." ] }, { "name": "Ken Boedeker", "speech": [ "Sure. Thanks for that question. At this point in time, we really don't anticipate any partners on our pilot project, but with our geologic and operational expertise, we'll evaluate partnering on future projects on a case-by-case basis. This project is really part of our broader strategy of reduced capture and offset, and it's focused on capturing our CO2 emissions in an area where we can generate a return via some tax incentives and have a concentrated stream of CO2 that can be aggregated to an injection well for permanent and secure geologic storage in an interval thousands of feet below the surface.", "And that's pretty much what we're giving out at this time." ] }, { "name": "Michael Scialla", "speech": [ "Very good. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from Bob Brackett with Sanford C. Bernstein. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Good morning. To put you on the spot a little bit. You highlighted the various well cost categories. Tubular sticks out as being both significant and also exposed to inflation.", "You tackled the problem last year with prepurchasing. Can you throw out some ideas that the organization has come up with to sort of attack that cost category?" ] }, { "name": "Bill Thomas", "speech": [ "Billy, do you want to comment on that?" ] }, { "name": "Billy Helms", "speech": [ "Yeah. Bob, obviously, yeah, steel costs are going up, which is affecting tubular costs. This last year, we were very fortunate to take advantage of pre-purchasing the tubulars we needed for this year's program and benefited greatly from that. As costs go up in the future, we use the same approach and try to take an opportunistic look at when to secure tubulars for the next coming drilling program, and so, we'll continue to look at that.", "Undoubtedly, it's likely that the cost for tubulars will be higher next year than they are this year, which is why in that slide No. 10 we tried to give you some color on other ways we're trying to keep our well cost flat to down going into next year. And those come from the efficiencies we're seeing across the operation from drilling time to the implementation of our super-zipper technology on the completion side to newer contracts at a lower rate for some of the services we have. So it's a mixture of things we use to offset those inflationary pressures we see in the different parts of our business." ] }, { "name": "Bob Brackett", "speech": [ "OK. That's clear. And just as a quick follow-up, could you contrast super zippers the way you think about them versus, say, a traditional zipper frac that we might think of or even a dual frac?" ] }, { "name": "Billy Helms", "speech": [ "Sure. So our super-zipper technique is very similar to what the industry calls a simo-frac. The differences would be in how we actually implement it on a well-to-well basis. We keep very close control over the injection rates and pressures of individual wells within the super-zipper operation.", "So it's a very scripted and very detailed procedure that allows us to control the rates and pressures just like we were doing a conventional frac with any other fleet. But the advantages, of course, has been able to double the amount of stages you get in a particular day by attacking the locations two at a time, and we really are advancing that technology quite a bit. Last year, we probably did less than 10% of our wells across the company benefited from super-zipper. This year, it's probably directionally closer to one third of the wells, and we expect that percentage to increase going into next year.", "So we think it's going to give us a tremendous cost advantage next year as we go into the program." ] }, { "name": "Bob Brackett", "speech": [ "Thanks for that." ] }, { "name": "Operator", "speech": [ "The next question comes from Scott Hanold with RBC Capital Markets. Please go ahead." ] }, { "name": "Scott Hanold", "speech": [ "Thanks. And, Bill, again, I also want to congratulate -- give you congratulations on your tenure. Obviously, you all navigated a lot of ups and downs over the past few years fairly successfully. So congrats for that.", "I just have one question, and you all seem to be doing better than expected. I mean, certainly, it seems like production, especially oil production on the upper end of your range, and can you just give us some general thoughts. I know you're not in a position where you're going to talk to 2022, and how you think about growth. But if you are running a little bit ahead based on outperformance of your wells, would you think about tapering as you get into 2022 a little bit just to maintain the flattish kind of production you all expected this year?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Scott. Again, thank you so much for your comments. And I'm going to ask Billy to comment on the remainder of this year and particularly the fourth quarter." ] }, { "name": "Billy Helms", "speech": [ "Scott, so certainly, we're very pleased with the progress we've made on both reducing our well cost and the performance we're seeing from the wells we are bringing to production this year. It's a testament to the strategy of shifting the double-premium standard again. So as we go into the rest of the year, we started out the year a little -- with a little bit higher activity level. We had a little bit higher rig count at the start of the year.", "And then, this tapered off. And we're running at a pretty consistent rate now and expect that to continue through the end of the year. And then, next year, as Bill elaborated, it's kind of hard to anticipate what we'll need this year. But I think the performance that we're seeing this year will continue into next year, certainly.", "And the pace of activity will be dictated by what we see in the market conditions. So that's kind of the color I could give you, but our performance will continue to at least stay flat or improve." ] }, { "name": "Scott Hanold", "speech": [ "Understood. Thanks for that." ] }, { "name": "Operator", "speech": [ "The next question comes from Neil Mehta with Goldman Sachs and Company. Please go ahead." ] }, { "name": "Neil Mehta", "speech": [ "Good morning, and congratulations, Ezra. Congratulations, Bill. Bill, last quarter, you talked a little bit about the analytics that you were building around monitoring the oil macro. I'd love your latest real-time thoughts.", "A lot of moving pieces here, OPEC, demand uncertainty, Iranian barrels, U.S. supply, how are each of those parameters evolving here as you guys are evaluating?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Neil. As we've all seen, we're definitely -- demand is on a strong recovery. It's a bit lumpy, obviously, due to the virus resurgence in a few areas, but we expect -- even with that, we expect pre-COVID demand to be reached by early '22. Inventories are already below the five-year average really in the U.S.", "and in the world. So that has already been checked. And on the supply side, as I said before, we believe that the U.S. will stay disciplined and there'll be a small growth in the U.S.", "next year, but not much growth. And we see OPEC+, they look to be very solid. So they'll continue to bring back on their shut-in volumes and spare capacity as needed gradually, and we see that spare capacity. If the recovery continues like we expect, we see spare capacity could be very low by the second quarter or by the middle of next year.", "So we'll just have to watch and see how it goes. But overall, we see a very positive macro environment." ] }, { "name": "Neil Mehta", "speech": [ "And then the follow-up is just as you think about the U.S. production profile, maybe you can get a little bit more granular in terms of how you're thinking about those volumes. But the question we continue to get asked is where are we in terms of resource maturity? Have the best of efficiency has been driven out of the shales? And maybe you talk about the Permian, the Eagle Ford and the Bakken. What are you seeing in each of those plays? Where are we in terms of efficiencies? And then is the slowdown in U.S.", "production being driven by resource maturity, or is it really being driven by capital at this point?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. We see -- we run the numbers on all the different groups from the private to the public to the majors. And then, generally, particularly in the private, we see definitely well productivity is going down, not up. So it takes a lot more wells for that group to maintain production or even think about growing it.", "And overall, in the other groups, not specific to EOG, but we generally see well productive -- well production to be flat, to not improving over time. And so, I think that is a function of resource maturity. I think when you get in down spacing and spacing and in timing and all that, I think it's going to subdue the productivity. And so, literally, the biggest factor, of course, is in the capital discipline where you're spending tremendously amount of less cash flow than we've been spending in the previous year.", "So when you put all that together, we do not see -- we think the discipline will remain with the group. We do not see the U.S. growing significantly next year. So that's a very positive, I think, for shareholders and positive for the macro." ] }, { "name": "Neil Mehta", "speech": [ "Thanks, Bill." ] }, { "name": "Operator", "speech": [ "This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Thomas for any closing remarks." ] }, { "name": "Bill Thomas", "speech": [ "So in closing, I'd like to say thank you to all the EOG employees who continue to make EOG so successful. And it's truly a privilege and an honor to be on the same team with each one of you. As Ezra transition into the CEO role and Billy steps up to president and chief operating officer, along with the rest of the senior management team, I could not be more excited about the future of the company. So to all shareholders and future shareholders, we want to tell you thanks for listening and certainly, thank you very much for your support." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2018-05-04	[ { "description": "-- Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "-- Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "-- Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "-- Executive Vice President of Exploration and Production", "name": "Ezra Yakob", "position": "Executive" }, { "description": "-- Senior Vice President of Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "-- Executive Vice President of Exploration and Production", "name": "David Trice", "position": "Executive" }, { "description": "-- J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "-- Citi -- Analyst", "name": "Bob Morris", "position": "Analyst" }, { "description": "-- Imperial Capital -- Analyst", "name": "Irene Hoff", "position": "Analyst" }, { "description": "-- Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "-- Bank of America -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "-- RBC Capital Markets", "name": "Scott Hanold", "position": "Other" }, { "description": "-- NatAlliance Securities -- Analyst", "name": "Leo P. Mariani", "position": "Analyst" }, { "description": "-- Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "-- Heikkinen Energy Advisors -- Analyst", "name": "David Heikkinen", "position": "Analyst" }, { "description": "-- Tuohy Brothers -- Analyst", "name": "Jeffrey Campbell", "position": "Analyst" }, { "description": "-- Bernstein Research -- Analyst", "name": "Bob Brackett", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Please standby. We're about to begin. Good day everyone and welcome to the EOG Resources first quarter 2018 earnings conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Thank you and good morning, thanks for joining us. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings relief in EOG's LCC filings and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. The reconciliations for these non-GAAP measures to comparable GAAP measures can be found on our website atwww.eogresources.com. Some of the reserve estimates on this conference call may include estimated central reserves not necessarily calculated in accordance with the FCC's reserve reporting guidelines. We incorporate by reference the cautionary note to U.S. investors that appear at the bottom of our earnings press release, issued yesterday.", "Participating on the call this morning are: Bill Thomas, Chairman and Chief Executive Officer, Gary Thomas, President, Billy Helms, Chief Operating Officer, David Trice, Executive Vice President of Exploration and Production, Ezra Yakob, Executive Vice President of Exploration and Production, Lance Terveen, Senior Vice President of Marketing, and David Streit, Vice President of Investor and Public Relations. This morning we'll discuss topics in the following order: Bill Thomas will review our corporate strategy and cash flow priorities, I'll cover our capital structure and dividend outlook, Billy Helms will cover first quarter operating and financial highlights, and Ezra Yakob, Lance Terveen, and David Trice will review asset level results and marketing developments across our most active plays. Then Bill will provide concluding remarks. Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim.", "Good morning everyone. EOG is a disciplined, high return, organic growth company. Delivering high returns and strong growth is a rare combination not often found in any industry. With our low cost, organic exploration expertise, the company is currently developing nine premium geologic plays across six basins in North America. The power of our premium only drilling strategy is reflected in our first quarter performance. We earned a company record direct after-tax rate of return of 150% on $1.5 billion of total invested capital.", "The ability of EOG to generate 150% directly after-tax rate of return on that much capital in one quarter is remarkable compared to any standard. Strong executive delivered volumes on the high end of our forecast and most of our operating costs came in below-targeted ranges. We are well on our way to executing our 2018 plan that will deliver 18% oil growth and generate over $1.5 billion of free cash flow at $60 oil. We believe discipline, reinvestment of cash flow, and high rate of return drilling, is fundamental to creating significant long-term value. We've been very consistent and clear about this priority for our cash flow. We believe it is by far the most shareholder-friendly decision we can make.", "Discipline, investment, and premium wells define us having strong returns at $40 oil allow EOG to deliver strong oil growth with free cash flow at $50 oil and substantial free cash flow at $60 oil. Along with reinvesting and high return wells, we've outlined the following priorities for utilization of free cash flow.", "First, an impeccable balance sheet is fundamental to a commodity exposed business, having low debt strengthen the sustainability of our dividend and maintains our investment flexibility through the volatility of the commodity price cycle. Concerning flexibility, let me be clear on one point: we have no interest in extending corporate M&A in a commodity price environment. EOG is an organic exploration company with the ability to continually add premium drilling through low cost, organic leasing, and low cost, tactical property additions. And it's important to emphasize here that our premium hurl rate applies across the board to everything we do. We have set a target to reduce total debt outstanding by $3 billion over the next several years. Tim Driggers will provide more detail on our debt reduction plans in a moment.", "Second, we will target dividend growth above our historical 19% compounded annual rate. We have a long history of delivering a dividend that we can maintain throughout the volatility of the commodity price life cycle. The result has been 17 increases and 19 years without a single dividend cut. We believe our prospects for cash flow growth will support strong dividend growth that is sustainable through price cycles.", "In summary, EOG is a high return, organic growth company. Our ability to grow production and cash flow produced double-digit ROCE and delivered cash returns to shareholders through strong dividend growth simultaneously is rare. That's a truly unique combination not just in the E&P industry, but also in any industry. It is perfectly aligned with our ultimate goal: to create significant shareholder value. I'll now turn it over to Tim Driggers for more on our capital structure and dividend." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Bill. Over the last three years, we have reset the company to try that much lower oil and gas prices. As a result, we are uniquely positioned to generate a meaningful amount of free cash flow. EOG now has the offering to take the next steps to further strengthen the balance sheet and increase the rate of dividend growth.", "Currently, our balance sheet is strong at 28% leverage and $6.4 billion of total debt. Our target is to further reduce our total debt by $3 billion. The $3 billion of debt reduction is a prudent target in a cyclical capital-intensive business. We expect to achieve that target over the next several years by repaying bonds as they mature using cash generated from operations. This measured pay for debt reduction provides room to fund strong dividend growth. We were pleased to make it through the last downturn without cutting the dividend and without a diluted equity offering to short the balance sheet. Whatever future commitments EOG makes must be sustainable for the long term. This means we must consider the strength of our balance sheet and sustainability of the dividend through low commodity price scenarios, not just to get the rising level of oil prices that exist today.", "The dividend is an important element of EOG's financial strategy. We've increased the dividend at a compounded annual rate of 19% since 1999. With a lower break-even cost structure and a strong balance sheet, we are now targeting a dividend growth rate that exceeds the 19% historical rate. Our dividend growth strategy signals our confidence in the future profitability of the company, provides shareholders with a tangible form of return on their investment, and imparts a measure of discipline on the organization. EOG creates shareholder value through operations and not financial engineering. A strong financial position is a competitive advantage as we seek to sustain our performance through the volatility of the commodity price cycle. The company can do this with a straightforward financial structure and an impeccable balance sheet. This will leave EOG positioned to keep its financial commitments and future downturns, including sustaining a more ambitious dividend. Up next to provide details on our operational performance is Billy Helms." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. 2018 is all about maintaining our disciplined capital growth program. In the first quarter, we delivered at or above our production targets and have laid the groundwork to deliver our forecasted well cost targets. We are maintaining our full year capital guidance of $5.4-5.8 billion, growing oil production 18%, growing total production 16%, reducing well costs 5%, reducing debt, producing free cash flow, and most importantly, delivering a double-digit return on capital employed.", "There are a number of operational accomplishments from the first quarter I'd like to highlight. We increased activity early in the year and are now operating about 40 rigs across six basins. We still expect to average about 39 rigs for the year. our operating teams in each area are quickly moving the new rigs in our fleet up the learning curve to deliver sustainable efficiency improvements that will yield benefits the rest of the year. in our larger development programs, we moved to larger packages of wells with longer laterals, completing more than 150 net wells with over 30 of those brought for sale from last week of the quarter. About two-thirds of the wells in the Delaware basin were in packages of six wells or more. In Eagle Ford, over half the wells were in packages of five wells or more. In the coming quarters, we will be completing several six to ten well packages in both plays, which will improve our operational efficiency and maximize the net present value of our acreage. Initiating this development from larger, multi-well packages results in a production profile that is more ways to the second half of the year, as can be seen in our full year production guidance. As a result, we anticipate that our growth will be more heavily weighted to the third quarter than any other quarter this year. we improved our completions efficiency, increased the number of wells completed per month by each completion crew. This allows us the option to consider reducing the pressure pumping equipment utilized this year. and finally, we continue to manipulate lower sand, water, low back, and facility cost.", "As a result of the progress we made during the first quarter, we remain confident that we will be able to deliver the targeted 5% well cost reductions we discussed at our last earnings calls. Controlling cost is key to a successful commodity business. Year after year, we have been able to consistently control cost and that is true whether we are at the top or bottom of the cycle. There are a few good reasons for that.", "First, we have a unique benefit of having worked in multiple basins through their life cycles for almost 20 years. That experience provides valuable foresight. We take our very forward-looking growth plan and analyze the market to anticipate when and where we might see tightness from the services industry, take away relative demand for all gas NGL's and many other factors. These hard-earned lessons over the past two decades have given us the experience to quickly adjust our plans to the ever-changing conditions in the industry.", "Second, the scale of our operations provides several pricing benefits as well as efficiency opportunities. The more wells we drill in any given area, the better we get it drilling those wells. Drilling and completing hundreds of wells over and over is how our talented engineers generate ideas for innovation. The scale also allows us to invest time and money into unbundled services, and if advantageous, bring in those efforts in-house. That includes building everything from our own water sourcing and gathering infrastructure, to self-sourcing or procuring raw materials directly from the manufacturer. Our self-sourcing capabilities started with sand and now grown to include tubular chemicals and drilling mud.", "Third, we run a conservative business both operationally and financially. Operationally, we avoid going so fast that we start to degrade our return profile by paying too much for services or allowing ourselves to get inefficient. Financially, we're committed to a strong balance sheet, low debt combined with scale allows us to commit to services when others in industry maybe have yet to do so. This is exactly what occurred last year when we were able to lock in completion spreads at a low cost as one of the few E&P's willing to commit capital.", "Looking ahead to 2019, we'll continue to be opportunistically lock in services by proactive engagement with our suppliers. We'll also continue to optimize well package size and increase the use of multi-well pads and zipper fracks, which will speed operations in good transitions.", "Finally, we see more opportunity to optimize our sand program and accelerate water reuse to further reduce cost. We have the line of sight into these and many more areas to reduce cost and improve efficiencies well into 2019. I'll turn the call over to Ezra Yacob who will update you on the Eagle Ford and Delaware basin plays." ] }, { "name": "Ezra Yakob", "speech": [ "Thanks, Billy. Eagle Ford continues to prove itself quarter after quarter as a world-class oil play and EOG's premier asset. In the first quarter, we brought 72 wells online with an average spacing of about 300 feet and an average payout of seven months. We believe this operational and financial performance in the Eagle Ford is unmatched in the industry. We increased our root count to 11 in the first quarter and realized the 5% increase in footage drill per day accompanied by a 5% decrease in cost per foot. Not to be outdone, our completions team also increased operational efficiencies and is forecasting further cost savings with the addition of local sand sources.", "Wells on the eastern Eagle Ford acreage position averaged 1,810 barrels of oil equivalence per day for the first 30 days online. And wells on our western acreage averaged 1,375 barrels of oil equivalence per day for the first 30 days.", "While the wells in our western acreage position have lower initial rates, a combination of less faulting and our contiguous acreage position allows for consistently longer laterals than in the east, which drives operational efficiencies.", "Therefore, the wells across our entire 520,000 net acres in oil window are all equally competitive on a rate of return basis. The Eagle Ford is a key contributor to the flexibility of our diverse portfolio of assets providing the company many options. We modeled several growth forecasts assuming no productivity improvements or cost reductions. If we chose to pursue more growth than Eagle Ford, our current inventory of well locations and large acreage position would support more than ten years of development. No North American basin compares with the Eagle Ford for low transportation costs and access to Gulf Coast pricing. Currently, 85% of our oil production in this basin flows through EOG owned gathering systems and all of our oil from the Eagle Ford receives LLS prices, which averaged about a $4 premium to WTI during the first quarter. This basin continues to deliver consistently outstanding results.", "Furthermore, we are still reducing costs through internally designed, innovative technology advances. Therefore, we are convinced that Eagle Ford still has significant upside even as it enters its ninth year of development.", "In our Austin Chalk play, we continue to drill some of our most prolific and highest return wells in the company. The first quarter development program earned over 150% direct after-tax rate of return. The average 30-day production from the eight net wells brought online during the first quarter was 2,750 barrels of oil equivalence per day. The Austin Chalk target lies just above the Eagle Ford in our south Texas acreage and as such, benefits from our operational efficiencies and knowledge of the area. Production from Austin Chalk wells also benefits from low operating costs and Gulf Coast pricing due to our existing infrastructure. We're on track to complete 25 net wells in 2018.", "In the Delaware basin, our results have been just as strong. In Wolfcamp, the 58 wells brought to sales in the first quarter averaged 1,925 barrels of oil equivalence per day for the first 30 days and delivered less than a $9 per barrel of oil equivalent from direct finding and development cost. The nine wells brought online in the Bone Spring delivered solid results, producing an average of 1,645 barrels of oil equivalence per day in their first 30 days. And in the Leonard, we brought on three wells to sales. The average 30-day rates were well over 2,400 barrels of oil equivalence per day on 4,300-feet laterals. That production per foot rivals well performance typically seen from our Austin Chalk wells in south Texas.", "One of our constant studies across all basins is determining the most efficient number of wells to drill and complete together as a package. This work is essential to maximize the recovery and NPV of the whole asset as particularly important for a complex basin of stacked pay such as the Delaware basin. Each play as an optimum number of wells that both captures operational efficiencies and minimizes parent-child productivity effects without sacrificing net present value to either long cycle times or large production facilities needed to handle high initial volumes.", "During the first quarter, we averaged four wells per package versus two last year. we expect to further increase the average to five by year-end. Larger well packages necessitate a larger inventory of wells needed to stay ahead of our completions crews. The much of January was spent ramping up drilling activity and increasing inventory to prepare for our completion schedule this year. We increased our rig fleet 20%, exiting the quarter operating 20 rigs in the basin. And we are realizing the increased efficiencies of larger well packages on both the drilling and completion side.", "Our Delaware basin team has been diligently optimizing our completions operations and has achieved a 24% increase in stages per month, per completion crew, and we are beginning to realize comp savings associated with increased use of both local sand and recycled produced water in our completions. The statement gentlemen 7, 22H through 28H wells located in the over-pressured Wolfcamp oil window of Loving County, Texas, illustrate our achievements drilling well packages. This 500-feet space, seven well package took approximately 65 days from initial spud to first sales. The average 30-day rates for these 4,700-feet stimulated laterals were 2,200 barrels of oil equivalent per day. We completed 157 total stages on this group of wells and pumped more than 80 million pounds of sand over the course of 14 days. Furthermore, 100% of the water used during the stimulations was sourced from the reused produced water. The outstanding operations performance and well productivity delivered an average well pay out of five and a half months.", "Next up is Lance Terveen to discuss our takeaway positioning." ] }, { "name": "Lance Terveen", "speech": [ "Thank you, Ezra. I'd like to bring everyone up to speed since our last call on EOG's pricing mix for our crude oil and natural gas sales in the Permian, infrastructure build out, and takeaway positioning. Our 2018 Delaware basin oil and natural gas production will have minimal exposure to in-basing pricing. Only 25% of our in-basing crude production is exposed to midland pricing. This translates a left in 10% exposure of EOG's total U.S. oil production. Furthermore, we supplemented physical capacity with additional price protection with mid-cush basis swamps. On the natural gas side, less than 20% of in-basing production is exposed to WAHA pricing, which translates to about 5% exposure when viewed on a total U.S. production basis. We are in similar shape with our Delaware basin production next year. only 20% of crude production is exposed to midland pricing and about 20% of natural gas production is exposed to WAHA, which is a manageable risk when viewed on a total U.S. production basis. But we are in great shape and historically we have always been able to consistently anticipate the infrastructure needed to support growth. Similar to our past experiences in the Barnett, Bakken, and Eagle Ford, and early mover strategy in the Delaware basin is paying off. We've successfully diversified our marketing options with a physical firm takeaway to protect flow assurance and benefit from higher price realizations for both crude and natural gas sales. Please see 5-18 of our investor presentation for a history of our industry-leading oil price realizations.", "On our last earnings call, we referenced a new Conan oil gathering system and terminal. This system has been at work since 2016 and was placed into service on schedule during the first quarter this year. between the gathering system and short hall dedicated truck offloads, we anticipate $50 million plus in savings per year. our goal by year end is to have up to 80% of our production on the gathering system in our core areas, which will have the added benefit of freeing up trucking availability. In 2018, the oil terminal will have four market connections. Our fifth connection to a newly announced long-haul pipeline that will service the Houston, Corpus Christi, and export markets is planned to be in service in late 2019.", "On gas takeaway, our early mover strategy allowed us to lock up transportation capacity at well below today's market rates. Also, in a lock step with our residue gas transportation capacity, we secured sufficient plant processing with each plant locations strategically fitting with the footprint of our gas gathering system throughout our acreage position. At each of the centralized hubs along our gathering system, we have the option to deliver our gas to up to four different processing plants. This gives EOG the ability to source our gas to multiple plants but also feed our takeaway capacity away from the Permian Basin. We are confident our early mover strategy will allow us to move forward with our development and growth plane in the Delaware basin and realize attractive netbacks bridging us to 2020 when adequate infrastructure will be in place to service the broader basin. Here's David Trice to review the progress we've made in the Rockies in the common." ] }, { "name": "David Trice", "speech": [ "Thanks, Lance.", "Well costs continue to drop for our Rockies place. The efficiency gains we are making in both the Powder River basin and DJ basin are astounding, particularly considering they are in addition to the incredible progress made last year. in just one quarter, we have reached and beat well cost targets in some of our Rockies place. Tremendous progress has been made in both drilling and completions to reduce basin location that translates directly to cost savings. Overall, drilling days are down 70% since the beginning of the downturn in 2014, with the DJ and Powder River basin and Williston basin. This is a powerful testament to the great sustainable efficiency gains our teams have made during the last several years.", "Recently, normalized spud the TD drilling days in the Powder River basin are down from nine days on average in 2017 to about seven and a half for the first quarter of 2018. During that time, completion efficiencies have more than kept pace with drilling. Stages per day and footage per day are up a whopping 50% in the first quarter versus the 2017 average. This includes a record day in the DJ basin of 26 stages pumped on a four-well pad in a single 24 hour period. That record-breaking pad averaged 21 stages a day for the entire job. Our cost performance in the DJ basin Codell has set the bar for the rest of the company.", "Some notable wells that we highlighted in last night's press release are the three well flatbed package that IP'ed at over 1,300 barrels of oil equivalent per day from 3,900-feet laterals and averaged just $2.9 million per well. We also turned on a full well 9,500-feet big sandy package that averaged over 1,300 barrels a day equivalent per well with a well cost of $3.5 million per well. These seven low-cost Rockies wells are earning an average direct rate of return of over 250%. Our cost structure in the Rockies and Bakken gives us a competitive advantage and creates significant upside potential to add to our premium inventory in the future. The Anadarko basin, Woodford oil window is the latest addition to our diverse portfolio of premium oil assets. We are increasing activity and building working inventory to support our 25 net well program this year. our latest well to come online is the Cherry 1621 #1H which is a two-mile lateral that delivered over 1,100 barrels of oil per day in its first 30 days.", "We currently have four rigs running in the Woodford and as we move into development mode in the basin, we expect to have a number of new well results to share in the future. We will also be testing multiple spacing patterns in order to determine the optimal spacing to maximize in through V per development unit. We are optimistic the Woodford play has upside potential for inventory additions and certainly returns as we increase efficiencies and reduce cost. Plays like the Woodford enhance the diversity of our portfolio and provide us the flexibility to consistently deliver high return production growth.", "Now I'll turn it back over to Bill." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, David. I have a few closing thoughts. Number one: our first quarter results have positioned EOG to have record-breaking direct rates of return on capital investments in 2018. We are going to remain disciplined and stay focused on improving returns going forward. Number two: we're on track to continue reducing both operating costs and well costs. Number three: with our diversified assets, forward-looking marketing arrangements, and advanced infrastructure planning, we are in an excellent position to avoid any significant takeaway issues or negative product price differentials in the Permian or in any of our other active plays. Number four: with two decades of horizontal experience and technology advancements behind us, we are developing sweet spot acreage positions with our latest precision targeting techniques and determining optimal spacing patterns to produce industry-leading well results and per acre net present value. And finally, EOG has never been in a better position to deliver long-term shareholder value. We have the largest and highest quality drilling inventory in the U.S. and it continues to grow much faster than we drill it. We are a low-cost leader today and we will continue to lower costs as we go forward. We are delivering record-setting returns on capital invested, improving corporate ROCE along with strong production growth, and substantial free cash flow. EOG is a high return, organic growth company delivering sustainable, long-term shareholder value. Thanks for listening, and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. The question and answer session will be conducted electronically. If you would like to ask a question, please do so by pressing the * key followed by the digit 1 on your touchtone telephone. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Operators, our questions are limited to one question and one follow up question. We will take as many questions as time permits. Once again, please press 1 on your touchtone telephone to ask a question. If you find that your question has been answered, you may remove yourself by pressing 2. We'll pause for just a moment to give everyone an opportunity to signal for questions.", "And our first question was here from Arun Jayaram with J.P. Morgan." ] }, { "name": "Arun Jayaram", "speech": [ "Good morning, Bill, Mellon's gonna fault you for wanting to reduce your debt or increase your dividends over time but I did want to ask you one question. As you execute your premium drilling strategy, your returns on capital import are now moving into the double digits, and I was wondering if you could talk about weighing a buyback above your cost of capital versus reducing debt what looks to be in the 6-7% range?" ] }, { "name": "Bill Thomas", "speech": [ "Arun, we're committed to doing what's right for the shareholders. Our senior management team board are significant EOG shareholders and we're aligned with investors and we're confidently evaluating what's best to create long-term shareholder value. Currently, with the improving commodity prices we believe investing in high returns and reducing our debt and strong sustainable building growth are the best way to create long-term shareholder value. At the moment, we're very confident in that plan and we believe that that will be the best avenue to create shareholder value." ] }, { "name": "Arun Jayaram", "speech": [ "Great, and just a reduction in debt, does that suggest maybe keeping some dry powder for as you execute your exploration drilling program or to look at potentially other opportunities like you did with the Yates package?" ] }, { "name": "Bill Thomas", "speech": [ "Arun we don't plan any corporate M&A's that's just not one of our game plans. As you know, we're a very organic company, we've got a lot of confidence in our organic exploration effort and corporate M&A's are just something that would be really not in our game plan at this time." ] }, { "name": "Arun Jayaram", "speech": [ "Alright, thanks a lot.", "Operator", "Next, we'll move to Bob Morris with Citi." ] }, { "name": "Bob Morris", "speech": [ "Thank you. a bit of a follow up here, Billy, you've always said that you would spend 100% of your cash flow and I saw some sharp degradation in efficiencies and obviously you want to have billion dollars of excess cash flows, quite a significant amount, but you're starting out the year which you plan to average for the full year on the rig count so what precludes you from stepping up activity or adding some rigs in some of these key areas given some of the returns you're seeing here as we move through the year?" ] }, { "name": "Billy Helms", "speech": [ "Bob, this is Billy Helms. First of all, we remain committed to staying within our capital guidance. We're very much on track with our plan as we laid it out. It's actually our rate of capital spending is to directly in line with what we laid out for the start of the year. and we've already talked about the benefits of moving to these larger packages of wells and as a result the final half of the year is more loaded toward capital spend with the production more way toward the back half of the year so at this moment we're very pleased with where we are headed and we don't really anticipate increasing activity above where we currently are. We're still guiding toward that average rig count of 39 and staying within our capital guidance." ] }, { "name": "Bob Morris", "speech": [ "Okay, great, thank you." ] }, { "name": "Operator", "speech": [ "And we'll hear from Irene Hoff with Imperial Capital" ] }, { "name": "Irene Hoff", "speech": [ "Yes, good morning. So I have a question for the Eagle Ford trend, which you guys definitely were the first mover and it's been going on nine years, I was wondering what is the organic growth rate for this trend in 2018? And also regarding the Austin Chalk, I wanted to understand what other key gating factors that would lead you to fully develop this concept, and when would the chock be a meaningful contributor to your Eagle Ford trend growth?" ] }, { "name": "Ezra Yakob", "speech": [ "Irene, this Ezra Yacob. I don't think we're gonna spend any kind of day guiding the direct growth on that asset right now. But what I will say about the Eagle Ford is -- so outside we see there is just involves our continued progression of integrating the data that we've collected over the development cycle that we've had there. We continue to integrate both high graded geologic mapping, completions data, back into our geologic model and it helps kinda drive our precision targeting as we develop even finer scale and high graded targets. And then also, with respect to Austin Chalk, we've gone a little bit slow making announcements on that because geologically it is a bit more complex than the Eagle Ford. I would say that it already is contributing in a pretty good way to not only our returns but also in 2017 both the Eagle Ford and Austin Chalk actually showed just a little bit of growth year-over-year. and so we're happy with our pace of development there in Austin Chalk and when we have more information on that, we're a little more comfortable with it, we'll provide greater detail." ] }, { "name": "Irene Hoff", "speech": [ "Okay, may I ask one more question? So are you generating organic growth of Eagle Ford and Austin Chalk trend in 2018?" ] }, { "name": "Ezra Yakob", "speech": [ "Yeah, Irene. Without getting into specific details, we do plan to grow that asset this year. We'll be doing that at a pace..." ] }, { "name": "Irene Hoff", "speech": [ "Sorry?" ] }, { "name": "Ezra Yakob", "speech": [ "I was just gonna finish up and say we'll be doing that at a pace commencing with where we can go ahead and continue to integrate our learnings and do that really with a focus on returns first." ] }, { "name": "Irene Hoff", "speech": [ "Understood. Thank you so much." ] }, { "name": "Operator", "speech": [ "And next, we move onto Brian Singer with Goldman Sachs." ] }, { "name": "Brian Singer", "speech": [ "Thank you, good morning. Wanted to start on the well cost front. How can we define the more secular versus the timely impact of your ability to use your scale to gain preferred services pricing exposure, specifically if you're not seeing the inflation in costs in 2018 because you locked in services costs early? What level of inflation would we see in 2019 when you need to recontract or is there a quantifiable secular advantage?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Brian, this is Billy Helms. What we can give you -- it's a little bit early to talk about guiding for 2019 so let me give you a little bit of color on where we are for 2018. First of all, as you're aware, we locked in about 60% of our well costs with the services we have locked in so far with drilling really preferred providers on the drilling side and the completion side. We still have sourced quite a bit of that too, about 25% of our well costs are self-sourced. So the progress we're making -- and I guess the confidence we would have in lowering our well costs in 2018 -- we talked a little bit about how we're rolling costs in each one of the plays, I think the Permian we added quite a few rigs and so we're starting to see the operational performance on those rigs get to the metrics that we like to see in our replete. Completions are already down about 2.3% for the first part of the year. on the eagle ford, our drilling cost is already down about 5% and the completions are expected to follow. And then we've made tremendous progress in the Rockies, both drilling and completion side and lowering our well cost anywhere between 4-5%. But I think overall, we're very pleased with where we're headed and we have a long history just speaking of 2019 again, we have a long history each year as we go into the year we anticipate what the trends are going to be and we get ahead of that and try to work with our preferred providers to lock up some services for the upcoming year. and I expect 2019 will be done the same way. It's a little bit early to really guide on where we'll be but we're very confident that we'll be able to maintain our cost advantages as we go into the next year." ] }, { "name": "Brian Singer", "speech": [ "Great, thank you. And my follow up goes back to the earlier discussion on the Eagle Ford -- gonna be trying to tie up of and Irene's questions together. What would be -- or what would you need to see either in capital availability, a rate of return, or confidence in that precision targeting to allocate more capital to the Eagle Ford? And do you need to exhaust your financial goals of reducing debt by $3 billion and delivering on that above 19% dividend growth before you would do that?" ] }, { "name": "Ezra Yakob", "speech": [ "Brian, this is Ezra again. Kinda like I reiterated, I think we're happy with our plan and we're happy with where we're at, kinda executing it and we're on track with it. As far as adding additional capital or redirecting capital to the Eagle Ford, I think without guiding into the future years, we have definitely run through a number of different forecast growth models, like I talked about in opening statements. Where if we choose to actually grow more progressively there we can certainly do that. We have the inventory and acreage position to do that for over ten years at high returns. But as far as doing it within the year, I think it's safe to say that we're pretty happy with where we're at with our balance approach across multiple basins to achieve our cap ex and volume growth goals for this year." ] }, { "name": "Brian Singer", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And we'll move onto Doug Leggate with Bank of America." ] }, { "name": "Doug Leggate", "speech": [ "Thanks, good morning everybody. Bill, I want to quickly go back to the dividend policies, capital business venture buyback discussion -- or not so much the last part but I'm just looking at the dividend policy going forward, what do you see as the competitive metrics? What's kind of the end game you're trying to get to there? And I just want to be clear on the $60 or $50-60 range you give -- I guess a year or so ago, is the $60 at the budget a kinda hard stall to you keeping anything beyond that as going toward the balance sheet? If that's the case, what happens longer term as it relates to incremental -- let's call it windfall cash flows?" ] }, { "name": "Bill Thomas", "speech": [ "I don't think we have some hurdle rate on the oil price, we've really reset the company to be very successful even at moderate prices going forward. And so the company's in a fantastic position now to make I think a strong statement to say that we're in a position to more aggressively grow our dividend than we ever have in the past and we believe that our dividend is sustainable through the commodity cycles and so the company's just done a fantastic position to both systematically reduce our debt and to grow our dividend very aggressively and sustainably in most commodity price situations." ] }, { "name": "Doug Leggate", "speech": [ "No question on the reset, I appreciate you cultivating on other questions on that issue. My follow up is really on inventory and this is -- I'm not challenging the discipline of the $40 hurdle for premium locations but obviously, some of the market may have a different view to what the sustainable oil price is. And the question is really about inventory relative to your growing pace. If we had to run a $45 or $50 number as the threshold for premium inventory, how would it change over the disclosure you've given so far? Is it up 10% or it's double? And I'll leave it there. Thanks." ] }, { "name": "Bill Thomas", "speech": [ "I think -- first of all, we don't have any plans on changing our criteria. We're gonna stick with $40 oil and 250 flat. That needs to be really clear going forward. That is a fundamental with EOG. If you look at our entire inventory, which is quite substantial, I would say pretty much all of it would be 30%, a better rate return at 50. So it's a very high-quality total inventory. The inventory that we have on the company that's non-premium at 40 would be I would say equal to or better than the average inventory of the whole industry so it's a very high-quality inventory set. And we have a lot of confidence that we'll continue to make improvements on the non-premium inventory and bring it to a level to where it will classify as premium at $40 oil. So we got again a very sustainable cost reduction, it's not just a one-year thing. It's a very consistent cultural attribute of a company and then we have a tremendous ability to continue to improve well productivity at the same time so our goal is to convert a lot of that premium inventory as we go forward, non-premium inventory into premium inventory as we go forward." ] }, { "name": "Doug Leggate", "speech": [ "Thank you, Bill. Very clear." ] }, { "name": "Operator", "speech": [ "And we'll move onto Scott Hanold with RBC Capital Markets." ] }, { "name": "Scott Hanold", "speech": [ "Thanks, good morning. Could I ask another question on your increasing that the dividend rate versus the long-term rate? Is there a particular yield that when you guys step back would like to be at? It looks like you guys are running some more sub 1% right now in some of the large peers are in that 1.5 kinda range. Is there a target rate you'd like to see EOG at?" ] }, { "name": "Scott Hanold", "speech": [ "Okay, appreciate that. And a little bit more on things like you're developing more frontend cap racks weighted as you said in the back cap see some of that production. Can you talk about the cycle plans that some of these larger Permian pads have? It looks like you average about four in the first quarter moving to five but can you discuss maybe what those cycle times look like as you move from two to four to five?" ] }, { "name": "Billy Helms", "speech": [ "Scott, this is Billy Helms. The cycle times, of course, vary by play. So in the Eagle Ford it's a much shorter cycle time than say the Delaware basin just strictly because the drilling times are much longer. It also depends on the size of the pad. Certainly, a ten well pad may be a lot longer to cycle time than a six-well package. Then it also depends on how many rigs and frack fleets we put on each package so it's hard to give you directionally a certain number other than to say that it takes several months to start drilling a pad or package of wells and bring that whole package to production. And as a result, it results in some lumpy nature of both capital spend and production. And that's why you see the production growth vary by quarter. And it's also why as we enter the year we obviously had to build some inventory to be able to execute this plan so the capital guidance is more way toward the front of the year than the second part of the year. and that's just the lumpy nature of this development." ] }, { "name": "Scott Hanold", "speech": [ "Does that smooth out in 2019 as you sort of catch up with that inventory?" ] }, { "name": "Billy Helms", "speech": [ "Yes, I think you'll still see a lumpiness to the overall production growth but you won't see the delay we exhibited in the first quarter on a go-forward basis. You'll see it more just growth quarter-over-quarter as we move through the future." ] }, { "name": "Scott Hanold", "speech": [ "Appreciate that, thanks." ] }, { "name": "Operator", "speech": [ "Next, we'll move to Leo Mariani with NatAlliance Securities." ] }, { "name": "Leo P. Mariani", "speech": [ "Hey guys, I was hoping you could address the Austin Chalk a little bit more. I know that you said you're not here to make extensive comments but I'm just trying to get a sense of the inventory there. It sounds like this is one of the best-returning plays you guys have. Just curious, is this kind of a couple years of inventory? Or is there a similar ten years like the Eagle Ford?" ] }, { "name": "Ezra Yakob", "speech": [ "Leo, this is Ezra Yakob again. It's just really still pretty early in Austin Chalk. We are still doing a lot of testing on our well spacing, trying to determine kinda the optimal spacing, how many precision targets we have in there. We've talked about in the past that it is different than the historical Austin Chalk play. It is a matrix -- contributing a kinda matrix drive play. And so it's not quite as straightforward used -- a lot of those historic learnings. The way we're developing it is different, it's unique. I'd say the initial productions look good. I know it seems like we've put a lot of wells on but we'd like to be confident before we really come out with any detailed numbers on that. And like I said, when we have a little more detail on that we'll certainly talk about it." ] }, { "name": "Leo P. Mariani", "speech": [ "That's helpful. I guess just wanted to follow up on the Eagle Ford. You guys talked about some of the differing production rates you saw in the first quarter in eastern wells versus the western wells but then decided that returns are pretty similar. Just curious, is that kind of implied in any of your well cost in the west? Or lower than the east? What can you sort of say about that?" ] }, { "name": "Ezra Yakob", "speech": [ "Leo, it's Ezra again. I think that you hit the nail on the head there. The cost-per-foot, as I tried to highlight in those opening remarks, the continuous nature of the western Eagle foot acreage and a little bit less faulting out there allows us the opportunity to drill larger, longer wells, and larger packages. It's a little bit less pressure and less shallow too so in general, the costs are a little bit cheaper there. In the eastern Eagle Ford side of our acreage position though, we usually have wells with a little bit more robust rates, a little bit bigger wells. But it is a little bit more challenging drilling over there, it's a little bit deeper. A little bit extra pressure. And then in general, the well lengths tend to be just a little bit shorter due to both the layout of specific leases over there, but then also there's an increase in the faulting off to that eastern side." ] }, { "name": "Leo P. Mariani", "speech": [ "Okay, that's helpful. And I guess just a quick question on your dividend here. You talked about increases in the future -- should we expect to see an increase here in 2018? Are you more talking about evaluating that for 2019 and beyond?" ] }, { "name": "Ezra Yakob", "speech": [ "We don't have any specifics on timing. Our board evaluates the business environment every quarter and concerning the dividend and -- what we're saying is, we believe EOG's in the best shape we've ever been for sustainable, more aggressive dividend growth. Our board is eager to return cash to shareholders with a strong dividend growth." ] }, { "name": "Leo P. Mariani", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Next, I'll move onto Charles Meade with Johnson Rice." ] }, { "name": "Charles Meade", "speech": [ "Yes, good morning Bill to you and your whole team there. You've covered this a little bit already in your comments in the Q&A but I just want to go back to the comments you made in your opening when you said you had no interest in corporate M&A and that's certainly been the pattern for you guys with the one prominent exception of the Yates deal -- and that was really a brilliant deal for you guys. I'm trying to understand a little more -- is the Yates deal the exception that's not likely to come along again or should we be interpreting that you see the market or the opportunities differently from the way you did at that time?" ] }, { "name": "Bill Thomas", "speech": [ "I think Charles what we are saying is we've got extreme confidence in our ability to organically add new high potential at very low cost through our exploration efforts. In general, I think this year we have a very robust exploration effort ongoing and we've acquired a significant amount of low-cost acreage in multiple plays and we're testing numerous new plays with exploration our step out drilling this year. and so our organic machine is really in high gear and we have a lot of confidence in it and we believe we can acquire significant, hopefully even better, drilling potential than we currently have through that process at very low cost." ] }, { "name": "Charles Meade", "speech": [ "Got it, that's helpful Bill, that's all from me, thanks a lot." ] }, { "name": "Operator", "speech": [ "We'll move onto David Heikkinen with Heikkinen Energy Advisors." ] }, { "name": "David Heikkinen", "speech": [ "Good morning guys and thanks for taking my question. We appreciated the details that you put on slide 21 around your diversified marketing options. Can you talk more specifically about firm sales, firm transportations, financial hedges, and the balance of avoiding those long-term contracts that I know EOG doesn't want?" ] }, { "name": "Lance Terveen", "speech": [ "Sure, David, this is Lance Terveen and thanks for your question. When we start and answer your last question there when we talk about commitments. I'll tell you all that's in this room leaves -- we've seen the Barnett, the Haynesville, the Uintah, and so when we think about long-term commitments it's really two-fold. We want to have near-term full assurance, and too, we just want to be very disciplined about any kinda long-term commitments. What we think that does when we can kinda have that first mover and we can identify it, we will need to identify transportation and access to get the markets. At that point, we really make good business decisions because a lot of folks are gonna be waiting for new pipelines that are gonna be starting up in late '19 and probably into 2020. What happens when there's a lot of hype and especially a very active area like the Permian with 453 rigs running, it's not a panic that comes in, but people are looking for capacity so we want to get out in front of that like we've done and like what we've shown. For us, on the commitments, it's just been very disciplined, has a balanced approach, gets in front of it, and the second thing with that is it allows you to have discretionary volumes and it allows you to look at other projects and other things that can come available at even lower rates. So getting in front of that and having some of that near-term assurances really sets us up in the future to lock in other markets or also look at lower transportation costs." ] }, { "name": "David Heikkinen", "speech": [ "Any specifics of a split as far as you think about that flow assurance of marketing agreements, either firm sales, firm transportation? Because you might've done these contracts or term two, three years ago, I'm just trying to get an idea of how you think about splitting marketing agreements, pipeline agreements, hedges, just in that kind of forward-looking process?" ] }, { "name": "Lance Terveen", "speech": [ "Sure. Again, it goes back to our experiences and what we've seen and other basins and as we've looked at making commitments and transportation commitments. Again, when we look at that and we look at kind of a forward forecast on where we think each of the basins might be growing, especially like a new emerging basin. So typically we want to lock up anywhere from maybe 70-80% of that near-term and leave kinda more available in the outer years. So really what the crystal ball when we're looking at making the commitments we try to protect more of a kind of call it the first three years and then if we need to make medium-term commitments then those commitment volumes are little smaller in the outer years. So that's kinda strategically how we think about the commitments, David." ] }, { "name": "David Heikkinen", "speech": [ "Let's look at three years enroll. Okay, that's helpful." ] }, { "name": "Operator", "speech": [ "And we'll move onto Jeffrey Campbell with Tuohy Brothers." ] }, { "name": "Jeffrey Campbell", "speech": [ "Good morning. I just wanted to ask for a little bit of color on the Woodford oil? I noticed that you've added a rig and you drilled quite a long lateral there, which is usually a sign that you're more into development than into delineation. It just seems like this play has really accelerated in a reasonably short amount of time so just kinda wanted to check in on that." ] }, { "name": "David Trice", "speech": [ "This is David Trice. On the Woodford, yes we have picked up additional rigs there. We are running full rigs currently there. And what we're doing this year is one, we're securing operatorship on a lot of these units. And then also, we're doing several spacing tests there. So what we want to really focus on in Woodford this year is we want to lock in our other plays. We want to really confirm the correct spacing so that we can be sure to maximize the MPV per section there." ] }, { "name": "Jeffrey Campbell", "speech": [ "Okay, and if I could just follow up on what you just said. If you look at your position as a whole, what percentage of it can you operate now and what are you trying to get to?" ] }, { "name": "David Trice", "speech": [ "Really most of the 50,000 acres net that we show we'll be able to operate that. We have quite a few trades going on where we may not have the majority interest and so we think at the end of the day we'll be able to operate the entire position." ] }, { "name": "Jeffrey Campbell", "speech": [ "Okay, great, thanks for the color." ] }, { "name": "Operator", "speech": [ "And next, we'll move to Bob Brackett with Bernstein Research." ] }, { "name": "Bob Brackett", "speech": [ "Thanks for taking my question. I'll follow up a bit on the Austin Chalk. If I divide the Austin Chalk into the Karnes Trough into Louisiana and into everything else, where is your sense of how mature your understanding of those plays are right now? And where's the upside on each of those?" ] }, { "name": "Ezra Yakob", "speech": [ "Bob, this is Ezra Yacob and let me start with the Karnes Trough area down in south Texas trend. Like I said, we brought the sale last year, the number of wells, we're very happy with the initial rates on there. And again, it's a new concept on the play that we've been working over the last couple of years where we're basically applying our precision targeting, our petrophysical model in combination with our seismic attributes. The upscale and model these precision targets that actually have matrix contribution and then we're applying some of our high density frack design, think that we've developed in these different basins are different unconventional plays. Basically to the Austin Chalk. And so we're really happy with it I would say. Where the upside resides down in south Texas is continuing to delineate targets, migrating those targets. And again, kinda the continued evolution of our frack designs. It is the chalk so it does -- each of these plays that we're in, whether it's a carbonate, siltstones, mud rocks. As you know, little tweaks on your completion design can make a big difference and so the biggest upside I'd see with Austin Chalk is just that advances continue to evolution and advances on our completions, delineate in additional targets. And then, in Louisiana, it's very early on that prospect. I think everyone knows that we've drilled a very successful Eagle's Ranch well out there. We're very pleased with the initial results on there and we'll provide further details on that on future calls." ] }, { "name": "Bob Brackett", "speech": [ "And elsewhere? Is the Austin Chalk trench -- should we think of it working along the entire trend? Or do you need sort of local structures to help you out?" ] }, { "name": "Ezra Yakob", "speech": [ "This is Ezra again, Bob. The way I'd follow up with that is I'd say there are definitely gonna be sweet spots. It's obviously a widespread play from Mexico all the way up around the Gulf Coast there. Just like any big regional unconventional play, they're gonna be sweet spots in different parts of that area. There are different attributes geologically and geo-physically including the structure as one of them that we're looking at to high grade those areas. But any additional color than that I'm not sure if we wanna provide today." ] }, { "name": "Bob Brackett", "speech": [ "Appreciate it." ] }, { "name": "Operator", "speech": [ "And that will conclude today's question and answer session. At this time, I would like to turn the call back over to Mr. Bill Thomas for any additional or close remarks." ] }, { "name": "Bill Thomas", "speech": [ "In closing, I wanna say thank you to every EOG employee for all of your great work. Our execution in the first quarter was outstanding. We are well on our way to delivering the best investment returns in company history. EOG has never been in a better shape to deliver sustainable, long-term shareholder value. Thanks for listening and thank you for your support." ] }, { "name": "Operator", "speech": [ "And that will conclude today's call. We thank you for your participation." ] }, { "name": "Bob Brackett", "speech": [ "More EOG analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
EOG	2021-05-07	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Johnson Rice & Company L.L.C. -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Michael Scialla", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Mizuho Securities -- Analyst", "name": "Vin Lovaglio", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Nitin Kumar", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day everyone, and welcome to EOG Resources' first-quarter 2021 earnings results conference call. As a reminder, this call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead." ] }, { "name": "Tim Driggers", "speech": [ "Good morning and thanks for joining us. We hope everyone has seen the press release announcing first-quarter 2021 earnings and operational results. This conference call includes forward-looking statements. The risk associated with forwarding-looking statements have been outlined in our earnings release and EOG's SEC filings and we incorporate those by reference for this call.", "This conference call also contains certain non-GAAP financial measures. Definitions, as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com. Some of the reserve estimates on this conference call or in the accompanying investor presentation slides may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference to the cautionary note to U.S.", "investors that appears at the bottom of our earnings release issued yesterday. Participating on the call this morning are Bill Thomas, chairman, and CEO; Billy Helms, chief operating officer; Ezra Yacob, president; Ken Boedeker, EVP, exploration and production; Lance Terveen, senior VP marketing; and David Streit, VP, investor and public relations. Here is Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. EOG is delivering on our free cash flow priorities and our strategy to maximize long-term shareholder value. Yesterday, we declared a $1 per share special dividend to demonstrate our commitment to returning cash to shareholders. Combined with a regular dividend, we expect to return $1.5 billion to our shareholders through dividends in 2021.", "Double premium, well productivity, and cost reductions are substantially improving our returns and increasing our ability to generate significant free cash flow. In order to maximize long-term shareholder value, we will remain flexible as we carry out our free cash flow priorities in the future. By doubling our reinvestment standard, the future potential of our earnings and cash flow performance are the best they've ever been. This quarter, we generated a quarterly record $1.1 billion of free cash flow and earned $1.62 per share of adjusted net income, the second-highest quarterly earnings in company history.", "In addition, our balance sheet is in superior shape with a peer-leading low-net-debt-to-cap ratio. Next, Ezra will review our capital allocation strategy in more detail, Billy will go over our operational performance, and Tim will cover our financial performance before I make a few closing remarks. And here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Bill. Yesterday's dividend announcement is just the latest in a long line of achievements that demonstrate the value of EOG's fundamental strategy of returns-driven capital allocation, including the impact of permanently raising our investment return hurdle rate for the second time in five years. In 2016, during the last downturn, we established our premium investment strategy which requires a 30% direct after-tax rate of return at $40 oil and $2.50 natural gas. The premium investment strategy drove a step-change in our capital efficiency and resulting financial performance.", "It is the reason we entered 2020 in a position of operational and financial strength, which enabled us to generate positive adjusted net income and free cash flow in a year of unprecedented oil volatility and prices that averaged just $39. This year, we increased the return hurdle once again, doubling it to 60% at $40 oil and $2.50 natural gas. Sustainable improvements in our inventory of drilling locations and continued progress in exploration have paved the transition of double premium. The data driving our confidence to make this move is illustrated on Slide 6 of our investor presentation, which details the return profile of every drilling location.", "Half our current inventory earns at least two times the premium return hurdle rate we established back in 2016. 5,700 double-premium locations is more than 10 years' worth of inventory at our current pace of drilling and is more than we had when we made the transition of premium five years ago. Just like we did with our premium inventory, we are confident we can replace our double-premium locations faster than we drill them through line of sight and through additional cost reductions that will increase the returns of existing inventory, and through exploration. A number of innovations which Billy will discuss in a moment are being piloted across our operating areas and will sustainably drive down both well costs and operating costs as we implement them throughout the company.", "Our exploration program is focused exclusively on prospects that will improve on that 60% median return. In fact, our anticipated return on the current slate of new exploration plays is more than 80%. To see the impact of our premium returns-focused capital allocation strategy, a closer look at our corporate financial performance is required. As we replace our production base by drilling locations with higher well level returns, the price required to earn 10% return on capital employed continues to fall.", "Prior to establishing premium, EOG required oil prices upwards of $80 to earn a 10% ROCE. As the premium strategy matured, the oil price needed to earn 10% ROCE came down and averaged just $58 the last four years. This trend is illustrated on Slide 9 of our investor presentation. For 2021, that price is just $50 and we're not stopping there.", "We expect it will continue to fall as our well level returns improve. The impact of reinvesting at higher returns is also showing up in our free cash flow performance. We more than doubled the dividend over the last four years and improved our balance sheet, reducing net debt by nearly $3. As a result, net debt to total capital at the end of last year was just 11%.", "But our future financial performance potential is the real prize. Our first-quarter results are a preview of what we are aiming for. Over the coming years, we expect reinvesting in our current inventory of high-return wells will continue to lower the corporate decline rate and compound the value of our low-cost operating structure. The result leads to higher margins and generates even more free cash flow, providing us tremendous opportunity to create long-term shareholder value.", "We believe when we look back in a few years, it will be viewed as the catalyst for another step-change improvement in EOG's financial performance. Our fundamental strategy of returns-driven capital allocation remains consistent, and consistency is key. Prioritizing reinvestment in high-return projects is the driver behind the steady improvements we've made year after year. As a result, we are now in a position to follow through on our commitment to return additional free cash flow to shareholders.", "Looking ahead, you can expect our priorities to remain consistent. Investing in high returns, generating significant free cash flow to support a sustainable and growing dividend while maintaining a strong balance sheet, followed by opportunistic return of additional free cash flow to investors, and bolt-on acquisitions. Now, here's Billy." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Ezra. The first quarter of the year was about execution. We exceeded our oil target, producing more than the high end of our guidance range because wells that were offline due to the winter storm Uri recovered a bit faster than expected. As a result, our first-quarter daily production declined just 3% compared to the fourth quarter last year.", "Our capital for the quarter came in under our forecasted target by 6%, mainly due to improvements in well costs across the company. The savings realized during the first quarter are in addition to the tremendous 15% reduction last year. EOG is on track to reduce well costs another 5% this year despite some potential inflationary pressure as industry activity resumes. Similar to previous quarters, these results are driven through innovation and efficiency gains in each phase of our operation.", "A closer look at our operations will help explain why we are confident we can once again lower well costs. Our drilling teams are consistently achieving targeted depths faster with lower cost. The constant focus on daily performance and reliability of the tools and technical procedures is creating this continual drive toward lower cost. Some of the benefits this year stem from larger groups of wells per pad simply requiring less rig move cost per well and increasing efficiencies like offline cementing.", "The larger well pads also complement our completion operations through the increased ability to utilize the technique we call super zipper. We began our initial experiments with this technique back in 2019 and it has since advanced to consistently deliver the expected well results at lower cost. We have also learned that super zipper is particularly well-suited to optimize the efficiencies of our five electric frac fleets. However, conventional spreads gain efficiencies as well.", "This practice involves using a single spread of pressure pumping equipment to complete four more wells on a single pad. We split the equipment's capacity in half, simultaneously pumping on two wells while conducting wireline operations on the remaining wells. We piloted and perfected as zip-a-zipper logistics in our Eagle Ford play, and the collaboration between operating areas has accelerated its adoption throughout the company. And in cases where a minimum of four wells cannot be physically be located on a single pad, the engineering teams are working to develop new techniques where we can still utilize this improved completion practice.", "Completion costs are also benefiting from reduced sand and water costs through our integrated self-sourcing efforts. The savings we realized by installing water-reuse pipelines and facilities saves about 7% of well costs compared to third-party sourcing and disposal. Longer term, we expect water reuse and disposal infrastructure will continue to lower lease operating expense in each area as well. Lease operating expenses also benefited from lessons learned through the pandemic this last year.", "The number of wells one lease operator can maintain has increased by as much as 80% by optimizing the use of innovative software designed and built by EOG. The software prioritized lease operator activity throughout the day using our mobile and real-time software infrastructure. Our experience last year inspired a number of new ideas to further high-grade the lease operator's work activity throughout the day, which we believe may continue to expand productivity in a -- in day-to-day field operations. Slide 35 of our investor presentation illustrates the consistent progress we have made year after year on productivity, all powered by innovative ideas, generated bottom-up by employees.", "Each of our operating -- active operating areas functions as an individual incubator to test out new ideas, many of which have -- are a homegrown innovation from EOG employees and rolled out companywide if successful. That's one of the primary reasons our well-cost improvements every year are never one silver bullet, but a list of small to medium-sized individual improvements across all elements of total well costs that result in sustainable cost reduction. As a result of the innovation spreading throughout the company to reduce capital and operating costs, I have strong confidence that the cost structure and capital efficiency of the company will continue to improve. Here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Billy. Yesterday's special dividend announcement marks another milestone in the growth of EOG's profitability and cash flow. We achieved this milestone through the disciplined execution of a consistent, long-term, return-focused strategy for capital allocation, supported by a strong balance sheet. Over time, this strategy has produced increasing amounts of free cash flow.", "The top priorities for the allocation of that free cash flow remain sustainable dividend growth and debt reduction. The shift to premium in 2016 drove a significant improvement in returns, profit margins, and cost, enabling the significant increase in dividend over the last four years. Since 2017, the dividend has grown from $0.67 per share to a $1.65 per share. Now, an annual commitment of almost $1 billion.", "Going forward, our goal is to continue growing the regular dividend. We have never called for suspending the dividend and we remain committed to its sustainability. With the shift to double premium, we're now focused on making another step-change improvement, and the results of those efforts will guide future common dividend increases and the potential for special dividends. Since the shift to premium, we have also retired bond maturities totaling about $2 billion with plans to retire another $1.25 billion in 2023 when the bond matures.", "Net debt to total capitalization was 8% at the end of the first quarter. A strong balance sheet with low debt has been at the heart of EOG's strategy throughout our existence. It's not just conservatism, it's about creating a strategic advantage. Our superior balance sheet enables us to acquire high-return assets at bottom-of-cycle prices where their exploration acreage like the Eagle Ford or for the new plays we're working on today, bolt-on acquisitions, our companies like the -- like Yates acquisition five years ago.", "A strong balance sheet also gives us the financial strength to be a partner of choice in our operations, whether it is with marketing or export agreements, service providers, or even other companies in other countries unlocking new plays. Strong balance sheet extends to ensuring ample liquidity, which we have also secured with no near-term debt maturities, $3.4 billion of cash on hand, and a $2 billion unsecured line of credit. Now, EOG is positioned to address other free cash flow priorities by returning additional cash to shareholders. The $1 per share special dividend falls through -- these consistent long-tailed priorities.", "At $600 million, the special dividend is a meaningful amount while also aligning with our other priorities. After paying the special dividend, we will have $2.8 billion of cash on hand, a full $800 million above our minimum cash target. This is a healthy down payment on the $1.25 billion bond maturing in two years. Going forward, our free cash flow priorities remain unchanged.", "We'll continue to monitor the cash position of the company, oil and gas prices, and of course, our own financial performance. As excess cash becomes available in the future, we will evaluate further special dividends, or at the right time, opportunistic share repurchases or low-cost bolt-on property acquisitions. I think it goes without saying you should expect us to avoid expensive corporate M&A. You can count on EOG to continue following our consistent strategy to maximize long-term shareholder value.", "Now, here is Bill to wrap up." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim. In conclusion, I would like to note the following important takeaways. First, true to the EOG culture, our employees have fully embraced doubling our investment hurdle rate. As we drill more double premium wells, we expect our performance will continue to improve.", "Our decline rate will flatten, our break-even oil price will decline, our margins will expand, and the potential for free cash flow will increase substantially. Second, while our new double premium hurdle rate alone will drive significant improvement, it represents just one source: we never quit coming up with new ways to increase productivity and lower cost. Innovative new ideas and improved technology are developing throughout the company at a rapid pace and will continue to result in even higher returns in the future. And finally, our special dividend this quarter, we are demonstrating our commitment to generating significant free cash flow and using that free cash to improve total shareholder returns.", "We are more excited than ever about the future of EOG and our ability to deliver and maximize long-term shareholder value. Thanks for listening. And now, we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. The question-and-answer session will be conducted electronically. [Operator instructions] Questions are limited to one question and one follow-up question. We will take as many questions as time permits.", "[Operator instructions] And the first question comes from Scott Gruber of Citigroup. Please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yes, good morning." ] }, { "name": "Bill Thomas", "speech": [ "Hello, Scott." ] }, { "name": "Scott Gruber", "speech": [ "So, the most common question we receive I know you touched on it a bit in the prepared remarks which is the framework, you know, that you guys use to determine that -- the $1 special dividend was the right amount, now is the right time, can you just elaborate on that a little bit more, you know, around the framework and the timing? You know, obviously, folks are trying to get a sense of whether the special dividend can repeat in the future." ] }, { "name": "Bill Thomas", "speech": [ "Yes, Scott. You know, certainly, we're demonstrating our commitment to our shareholders by returning a significant amount of cars back to them. And as you know, the $1 per share, you know, I think is a very significant number and large enough to be very meaningful. And I'm going to ask Tim to kind of go through, you know, some of the -- some of the numbers to give you a little bit of the background on the reason that we picked this number." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Bill. So, going back to our priorities over time, it's consistent within our priorities. If you look back, our regular dividend has increased 146% since 2017. That's one of our highest priorities.", "We reduced that by $2.1 billion. So, that set us up to be in a position to now return more cash to the shareholders. When you look at our cash position, we were sitting at $3.4 billion of cash. So, returning $600 million at this point in time as Bill pointed out is a significant amount and it follows through on our long herd -- long-held plan to return cash to the shareholders.", "So, it's simply following through on what we've been committed to for a long time." ] }, { "name": "Bill Thomas", "speech": [ "You know, I want to add, Scott, you know, going forward, you know, our free cash flow priorities and framework haven't changed. And so, you have to put that special dividend in context with our total framework. And just a reminder, we've already said this but our first priority is sustainable dividend growth. We believe that a regular dividend is absolutely the best way to give cash back to shareholders and we certainly are working on that, and have worked to get a great history of doing that.", "And then the next one is debt reduction and we've got a little work left to do with that as Tim noted in his opening remarks. Our next options are the special dividend. And certainly, in favorable times like we have right now, those are the things that we are doing. And then we'll -- also, we want to keep in mind, you know, the potential for opportunistic share repurchases in downturns, counter-cyclic opportunities in share repurchases.", "And then after that, you know, we also want to be able to consider high-return, bolt-on acquisitions. And these are acquisitions that go in our best operating areas, obviously, where we've got a lot of synergy and a lot of ability to move quickly and drill wells. And some of them could be in our new exploration plays where we can capture a very high-potential acreage at a very low cost. And so, we'll just continue to evaluate all these options and work with this framework, and we'll evaluate the best use of cash on a quarter-on-quarter basis.", "We're in a dynamic business environment all the time, so it's important to have the flexibility to use the cash in a way that creates the most shareholder value." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then my follow-up relates to the growth strategy in '22 and beyond. You know, if the oil markets have healed next year and you guys have been very explicit around the fact that you're looking at, and you laid out the 8% to 10% growth cadence on your last call, but there seems to be some discussion around -- now around, you know, the potential for a middle ground if you will. Maybe some growth cadence below that 8% to 10%.", "So, I just want to hear your latest thoughts around 2022, you know, if the oil markets have healed and it's time to grow again, what is the right growth cadence? You know, what factors are you looking at to determine that rate of growth if the markets have healed. You know, and is there a middle ground, you know, somewhere between 0% and 8% to 10%, or is it just, you know, if it's time to grow, we're going to grow at 8% to 10%?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Thanks, Scott, for that question. We want to make sure we're really clear on that and I think we have. You know, we're not going to grow until, you know, demand is recovered to pre-COVID levels, which is -- it's on the way to do that.", "I think everybody can see that. And we want to make sure that obviously, world inventories, U.S. inventories are below the five-year average. And then we're looking for spare capacity to be certainly a lot lower than it is right now.", "And that just means, you know, not a lot of oil shut in to you -- to mass supply and demand. And every year, the market factors, you know, that year -- going into that year will determine our plans. And so, we want to be flexible and we want to be able to, and we will modify our growth plans to fit those market conditions. If we need to grow at a lower rate or no growth at all like we're doing this year, you know, whatever that right growth plan is, whatever fits the market conditions, that's what we want to do.", "Above all everything else, we are committed to staying very disciplined and not forcing oil into a market that's not ready." ] }, { "name": "Scott Gruber", "speech": [ "Got it. Thank you. Appreciate the color." ] }, { "name": "Operator", "speech": [ "The next question comes from Arun Jayaram of J.P. Morgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah. I guess my first question is kind of the dovetail on the special dividend talk. You know, Bill, this year, you've guided to $3.4 billion in free cash flow, you know, $1.5 billion for dividends, another $750 million for the debt you've already paid down. So, that leaves a little bit more than $1.1 billion of free cash flow and I know you're above your, you know, minimal cash targets.", "So, I guess the question is how are you gauging, you know, the market for bolt-ons versus, you know, potentially if the oil price, you know, holds up here in terms of -- in looking at -- in more cash return this year?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Thanks, Arun. You know, we take the -- we evaluate, you know, where we are every quarter. You know, I can't give you any specific on anything, but we evaluate where we are every quarter and we're constantly looking at bolt-on potential and evaluating that.", "So, we want to make sure we leave room to fully consider that, something that would make a very significant difference in the future of the company upgrade. You know, our, you know, our high-quality premium, double premium inventory. We want to do that. So, you know, we're very fortunate and we've got a lot of cash, and we've got a lot of hopefully, we believe a lot of cash coming.", "So, that's a lot of great opportunities for us to consider, you know, additional special dividends, bolt-on acquisitions, etc. And we keep in mind, you know, as Tim talked about, we want to keep in mind our debt reduction targets in a year and then -- excuse me, in 2023, and also be able to, you know, continue to think about growing our regular dividend. So, we'll just keep all those in the proper framework and, you know, you just need to know that we're committed to doing the right thing at the right time for the shareholders, you know, to maximize total shareholder value." ] }, { "name": "Arun Jayaram", "speech": [ "Great. And my follow-up, Bill, you cited this as being, you know, the company's, you know, best free cash flow quarter in history. But I want to see if you could provide a little bit more detail on how the unique pricing conditions for natural gas given winter storm Uri, some of your leverage to JK, and how that contributed to the free cash flow, you know, how would you call that out? I know there's some incremental costs, but what was the puts and take on on the gas price this quarter?" ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask Tim to give some details on that. But just to -- before I turn it over to Tim, you need -- everybody needs to know that the special dividend has nothing to do with the storm and the natural gas process. So, Tim, do you want to give some detail." ] }, { "name": "Tim Driggers", "speech": [ "Sure. When you boil everything down, the effects of Uri was about $40 million to cash flow and net income in the quarter. Obviously, there are big components in there but that's the bottom line. It was very immaterial to our cash flow or net income." ] }, { "name": "Arun Jayaram", "speech": [ "OK. Great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "The next question comes from Scott Hanold of RBC Capital Markets. Please go ahead." ] }, { "name": "Scott Hanold", "speech": [ "Thanks. First and foremost, I want to, you know, I appreciate your very direct commentary on your desire not to grow and, you know, what the plan is. So, hopefully, that does clear the air a bit. You know, what I'm wondering is strategically, if we do stay in sort of the current environment, you know, whether it's '22 or even beyond, you all do build a lot of free cash flow.", "I mean, you know, we're talking with something, you know, around $3 billion even after your base dividend annually. Do you all see if there is a benefit into setting up a more predictable return to cash -- cash return to shareholders, you know, like some of the -- your other peers did? Do you think there's a benefit to that predictability or would you rather see that more opportunistic?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Scott, you know, we -- we're always in a very dynamic business environment. So, it's important, you know, we believe to have the flexibility to use the cash in a way that creates the most shareholder value. You know, we're -- the -- one of the reasons we don't -- the biggest reason we don't want to get into a strict formula because we don't want to be put in a position to where we're growing oil say at 5% when the market clearly does not need more oil. So, we want to be in a position where we can do the right thing at the right time, and to maximize the use of the cash in our plan to maximize shareholder value." ] }, { "name": "Scott Hanold", "speech": [ "Got it. Thank you for that. And my next question, maybe this one's for Ezra. You know, you all talked about, you know, shifting to double premium that's generated know significant increases to EURs, and Page 8 shows just a massive uptick.", "Do you all have any color on, you know, how much of that is organic versus mix shift? I would assume the shift to relatively more Permian has, you know, relative to say Eagle Ford has buys that upward. But do you have a sense on, you know, how much is mix shift versus organic?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Scott. Thanks for the question this is Ezra. Yeah, definitely in the Permian we have a higher percentage of those 5,700 double-premium locations are located in the Permian. But part of that is simply just because we have so many targets captured there in the Delaware Basin.", "What I would say is we have a fairly wide variety and fairly distributed variety of double-premium wells across our entire portfolio, including the Eagle Ford, the recently announced Austin Chalk Dorado play, and the Powder River Basin as well." ] }, { "name": "Operator", "speech": [ "The next question comes from Doug Leggate of Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thank you. Good morning, everyone. I apologize I was just taking you off my headset. Bill or Ezra, I wonder if I could press on Scott's point.", "I'm afraid I'm not quite where Scott says in thinking this draws a line under the growth story. So, my question is really simple. You currently have one of the lowest free cash flow yields in the sector or arguably a reflection of your share price. But my point is that everyone has got the capacity to spend more money.", "What happens to your 10% return at $50 oil if the whole industry follows your lead and goes back to a 10% growth rate?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Doug, I want to make it really clear. We're not stuck on 10% growth rate or 8% growth rate. We are totally focused on making sure we do the right thing at the right time. So, we -- the oil price does not guide how much we're going to grow, it's the market fundamentals.", "And so, we're really focused on that. We've laid out, I think, a strong set of fundamentals that we're focused on and we will adjust our plan each year, which means our growth plan each year, to those market fundamentals. And maybe certainly, we -- next year, that we don't grow at all or we may grow at 4% or 5%. We'll just have to see what the market fundamentals show." ] }, { "name": "Doug Leggate", "speech": [ "That's actually a great answer, Bill. It's not set in stone is going to of what I was really trying to get to. My follow-up is Ezra, very quickly, 10 years of inventory, double premium at the current pace, if you do choose to grow back to growth, one assumes that 10 years shrink some. So, can you talk about the sustainability and how that plays into, again, the, you know, how you think about that activity level? And I'll leave it there.", "Thanks." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. That's a good question. Similarly, as we've done over the past few years, you know, we're consistently focused on getting better year after year. And so, by driving down well costs through sustainable well cost reductions, some of which Billy spoke to in opening remarks, but also through applying technology and innovations to increase the well productivity gains.", "We're able to convert some of our existing inventory every year into that double-premium metric. In addition to that, we have two other avenues, the first which Bill has touched on is bolt-on new acreage acquisition opportunities in areas of pre-existing development. But then also our exploration effort. And as I talked about in the opening comments, you know, our exploration effort is really focused on, again, making another step-change to our current inventory.", "It's focused on adding low-decline, high-impact plays that really increase the overall return profile of the company. And again, here, you know, regardless of any growth rate, when you're reinvesting in higher-return opportunities and adding lower-cost reserves to your company, you're really, you know, driving down the cost base of the company year after year. And that's essentially what translates into our corporate financials and allows us to lower that price required for a double-digit ROCE every year." ] }, { "name": "Operator", "speech": [ "The next question comes from Neal Dingmann of Truist Securities. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning all. My -- guys, my first question is around how you look at your reinvestment rate. I'm just wondering number one, could you talk about sort of current strip, how you see the reinvestment. And, you know, again, let's assume another $5 or so higher, what would that do to that?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Neal. Thanks for the question. We're going to ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah. Thanks, Neal. I think, you know, for the reinvestment rate, we're always looking at, you know, as Bill mentioned earlier, what's the market look like and what's the need for oil. And we're not certainly not going to grow into a market that doesn't need the oil as he pointed out, and just trying to make sure reemphasize that point.", "And then in going forward each year, we'll do the same thing we always do. We'd kind of see where the market is and what the prices are, and what our opportunities are to develop our assets. And we balance that against the cash needs of the company. So, it's not really a straight formula, it's more about where the market is at that current time." ] }, { "name": "Neal Dingmann", "speech": [ "I'm glad to hear that. I wish more others would say the same. And then just a follow-up, could you talk about, you know, I would call this question more on sort of your regional allocation process. I know, you know, Bill, you talked about sort of the new hurdles, the premium new locations.", "But I'm just wondering how does that factor in when, you know, you've got some exciting, you know, but not quite as developed areas like in the PRB that I think have high potential. But if you're just strictly looking at maybe what they produce immediately, might not compete. So, I'm just wanted to how do you factor in some of those high-potential wells with this plan?" ] }, { "name": "Billy Helms", "speech": [ "Yeah. Neal, this is Billy again. Let me take a stab at that. So, as we look at all of our assets, that's the beauty of having a decentralized culture where we are focused on multiple plays across our portfolio.", "You have plays that are in different phases of their lifecycle as you might think about it. As you just said, you know, like the Eagle Ford is a more mature play, it's had a growth for about 10 years, it's further down that maturity window than say the Delaware Basin. And then the Powder River Basin is certainly an early maturing or early growth-phase play. So, each one of those, we certainly go in with the idea of delineating the play first, putting in the infrastructure to drive down our cost over time, and then maximize returns.", "So, each one of those have a different lifecycle that commands a different amount of investment. And overall though, the company is able to maintain a very steady pace of activity and future value creation through that -- the way we operate the company." ] }, { "name": "Operator", "speech": [ "The next question is from Leo Mariani of KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "On spending here. So, we're noticing that just based on your guidance, your capex was ticking up, you know, out here in the second quarter. I just wondered what was sort of driving that. I wasn't sure kind of, you know, what was kind of causing that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo, this Billy. So, the guidance on the capex, it's up a little bit in the second quarter relative to the first quarter is simply the timing of when wells are available to be completed. So, we'll have a little bit more completion activity in the second quarter than we did in the first quarter. That simply is.", "I think in general, we'll have about 50% -- 52% of our capex spend in the first half, the remaining to be spent more ratably through the rest of the year. And the volumes will be really pretty much keeping with that 440,000 barrels a day per-quarter average the rest of the year. So, it's a -- we'll be maintaining 240,000 barrels a day each quarter going forward." ] }, { "name": "Leo Mariani", "speech": [ "OK, that's helpful for sure. I just wanted to ask on the exploration plays. If I'm not wrong, I think you guys are certainly diverting more capital there, particularly to the drill bit in 2021 here. I just wanted to confirm, you guys kind of drilling out, you know, multiple plays, you know, at this point.", "I think you did a little bit of that in the last couple of years as well. And as a result, you know, maybe you just can kind of speak to, you know, high level what your confidence is in being able to maybe, you know, prove some of these up in the next year?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo, this is Ezra. I appreciate the question. Yeah, on our exploration plays, you're right, we're -- we've allocated about $300 million to the exploration effort this year. Over the last few years, we've done a little bit of drilling, those dominantly kind of leasing, putting some of the acreage together.", "And then, of course, there was a pullback here in 2020 due to the reduction in capital allocation associated with the downturn in prices and COVID. But this year, we are back to drilling multiple prospects. We're at a point where the prospects have started to move at different phases. I would say we're drilling exploration wells across some of the prospects, across others.", "We're into more of what I'd call appraisal wells and we're feeling very confident with where we're at, the results that we're seeing, and we hope to be able to provide some results on that soon." ] }, { "name": "Operator", "speech": [ "The next question comes from Jeanine Wai of Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Good morning, everyone. Thanks for taking our questions. Maybe a question for Ezra following up on the explorations.", "You're in Oman now and I believe we saw last month that you paid a nominal amount for an interest in the Beehive oil prospect offshore Australia. So, can you talk about what attracted you to Australia? And do you still have interest in other international plays?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Jeanine. That's a great question. This is Ezra. Yeah, the opportunity there in Australia, as you mentioned, it's on the North-West Shelf, obviously, everyone knows a very prolific hydrocarbon region.", "It's a shallow-water opportunity that we've stepped into there, as you mentioned, for a very low upfront cost. It's exposing us to a prospect that we think has the opportunity, the potential to be impactful to our company. It -- we're forecasting it has the potential to really compete with our domestic returns. And what we've -- the opportunity that we've -- we have here in Australia is really an outgrowth of our experience in Trinidad, where for nearly 20 years, we've been operating in the shallow waters offshore of Trinidad.", "And really, this is a geologic province and a type of play where industry has really moved away from. And so, we've found ourselves as kind of a niche operator and we've developed not only operational procedures but also some geologic techniques where we think we can come into some of these shallow-water prospects and make very, very good returns. The attractive thing about Australia, again, is -- not only does it fit into our experience level from operations and a technical perspective, but it has many offtake and oilfield service availability there. And of course, the low cost to entry to, you know, an exciting amount of upside in the prospect." ] }, { "name": "Jeanine Wai", "speech": [ "OK. Interesting. We'll be looking forward to that. My second question and I apologize in advance for beating the horse again on this.", "But on the special dividend, the perception in the market is simply that, you know, cash difference aren't consistent to formulate, you can't capitalize on evaluations, you don't get credit for it, etc. With that in mind, you mentioned that you evaluate the health of the business every quarter, probably more frequently than that. And specifically, when it comes to the special dividend, can you just clarify is it really a matter of just holding $2 billion minimum operating cash plus $800 million to $1.25 billion for the 2023 maturity, and then everything else kind of gets paid out in due time, and it kind of needs to be meaningful? I know you also mentioned a couple of times that having optionality for high-return bolt-ons is also one of the priorities. So, if you have any kind of commentary on what a comfortable placeholder for that would be, that would be really helpful.", "Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, Jeanine. You know, Tim's given, you know, I think some answers for some of those on there. Yeah, we want to keep ample cash on the balance sheet to run the business and that's around $2 billion. And then, you know, we have set aside or looking at plans for reducing the $1.25 billion bond in 2023.", "So, that's all fits in and that's part of our, you know, evaluation of how we use the cash and when we use the cash. But really, the special dividend just fits into, you know, the framework that we've already laid out and our commitment to giving back cash to shareholders. So, you know, we will look at our cash position and look at bolt-on potential opportunities. They can truly be any size, you know, from a very small.", "We've done in the past, you know, $20 million, $30 million deal, but they could certainly be bigger than that too. So, we'll take all that and work it into our framework, and evaluate where the company is, and in the outlook for the business. And, you know, our goal is to continue to return cash to shareholders through that framework." ] }, { "name": "Operator", "speech": [ "The next question comes from Charles Meade of Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Thanks. Good morning, Bill, to you, and your whole team there. I really just have one question and it goes back to the -- some of your prepared comments, Bill, and more specifically, share repurchases. Yeah, I recognize that that hasn't been your MO in the past and they kind of have a bad reputation maybe because usually share repurchases wind up being pro-cyclical.", "In the way you talked about it, you said for you, you would look at it in an opportunistic way is the word I remember, and you said, in a downturn. And I guess my question is it's easy to see a downturn in retrospect, right? You know, six months ago, you guys had a three-handle on your stock. But it's hard to recognize when you're in it. So, is there any guidepost that you can share about how you would recognize when you're in one of those downturns and it's time to be opportunistic? Or is it just one of the things, you know when you see it?" ] }, { "name": "Bill Thomas", "speech": [ "Yes, Charles. I think, you know, it goes right along with the supply demand and market fundamentals analysis that we do. You know, we can -- we've gotten more sophisticated, we've got a very sophisticated model now developed through our information technology and we're gaining a lot of confidence in it on being able to kind of be on top of the oil market and where it's headed and certainly, the oil price that's the biggest indicator. But we -- I think we'll be able to determine, you know, when is the right time, when is the opportunistic counter-cyclic kind of to maybe consider share buybacks.", "And of course, now, you know, we have a lot of cash on the balance sheet and we want to continue to watch that and keep that. We will have an opportunity when we do have a downturn to have cash to do that if that happens." ] }, { "name": "Charles Meade", "speech": [ "Thank you, Bill." ] }, { "name": "Operator", "speech": [ "The next question comes from Neil Mehta of Goldman Sachs. Please go ahead." ] }, { "name": "Neil Mehta", "speech": [ "Good morning, team, and congrats on a good quarter here. The first question is Bill, any updates on permitting on federal lands and how that process has been to apply for four new permits? And in general in your conversations with Washington, does it seem like some of the risks around the federal lands exposure in the Delaware has diminished?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Neal. This is Billy Helms. So, on the permits -- the federal permits, certainly, we were very active in obtaining permits prior to the -- to administration change just to protect our activity levels. Since this moratorium has been lifted, we are receiving a steady stream of permits.", "The permit stream is coming very well. We're receiving permits in all of our areas too. So, I think the working relationships we've been able to maintain with the regulators is -- and working through the process with them has benefited us really well. So, we're not really seeing any restrictions there.", "And I think the Biden administration clearly has said that activity -- he wants to maintain activity on valid leases, so we're very comforted by the fact that we'll be able to continue then." ] }, { "name": "Neil Mehta", "speech": [ "That's great, guys. And the follow-up is just on the macro. You guys talked a little bit about the tools that you have to evaluate, the direction of oil price, and the way things are trending. Be curious if you could unpack what you're seeing real-time and how you're thinking about the commodity price moving from here for both for oil and for natural gas." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Neil. On oil, you know, as we already talked about, the fundamentals are definitely improving. The, you know, it's been a little bouncy on the COVID recovery and oil demand but we're seeing very very steady improvements with -- I think we're up to maybe 95-million-barrel-a-day demand right now. We think, you know, maybe by the end of the year, that will get to pre-COVID levels of somewhere around 100 million barrels a day.", "We'll just have to watch it and see. The inventories are dropping and we think, you know, they'll be fairly consistent draws on inventory from here on out, especially during the summer pickup activity. And so, that's all looking really good. And then the, you know, the spare capacity, you know, is going fine.", "It's been extended and drawn out a little bit farther than what it started out to be at the beginning of the year. But, you know, we believe again as demand picks up that that that spare capacity will be put back online, you know. But I want to give you, you know, our -- the data when everything's OK. We'll just have to watch and see it.", "But certainly, everything is going in the right direction and I think the market, you know, as oil prices have responded to that, I think it's -- that what we're saying and seeing is not different than what the consensus view is. On natural gas, you know, we're mildly bullish. Inventories are low and supply the is less and demand is higher this year than supply. So, we're going to be entering the summer and particularly the fall of the year with pretty low inventories.", "So, depending -- obviously, it always depends on the weather on gas. And so, we'll just have to see how all that turns out. But, you know, we were optimistic on gas also." ] }, { "name": "Operator", "speech": [ "The next question comes from Michael Scialla of Stifel. Please go ahead." ] }, { "name": "Michael Scialla", "speech": [ "Yeah. Good morning, everybody. You just highlighted for quite a long time your ESG sustainability ambitions. I just want to see where you stand on the government putting a price on carbon or carbon tax.", "And do you see any economic opportunities in the energy transition for EOG?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Michael. I'm going to ask Ken Boedeker to talk on that. Just, you know, before we start, so -- that, you know, that the carbon tax or issues like that, we're going to leave those up to the legislatures and not come out with our opinions on that.", "You know, we'll work with, you know, whatever transpires on that. So, Ken, do you want to talk about other opportunities?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. We really have no interest in lower -- in a lower-return business that this might lead to, but we've really made excellent progress in reducing our emissions over the last four years. And you can see that with our intensity rates coming down as indicated in the attached slides that we've got on the presentation there. We're focused on reducing our own emissions with projects that have competitive returns before we consider a second phase of applying technology such as carbon capture to reduce our emissions.", "And we do believe that we can use, you know, 1% to 2% of our capital budget every year to make substantial progress toward our goals of no routine flaring by 2025 that's been endorsed by the World Bank. And our ambition of Scope 1 and 2 net-zero by 2040." ] }, { "name": "Michael Scialla", "speech": [ "OK. Thank you. And Bill, you mentioned some of the things you're doing to lower well cost, the larger pads, and the super zippers. Some of your competitors have talked about three-mile laterals in the Permian.", "I think you guys have done some two-mile-plus laterals in the Eagle Ford, but do you see the trend toward three-mile laterals, particularly in the Permian? Or if not, what are the issues that would prevent that?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. Thanks, Michael. Yeah. Thanks, Michael.", "So, on the three-mile laterals, you're right. We've done several, I'd say between two and a half and three-mile laterals in multiple plays where it makes sense and we do them probably more predominantly in the Eagle Ford. And then we've had some in the Bakken and also in the DJ. So, -- but there are unique circumstances that allow that to happen for us and they're more driven by geology in that particular area, but also the access issues on the surface.", "You know, I think just as a general rule, I'm not sure that it always makes sense to go through two or three-mile lateral. I think you have to take into account the efficiencies of being able to complete that last mile of lateral economically, compared to a two-mile lateral, those kinds of things. And a lot of it does depend on the geology. And as you know, we spend a lot of detailed time working through the geology and how to best approach every single well location we have.", "So, there are some limitations on where you can do that effectively. And so, it's not a broad-brush approach." ] }, { "name": "Operator", "speech": [ "The next question comes from Vincent Lovaglio of Mizuho. Please go ahead." ] }, { "name": "Vin Lovaglio", "speech": [ "Yeah, hey. Hey, guys, thanks for having me on. I wanted to ask on the double-premium locations and you might have touched on it last quarter, but if there's anything you need to the geology across these plays that lends itself to higher productivity but also the lower declines described in Slide 8. And, you know, if so, how that might affect your pursuit of new opportunities that are double premium, why you guys have differentiated in that pursuit, and also in the development of those opportunities." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Vin. This is Ezra Yacob. That's a great question. And, you know, what we're highlighting there in the slide deck, it really comes down to what you touched on with the unique geology.", "These are -- the double-premium plays are usually in areas where we've really refined our target down to get -- in our existing portfolio down to get rock quality that is higher, better permeability. And really, the big step changes as we look forward into the exploration prospects. As we've talked about before, we're, you know, looking for new plays that historically haven't really been drilled routinely with horizontals. We're looking for a higher quality of rocks that we can apply the horizontal drilling and completions technology to.", "And really, it's the higher permeability, higher porosity that lends itself to the shallower declines. And we think that, you know, this is not only going to be a step-change for our performance as a company going forward, but really, potentially, those are going to be the new reservoirs the industry eventually is looking at to apply horizontal drilling to in the future." ] }, { "name": "Vin Lovaglio", "speech": [ "Perfect. Thanks. And maybe second. Any additional color that you can maybe give on conventional EUR, just where it stands in the Eagle Ford right now.", "Thoughts on applicability across other plays and then maybe how that could improve your environmental footprint going forward. Thanks." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. This is Ken. As far as EUR goes in the Eagle Ford right now, we've high-graded our EUR process and we have some of our units that are in blowdown and other units that we're continuing to inject into EUR is much more challenged in a higher gas price environment with our double-premium returns. So, we are evaluating it for other areas based on that across the company." ] }, { "name": "Operator", "speech": [ "The next question comes from Nitin Kumar of Wells Fargo. Please go ahead." ] }, { "name": "Nitin Kumar", "speech": [ "Hi. Good morning, gentlemen, and first of all, congratulations. Your market is definitely receiving the special dividend very well. My question is perhaps a little different from some of the other ones that have been asked.", "What we're trying -- I was going through Slide 9, you've migrated to this double-premium strategy. With the macroenvironment as favorable as it is, what happens to the single premium or the lower half of your core inventory here? You -- Ezra mentioned the expiration phase can have returns as high as 80%. So, just wondering is there an opportunity to -- with any market opening to monetize some of those? Or how should we think about that part of your inventory?" ] }, { "name": "Bill Thomas", "speech": [ "That's an excellent question, Nitin. We appreciate it and appreciate your compliments. Yeah, we are always evaluating property sales. And I'm going to ask Ken Boedeker comment -- to comment on that in general for the company." ] }, { "name": "Ken Boedeker", "speech": [ "Sure. Thanks, Bill. You know, we're always high-grading our portfolio and divesting those properties with minimal double-premium potential remaining. And we've actually sold about $7 billion in assets over the last 10 years and we will continue to high-grade our assets as we see the market giving them fair value." ] }, { "name": "Bill Thomas", "speech": [ "And certainly, you know, in the last few years, it hasn't been a seller's market, but it is -- it will turn as people get short of inventory. And we think that the premium -- the single-premium assets that we have, you know, even those are probably some of the best inventory in the industry. So, those certainly have a lot of value." ] }, { "name": "Nitin Kumar", "speech": [ "OK. And they don't -- with $60 oil and costs where they are today, they don't compete for capital within your program?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah. That's correct. The 30% rate of return at $40 doesn't compete in our program right now. It needs to be a 60% rate of return at $40 flat.", "It's a -- it's definitely a huge shift in our returns. And that's what we've been talking about, you know, for the last several quarters in our script and in our slide detail a lot of really good information. But certainly, the shift to double premium is we believe by far the highest reinvestment standard in the industry, and it is a clear separator for EOG. And it will drive exceptional performance for the company going forward." ] }, { "name": "Operator", "speech": [ "This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Thomas for any closing remarks." ] }, { "name": "Bill Thomas", "speech": [ "In closing, our excellent fourth-quarter results are a testament to EOG's ability to generate significant shareholder value. We're proud of all of EOG employees and their outstanding contributions to continuously improve the company. Our excitement about EOG's ability to improve returns and increased value has never been greater. So, thanks for listening and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2021-11-05	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Ezra Yacob", "position": "Executive" }, { "description": "President and Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Scotiabank-- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Scott Gruber", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Johnson Rice -- Analyst", "name": "Charles Meade", "position": "Analyst" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Scott Hanold", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Bernstein Research -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Neil Mehta", "position": "Analyst" }, { "description": "Stifel Financial Corp. -- Analyst", "name": "Michael Scialla", "position": "Analyst" }, { "description": "Sankey Research -- Analyst", "name": "Paul Sankey", "position": "Analyst" }, { "description": "Senior Vice President, Marketing", "name": "Lance Terveen", "position": "Executive" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources third quarter 2021 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release and EOG's SEC filings. This conference call also contains certain non-GAAP financial measures.", "Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website. Participating on the call this morning are Ezra Yacob, chief executive officer; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Streit, VP, investor and public relations. Here's Ezra Yacob." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Tim. Good morning, everyone. EOG is delivering on our free cash flow priorities. Yesterday, we announced an 82% increase to our regular dividend to an annual rate of $3 per share, a $2 per share special dividend and an update to our share buyback authorization to $5 billion.", "These cash return announcements reflect EOG's consistent outstanding performance and are the direct result of our disciplined approach to high-return investment. During the third quarter, we set new quarterly earnings and cash flow records. Adjusted net income of $1.3 billion or $2.16 per share and free cash flow of $1.4 billion. The strength of our current and future earnings and cash flow that supports both dividend announcements can be traced back to 2016.", "Amid a potentially prolonged low commodity price environment, we made a permanent upgrade to our investment criteria. Our premium hurdle rate was established not only to protect the company's profitability in 2016, but all future commodity cycles. The discipline to only invest in new wells that earn a minimum 30% direct after-tax rate of return, assuming a $40 oil price for the life of the well continues to improve our capital efficiency, profitability and cash flow. Our employees immediately embraced the challenge of this new investment hurdle.", "And by the second half of 2016, EOG was reinvesting capital and paying the dividend within cash flow. We have generated free cash flow every year since. From 2017 to 2019, we generated enough free cash flow to significantly reduce net debt by $2.2 billion, while also increasing the dividend rate 72%. We also expanded our inventory of premium wells by more than three times.", "While adding inventory that meets the minimum premium threshold increases quantity, our goal through technical innovation and organic exploration is to add higher quality inventory. Our employees, empowered by EOG's unique culture applied innovation and efficiencies to raise the return of much of the existing inventory while adding higher rate of return wells through exploration. The premium standard established in 2016 and the momentum that followed provided a step change in operational and by extension financial performance, which set the stage for the second upgrade to our reinvestment hurdle rate, double premium. Double premium, which is a minimum return hurdle of 60% direct after-tax rate of return at $40 oil was initiated during the depth of last year's unprecedented down cycle.", "That capital discipline enabled EOG to deliver extraordinary results in a $39 oil price environment last year. Using such stringent hurdle rates prepared the company not only for 2020 but for our stellar results this year. There is no clear indication of the impact premium and now double premium has had on our confidence in EOG's future profitability than the 82% increase to our regular dividend announced yesterday. Combined with the 10% increase made in February of this year, we have doubled our annual dividend rate from $1.50 per share to $3 per share.", "After weathering two downturns during which we did not cut nor to spend the dividend -- suspend the dividend, the new annual rate of $3 per share reflects the significant improvement in EOG's capital efficiency since the transition to premium drilling. Going forward, we are confident that double-premium will continue to improve the financial performance just like premium did five years ago. We are also confident in our ability to continue adding to our double-premium inventory without any need for expensive M&A by improving our existing assets and adding new plays from our deep pipeline of organic exploration prospects, developing high-return, low-cost reserves that meet our stringent double premium hurdle rate, expands our future free cash flow potential and supports EOG's commitment to sustainably growing our regular dividend. EOG's focus on returns, disciplined growth, strong free cash flow generation and sustainability remain constant.", "Just as our free cash flow priorities are consistent, so remains our broader strategy and culture, EOG's competitive advantage is our people and today's announcements are a reflection of our culture of innovation and execution. Looking toward 2022, oil market supply and demand fundamentals are improving but remain dynamic. While it's unlikely the market will be fully balanced by the end of 2021, we will continue to monitor macro fundamentals, as we plan for next year. We are committed to maintaining production until the oil market needs additional barrels.", "Under any scenario, we remain focused on driving sustainable efficiency improvements. We are well-positioned to offset inflationary price pressures to help keep our well costs flat next year. To summarize this quarter's earnings release in three points: first, our fundamental strategy of investing in high-return projects consistently executed year after year is delivering outstanding financial results. Second, we are still getting better.", "As we continue to expand our opportunity set to add double-premium inventory through sustainable well cost reductions and organic exploration, EOG is set up to improve performance even further. And third, we are well-positioned to execute our high-return reinvestment program in 2022 to deliver another year of outstanding returns. Here's Tim to review our capital allocation strategy and our free cash flow priorities." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. As we have been progressing premium in the last five years, our capital allocation decisions have been guided by a set of long-standing, consistent priorities. First is high-return, disciplined reinvestment. Our returns on capital investment have never been higher.", "However, market fundamentals remain the No. 1 determinant of when to grow. Second is the regular dividend, which we believe is the best way to return cash to shareholders. We have paid a dividend for 22 years without suspending or cutting it.", "At the new level of $3 per year, we can comfortably fund both the dividend and maintenance capex at $40 WTI. The combination of our low-cost structure, high returns and strong financial position will sustain this higher regular dividend. This resilient financial position is backstopped by our third priority, a pristine balance sheet with almost zero net debt. We remain firmly committed to a strong balance sheet.", "It's not conservatism. It's a competitive advantage. Fourth, we regularly review other cash return options, specifically special dividends and share buybacks. Yesterday, we declared a special dividend for the second time in 2021 and updated our share buyback authorization.", "Share buybacks have always been part of our playbook and will remain an opportunistic cash return alternative. We are cognizant of the challenges of successfully executing a share buyback in a cyclical industry. We know and expect there will be periods in the future when the stock will be impacted by macro factors such as the commodity cycle, geopolitical events and other unforeseen events like the COVID pandemic in 2020. The updated $5 billion authorization provides the flexibility to act and take advantage when the right opportunity presents itself.", "We believe our strategy for the use of other cash return options is well designed to deliver value through the cycle. Finally, we are not in the market for expensive M&A. It is simply a low return proposition. We can create much more value through organic reinvestment and our shareholders can do better with their excess cash.", "Our premium strategy generates back in their hands. Since our shift to premium in 2016, EOG has generated nearly $10 billion of free cash flow. With that cash flow, EOG has reduced debt $1.5 billion increased the cash balance by $3.6 billion and will have returned more than $5 billion to shareholders by the end of 2021. This is a significant amount of shareholder value driven by premium.", "Today, EOG is positioned to translate that value creation into even more cash returns to shareholders. In the third quarter, we generated a record $1.4 billion of free cash flow bringing our year-to-date free cash flow to $3.5 billion, which is equal to the total return of capital paid and committed this year to our regular dividend to special dividends and debt repayment. You can expect us to continue returning cash going forward. There might be times when we strategically increase or decrease the cash balance, but over time, the cash will go back to our shareholders.", "Here's Billy." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. As a result of the -- to the consistency of our operating performance, we delivered another quarter of outstanding results. I couldn't be more proud of the engagement of our employees and their culture of continuous improvement. Their execution of our 2021 plan has been near perfect.", "For the third quarter in a row, we produced more oil for less capital. That is we exceeded our production targets while spending less than our forecast for capital expenditures. Well productivity, driven by our double premium hurdle rate, continues to outperform, while our drilling and completion teams pushed the envelope on new sustainable cost savings and expand those efficiencies throughout our active operating areas. Examples include in-sourcing and redesigning drilling equipment, adopting innovative techniques to reduce nonproductive time, expanding super zipper completion operations and reducing sand and water sourcing cost.", "Our ability to continue to lower cost and deliver reliable execution quarter after quarter is tied to a common set of operating practices that together form a sustainable competitive advantage for EOG. First, we are a multi-play company with activity spread across four different basins in the U.S. As conditions change, we have the flexibility to shift capital between plays to optimize returns. Second, we are organized under a decentralized structure.", "Decisions are made by discrete focused teams closer to the operation rather than dictated by headquarters. Our culture is non-bureaucratic and entrepreneurial. We empower our frontline employees to make decisions, bringing them to drive innovation and efficiency improvements. Third, we have established strategic vendor relationships with our preferred service providers.", "We are typically -- we are not typically the biggest beneficiary of price reductions during downturns, but we also tend to not be on the leading edge of price increases during the inflationary periods. Fourth, we have taken ownership of the value-added parts of the drilling, completions and production supply chain by applying our operational expertise and proprietary technology to improve efficiency and lower cost. Examples include sand, water, chemicals, drilling fluids, completion design, drilling motors, the marketing of our products and much more. As a result, our operating teams have complete ownership of driving improvements in every step.", "And finally, we apply world-class information technology to every part of our operation. Our data gathering and analysis capabilities continue to improve, which we leverage to better manage day-to-day field operations for more efficient use of resources, as well as discovering new innovations. As a result of these strategic advantages, we are confident in achieving our target of 7% well cost savings this year. This is an incredible accomplishment given the state of inflation.", "And as we move into next year, we are on track to lock in 50% of our total well cost by the end of this year. We have locked in 90%-plus of our drilling rigs at rates that are flat to lower than 2020 and 2021. We've also secured more than 50% of our completion crews at favorable rates. While it's still early, the savings from these initiatives and other improvement efforts will continue to be realized next year, helping us offset the risk of additional inflation.", "And thus, we remain confident that we will be able to keep well cost at least flat in 2022. Now, here's Ken." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. Last month, we published our 2020 sustainability report. As detailed in this report, we are focused on reducing emissions in the field. Our flaring intensity rate decreased 43% in 2020 compared to 2019, which drove an overall 9% reduction in greenhouse gas intensity.", "We continue to make progress toward our goal of zero routine-flaring across all our operations by 2025 with our more immediate goal of 99.8% wellhead gas capture this year. We also made significant progress on methane last year, reducing our methane emissions percentage by one-third to less than one-tenth of 1% of our natural gas production. Since 2017, we've reduced our methane emission intensity percentage by 80%. Our sustainability report profiles the technology and innovation that contributed to these improvements and illustrates why we are optimistic about future performance on our path to net zero by 2040.", "Examples of how we are addressing emissions in the field include closed-loop gas capture, which helps us continue to reduce flaring. We're leveraging information technology and our extensive data analysis capabilities from both mobile platforms and our central control rooms to better manage day-to-day operations. In addition, we are piloting technology in the field such as sensors and control devices that complement our already robust leak detection program. These are just a few examples of the initiatives we have underway.", "Like all efforts at EOG, our sustainability strides are bottom-up-driven. Creative ideas to improve our ESG performance come from employees working in our operating areas every day. We have a long list of solutions we expect to pilot and profile in the future. Our record of significantly reducing our GHG intensity over the last several years speaks for itself.", "And we are committed to continuing to improve our emissions performance. Now, here's Ezra to wrap things up." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Ken. Our record-breaking operational and financial results throughout this year and the cash return announcements we made yesterday deserved to grab some headlines. However, the real story behind our performance is consistency of strategy supported by our unique culture. At the start of the call, I said there is no clear indication of the impact premium and now double premium has had on our confidence in EOG's future profitability than the annual $3 per share regular dividend.", "And while establishing the premium standard back in 2016 shifted us into a different gear culminating in the magnitude of our cash return this year, our fundamental strategy executed year after year by employees united by unique culture, dates back to the founding of the company. That's ultimately what gives me confidence that EOG's best days are ahead. We are a return-focused organic exploration company that leverages technology and innovation to always get better, decentralized, non-bureaucratic. Every employee is a business person first focused on creating value in the field at the asset level.", "Our financial strategy has always been and remains conservative, not just to offset the inherent risks in a cyclical business, but to take advantage of them. We are committed to the regular dividend and believe it is the best way to create consistent and dependable long-term value for shareholders. We have a proven track record that our strategy works and going forward, investors can expect more of the same, consistent execution year after year. Thanks for listening.", "We'll now go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question will come from Paul Cheng with Scotiabank. Please go ahead." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning. Two questions, please, Ezra. First, you have the authorization for the buyback.", "But quite frankly, I don't recall EOG ever done any buyback for the past 20 years. So can you talk about what is the conditional criteria for you to actually act on it? And in theory that if you're going to budget when the market is suffering the downturn, does that mean that you should have a really strong balance sheet going into the downturn maybe at a net cash position in order for you to be able to afford it? Like last year that in the -- at the top of the pandemic, your share price was really attractive, but I'm not sure that you have the balance sheet or that will to do the buyback at that point? So that's the first question. The second question is on the hedging. You have been quite aggressive putting in a lot of natural gas hedges.", "Two is that, I mean, with your low breakeven requirement and a very strong balance sheet, why put on the hedges so aggressively. And to some degree, even though you have the physical barrel or MCF to support it. But is that -- the fundamental basic is that you become a speculation on the direction of the commodity prices when you're doing in that way. Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, this is Ezra, Paul. Thanks for the question. Let me start by just outlining a little bit on the buyback, and then I'll hand it to Tim Driggers for a little more detail on it. You're right, buyback authorization we've had one previously, and we haven't exercised that in quite some time.", "What we've done right now is we've refreshed it to a size that's a little more commensurate with the scale of our company today. And we plan to exercise the buybacks in more of an opportunistic way rather than something programmatic, is how we expect to be able to use it. And I'm going to ask Tim to provide you a little more details on exercising it." ] }, { "name": "Tim Driggers", "speech": [ "Sure. My microphone, I'm sorry. First of all, we will evaluate buybacks like any other investment decision, how does it create long-term shareholder value. So that will be the first thing we'll have to look at every time we make this decision.", "Specifically, to answer your question about could we have started during the pandemic, but didn't have the financial wherewithal to do that. You're exactly right. At that point in time, oil was negative. The price of oil was negative.", "We had two bonds coming due totaling $1 billion. So had we been in the shape we're in today, that would have been a perfect time to buy shares, but we weren't in that same position we are today. That's why continuing to work on the balance sheet and positioning ourselves for the future has been so important to EOG. So we should not ever have that situation again.", "We have positioned the company to be able to opportunistically take advantage of these situations." ] }, { "name": "Ezra Yacob", "speech": [ "And Paul, on the second question regarding our hedges, specifically gas, but really, in general, our hedging strategy hasn't changed at all. As you know, we invest on a very, very stringent hurdle rate, our premium and not double premium rate. That's based on a $40 oil price, but it's also based on a $2.50 natural gas price for the life of the well. And so, when we can opportunistically look to lock in some hedges north of $3, we feel very good about the returns that we're generating going forward on the gas price.", "In general, we like to have a bit of hedges put on; whether oil or gas, it just give us a little bit of line of sight into our budgeting process as we enter into a new year. And so, really, that's the commentary on both the gas and the oil hedges." ] }, { "name": "Operator", "speech": [ "The next question will come from Arun Jayaram. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning. Ezra, the 2021 cash return to equity holders has tallied just under 30% of CFO. If you add in debt, it's around 36% of your CFO. I know there's no formal framework in place, but how should investors be thinking about cash returns on a go-forward basis? And could this 30% be viewed at some sort of benchmark?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Arun, this is Ezra. No, I won't -- I would not take that as any type of benchmark. I think, we've been very clear for the last couple of years in talking about our framework for cash return, really just our free cash flow priorities. The emphasis, the priority really is on a sustainable growing regular dividend.", "We think that's the hallmark. It's forward-looking. That's a hallmark of a very strong company. It hopefully sends a signal to everybody that -- of our confidence in the growing capital efficiency of our company.", "Obviously, we've talked about some low-cost property bolt-on acquisitions. We've highlighted those on the last call and in the slide deck today. We, obviously, covered a very strong, not just strong but really a pristine balance sheet. And then, to the last part of -- really the other part of your question is our other cash return options for excess free cash flow, which are the special dividends, and then as Tim was just mentioning some of the share repurchases.", "And as we've said, we're very committed to returning excess free cash flow. We have stayed away from a specific formula because we like to be able to -- we try not to run the company on a quarter-to-quarter basis. We try to take a longer view of things. We realize that there are times when potentially the cash on hand may need to move up or down, but regardless of it over the long term, I think, we've demonstrated, especially this year that we're very committed to returning that excess free cash flow." ] }, { "name": "Arun Jayaram", "speech": [ "Great. And my follow-up, was the dividend increase to $3 on an annualized basis, Ezra that will represent just over $1.75 billion in annual outlays to equity holders for the dividend. How should investors be thinking about future growth? Does this temper? How we should think about longer-term production growth given the higher mix of dividend payments?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Arun, the step-up this year in the regular dividend is really a reflection of what we've been doing for the last five years and reinvesting this in the premium wells. We've been seeing it slowly but surely show up in our financial performance, as we've lowered the cost basis of the company. And the confidence going forward really is what we're seeing with our change in focus over the past 18 months to these double premium wells. We feel that it's providing another step change in operational performance that should filter through to a step change in financial performance, as we've witnessed with that change to premium.", "And then, our inventory, of course, is spread across multiple basins. We have 5,800 of these double premium locations and over 11,000 of the premium locations, and we're adding to that every day. Our employees are working through either identifying low-cost bolt-on acquisition opportunities, sustainable well cost reductions. As we've highlighted this quarter, stronger well productivity.", "And then, of course, our low-cost entry into organic exploration opportunities to further expand both the quantity and the quality of that inventory. So I think, as we continue moving forward and sticking to our game plan of investing in double premium, it has the potential to continue to expand the free cash flow potential of EOG and thereby continue to provide an opportunity for us to remain committed to sustainably growing our dividend." ] }, { "name": "Operator", "speech": [ "Our next question will come from Jeanine Wai with Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Good morning, everyone. Thanks for taking our questions. Our first question is on special dividend. In terms of the timing and the process for that, when you look at the potential to announce one what did you see this time around that perhaps you didn't see last quarter when you decided to forgo a special dividend?" ] }, { "name": "Tim Driggers", "speech": [ "Jeanine, this is Tim. So as already been stated, we are committed to our free cash flow priorities, and that has not changed. So we look at all the factors every quarter to determine when is the right time to do either a special dividend or now the share buybacks or increase the regular dividend. So when we looked at our cash balance at September 30, it was sitting at $4.3 billion.", "That gives us -- that leaves us well-positioned to pay off our bond in 2023, and provide this $2 special dividend. So it's a combination of all those factors. And we felt this was a meaningful amount of cash to return at this time." ] }, { "name": "Jeanine Wai", "speech": [ "OK, great. And then, my second question, maybe following up on Arun's question on the base dividend. So the large increase in the base. It seems like it's a catch up to close the gap between what the business can support given the premium and double-premium wells like you just said and what was actually getting paid out.", "So I guess, in terms of the timing also on the base, we're just curious how much of a factor the potential that you now see in your exploration plays factored into the decision to increase the base?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Jeanine, this is Ezra again. It's not just the exploration plays. It's really just our confidence in being able to expand the overall inventory, the quality of the inventory into that double premium. And some of it comes from the announcements that you saw in this quarterly on the quarter results, the stronger well productivity supporting better than guidance volumes, the better-than-guidance capex, driven by sustainable well cost reductions.", "So when I think about that, I think about our existing inventory increasing in performance and quality. And then, I think about converting some of our premium wells into double-premium status. And then, of course, we have identified small bolt-on acquisitions where we can continue to grow and expand that inventory level for us. And then, as you highlighted, we've got the organic exploration mix.", "We're drilling 15 wells this year that we've talked about that are not in the publicly disclosed plays. Those plays are at various states of either initial drilling, collecting of data or kind of evaluating, as we've talked about on other calls, repeatability, production performance of those plays. And so, we're very excited and confident in our ability to continue to expand. And as I said, increase the quality of our double premium inventory.", "And ultimately, that's what gives us the confidence to be able to see that we can continue to lower the cost base of the company, increase the capital efficiency of EOG and continue to support a sustainably growing base dividend, which is our commitment." ] }, { "name": "Operator", "speech": [ "Our next question will come from Scott Gruber with Citigroup. Please go ahead." ] }, { "name": "Scott Gruber", "speech": [ "Yes, good morning. So in your deck, you mentioned a carbon capture pilot project, which is interesting. Ezra, can you speak to your early ambitions in carbon capture? Are you looking strictly at EOR? You investigating pure storage and what level of resources have you committed internally to the initiatives?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Scott. I appreciate the question. I'm going to ask Ken Boedeker to address it." ] }, { "name": "Ken Boedeker", "speech": [ "Yes, Scott. We're continuing to make good progress on that initial carbon capture project that we've talked about. We've finalized many of the below-ground geologic studies and we're currently working on the engineering and regulatory portions of the project. As we work our way through these steps, we'll get more clarity on timing.", "But right now, we hope to initiate CO2 injection in late 2022. In terms of capital that we're allocating toward it, it's roughly 2% to 3% of our budget. It's gonna be allocated toward all of our ESG projects, is what we see." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And as you investigate the opportunity, how are you thinking about participating in the value chain? Would you be interested in entering transport. Obviously, it's an exciting opportunity, but get more capital intensive as you kind of broaden participation. So just how are you thinking about the broader opportunity in participating across the value chain?" ] }, { "name": "Ken Boedeker", "speech": [ "Yes, Scott, we're really not going to change the business that we're in. We're looking at carbon capture right now to significantly reduce our Scope 1 and Scope 2 emissions at this point. That business is a much lower-return business than what we see with our well development that we have. So we'll keep an eye on that, but our real goal for carbon capture is just reducing our Scope 1 and Scope 2 emissions, which we've made significant progress on it in the last several years." ] }, { "name": "Operator", "speech": [ "Our next question will come from Leo Mariani with KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. Just looking at the guidance here for fourth quarter, we can certainly see some pretty significant growth in U.S. gas. Obviously, looking at gas prices right now, we're at multiyear highs at this point in time.", "Should we see that as a bit of a signal that EOG is perhaps flexing up a little bit on the natural gas side to try to capture what are probably some fantastic returns at the current prices here?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Leo, this is Billy Helms. So on the capex side, certainly, part of our program, as we laid out earlier this year, was just advance some of our Dorado prospect in South Texas, as you know, it's a very competitive gas play with the rest of the plays in the U.S. And we've been very pleased with the results there. But we remain disciplined to only complete the 15 wells we targeted and laid out at the start of this year.", "And it's really a little bit early to be talking about what we're going to look like next year. But obviously, with the results we're seeing, we're very pleased with the results being -- meeting or exceeding the type curves we have laid out. That certainly gives us an option to look at increasing activity there. So it's a little bit early yet to be saying what we're going to do next year, but we're very pleased with what we've seen." ] }, { "name": "Leo Mariani", "speech": [ "OK, that's helpful. And I guess, obviously, in your prepared comments, you still spoke about the fact that probably be challenging to kind of meet all the necessary conditions at year-end '21. And that you all have laid out to put any type of real oil growth back in the market at this point in time. But I guess, I've certainly heard some rumblings lately that perhaps we might already be at kind of pre-pandemic demand levels here as we work our way into November.", "I think, OPEC+ has a plan to reduce its spare capacity pretty dramatically by mid-'22. Just wanted to get a sense if you think perhaps in the mid- to second-half part of '22, there's a good shot at kind of hitting the conditions that EOG has laid out to potentially put a little growth back in the market." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo, this is Ezra. As Billy said, typically, we don't provide guidance for the following year on this call. But in general, our focus on 2022 the potential for that and us, as you highlighted, the things that we're looking at, we're focused on remaining disciplined and that hasn't changed. As we look into 2022, there are the three items that you referenced that should signal a bit of a balanced market.", "At first, is demand, which has probably surprised to the upside a bit with just how quickly we've approached pre-COVID levels. The second is gonna be the inventory numbers, which for us, we'd like to see at or below the five-year average, which they're currently there right now, but that brings up kind of that third item that you spoke to, which is the spare capacity. And we'd like to see that spare capacity back to low levels more in line with historic trends. So as we sit here today, 2022 is looking like a year of transition.", "Spare capacity is going to come back online at the scheduled rate that should translate into rising inventory levels. And if things move forward, we could be looking at a balanced market sometime in the first half of '22. For us, for EOG in a scenario like that, we could probably return to maybe our pre-COVID levels of oil production around that 465,000 barrels a day mark. That would represent no more than 5% growth next year.", "But again, that's as we're sitting here today, we'll be officially firming up that 2022 plan and watching how the market develops over the next couple of months. But as we're witnessing, bringing spare capacity back online has hit some snags. So we're watching to see if is that more routine start-up challenges or is that more structural in nature due to underinvestment. And those two factors are going to be just as important as seeing how the continued demand recovery from COVID really develops with any potential future lockdowns, so on and so forth.", "So ultimately, we continue to remain to be disciplined going forward." ] }, { "name": "Operator", "speech": [ "Our next question will come from Charles Meade with Johnson Rice. Please go ahead." ] }, { "name": "Charles Meade", "speech": [ "Good morning to you and the whole EOG team there. You actually anticipated -- large part of my question with your answer to the last one, but maybe just to dial in on it a little more closely. How far out do you think your view holds or your ability to look at the balance or unbalance in the oil market? And then, once you did see a call to increase your oil activity, how long would it be before we actually saw it in the public markets in your quarterly financials?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Charles, thanks for the question. I'll answer the first part of it and then ask Billy to provide a little bit more color also. How far out we can see the balance or the imbalance? To be perfectly honest, we're watching a lot of the same things that all of you are, those three things that we highlighted. Demand has recovered pretty aggressively, I would say.", "I think, it's surprised to everybody. And then, the inventory numbers in concert with the spare capacity coming back online. And the spare capacity, again, if you simply look at the schedules that have been laid out and everybody sticks to the schedules and the supply actually comes back online, that would contemplate some time in the front half of the year. But as I highlighted and everyone's been seeing, there are some challenges or hurdles to getting all that spare capacity back online.", "As far as the color on what we would be looking at, perhaps Billy can speak to it." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Charles, as far as how long it would take before we'd see any response, especially showing up in our financials, if you just simply look at when we see the signal and then the time we deploy rigs and get the wells completed and on production, takes usually three to four months. So you'd start seeing it no earlier than that, but probably some time a quarter or two after, so to have a meaningful difference in financial performance." ] }, { "name": "Charles Meade", "speech": [ "Got it. So if I'm understanding you correctly, it would be two quarters, maybe you start to see it nearly three quarters before there was a real delta." ] }, { "name": "Billy Helms", "speech": [ "That's correct." ] }, { "name": "Charles Meade", "speech": [ "Great. And then, just one quick follow-up for Tim. And I think, you partly addressed this in your earlier comment. In the past, I recall you guys have talked about a target of $2 billion of cash on the balance sheet.", "With this new $5 billion share authorization in a slightly different posture about wanting to have some dry powder, does that mean that your target for $2 billion of cash? And I recognize you're not always going to be at the target, but does that mean that the target has gone north of that? And if so, has it gone to $3 billion or $4 billion? Or what's your thinking?" ] }, { "name": "Tim Driggers", "speech": [ "No, we haven't changed our target. We will continue to monitor that through the cycle and see there's all sorts of factors we have to take into consideration for the cash balance, as you know, working capital changes, for example, as prices swing up and down. So that's a big consideration. But no, it has not changed.", "The authorization has not changed our philosophy on the cash balance." ] }, { "name": "Operator", "speech": [ "Our next question will come from Neal Dingmann with Truist Securities. Please go ahead." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning. I don't want to belabor this just on the growth in reinvestment. But I just want to make sure I'm clear on this, you guys have been quite clear about returns. I just want to make sure that I'm certain around the priority about the moderating reinvestment rate in order to drive the cash returns.", "Is that what I'm hearing over growth?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neal, when we think about moving forward, we've done a lot on reinvesting and building this company to take a bit of a step away from the commodity price cycles by focusing in on the premium wells and now double premium strategy. The growth for us has always been an output of our ability to reinvest at high rates of return. Through 2017 to 2019, during a period of rapid growth for the industry. In fact, we are reinvesting only at a rate of about 78% and still generating free cash flow every year and putting that toward an aggressively growing base dividend.", "So the strategy for us hasn't really changed. I think we've talked about potentially watching the macro environment a little bit more to help formulate our plans year to year. And that's where it falls in line with what we've been discussing over the last couple of questions. We still remain very committed to that.", "We don't want to push barrels into a market that's oversupplied or doesn't need the barrels. And so, we'll be looking for the right time to see if the market needs our barrels before contemplating any return to growth." ] }, { "name": "Neal Dingmann", "speech": [ "Very good. Very clear. And then, just to follow up on -- I asked earlier about -- it looks like you all had been adding a little bit of gas hedges. Is that in relation to -- does that mean that you've been increasing the focus on the Dorado play, given what natural gas prices are doing? So I guess, I'm just wondering are the two correlated? Or are you adding to that activity in the Dorado?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Neal, this is Billy Helms. So as far as the volume of gas hedges and what we've been doing there, it really is not focused strictly on Dorado. It's simply -- it goes back to our premium strategy as we displayed out. It's based on a $40 oil and a $2.50 gas price.", "We saw the opportunity to lock in gas prices above $3. So it gave us encouragement of locking in returns over the next several years at those prices. We have gas production quite a bit, as you know, in Dorado, but also quite a bit in other plays as well. So it just helps ensure locking in returns over a multiyear period." ] }, { "name": "Operator", "speech": [ "Our next question will come from Scott Hanold with RBC. Please go ahead." ] }, { "name": "Scott Hanold", "speech": [ "Yeah, thanks. I'm going to try, as I know you'll probably give me the answer, that you'll talk about the budget next year. But if I could talk about it more big picture, if we all think of just a base maintenance spending levels into 2022. Has the capital changed too much from what you all did this year? Like what would be the puts and takes from that? Because it seems like your well costs are going to hold pretty steadily.", "So is sort of your maintenance capex case this year somewhat similar to what it would be next year, all as being equal? Or is there anything else to consider?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Scott, this is Ezra. And we'll talk about next year's budget next year. I'd say that a little bit facetiously for you. But quite frankly, I think we haven't updated our maintenance capital number yet.", "We'll provide that number commensurate with our plans laid out next year. But I think, what you can see is that our team continues to make great progress in sustainable well cost reductions through their efficiency gains and applying innovation and technology. And I think, Billy highlighted pretty well that we feel very confident that we achieved our first initial goal, I should say, a 5% well cost reduction, and we're in line to reduce our cost 7% this year. And we feel that a lot of those costs are what's going to insulate us against some of the inflationary pressures out there." ] }, { "name": "Scott Hanold", "speech": [ "And how about like just on -- was there anything unusual you'd say this year that we should think about next year in terms of like exploration play or ESG spending? Is there any reason for us to think about that any differently?" ] }, { "name": "Ezra Yacob", "speech": [ "No, Scott, really, over the last few years, a lot of our percentage dedicated toward exploration and ESG have been pretty consistent." ] }, { "name": "Operator", "speech": [ "Our next question will come from Doug Leggate with Bank of America. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Oh, thanks. Good morning, everybody. Ezra, I think your share price reaction today, I think you can see the market's response to the greater cash returns. I'm wondering why is it reluctant seemingly still from EOG to provide a framework around the proportion of cash returns? It seems to be a persistent barrier perhaps to recognition of sustainable free cash flow, which at the end of the day is what defines the value.", "I'm just wondering why there's a reluctance not to commit to or at least lay out some kind of framework as to how you think about the go-forward cash returns as opposed to one-off special dividends." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. It's a question that we've been answering. And we feel that we have provided a framework for our free cash flow priorities. It's as you mentioned, the sustainable growing base dividend, to strengthen the balance sheet, these low-cost property acquisitions.", "And then, more on point with your question, the other cash return options, which are special dividends and opportunistic share repurchases. And in a lot of ways, when we look back, I think we've shown our commitment to that, not only this year, with committing to $2.7 billion return in dividends over year-to-date free cash flow generation of about $3.5 billion. But I think, we added a slide into the deck that shows longer term what we've been able to do in providing just over $5 billion of free cash flow return since 2016 on about $10.9 billion of free cash flow generated. And so, I think, we've laid out a framework.", "I think our two announcements this year on special dividends totaling $3 per share on the specials really demonstrates our commitment to it. And as far as having the ability for our investors to see through and capitalize on that number, I think we've demonstrated our commitment to the point where the investors can capitalize on some of our excess free cash flow. To us, we still remain committed to delivering on those free cash flow priorities. We do want to continue to make decisions based on what we think.", "We will create the most significant long-term shareholder value. And that means sometimes not necessarily running the business on a quarter-by-quarter basis, but really taking a longer-term approach. And so, locking ourselves into a formula that might have to change as conditions change is really at the heart of our reluctance to do that." ] }, { "name": "Doug Leggate", "speech": [ "Yeah, I understand that. I guess, it's a moving piece. Maybe my follow-up is related then. I want to talk specifically about the buyback.", "There's been a lot of reference to the '16, '19 period. And you know the history. It was a subsidized environment. You doubled production.", "Saudi was taking oil off the market, and we all see how that ended. So we know what the response to the industry has been. But I want to get specifically to your view of mid-cycle and how you think then about the relative priorities around mid cycle. What is your definition of mid cycle? And how should we think about growth versus growth per share given the buyback announcement?" ] }, { "name": "Ezra Yacob", "speech": [ "Well, Doug, I don't think I'm comfortable getting into mid-cycle metrics on here. But what I would tell you is we continue to think of this buyback as opportunistic. We think, again, with our authorization in place, we want to use it in a way that we feel confident we're gonna be generating long-term shareholder value. More often than not, for us, that's going to tend toward special dividends and we're going to reserve our buyback authorizations to be used really just in times of dislocations and you use it opportunistically rather than a more programmatic method." ] }, { "name": "Operator", "speech": [ "Our next question will come from Bob Brackett with Bernstein Research. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "Good morning. It looks like you turned a couple of pads on in Dorado in the third quarter. Any color or commentary there, hitting expectations, exceeding?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Bob, this is Ken. As Billy said earlier, we have turned on several wells in the last few months. And the color is, as all of them are at or above our type curve and what our plans were going into the year. We do have one drilling rig active in the play right now, and we're really moving rapidly up the learning curve.", "Again, just to reiterate, this play is really double premium returns and it's competitive for capital with our oil plays." ] }, { "name": "Bob Brackett", "speech": [ "Great. Thanks for that." ] }, { "name": "Operator", "speech": [ "Our next question will come from Neil Mehta with Goldman Sachs. Please go ahead." ] }, { "name": "Neil Mehta", "speech": [ "Good morning. Good morning, team. As every new CEO has an opportunity to put their own thumbprint on the business and recognize that you're a part of the prior leadership team as well. But just talk about your early observations as the new leader of the organization, any subtle changes that you're making? And talking about your messages to your internal and external stakeholders that you want the market to be aware of." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Neil, I appreciate the question and the opportunity. I think, the biggest thing for our investors, our employees, everyone who's listening to the call is that EOG has got a proven track record. Our strategy works. The shift to premium strategy has put us on a different trajectory and the shift to double premium is going to do that as well.", "The culture of EOG, the people at EOG has always been our competitive advantage, and that will continue to be that way. Honestly, Neil, the most important thing we can do as a leadership team is put our employees in a position to succeed where they can really contribute to the best of their abilities. And that's what we try to do every day. And that's going to translate into, not only our operational performance that would you see the results of this quarter, but to our financial performance as well." ] }, { "name": "Neil Mehta", "speech": [ "Thanks, Ezra. The follow-up is that I appreciate the slide that shows the breakdown of the well costs and how you guys are ahead of your competition in terms of managing and mitigating some of these inflationary pressures. As you step back and think about the U.S. oil industry broadly, do you think this is ultimately going to be a challenge? These inflationary pressures to restart the shale machine and -- in which of these bottlenecks do you worry about the most in terms of being a constraint on the ability to -- for the industry to grow again?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Neil, this is Billy Helms. Certainly, as an industry is seeing, we're seeing quite a bit of inflationary pressure, mainly in three areas, I would say, steel prices, so tubulars; labor, which is certainly affects all industries and then fuel. Those are probably the three inflationary pressures that are throughout our industry and really throughout all industries. The one thing that I think is going to be -- or maybe two things, two top priorities would be probably steel.", "I think, availability of tubulars is something that I think most companies are struggling with or dealing with, I guess. And then, the other one would be labor and is getting enough people to manage the activity levels. Just to maybe give you a little bit color then on where EOG sits. Each year, we try to get ahead of the curve and lock in a certain amount of our services to secure activity, but in this case, also protect us from inflation.", "So for instance, in 2021, we protected about 65% of our well cost going into the year. And as a result of that, plus the improving efficiencies, we were able to reduce our average well cost by about 7% as Ezra stated earlier. So during the year, though, we also took advantage and renegotiated many of our services at lower rates and lock them through -- in through the end of next year. So going into 2022, we expect to have about 50% of our well costs secured.", "And with over 90% of our drilling rigs secured at lower rates and also 50% of our frack fleets secured. So we expect to see inflation certainly in items such as steel, labor and fuel, just like everybody else. But by doing that, we've given ourselves visibility into areas of also improving efficiencies that we expect to offset much of this inflation. So we're still confident we can keep well cost at least flat going into next year." ] }, { "name": "Operator", "speech": [ "Our next question will come from Michael Scialla with Stifel. Please go ahead." ] }, { "name": "Michael Scialla", "speech": [ "Yeah, hi, good morning. It's not a high-level question. Ezra, on your long-term outlook, as you think about the energy transition, how are you thinking about oil versus natural gas? Is there any preference there? And are any of the exploration plays focused on gas? Are they all on oil?" ] }, { "name": "Ezra Yacob", "speech": [ "Yeah, thank you, Michael. Long term, we believe that hydrocarbons are going to have -- be a significant part of the energy solution long term. Obviously, we need to do, as an industry, a better job with our emissions profile. But when you think about oil and natural gas, they both go to different markets, dominantly.", "Your natural gas essentially is more on your power side and potentially in direct competition with things such as coal and your renewables. And then, your oil transportation -- your oil, obviously, is a little more focused on transportation. In general, when I think longer term, I think the energy transition is gonna be significantly slower than oftentimes you hear about, and we're very bullish on the prospects for both. As far as the exploration plays go, as we've said in the past, dominantly, the exploration plays are all oil focused." ] }, { "name": "Michael Scialla", "speech": [ "OK, thanks for that. And Ken, you had said on your CO2 pilot -- or excuse me, your CCS pilot, I think you said you plan to inject in late '22. That seems to suggest you would not need a Class VI permit. So I'm wondering, is it fair to say you're reinjecting CO2 into an EOR project? And when you say it's not really economically competitive with your upstream business.", "Are you planning on capturing 45 tax credits with any of your projects?" ] }, { "name": "Ken Boedeker", "speech": [ "Yes, Michael, this is Ken. To answer your question on the tax credit side, we are planning on capturing 45Q tax credits. Our goal in terms of what class a permit that we would secure. We believe that we will initially secure a Class II permit that can be converted.", "We'll go through all of the regulatory requirements to be able to convert it to a Class VI later in its life. But that's what the plan is for our CCS project at this point." ] }, { "name": "Operator", "speech": [ "Our next question will come from Paul Sankey with Sankey Research. Please go ahead." ] }, { "name": "Paul Sankey", "speech": [ "Hi, guys. Just very quickly on -- can you talk about your LNG or downstream natural gas strategy?" ] }, { "name": "Lance Terveen", "speech": [ "Thanks, Paul. Hi, good morning, this is Lance. Hey, thanks for your question, and good morning. Yes, we're -- the team is definitely executing.", "You've seen several of our slides that we've put back talking a lot about our transportation position, is so incredibly valuable. We can move gas from all our different basins from the Permian Basin, from the Eagle Ford. We talked a lot about Dorado earlier. And then, with that, it gets access as you look along the Gulf Coast and you look at the LNG demand, especially that's growing over time.", "Obviously, we've got a position there that we started and just really speaks to being a first-mover, especially when you think about LNG. We went through a whole BD effort kind of '17 and '18. We got the contracts finalized in 2020. And in 2021, obviously, we're definitely seeing the value of that contract.", "So being a first-mover, it is absolutely important. And yes, we're going to continue to look at new opportunities from an LNG standpoint and very well-positioned. Again, it gets back to our transport, our export capacities and just having that ability to transact, we can definitely be very nimble as we even think about new opportunities." ] }, { "name": "Paul Sankey", "speech": [ "Got it. And then, a follow-up on the buyback. I'm not clear. Are you saying that it's a shelf ability to buyback shares when you want? Or are you actually going to try and get through this amount in, let's say, the next 12 months?" ] }, { "name": "Tim Driggers", "speech": [ "Paul, this is Tim. We do not have a time line on when we plan to buyback the $5 billion. When the opportunity presents itself, we will be in the market." ] }, { "name": "Operator", "speech": [ "This concludes our question-and-answer session. I would like to turn the conference back over to Ezra Yacob for any closing remarks." ] }, { "name": "Ezra Yacob", "speech": [ "Yes. We just want to thank each of you for participating in our call this morning, and thank our shareholders for their support. As I highlighted at the start of the call, EOG's competitive advantage is our employees, and they deserve all the credit for delivering another outstanding quarter. So thank you, and enjoy the weekend." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2023-02-24	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "President", "name": "Ezra Yacob", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "Executive Vice President, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Scotiabank -- Analyst", "name": "Paul Cheng", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "MKM Partners -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Executive Vice President, Exploration and Production", "name": "Jeff Leitzell", "position": "Executive" }, { "description": "Truist Securities -- Analyst", "name": "Neal Dingmann", "position": "Analyst" }, { "description": "Citi -- Analystb", "name": "Scott Gruber", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Jeanine Wai", "position": "Analyst" }, { "description": "Stifel Financial Corp -- Analyst", "name": "Derrick Whitfield", "position": "Analyst" }, { "description": "Johnson Rice and Company -- Analyst", "name": "Charles Meade", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources' fourth quarter and full year 2022 earnings results conference call. As a reminder, this call is being recorded. At this time, for opening remarks and introductions, I would like to hand the call over to the chief financial officer of EOG Resources, Mr. Tim Driggers.", "Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning and thanks for joining us. This conference call includes forward-looking statements. Factors that could cause our actual results to differ materially from those in our forward-looking statements have been outlined in the earnings release [Technical difficulty] This conference call also contains certain non-GAAP financial measures. Definitions and reconciliation schedules for these non-GAAP measures can be found on EOG's website.", "Some of the reserve estimates on this conference call may include estimated potential reserves and estimated resource potential not necessarily calculated in accordance with the SEC's reserve reporting guidelines. Participating on the call this morning are Ezra Yacob, chairman and CEO; Billy Helms, president and chief operating officer; Ken Boedeker, EVP, exploration and production; Jeff Leitzell, EVP, exploration and production; Lance Terveen, senior VP, marketing; and David Straube, VP, investor relations. Here's Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Tim. Good morning, everyone. EOG's growing portfolio of high-return assets delivered outstanding results in 2022. We earned record return on capital employed of 34% and record adjusted net income of $8.1 billion, generated a record $7.6 billion of free cash flow, which funded record cash return to shareholders of $5.1 billion.", "We increased our regular dividend rate to 10% and paid four special dividends, paying out 67% of free cash flow, beating our commitment to return a minimum of 60% of annual free cash flow to shareholders. And we strengthened what was already one of the best balance sheets in the industry, reducing net debt by nearly $800 million. We continue to deliver on our free cash flow priorities this year by declaring an additional special dividend of $1 per share yesterday. Outshining our financial results were achievements made by our operating teams working in a challenging inflationary environment.", "Credit goes to the innovative and entrepreneurial teams working collaboratively across our multi-basin portfolio. Together, we leverage the flexibility provided by our decentralized structure to deliver exceptional operational performance. Production volumes, capex, and per-unit operating costs were within guidance set at the start of the year. We offset persistent inflationary pressures that exceeded 20% during the year to limit well cost increases to just 7%.", "Our exploration teams uncovered a new premium play, the Ohio Utica combo; and advanced two emerging plays, the South Texas Dorado and Southern Powder River Basin. We progressed several exploration prospects, including the Northern Powder River Basin. We expanded our LNG agreement, currently estimated to take effect in 2026 the 720,000 MMBtu per day, which will provide JKM-linked pricing optionality for 420,000 MMBtu per day. Last year, the revenue uplift from our current 140,000 MMBtu per day in LNG exposure was more than $600 million net to EOG.", "Preliminary results indicate that we reduced our GHG intensity and methane emissions percentage, achieving our 2025 targets, and we initiate an expanded deployment of our new continuous methane leak detection system called iSense. Led by the tremendous performance in our Delaware Basin and Eagle Ford plays, our operating performance and financial results in 2022 are a reflection of our asset portfolio and the unique organizational structure in place to support it. Seven teams in North America and one international team operate 16 plays across nine basins. Our decentralized structure empowers each operating team to make decisions in real time at the asset level to maximize value.", "This differentiates EOG and enables us to consistently execute our strategy and produce outstanding results year after year. Our multi-basin portfolio provides numerous high-return investment opportunities, and we remain focused on disciplined investment across each of our assets. In addition to our premium well strategy, in which wells must generate a minimum of 30% direct after-tax rate of return at a flat $40 oil and $2.50 natural gas price for the life of the well, we invest at a pace that allows each asset to improve year over year, lowering the costs and expanding the margins generated by each asset. Disciplined investment means more than just expanding margins at the top of the cycle.", "It means delivering value for the life of the resource and through the commodity price cycle. It's not only developing lower-cost reserves but also investing strategically to lower the operating cost of these resources, which positions EOG to generate full cycle returns competitive with the broad market. Looking ahead to 2023, EOG is in a better position than ever to deliver value for our shareholders and play a significant role in the long-term future of energy. Our ability to reinvest in the business, deliver disciplined growth, lower our emissions intensity, earn higher returns, raise the regular dividend, and return significant cash to shareholders, all while maintaining what we believe is the best balance sheet in the industry, is due to our differentiated strategy executed consistently year after year.", "Now, here's Tim to review our financial position." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Ezra. When we established our premium strategy back in 2016, our goal was to reset the cost base of the business to earn economic returns at the bottom of the price cycle. The impact premium has had on the cost basis of the company and our financial performance has been dramatic. Since 2014, prior to establishing our premium strategy, our DD&A rate has declined 42% and cash operating cost by 23%.", "Also, in 2014 and under similar oil prices as last year, we earned 15% ROCE. With our lower cost structure, ROCE increased to a record 34% in 2022. We have also reduced net debt last year by $800 million to further strengthen the balance sheet. We view a strong balance sheet as a competitive advantage in a cyclical industry.", "Our current balance sheet is among the strongest in the energy industry and ranks near the top 20th percentile of the S&P 500 in terms of leverage and liquidity, measured as net debt-to-EBITDA and cash as a percentage of market cap. We have a $1.25 billion bond maturing in March and intend to pay that off with cash on hand. Our 2023 plan is positioned to generate another year of strong returns. We expect to grow oil volumes by 3% and total production on a BOE basis by 9%.", "At $80 WTI and $3.25 Henry Hub, we expect to generate about $5.5 billion of free cash flow for nearly 8% yield at the current stock price and produce an ROCE approaching 30%. This attractive financial outlook, along with our strong balance sheet, is what gave us the confidence to declare a $1 per share special dividend to start the year on top of our regular dividend of 82.5 cent per share. As a reminder, our commitment to return a minimum of 60% of free cash flow considers the full year, not a single quarter in isolation. The special dividend reflects the confidence in our plan and our constructive outlook on oil and gas prices.", "We will continue to evaluate the amount of cash return as we go through the year, with an eye on, once again, meeting or exceeding our full year minimum cash return commitment of 60% of free cash flow. Here's Billy to discuss operations." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Tim. I would like to first thank each of our employees for their accomplishments and execution last year. 2022 was a challenging year, and the commitment and dedication of our employees remained steadfast as they delivered outstanding results. Last year can be characterized as a year of heightened inflation, where we witnessed increasing commodity prices, accompanied by higher levels of activity across the industry.", "The result was a much tighter market for services, labor, and supplies. We were able to offset most of this inflation through efficiency gains and capital management across our portfolio to limit well cost increases to just 7%. For the full year, oil production was above the midpoint of guidance. While capital expenditures were $4.6 billion, we're only 2% above the original guidance midpoint said at the beginning of the year.", "Our operating teams worked -- working throughout the company leveraged efficiencies to help offset inflation. This is most evident in our core development plays, which sustain sufficient activities to support continued experimentation and innovation. In the Delaware Basin, we expand the use of our super zipper completion technique to increase traded lateral feet per day by 24%. In our Eagle Ford play, the completions team increased completed lateral feet per day by about 14% and the amount of sand pumped per day per fleet by 27%.", "Our decentralized operations team are continually striving to improve performance and share learnings across our portfolio to limit well cost increases. These learnings are then deployed in our emergency -- emerging opportunity plays. For instance, in the Southern Powder River Basin Mowry play, the drilling team decreased drilling time by 10%, with improved bid and drilling motor performance. In our South Texas Dorado gas play, the operations team reduced drilling time by 12% through technical and operational advancements that promised to continue to drive improvements in 2023.", "Beyond cost reductions, a new completion design implemented last year in the Delaware Basin is realizing positive improvements in well performance and certain target reservoirs. This new design was tested in 26 wells last year and is yielding as much as an 18% uplift in estimated ultimate recovery. We're also making great progress toward our long-term ESG goals. Our wellhead gas capture rate exceeding 99.9% of the gross gas produced, and preliminary results indicate that we lowered GHG intensity and methane emissions percentages in 2022.", "We now have approximately 95% of our Delaware Basin production covered by iSense, our continuous methane monitoring technology. Now, turning to the 2023 plan. We forecast a $6 billion capital program to deliver 3% oil volume growth and 9% total production growth. We expect total volumes on a Boe basis to grow each quarter through the year.", "The first quarter will show more growth in gas versus oil due to the well mix and timing of several Dorado gas wells that were completed late in the fourth quarter of last year. The plan can be summarized in the following four points. First, drilling rig and frac fleet activity in our core development programs, specifically the Delaware Basin and the Eagle Ford, will be relatively consistent with the fourth quarter of last year. The longer-term outlook for the Eagle Ford is to maintain the current production base where we have over a decade of continued opportunities to generate high returns and cash flow.", "After a decade of stellar operational improvements in the Eagle Ford, it has become a highly efficient, high-margin play, with existing infrastructure and access to favorable markets. In the Powder River Basin, the plan builds off last year's positive well results and infrastructure installation, with an additional 20 Mowry completions. We expect to complete a few additional wells in our emerging Utica play in Ohio as we continue to delineate our acreage position and drill a few wells in the Bakken and DJ basins. In Dorado, our plan is to achieve an activity level that creates economies of scale and develop a continuous program to allow for innovation that drives improved well performance and cost reductions.", "This results in a moderate increase in activity, completing about 10 additional wells versus last year. In Trinidad, a drilling rig is now scheduled to arrive in the third quarter, which is about a six-month delay. So, international volumes decreased 60 million cubic feet per day or 10,000 Boes per day versus our earlier estimates. Overall, we increased activity in our emerging plays.", "The average EOG rig count for the year is expected to increase by about two rigs and one additional frac fleet. Second, we have line of sight to efficiencies that we expect will limit additional inflation pressure on well costs to just 10% versus last year. Year-over-year increases in tubular costs, as well as day rates for drilling rigs and frac fleets, are the main drivers of the increase. As part of our contracting strategy, we stagger our agreements to secure a baseline of services and secure consistent execution.", "For this year, we have locked in about 55% of our well cost, which is a similar level to previous years. Approximately 45% of our drilling rigs and 65% of our frac fleets needed for the year are covered under term agreements with multiple providers. By maintaining this consistent base of services, we expect to find additional opportunities to drive performance improvements and eliminate downtime, thus potentially providing opportunity to offset some additional inflation. Third, our 2023 capital program includes additional infrastructure investment.", "Typically, funding for facilities and other infrastructure projects comprises 15% to 20% of the capex budget. And this year, we expect that number to be closer to 20%. In Dorado, we commenced construction late last year on a new 36-inch gas pipeline from the field to the Agua Dulce sales point near Corpus Christi, Texas. This pipeline will help ensure a long-term takeaway, fully capture the value chain from the wellhead to the market center, help support expanded LNG export price exposures due to come online around 2026, and broaden our direct interstate pipeline capacity to reach markets along the entire Gulf Coast corridor.", "We're also undertaking smaller infrastructure projects in other areas like the Utica to lower the long-term unit operating cost. Fourth, we plan -- the plan includes capital that represents the next steps toward our vision of being among the lowest emissions producers of oil and natural gas. Our first CCS project has begun injection, and we will continue to explore opportunities to enhance our leadership position in environmentally prudent operations. These projects offer healthy returns while also providing reductions in long-life unit operating costs and lower emissions.", "EOG remains focused on running the business for the long term, generating high returns through disciplined growth, improving our resource base through organic exploration, improving our environmental footprint, and investing in projects that will lower the future cost basis of the company. I am excited about 2023 and the opportunity it brings for our employees to further improve the company. Now, here's Ken to review year-end reserves and provide an inventory update." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. Our 2022 proved reserve replacement was 244% for finding and development cost of just $5.13 per barrel of oil equivalent, excluding revisions due to commodity price changes. Our proved reserve base increased by 490 million barrels of oil equivalent and now totals over 4.2 billion barrels of oil equivalent. This represents a 13% increase in reserves year over year and was achieved organically.", "In 2022, we also reduced finding and development costs by 8% compared to the previous year. In fact, over the past five years, we have reduced finding and development costs by nearly 40%. Our permanent shift to premium drilling, combined with our culture of continuous improvement focused on efficiencies driven by innovation, are why our corporate finding costs and DD&A rate continue to decline. We continue to focus on maximizing the long-term value of our acreage.", "For example, last year, we continued co-development of up to four Wolfcamp targets. The pursuit of secondary targets with wells developed in packages alongside traditional development benches generally have minimal production impact on the primary zone, however, carry a favorable investment profile because they require no additional leasehold investment, are drilled and completed on existing pads, and produced into existing facilities and gathering systems. The goal is to deliver low-risk, high returns that maximize the cash return potential of our assets. Looking out beyond our current proved reserves, we've identified over 10 billion barrel equivalents of future resource potential in our existing premium plays, with an expected finding cost -- or finding and development cost less than our current DD&A rate.", "When we invest in finding and development cost less than our DD&A rate, we drive the cost basis of the company down. When we invest in high returns, combined with a low finding and development cost, it shows up in the financials as increased return on capital employed. Thanks to the benefits of our decentralized structure and multi-basin organic exploration strategy, our resource base is growing faster than we drill it. More importantly, it is getting better.", "We have over 10 years of double premium drilling at the current pace, and we are focused on improving the quality of our resource every year through operational innovation, technical improvements, and exploration. Now, let me turn the call back to Ezra." ] }, { "name": "Ezra Yacob", "speech": [ "Thanks, Ken. In conclusion, I'd like to note the following important takeaways. EOG Resources offers a unique value proposition. First, it begins with our multi-basin and portfolio of high-return investment opportunities, anchored by the industry's most stringent investment hurdle rate, our premium price deck.", "Second, our disciplined growth strategy optimizes investment to support continuous improvement across our portfolio. Our employees utilize technology and innovation to increase efficiencies and allow EOG to remain a low-cost operator. Third, we are focused on generating both near and long-term free cash flow to fund a sustainably growing regular dividend, support our commitment to return additional free cash flow to shareholders, and maintain a pristine balance sheet to provide optionality through the cycles. Fourth, we are focused on safe operations and improving our environmental footprint across each of our assets, utilizing both existing and internally developed technologies.", "And finally, it's the EOG employees that make it happen. Our culture is at the core of our value proposition and is our ultimate competitive advantage. Thanks for listening. Now, we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question today comes from Paul Cheng from Scotiabank. Your line is now open." ] }, { "name": "Paul Cheng", "speech": [ "Thank you. Good morning, everyone. Two questions, please. First, Ezra, with Dorado, how has your investment program changed in many of the changing landscape in the natural gas price? I would imagine, at this point, it's more economic to drill for the oil play than the gas play.", "How that changed your outlook for the next several years on that play? Second question is on the capex. Maybe that -- it just seems like you are investing for the future. So, what is the sustaining capex requirement to maintain a flat production at this point for your program? And also, if we're looking at, say, for the remainder of this year, is there any area that you think we will start to see some softening in the course and which may not be reflected in your current budget? Thank you." ] }, { "name": "Ezra Yacob", "speech": [ "Thank you, Paul. This is Ezra. Good morning. Those are both great questions.", "So, let me start with the first one here on natural gas and what's it looking like right now. You're correct. We've been watching the recent volatility in natural gas, you know, late 2022 and currently, associated with, you know, the LNG outages and the warm winter that we're experiencing. Our gas growth this next year on the plan you'll see is about -- at the midpoint is about 240 million cubic feet per day.", "About 50% of that is coming out of the, as you mentioned, the associated gas from the Delaware Basin, and the other half of it's basically coming out of our Dorado play. You know, our strategy to Dorado, I'd say, hasn't significantly changed yet. And at this point, we don't really see that it would, barring anything dramatic. And the reason for that Dorado always has been kind of a longer-term strategy for us.", "We've always focused on every moderate investment there to grow -- to growing demand center along the Gulf Coast. It's never really been about chasing seasonal demand or aggressively ramping up activities in that play. You know, the U.S., just this year, will have about two Bcf a day of LNG export back online after the disruptions clear. We've got an additional five Bcf a day coming online in kind of the '24, '25 time frame and then potentially another eight Bcf a day still working through financing.", "And, you know, we see this line of sight demand growth is also reflected with the strip price where you see, currently, it's moved into Contango. So, our long-term strategy at Dorado really remains the same. It's investment at a pace where the asset improves each year, giving us an ability to drive down both upfront well cost and long-term operating costs where we can consistently deliver the low cost of supply. This year, as Billy stated, you know, we'll be moving toward the one completion crew program to really capture those efficiencies at Dorado.", "The first part of your second question, I believe, is on sustaining capex. And you know, what I'd say is sustaining capex is a number that we don't necessarily focus on here as an organic growth company. And the reason for that is even during 2020, we didn't maintain a maintenance capital type of program. We're very dynamic, and we'll grow when we see the ability to invest in our business and the market supports it.", "And when we don't need to, we can pull back at that time as well. So, maintenance capex is not necessarily a number that we look at. Now, as far as breakevens on our capital program this year, it definitely is up a little bit year over year. As Billy mentioned, there's some inflation in there.", "But also, we're obviously seeing the opportunity to invest in our multi-basin portfolio and increase the capex. Our capex program this year is at a $44 WTI price with a 3.25 gas price. And I'll maybe hand it over to Billy to give a little bit of color on inflation and where we see it going this year." ] }, { "name": "Billy Helms", "speech": [ "Yeah, certainly. On the inflation front, I think it's safe to say that everybody is seeing, you know, commodity prices falling. We've seen inflation rates have peaked and come down. And so, we're seeing a lot of the service costs at least have plateaued going into this year.", "And so, you know, as I mentioned on the call, we've got about 55% of our well cost secured through existing contracts with our vendors. And that leaves us the opportunity to capture any upside that we might see in lower rates going into the year. So, we're sitting in a fairly good position. I think, you know, we're going to be poised and waiting to see what happens and take advantage of opportunities as they present themselves.", "But I think inflation, at least, is showing that we've plateaued. We've baked in about a 10% inflation into our plan. And as we see opportunities, we'll continue to look for ways to improve that." ] }, { "name": "Paul Cheng", "speech": [ "Hey, Billy, do you see any particular area have the opportunity of a softening?" ] }, { "name": "Billy Helms", "speech": [ "You know, I think what we've seen as one of the biggest drivers this last year on inflation was certainly tubulars casing cost. And I think we've seen different things in different parts of that make, I think, the ERW products, just mostly the surface and intermediate casings. Those have rolled over and are softening a little bit more than the production casing, which is your stainless products, which are still largely exposed to imports. And so, you're seeing some opportunities on casing.", "But I think there's still yet to come on most of that. On the service side, I think we haven't really seen anything manifested yet, but I think we've all seen, you know, rig counts have largely been flat since September, and they're down off their peak of -- in November of probably 20 to 25 rigs. And with the drop in gas prices, I think everybody is expecting maybe we'll see some more softening on the rig activity level. So, that may lead to some opportunities to capture some markets.", "The one advantage that we have, and I'll go ahead and throw this out, we may expand on it later, but the benefit we have is operating in multiple basins. And so, we see certainly more service tightness and labor constraints in areas with the most activity, which would be the Permian. But we have the opportunity to shift activity to our other basins to enable those to take advantage of more available equipment, more available capacity to add services at favorable rates. So, that's the advantage that we have as a company." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Arun Jayaram from J.P. Morgan. Your line is now open." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah. Good morning. You know, Ezra, you have a net cash balance sheet. And if we run through, call it, the $80 case, you know, 55 -- or 5.5 billion in free cash, if you return, you know, 60% of that, you know, you're looking at a balance sheet that would be, call it, 3 billion of net cash at year-end.", "So, I wanted to get your views on uses of that, you know, cash that you have on the balance sheet and where your head's at in terms of thoughts of increasing cash return to shareholders, you know, versus looking at inorganic opportunities, including bolt-ons or M&A. And how would you prioritize some of those opportunities as we think about 2023?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes. Good morning, Arun. It's Ezra. That's a great question.", "I love talking about our balance sheet and the strength of it. It's something that we take a lot of pride in. And the reason for that is because it gives us a lot of optionality at different times, whether it's to look at -- you know, in 2020, we purchased -- strategically purchased a lot of casing. In 2021, we're able to purchase a decent amount of line pipe.", "And just last year, we were able to make a small acquisition in the Utica play, including purchasing some minerals there. So, we're still not looking for any large, expensive corporate M&As. We do continue to seek out opportunities where it makes sense to do bolt-ons, things that would be accretive, things that could move right into our existing infrastructure and extend some of our lateral lengths. In general, for our net cash position, you know, I would say we don't have a specific target.", "We do like to have the optionality. One thing you didn't mention is that we will be retiring a bond here in this first quarter at $1.2 billion. And then in addition to that, I'd point out that, last year, we did move beyond our minimum commitment of that 60% return of free cash flow to our shareholders. Last year, we returned approximately 67%.", "And so, I think you can see -- you can take that as a data point that when appropriate and at the right time and obviously it's, you know, evaluated at the board level, depending on where we're at within the cycle, where we're at within the year, and what our cash position looks like, we have proved that we're willing to move above and beyond the 60% minimum threshold." ] }, { "name": "Arun Jayaram", "speech": [ "Great. My follow-up is, Ezra, you know, just given the size of the company, you're approaching 1 million Boes per day in terms of overall output. And, you know, most of your activity is short-cycle oriented. And I wanted to get your thoughts on exploring longer cycle opportunities.", "I'm seeing some of your peers investing in areas such as Alaska and LNG. I just want to get your thoughts on EOG looking at the long cycle and perhaps an update on where we stand for -- to drill Beehive in Australia." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Arun. We can start -- yeah, maybe with some more longer cycle stuff, we can start with Trinidad. As Billy mentioned, there has been a bit of a rig delay on our Trinidad drilling program, so that will start about midyear this year. We did set a platform there based -- this past year based on the -- one of the discoveries that we made in 2020.", "We should start construction on another platform there named Mento later this year, also based on some of the work that we did in that drilling campaign that ended in 2020. So, that's on the Trinidad side. In Beehive in Australia, it's our prospect on the Northwest Shelf. That prospect has actually slid a little bit.", "It's now time to be spud in 2024. And then with some of the other projects that you mentioned, you know, as you can see, and it goes in line with what we were just talking about with the ability of our balance sheet to be strategic and opportunistic. And typically, we do these things counter-cyclically, like our agreement on the LNG side or the ability to put in some infrastructure like we are currently in Dorado, to go ahead and lower our operating costs and expand our margins. Those are the type of opportunities that we really look for, things that are, you know, in concert with our core business, which is drilling and developing premium oil and natural gas wells." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Doug Leggate from Bank of America. Your line is now open." ] }, { "name": "Doug Leggate", "speech": [ "Thanks. Good morning, everybody. So, Tim, I don't know if this one's for you or for Ezra, but your comments about being able to offset some of the inflation have been a fairly consistent part of your messaging over the last year or so. I think folks were maybe a little surprised by the capex number.", "So, I wonder if you could walk us through the moving parts of whether it be activity-led or, more specifically, infrastructure related to some of the newer places. Is there a disproportionate amount of takeaway spending that's maybe lifting the capex issue? I'm just curious on the breakdown. Thank you." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Doug. This is Billy Helms. Let me take a stab at that. So, first, there's probably three buckets you can probably put the increase in.", "First of all is inflation in our well cost. That's probably a good piece of it. A third of it is about where -- we're anticipating about a 10% well cost inflation in our program versus last year. And yes, that's maybe 10% over and above last year.", "But still, last year, we achieved only a 7% well cost increase in spite of probably arguably 15% or 20% inflation. So, I think our teams have done a great job on offsetting inflation with efficiency gains. We're expecting more of that this year, but we've baked in about a 10% cost increase. The second part of that is going to be infrastructure.", "We've talked about already our Dorado gas pipeline that's been initiated, and we're also building out some infrastructure in some of our emerging plays like in Utica to start the testing in those plays. And then, you know, we've also included some capital for our ESG projects that we're advancing. So, those are kind of the buckets that we look at. And then obviously, we have some additional wells on top of that in these various plays.", "So, as we pick up the two additional rigs and one extra frac fleet, of course, that's going to accompany some additional well count. So, those are the three main buckets that I would characterize the increase in the capital versus last year." ] }, { "name": "Doug Leggate", "speech": [ "OK. I appreciate the color, Billy. Thanks for picking that one up. My follow-up is probably for Ezra.", "And, Ezra, forgive me for this one, but I want to take you back to pre-COVID when EOG was growing quickly, and frankly, a market that didn't need the oil. While you could make the case that, today, we've got a market that doesn't need the gas. And I understand your point about maybe trying to take, you know, markets from others who are cutting back. But the fact is we still have a largely stranded market in the U.S.", "Why is this the right time to accelerate your gas production given what is a potentially very constructive outlook longer term?" ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Doug. That's a good question. Yeah, I think the difference is between, you know, 2019 or pre-COVID with the oil versus what we're doing in Dorado right now is like I said, you know, the Dorado volumes are anticipated to support. It's basically the output of a single completion spread program this year.", "And the benefits that we see of running a consistent program there, to learn about this asset, continue to drive down costs, support putting in some infrastructure, things like, you know, water takeaway and basin gathering, that outweighs the near-term volatility in the gas price because what we see is, in a very not too distant future, we see a pretty dramatic increase in the offtake and the demand coming on along the Gulf Coast. Now, we are backstopped and supported, obviously, with investing on the return side in these premium wells. So, we measure the investment on here at a $2.50 natural gas price. And while today's prices, that's below, we run that 2.50 all the way through the life of the asset.", "The rest of the gas that we're growing this year is honestly, as we -- as I said at the top of the Q&A, is really associated gas coming out of the Delaware Basin, where the returns there are dominantly driven, obviously, on the oil and liquid side. And we're really running a maintenance program or, you know, a flat activity level program to Q4 across the Delaware Basin." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Leo Mariani from MKM Partners. Your line is now open." ] }, { "name": "Leo Mariani", "speech": [ "Hi. I was hoping you could update us a little bit on maybe some new well results, if there are any, from some of the emerging plays. Most interested in hearing about any recent Utica well performance or any Utica wells that may have come on. And then, you know, similar, just in the PRB, just trying to get a sense of, you know, you've seen improving wells there as well.", "You've talked a lot about cutting costs in PRB. But just curious as to whether or not some of those wells have seen improvements as you guys have gotten more experience." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Leo. This is Ken. I'll take a Utica portion of that. You know, the four wells that were drilled and completed in '22 really continued to deliver, you know, our expected performance.", "And just to give you a flavor on that, we anticipate starting our drilling program for '23 at the end of the first quarter here. One other thing I would note in the Utica, not on the well side, but on the acreage side, is we have added about 10,000 acres of low-cost acreage to our position, and we'll continue to look for additional opportunities to add to that position. So, we're really excited about the Utica plan for 2023. I'm going to go ahead and give it over to Jeff now for the Powder." ] }, { "name": "Jeff Leitzell", "speech": [ "Yeah, Leo. This is Jeff. Yeah, just a quick update. In 2022, you know, we continued to delineate our acreage there in the Southern Powder River Basin.", "We completed about 31 net wells across the four primary targets. You know, in all of those, we had excellent results. And we've been shifting our primary focus there, as we've talked about previously, to the Mowry. So, in 2023, we're going to ramp up the activity a little bit there.", "We're going to run kind of a consistent two to three-rig program with one frac fleet. So, that'll be about 55 net wells. And the majority of those, as we talked about, will be in the Mowry. It's about a 75% increase year over year there in the Mowry.", "And then we'll continue to focus on optimizing that Mowry program there in our Southern Powder River Basin core area. We'll collect a lot of valuable data, and then we'll look to utilize it in the future on our overlaying Niobrara formation and then the North Powder River Basin position that we announced earlier on." ] }, { "name": "Leo Mariani", "speech": [ "OK. That's helpful. And then just wanted to jump over to the Eagle Ford. If I look at the Eagle Ford, you know, production has kind of been steadily dropping, you know, the last few years.", "You guys have picked up activity pretty significantly in '23. Looks like roughly 50% more net completions this year versus last. In your prepared comments, you signaled basically trying to kind of keep Eagle Ford flattish, you know, for a number of years, you know, sort of going forward. Just wanted to get, you know, any additional color around that.", "You know, Eagle Ford had kind of been in decline in favor of other plays, primarily Delaware. And now, the plan is to kind of, you know, flatten it out. Are you kind of seeing, you know, new things there in terms of well productivity or lower cost that have got you, you know, more encouraged about the play? Just want to get a sense because it seems like maybe it's arisen slightly in the pecking order here." ] }, { "name": "Ezra Yacob", "speech": [ "Yes, Leo. This is Ezra. That's a great pickup. It's a good question because that's exactly what's happened, is that it is raising up with respect to the returns and the way that it competes for capital.", "Over the last couple of years, you know, kind of coming out of the pandemic, we've reduced our investment there. And the result of that -- you know, we've been trying to right-size the investment. And the result has been really back-to-back years of the highest drilling -- rate of return drilling programs that we've seen in the history of developing that asset. As everybody knows, it's a very high-margin oil play where we've got a lot of infrastructure and a tremendous amount of industry knowledge there.", "Simply, the asset now is commanding a lot more capital investment this year. We are looking to invest to maintain flat production, as you said. The production has decreased a bit over the last couple of years. And one advantage that we are seeing in the Eagle Ford, and Billy touched on this and maybe I'll let him add a little more color on it, is really how the inflation in service availability has manifested itself across these different basins and why the Eagle Ford is a bit more attractive." ] }, { "name": "Billy Helms", "speech": [ "Sure. As I mentioned earlier in some of the questions, you know, obviously, you see more levels of inflation and more constraints on services in certain fields versus the other. The Permian being the most active place. Certainly, there's more constraints there on services and labor and those kind of things.", "So, it allows us the opportunity to pick up activity in basins that are seeing less stress. You might say -- and Eagle Ford, certainly, being one of those. On top of that, our team there in Eagle Ford has done just a tremendous job continuing to push innovation and striving for efficiencies such that we continue to make better and better returns in that play with time. And we've kind of reached a point where, as Ezra mentioned there, that we want to maintain that constant level of production going forward in that play because we do see more than a decade of running room of continuing to maintain that production level with the opportunities we have in front of us.", "So, we think it's just a good level of production to maintain going forward." ] }, { "name": "Operator", "speech": [ "Our next question today comes from Neal Dingmann from Truist. Your line is now open." ] }, { "name": "Neal Dingmann", "speech": [ "Good morning. Thanks for the time. My first question is on your play details, specifically, I was looking at some older slides, and I see a couple of years ago, you all suggested you had approximately about 11,500 premium undrilled locations. It was about -- I think it was nearly 55% of these in the Delaware.", "And of that Del, about 40% of these Del being Wolfcamp plays. I'm just wondering if that's -- really, number one, the total premium locations is still -- I forget what the last number of you threw around the premium locations and wonder if you'd still consider the majority of these in the Wolfcamp portion of the Del." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Neal. This is Ken. I'll take a shot at that. You know, we -- what we talked about earlier and what -- the way we really look at it is we have 10 years of double premium inventory at our current activity level.", "So, the locations really aren't a concern for us. What we're really trying to talk about and show is the value proposition of our 10-plus billion Boe resource base that has a finding cost less than our current DD&A rate. You know, investing in this inventory will reduce DD&A and improve earnings and return on capital employed. Our well counts are really constantly changing as our development plans evolve.", "Acreage is swapped and laterals are extended. And all those changes improve our finding cost and returns and modify our location count. So, what we're really focused on now is lowering our cost basis as we invest at high returns." ] }, { "name": "Neal Dingmann", "speech": [ "No, that makes sense. Then maybe, Ken, just a follow-up that. I guess my follow-up is on the play details. Maybe specifically, the Bakken, you all suggested, you know, I think even a couple of years ago, there wasn't a ton of locations, as you said.", "Maybe I don't know if you'd consider a ton of value there. So, I'm just wondering how many -- how you kind of look at that play today. And, you know, would you all consider -- you certainly don't need it financially, but would you consider monetizing it given it appears to be one of your more mature areas?" ] }, { "name": "Ken Boedeker", "speech": [ "Sure, Neal. You know, the Bakken creates significant returns. And it is one of our highest oil percentage plays that we have in the company. So, you know, where it's appropriate and when it's appropriate for development, which is we're going to be putting some money into it this year, we'll try to run about a one-rig program there for the foreseeable future." ] }, { "name": "Neal Dingmann", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Scott Gruber from Citigroup. Your line is now open." ] }, { "name": "Scott Gruber", "speech": [ "Yes. Good morning. So, in your supplemental that you mentioned continuous pumping operations are helping to drive completion efficiency in the Delaware. I believe that's one of the benefits you're seeing for running your e-frac fleet.", "Is that accurate? And just a bit more detail on how continuous fracking is gaining completion efficiency above and beyond zipper?" ] }, { "name": "Billy Helms", "speech": [ "Yes, Scott. This is Billy. Yeah, we're thrilled with the advances in our efficiencies driven through our completion teams. The continuous pumping operation, you're right, is tied to mostly your electric frac fleets.", "Just a reminder, we've -- we're probably running 60% or 70% of our frac fleets today are electric. And we've been in that business really since about 2015. So, we've been operating more electric frac fleets probably than most of our peers or most of the industry for a long period of time. And through that, we've gained a tremendous amount of knowledge of how to continue to drive efficiencies in that operation.", "It really has started more in our San Antonio group in the Eagle Ford play, and that's why we're so excited about continuing our investment there. And, you know, certainly, we're transferring that information and that -- those techniques across the company, including the Delaware Basin. But basically, the continuous pumping operation allows us to minimize any amount of downtime so we can increase the amount of footage we complete every day, which drives the well cost down over time and allows us to, you know, approach some really highly efficient completion strategies. And so, part of that is also leading to improved completion designs, which is allowing us to make better well performance.", "So, overall, it's just one thing that builds on another, and we're excited about the future and where that takes us." ] }, { "name": "Scott Gruber", "speech": [ "Got it. And then you also mentioned taking advantage of any softening in rig and frac rates if they do manifest this year. How was your contract covered for both currently following a period of tightness? Would you be able to capture any depletion before year-end or would that really benefit more at '24 just given contract coverage?" ] }, { "name": "Billy Helms", "speech": [ "You know, our contracts are really staggered, and they don't all roll off at any one given time. Certainly, our well cost is up this year, as I mentioned earlier, because some of those contracts are rolled off last year and renewed on those higher day rates and pumping charges this year. But in general, we have about 45% of our drilling rigs secured under term agreements and about 65% of our frac fleets. So, it leaves us ample opportunity to capture opportunities if they do present themselves as time moves on." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jeanine Wai from Barclays. Please go ahead." ] }, { "name": "Jeanine Wai", "speech": [ "Hi. Good morning, everyone. Thanks for taking our questions. Our first question, let's see, maybe following up on Leo's question on the Eagle Ford.", "In terms of the step-up in activity in the Eagle Ford this year, can you talk about how capital efficiency compares between the overall Delaware and South Texas Eagle Ford? I guess, you know, when you pull the well data, the difference in the well performance looks like the Eagle Ford is about 30% lower on a cumulative oil per foot basis over the past couple of years. But that's only one side of the equation. And we realize that. And I think your 3Q disclosure indicated that the Eagle Ford well cost is almost 30% lower on a per-foot basis than in the Delaware.", "So, I guess just putting it all together for us, can you just provide some color on how capital efficiency and returns compare between the Eagle Ford and the Delaware?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Jeanine. This is Billy. Happy to give you some color on that. The Delaware Basin is certainly one of our most capital-efficient plays, closely followed by the Eagle Ford.", "The advantage we have in the Eagle Ford is, as I mentioned earlier, the tremendous efficiencies that have been driven in that play. You're right, the can per foot is probably a little bit lower in the Eagle Ford, but the well cost is also significantly less. And so, we can put a lot more wells to sales in a lot shorter time frame than we can in the Delaware Basin. And then going back to that, also, we didn't really feel that we wanted to ramp up activity anymore in the Delaware Basin, but instead leverage on our multi-basin portfolio to increase activity in the areas where equipment and crews are more available to leverage into our operation.", "And so, that's what we've chosen to do. But I think the Eagle Ford is still one of our most capital-efficient plays we have in the company, and we -- we're excited about that opportunity to keep our sustaining volume going forward." ] }, { "name": "Jeanine Wai", "speech": [ "OK, great. Thank you for that detail. Maybe moving to base declines, can you provide an update on your current base declines given the 3% oil and a 9% Boe growth this year? Do you anticipate that your oil and corporate declines will remain flat or at least -- or maybe even decrease this year? Thank you." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Jeanine. This is Billy again. The base declines have been fairly consistent, I would say, year to year. And we don't see a measurable change really in our base declines going forward.", "I think last year was a pretty good year to compare it to this year, and I expect the declines would be similar." ] }, { "name": "Jeanine Wai", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Derrick Whitfield from Stifel. Your line is now open." ] }, { "name": "Derrick Whitfield", "speech": [ "Good morning, all, and thanks for taking my questions. With my first question, I'd like to lean into the new completion design you've implemented in Delaware that achieved an 18% EUR uplift. Could you perhaps elaborate on the nature of the enhancement and its applicability across and outside your basin?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Derrick. This is Billy Helms again. On the new completion design, certainly, we're always experimenting with new ideas and trying to innovate as to ways we can improve well performance over time. And we're excited about some of the new advancements and techniques we're experimenting within the Delaware Basin.", "And to be honest, that's just more color on why we like to get to a consistent program and where we can innovate and experiment and make these improvements. So, I'm not going to go into detail about what this new completion design looks like, but certainly, as we continue to advance it, we will translate it to -- import that technology to other basins. And we're already doing so. We were excited about the 18% uplift we've seen, but it's only been done on 26 well so far in the Delaware Basin.", "So, you can see, it's still early on. The amount of the improvement is tremendous, though, and we fully expect to be able to transfer that knowledge to other plays." ] }, { "name": "Derrick Whitfield", "speech": [ "Perfect. And as my follow-up, perhaps shifting over to the Eagle Ford, we noticed the legacy wet gas position was seemingly reengaged in your supplement update. If I recall, that initial position was in the order of 26,000 acres. Could you perhaps comment on what has brought it back to life and the amount of activity you're expecting over the next couple of years?" ] }, { "name": "Ken Boedeker", "speech": [ "Yeah, Derrick. This is Ken. Yeah. Really, what's brought it back to life is our people in our San Antonio division have reviewed it and realized that they could invest in high returns in that area.", "So, we've actually looked at three different zones within that area and drilled three wells last year that had significant returns, and we'll see additional activity this year. I don't know that we've given an exact well count, but it will definitely be stepped up. And really, it's just a matter of having legacy acreage and our people understanding where we think we can make those kind of returns." ] }, { "name": "Derrick Whitfield", "speech": [ "That's great. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Charles Meade from Johnson Rice. Your line is now open." ] }, { "name": "Charles Meade", "speech": [ "Good morning, Ezra and Billy and the rest of the EOG team there. I want to follow up on Derrick's question, which I thought was a great question. I'd just like to push a little bit further on that, on that Delaware Basin completion design. I understand you don't want to talk about what it is, but, you know, as I imagine, what some of the possibilities.", "I'm curious, is this something that you applied to one of your, maybe, fringier intervals, that's something that's bringing that -- bringing kind of a lesser interval up to the, you know, your double premium threshold, or alternatively, is this something that you're doing already on -- or is this a new design on a kind of a meat-and-potatoes interval that could maybe, you know, herald a broader shift higher in your whole Delaware Basin capital efficiency?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Charles. This is Billy Helms. Yeah, the new design is -- really starts with an understanding of the rock we're applying it to. I think we've talked in the past about how all of our designs are tailor-made to every wellbore and whatever the geology is telling us for the right application for that.", "So, is it something that we could apply to all zones? I would say probably not. But it's certainly more attractive in other zones. But it is also being done in the core of the play. It's not just applying to the fringe intervals or the fringe of the plays, but some of our core plays, core target intervals.", "And we're seeing dramatic improvements. Now, it's going to be continued to be tailored based on what the geology tells us is the right application. And we'll tweak it and be able to transfer that knowledge as we see it develop." ] }, { "name": "Charles Meade", "speech": [ "That's helpful color. Thank you, Billy And for my follow-up, and I recognize this is a simplification for a company like you guys and your number of rigs and number of plays. But overall, you indicated that if you're going to increase your -- you're going to add three new rig lines in '23. Can you give us a sense where you are in that process or when we should expect those, you know, in aggregate, the rig count to tick up over the course of '23?" ] }, { "name": "Billy Helms", "speech": [ "Sure, Charles. The three rigs are pretty much in operation today. You know, we started kind of picking up rigs at the end of the fourth quarter, going into this year. And as we mentioned, you know, the fourth quarter run rates in the Delaware Basin and the Eagle Ford will be pretty consistent throughout the year.", "And so, we've also started drilling in some of the other plays, some of the new emerging plays such as the Powder River Basin and Dorado. So, those are kind of ongoing. We'll be picking up rigs at different times in some of the other plays like the Bakken or the DJ or the Utica. And those will kind of come and go.", "Those aren't going to be really yet full rig lines. They'll kind of ebb and flow based on the timing of each individual play. But the base program is pretty much going to be set, and I'd say the rig count is not going to fluctuate much beyond where it is today." ] }, { "name": "Operator", "speech": [ "There are no further questions at this time. I will now hand back over to Mr. Yacob for closing remarks." ] }, { "name": "Ezra Yacob", "speech": [ "I'd just like to thank everyone for participating in the call this morning and especially thank our employees for the outstanding results delivered in 2022. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
EOG	2019-08-02	[ { "description": "Chief Financial Officer", "name": "Tim Driggers", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Bill Thomas", "position": "Executive" }, { "description": "Chief Operating Officer", "name": "Billy Helms", "position": "Executive" }, { "description": "EVP, Exploration and Production", "name": "Ken Boedeker", "position": "Executive" }, { "description": "Executive Vice President", "name": "Ezra Y. Yacob", "position": "Executive" }, { "description": "Senior VP, Marketing", "name": "Lance Terveen", "position": "Executive" }, { "description": "", "name": "Unidentified Speaker", "position": "Other" }, { "description": "JP Morgan -- Analyst", "name": "Arun Jayaram", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brian Singer", "position": "Analyst" }, { "description": "SunTrust -- Analyst", "name": "Neal Dingman", "position": "Analyst" }, { "description": "Bernstein -- Analyst", "name": "Bob Brackett", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Doug Leggate", "position": "Analyst" }, { "description": "Tuohy Brothers Investment Research -- Analyst", "name": "Jeffrey Campbell", "position": "Analyst" }, { "description": "KeyBanc -- Analyst", "name": "Leo Mariani", "position": "Analyst" }, { "description": "Mizuho Securities -- Analyst", "name": "Paul Sankey", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to EOG Resources Second Quarter 2019 Earnings Results Conference Call. As a reminder, this call is being recorded.", "At this time, for opening remarks and introductions, I would like to turn the call over to Chief Financial Officer of EOG Resources, Mr. Tim Driggers. Please go ahead, sir." ] }, { "name": "Tim Driggers", "speech": [ "Good morning, and thanks for joining us. We hope everyone has seen the press release announcing second quarter 2019 earnings and operational results. This conference call includes forward-looking statements. The risks associated with forward-looking statements have been outlined in the earnings release and EOG's SEC filings and we incorporate those by reference for this call. This conference call also contains certain non-GAAP financial measures. Definitions as well as reconciliation schedules for these non-GAAP measures to comparable GAAP measures can be found on our website at www.eogresources.com.", "Some of the reserve estimates on this conference call and they are accompanying investor presentation slides, may include estimated resource potential and other estimates of potential reserves not necessarily calculated in accordance with the SEC's reserve reporting guidelines. We incorporate by reference the cautionary note to US investors that appears at the bottom of our earnings release issued yesterday.", "Participating on the call this morning are Bill Thomas, Chairman and CEO; Billy Helms, Chief Operating Officer, Ken Boedeker, EVP, Exploration and Production, Ezra Yacob, EVP, Exploration and Production, Lance Terveen, Senior VP, Marketing, and David Streit, VP, Investor and Public Relations. Here's Bill Thomas." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim, and good morning, everyone. EOG does not need high oil prices to create significant value for our shareholders. During the second quarter despite a 12% decline in WTI oil prices, EOG generated more than $350 million of free cash flow, lowered our long-term debt by $900 million and paid a substantially larger dividend than last year, all while organically growing US oil production by 20%. The EOG culture consistently making improvements throughout the company year-after-year has propelled EOG to compete financially with a very best in the S&P 500, all with oil prices averaging below $60 per barrel.", "We are now capable of delivering double-digit return on capital employed and double-digit growth, while generating substantial free cash flow through the commodity price cycles. Our commitment to strong free cash flow is enabling us to rapidly grow the dividend, we've increased the dividend 72% in the last two years and our ambition is to target yield that is competitive in the S&P 500, which stands around 3%.", "EOG never stops improving. We are one of the lowest cost producers in the global oil market and we continue to lower the cost of our business. In fact, we have strong visibility and high confidence in our ability to lower our costs, so that by 2022 we can earn at least 10% return on capital employed at oil prices below $50 per barrel.", "Our first half results confirm that EOG is stronger than ever and we are delivering about a year and operational performance. For two quarters in a row, we delivered more oil for less capital with efficiency gains and new technology we are achieving strong capital and operating cost reduction, while at the same time delivering excellent well performance. In addition, the company has leasing acreage and testing new geologic play concepts that we believe could lower our decline rate and continue to reduce our cost to produce oil.", "At EOG, we have always believed in being a good corporate citizen goes hand in hand with delivering long-term value for our shareholders and the same spirit of innovation that drives our excellence in operations is aimed at ensuring the business is sustainable in the long run. We are excited about several new environmental social and governance initiatives that will both reduce our environmental footprint, while helping to lower cost and earn strong returns.", "We are a leader in water reuse in the Permian Basin, currently sourcing 90% of our water needs from recycle production water. We are busy transferring our reuse technology to other basins. EOG is also a first mover and we believe the largest user of electric powered frac fleets. Later this year we will be testing the use of solar power to generate electricity for natural gas compression. Our expanding implementation of water reuse, electric frac fleets and solar power are just a few of the many things we're doing to reduce our environmental footprint. Our goal is to be the leader in ESG performance by delivering high returns with responsibly focused operations.", "We will have more details in our there is sustainability report to be published later this year. EOG culture is more than three decades in the making and the foundation of our competitive advantage. Our ability to continuously improve the company is accelerating overtime. It's not just a few items that we work on. It's every nut and bolt and every process in the company. Our culture of innovation leverage through the application of real-time data analysis with our advanced information technology systems enables everyone in the company to create value. EOG's business is better than ever and our insatiable desire to improve has excited about our future.", "Next up is Billy to review our second quarter operational performance and outlook for the remainder of 2019." ] }, { "name": "Billy Helms", "speech": [ "Thanks, Bill. For the second consecutive quarter oil production beat the high end of our forecasted range, while the capital expenditures were below the low end. The performance in the first half of the year demonstrates our focus on continuous improvement as evidenced by our higher capital efficiency, lower operating cost and ongoing integration of operating practices to minimize our environmental footprint.", "There are several factors that drive these outstanding results. First, our production beat this quarter is due to improved oil performance. Our new completion designs, including the use of diverters along with a continued focus on target selections are the main reasons for the improvement. Beyond the completion design itself, we have also developed proprietary technology that allows us to make real-time adjustments during the execution of the frac to minimize the impact on nearby producing wells. Thus reducing shut in volumes. Ken will expand on this technology in a moment.", "Second, we continue to reduce capital costs and see line of sight to reach our goal of reducing total well cost by 5% this year. Through the first half, we have realized about a 4% reduction compared to 2018. As a result of improved operational execution, design enhancements and efficiency improvements, not service cost reductions are delivering consistently better results across each of our active areas.", "Third, our operating cost performance has been outstanding. As a result, we are lowering our full-year unit cost forecast for LOE and transportation. Cash operating costs, which include LOE, transportation and G&A are expected to be under $9 a barrel for the full-year 2019 compared to nearly $13 a barrel as recently at 2014.", "Fourth as Bill mentioned in his opening remarks. We are committed to sustainability. Our decision to embrace electric frac fleet is an example of how we continue to find innovative solutions to both reduce our environmental footprint and improve the profitability of our business.", "We began piloting this new technology last year in the Eagle Ford and have since utilize them in the Delaware Basin. Electric frac fleets currently make up more than a quarter of the EOG fleet. We believe EOG is using about a third of the electric frac fleet available in the market. And we are looking to expand their use in our operations going forward. Our experience with this new technology has been very positive. We estimate electric fleets save up to $200,000 per well and reduce combustion emissions from completion operations by 35% to 40%. EOG continues to expand its use of in-water reuse program and the Delaware Basin nearly 90% of our water needs are currently sourced from recycled produced water. We are increasing our water reuse efforts in both the Eagle Ford and Woodford plays and are beginning to install reuse infrastructure in the emerging Powder River Basin.", "In the second half of this year, we plan to initiate a pilot project that combined solar and natural gas to power compressor stations. While this first of its current system is still in the design phase. Early indications point to positive economics reduced LOE and the potential to significantly reduce our combustion emissions. Finally, looking ahead to the remainder of 2019, we modestly increased our full-year US oil production guidance as a result of better well performance.", "There is no change to our activity level in 2019. We will remain disciplined and still expect capital expenditures to be within the original range of $6.1 billion to $6.5 billion. Capital is trending to the low side of expectations. So assuming the trend continues, any realized savings if spend will likely be directed to two areas, water, oil and gas infrastructure to lower our operating expenses and leasehold to support our ongoing exploration efforts", "For 2020, we are beginning to evaluate multiple scenarios. But suffice it to say, it is too early to provide any color or commentary on our plans at this time. In summary, our operating teams are executing the 2019 program and generating excellent results. I could not be more proud of them.", "Now I would like to provide some color on our Powder River Basin activity. In the first half of the year, we initiated a handful of delineation and completion technology test to better define our future program.", "As a reminder, we announced premium inventory of more than 1,500 locations with reserve potential of $1.9 billion barrels of oil equivalent exactly one year ago. We are deliberately developed in play at a very modest pace to allow time to integrate both the build out of infrastructure as well as incorporate that data and knowledge from our delineation wells. In addition, our diverse portfolio of 11 different plays gives us the luxury of pace in the development of the Powder River Basin to maximize returns and net present value of the entire asset. During the second quarter, we completed five gross Niobrara wells with average 30 day IPs of 1,000 barrels of oil per day, 100 barrels per day of NGLs and 2.1 million cubic feet of gas per day. The Tiburon 251 oil had an IP 30 of 1,300 barrels of oil per day, 63 barrels per day of NGLs and 2 million cubic feet per day of natural gas.", "Also our operating teams are making tremendous progress toward reaching our stated well cost bills. In the Mary, we completed two gross wells in the second quarter. The flat by 70 new well, had an IP 30 of 910 barrels of oil per day, 64 barrels per day of NGLs with 6.3 million cubic feet per day of natural gas. We also completed six gross Turner wells with an average IP 30 of 700 barrels of oil per day, 150 barrels per day of NGLs and 2.7 million cubic feet per day of natural gas. Our program in the Powder River Basin continues to deliver strong results and we will continue to develop at a modest pace as infrastructure is installed", "In the Wyoming DJ Basin, it is continuing to deliver solid production results with improving operational execution. We completed 18 gross wells in the second quarter, with six wells having an average lateral length exceeding 14,000 feet. In all, the Codell wells delivered an average IP 30 of 800 barrels of oil per day. Next up is Ken to review highlights from our Eagle Ford and Woodford plays." ] }, { "name": "Ken Boedeker", "speech": [ "Thanks, Billy. The Eagle Ford continues to deliver consistent performance quarter after quarter. This world-class oil asset is off to a great start in 2019 delivering low finding costs through ongoing cost reductions. Every measure of capital productivity is better in the first half of 2019 compared to full-year 2018. This quarter all highlight recent operational efficiencies driven by rightsizing our completion design and refining its execution.", "Te wellbore stimulation processes is aided by software developed in-house, using our proprietary software and data on the nearby wells geology, spacing, lateral placement and production history a unique completion design is prepared for each well in a pattern. The software allows EOG engineers to monitor real-time completions data, not only on the well we are stimulating, but also on surrounding wells. This enables the engineers to make real-time adjustments to the stimulation on a stage by stage basis.", "The result is a customized stimulation that can reduce pump time by 10%. The process also yields better well performance both in the new well being completed and in the adjacent producing wells. For the new well, we can realize the same or better well performance with less sand. As a result, our completion costs were down 9% compared to last year, which is significant contributor to our overall lower finding costs.", "Second, for the nearby producing wells, reduced sand loadings translates to reduced instances of sand reaching these offset wells. LOE cost come down due to reduced workover expenses to clean out sand during production and the associated downtime due to shut-ins is reduced increasing volumes. In addition to completion cost reductions, we improved drilling speed and efficiency in the Eagle Ford. Thus far, we've nearly realized our full-year well cost reduction goal of 5%.", "Now moving the discussion to Oklahoma, the Woodford oil play in the Anadarko Basin continues to gain operational momentum as we increase our activity level, we've made tremendous improvements on total well costs. Drilling costs were down 10% and completion costs are down 19%, with a total well cost reduction of 18% in the second quarter of 2019 compared to 2018.", "As a result, we reduced our Woodford well cost target by 14% to $6.5 million per well. Finding cost for this newer premium oil play are now less than $10 per barrel of oil equivalent, which is on par with our other more established premium assets. We've completed 15 gross well since the start of the year.", "A few notable recent wells include the three Galaxy 25.36 wells. They average more than 10,000 feet in lateral lengths and produced an average of 1,100 barrels of oil per day. Each for the first 30 days. Oil equivalents average more than 1,400 barrels per day each. In addition, these wells are exhibiting the characteristic shallower declines we have seen in prior wells. We are pleased with our progress in this premium play and expect further operational gains in the second half of this year. Now here's Ezra for an update on the Delaware Basin." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Thanks, Ken. We play 65 net wells to sales in the second quarter and continue to have an outstanding year in the Delaware Basin. Our drilling performance continues to benefit from improved downhole motor designs and increased quality assurance. Year-to-date, drilling days are down over 20% compared to 2018. And we continue to utilize proprietary software to balance our drilling speed and steering to stay within our precision targets. Completions costs are also down 10% compared to 2018 due to ongoing improvements to execution application of our new completion techniques as well as lower sand and water costs. Year-over-year, sand costs are down 35% and our all in water costs including reused have decreased by 30%. The combined impact of improved drilling and completion efficiencies has resulted in a year-to-date total average well cost reduction of 5% compared to 2018.", "Well productivity similar to operating efficiencies has also improved through the first half of 2019 across all five of our Delaware Basin targets. In our Delaware Basin and Wolfcamp play 30, 60 and 90 day rates have improved", "Our 2019 Wolfcamp program is outperforming 2018 performance by 10% and continues to exceed our forecast. Performance of our shallower reservoirs is also improving as we integrate geologic data collected as we develop the deeper targets along with our new completion technology. Year-to-date, we've brought on 23 net wells in the Leonard and Bone Spring with both formations performing stronger than 2018 results. In addition to tremendous progress lowering our finding and development costs through well productivity and capital cost improvements we are benefiting from our strategic infrastructure investment. Currently 99% of our water and over 80% of our oil is transfered by pipe rather than trucking and contributes to a 5% reduction in operating costs compared to 2018 . The impact of improved productivity and cost reductions have resulted in year-to-date all in finding costs below $10 per barrel of oil equivalent and an average direct after tax rate of return in excess of 100% at the current strip prices.", "Our progress throughout 2019 in the Delaware Basin highlights our focus on increasing capital efficiency through high return investment. Here's Lance to provide a marketing update." ] }, { "name": "Lance Terveen", "speech": [ "Thanks Ezra. During the second quarter, our marketing strategy paid dividends. Our execution as a result of a portfolio sales approach, that is we work to ensure each of our asset teams has flexible takeaway and multiple end markets available which provides security, flow assurance and access to optimal net back prices.", "Our US crude oil price realizations average $1.18 above WTI, which was on the high end of our guidance issued at the beginning of the quarter. With respect to natural gas, despite significant volatility and Permian Basin prices and softness in the Rockies and out West in California. EOG's overall natural gas price realizations were only modestly affected. Anticipating infrastructure and transportation capacity well in advance of our development plans has allowed us to have full flow assurance to; one, mitigate most of the effects of weak local premium pricing and; two avoid long-term high fixed cost transport contracts as we expect the Waha basis will improve significantly as new pipelines in our service later this year and 2021. Downstream markets natural gas and oil basis differentials change very quickly. Our portfolio approach provides flexibility to quickly to the highest net back market. For example in the Permian and the Mid-Cush oil differential has strengthened considerably since the end of last year.", "Additionally, looking ahead to the end of this year and into 2020, the market is pricing and crude oil pipeline takeaway coming into service over the next several months as seen in the narrower Permian to the Gulf Coast spreads.", "Our marketing arrangements provide flexibility to sell our oil production and the local Midland market to take advantage of strength in the Mid-Cush basis or we can elect to utilize our low-cost long haul capacity to the Gulf Coast, the excess domestic refiners and export markets. Our forward-looking portfolio approach has established access to Midland, Cushing, Houston and Corpus Christi along with dock capacity to access export markets for our Permian Basin in oil production. In addition access to all these markets by our diverse portfolio of transportation and sales markets options allows us to maintain direct control and keep our low cost transportation edge.", "I'll now turn it over to Tim Driggers to discuss our financials and capital structure." ] }, { "name": "Tim Driggers", "speech": [ "Thanks, Lance, EOG leverage it's outstanding operation execution in the second quarter into superb financial performance. During the quarter, the company generated discretionary cash flow of $2.1 billion, invested $1.6 billion in capital expenditures, before acquisitions at the low end of our guidance and paid $127 million in dividends. This last $352 million in free cash flow in line with our objective of further strengthening our financial position, we repaid a $900 million bond in June with cash on hand. This leaves $1.75 billion remaining in our $3 billion four year debt reduction plan, which we expect to complete in 2021.", "Cash on the balance sheet at June 30 was $1.2 billion and total debt was $5.2 billion. For a net debt to total capitalization ratio of 16%, significantly lower than 24%, Just one year ago. In addition to the excess of the debt reduction plan has had an improvement on leverage metrics, It is also meaningfully reducing our cash cost.", "Net interest expense as following about a third to $185 million, the midpoint of our full-year 2019 guidance from $282 million in 2016. The financial model for EOG straightforward, we can very efficiently generate double-digit organic growth at high rates of return, leverage our scale to reduce operating expenses and continue to lower the oil price required to earn a double-digit ROCE. We believe the EOG can accomplish this while supporting a growing dividend competitive with the S&P 500 and generating a rising stream of free cash flow. The combination of EOG's financial strength, industry leading cost structure and organic exploration edge can deliver a level of financial performance, competitive, not just with the best E&P companies, the competitive with the best companies in any industry in the S&P 500. And we can deliver this performance at lower and lower commodity prices.", "I'll now turn it back over to Bill for closing remarks." ] }, { "name": "Bill Thomas", "speech": [ "Thanks, Tim. In conclusion, EOG is executing at the highest level in company history and improving every quarter. Our premium drilling strategy combined with our ability to achieve continuous efficiency gains and technology breakthroughs are producing record results. The company is delivering a strong return on capital employed, production growth, free cash flow, debt reduction and strong dividend growth with oil in the 50s. And we clearly are on a path to achieve strong performance with oil in the 40s.", "We are accomplishing our goal of achieving results that are competitive with the best companies across all sectors in the S&P 500 through the commodity price cycles. In addition to financial returns, EOG's mission to be a leader in ESG performance. Our unique culture has embraced ESG with the same enthusiasm as everything else we do, innovation, technology and are pleased, but not satisfied cultural of EOG have a long history of producing outstanding results and we believe that our best days are still ahead of us.", "Thanks for listening and now we'll go to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. The question and answer session will be conducted electronically. [Operator Instructions] . And today's first question comes from Arun Jayaram of JPMorgan. Please go ahead." ] }, { "name": "Arun Jayaram", "speech": [ "Yeah, good morning. I was wondering if we could maybe start with your thoughts on well spacing in the Delaware Basin and how you guys are managing the process to call it maximize resource recovery while mitigating the impact from adverse communication?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, good morning, Arun. Thank you for the question. Just in general, because we've been in the shale business for two decades, we have a big learning curve in the history of the company and we recognize the parent-child relationship and the importance of proper spacing to develop this assets correctly. And specifically in the Delaware Basin, we attacked that problem very aggressively back in 2017 and early part of 2018. And we really got the learning curve on that well behind us and we continually are still making progress going forward. But we really are well down the road on the maximizing the value of our asset.", "And so I'd like to maybe let Ezra, he is really the expert on the Delaware Basin to give you a little bit more color on that." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yes. Arun, this is Ezra. Our resource estimate is based on a 660 foot spacing in the Wolfcamp oil window and 800, 80-foot spacing in the combo side of that play. And we're very confident in those numbers still, as you know, and as Bill mentioned, we've been drilling multiple targets within the Wolfcamp and actually a tighter spacing on average than what our resource estimate is based on. And so I think that you can see we've got a bit of upside we feel like not only really in our Delaware Basin place, but across the portfolio of our plays. And one way that we approach it in some of the testing that we did, as Bill mentioned, over a year ago, is really to look at the number of targets on the quality of our high-precision targets that need to be co-developed with one another. And we combine our high-precision targeting with our completions technology to really optimize that balance between a low finding cost and optimizing really the NPV per drilling unit, and we think that that's the best way to really deliver shareholder value in the long-term through increasing our corporate level returns while still capturing the NPV." ] }, { "name": "Arun Jayaram", "speech": [ "Great. My follow-up is the updated guide does assume called a deceleration in capex in 4Q versus 3Q", "I was wondering if you could maybe discuss the cadence of overall tales in the second half and just your general thoughts on 4Q oil growth and sustaining some of the upper gaining momentum into 2020?" ] }, { "name": "Unidentified Speaker", "speech": [ "Yes, Arun. Yeah, we're all planned and everything is going just almost perfectly, this year is going great year and performance and capital is running according to plan and we are going to be really well set up heading into 2020 and I'm going to ask Billy Helms to give a little bit more detail on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, good morning, Arun. This is Billy. So as Bill mentioned , we're exactly on plan where we wanted to be, actually our well performance is exceeding the type curves that we laid out at the beginning of year and our well cost is actually coming in lower. So what's driving that really is just the continued efficiencies. Each of the operating teams continue to have.", "So we're actually able to as we go into our second half of the year in both the Delaware Basin and the Eagle Ford. Our two most active plays will see a slight reduction in rig count and frac rates there just because we don't need as many rigs and frac fleets to achieve our goals that we recently laid out at the beginning of the year -- end of the year. Now also on top of that, we have some seasonal programs like the Bakken where you'll see activity there mainly it happens in the summertime. And in the wintertime we pretty much slow activity there just because of the additional cost associated with winter operations. You will see a slight reduction also in the Powder River Basin for the same reason.", "So in general, we don't really see dramatic change in the rig count, frac fleet count or the wells turned online a slight drop in the fourth quarter. The big thing to takeaway is that for 2020, while it's really early to give you an indication of what we're going to do, we don't see that will have a dramatic drop-off in the first quarter of 2020. We're well positioned and well set up to provide growth on a quarter-to-quarter basis as we enter 2020." ] }, { "name": "Arun Jayaram", "speech": [ "Great, thanks a lot for that commentary." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Brian Singer of Goldman Sachs. Please go ahead." ] }, { "name": "Brian Singer", "speech": [ "Thank you, good morning. Wanted to see on the dividend. How does your dividend goals that have shifted in terms of the focus for the 2% target yield, how does that if at all impact your volume growth target, do you still see growth in 2020 accelerating versus 2019? And how long can that growth be sustained while meeting your dividend targets until the Eagle Ford and Delaware Basin move into a more mature phase as you call it from the growth phase or until you depend more on the newer or newer place organic exploration?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Brian. Good morning. We don't see that our projection of being competitive with the S&P 500 on the yield has really slowing down our growth. We believe that our dividend, We've shown a very strong commitment to the dividend, we've increased it over 70% in the last two years. And certainly our goal with reasonable oil prices like we've seen this year is to continue to grow the dividend at least 20% per year to bring the yield in line with the S&P 500. And of course the Board considers the macro outlook in our business plan every quarter concerning the dividend. And then on growth at reasonable oil prices like we've seen this year, we do not envision our growth to be lower than our 14% that we're experiencing this year, so we have a very -- I think robust business as Tim pointed out. We are creating significant value to our disciplined reinvestment and the premium drilling and we're generating strong free cash flow. We're having a substantial dividend growth and we've got strengthening our balance sheet, all at the same time. So we believe our core business is super strong and competitive, with really any business and any sector of the market. So we've got a lot of confidence that we're creating a huge amount of value for our shareholders and we're going to continue on that plan." ] }, { "name": "Brian Singer", "speech": [ "Great, thank you. And then my follow up is with regards to exploration. I realize that there was not a specific update here on the last call. You talked about higher quality reservoirs that could lower decline rates in your supply cost and you referred in your opening comments to potentially lowering the decline rate and reducing the cost to produce oil. Can you just give us a general update on what you're seeing within that portfolio and how aspirational that is versus how far you've progressed toward that in terms of reality is really having that confidence that the decline rate can come down and the supply cost can come down?" ] }, { "name": "Bill Thomas", "speech": [ "Brian. Yes. Thank you. We are very excited about our exploration efforts this year. It's the most robust diverse exploration effort I think we've ever had in the company, we're in multiple basins and multiple different plays testing new ideas. And they are rock quality -- rock that would be able to deliver oil at lower cost and at lower decline rates then our current inventory, the average of our current inventory. So we're really focused on corporate returns and we want to drive -- continue to drive down finding cost, that's a particularly strong focus.", "So we are looking for place that have low drilling costs, low operating costs and we're working and we want to improve the decline rate of the company also, so low decline, high -- low finding cost is the direction that we're handing going in and that's what will help us continue to generate higher corporate returns going forward . So we're really excited. We're really encouraged. We're in the process of drilling and testing a lot of new ideas this year. We're also leasing very, very strong acreage positions, building very strong acreage positions at low cost and we'll be giving updates on that as we get meaningful results, it takes a little while.", "We don't want to just drill one well and say we've got all this, we need to have multiple tests done. Certainly, we want to before we start talking about specifically where these plays are, we want to have the acreage captured and so it's going to take a little bit of time. So we asked the investors to be patient with us on the process, but we're very excited and very encouraged on where we're headed." ] }, { "name": "Brian Singer", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. And our next question today comes from Neal Dingman of SunTrust. Please go ahead." ] }, { "name": "Neal Dingman", "speech": [ "Good morning all. Question on the -- I guess, started around the Powder River. It seems like when it comes to incremental operational efficiencies and lower cost, the peers and kind of your conversations and prepared remarks on the Powder River is seen maybe the most in your portfolio. And I'm wondering if this is in fact the case that the Powder is seeing some of the most improvement. And then just wanted for overall portfolio, can you continue to see just the remarkable efficiencies that you all talked about the last couple of quarters?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, good morning, Neil. Yeah, we're super excited about the Powder, it's got a lot of obviously upside and we're in the learning curve and so we're testing as Billy talked about different parts of the play, but particularly we're testing the targeting and the completion technology. And so the wells will vary a little bit as we go through that process, but we're learning and we're not really in a hurry there. We want to take advantage of the learning curve before we increase activity there significantly, we don't have a lot of acreage exploration issues there. So we've got plenty of inventory in an all-in place and the company, so we can bring that on at the proper speed to maximum the returns to the lower cost and to build the inventory correctly." ] }, { "name": "Neal Dingman", "speech": [ "Okay. And then just one separate one if I could, appears to me your exploration program remains this year a bit more active than we've seen in the last year or two. I'm just kind of curious if you all are focused here on more ramp in one potential area or you're looking at several potential plays when looking at the exploration area?" ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask Ezra to comment on that." ] }, { "name": "Ezra Y. Yacob", "speech": [ "Yes, Neil, this is Ezra. We have multiple opportunities that we have this year that were both", "leasing and testing this year, as Bill highlighted a few minutes ago, really the goal of the exploration program this year is to add quality to our inventory, not just quantity. And what we mean by that is it all starts with the rock quality and so we're looking at, we've basically -- the advantage of having activity in six different basins this year as we drill these wells, we collect a lot of data and we're able to formulate that data and that's really the basis for what has created our exploration effort this year, I'm looking at this better rock quality.", "And we think that this rock quality we're targeting will really benefit from our horizontal drilling and completion techniques. And as Bill said, should provide us an opportunity to add lower finding cost and higher quality of inventory to our already robust portfolio." ] }, { "name": "Neal Dingman", "speech": [ "Thank you so much, guys." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Bob Brackett of Bernstein. Please go ahead." ] }, { "name": "Bob Brackett", "speech": [ "I had a question on the electric frac spreads, you quoted the $2 million -- $200,000 per well savings, part of that is the fuel arbitrage diesel versus nat gas and part of it is the cost you're paying in the service provider. Is there a way I can think about how those two offset each other?" ] }, { "name": "Billy Helms", "speech": [ "Yeah, Bob, this is Billy Helms. You have a $200,000 savings. I'd say the majority of that is simply in the fuel cost savings. And the reason where it benefits us so much is we're using it in place where we have readily available infrastructure to be able to access gas as a fuel source relative to diesel as a traditional frac fleet might use, they also do provide us a great deal of the step up in efficiency gains too. So our efficiency gains there provide, I'd say the balance of the savings. But the majority of it is based on the fuel savings alone. So I wouldn't want to mislead you there, the efficiency gains are really good, but the majority is fuel savings." ] }, { "name": "Bob Brackett", "speech": [ "Great, thanks. Follow on would be, if we think about the 740 net planned completion for 2019. And wanting to hit that activity level? How would you balance that against the macro sell-off in the commodity where price fell and cash flow fell, would you stick to the plan, would you trimmed the plan in order to hit cash flow, where does that balance play out ?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Bob, this is Bill. Certainly we are going to run the business with the balance cash flow, we're not going to outspend cash flow. So depending on our view the length of that downturn in oil prices. We thought it was temporary, we might not make much adjustments, but we thought it was a super long-term, we would certainly readjust the company. Our goal is not growth specifically, our goal is returns, we are focused on increasing corporate returns going forward, generating strong free cash flow. Certainly, we're committed to the dividend very strongly as a company. So those all have super priority in the in the company. And we're here for the long term, we're going to run our business, right. We're going to generate maximum value for our shareholders." ] }, { "name": "Bob Brackett", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Doug Leggate of Bank of America Merrill Lynch. Please go ahead." ] }, { "name": "Doug Leggate", "speech": [ "Thanks, good morning, everyone. Bill, I think you've kind of set the cat among the pigeons by talking about the uncertain outlook for 2020, I think we're all facing the same thing. But I wonder if I could speak to how you would see relative capital allocation in the event that we did cover downturn, it's really -- thinking more along the lines of sustaining capital and then beyond that, how you would allocate incremental dollars. If I could just elaborate a little bit as to what I'm trying to get up, the IRRs are very competitive across your entire portfolio, but the productivity is obviously very different in different place for the same return. So I'm just curious as to how reallocate or allocating capital to your highest-return plays would impact the relative productivity outlook and downturn. I know it's again the complicated issue but that's what I'm trying to get up?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, I appreciate your question, and good morning. Yeah, we have got tremendous flexibility to allocate capital, we have such an enormously strong premium inventory and it's across multiple plays. So as we -- as I answered in the previous question, we're not interested in outspending cash flow, certainly not on the long-term basis, we're going to stay super disciplined and make sure that we generate free cash flow every year.", "So if we had -- we don't believe we're going to have an extended downtown, a low downturn, but in extreme case that we did that, we would just tighten the bill all across the company, we would focus our capital on the highest-return plays and we would allocate capital appropriately to the macro environment. So we're focused on returns and we believe we can generate the highest returns of any company in the E&P business at the lowest oil price scenarios, because we have the highest reinvestment hurdle of any E&P company we know. And so our premium inventory is good to go at $40 oil and that allows EOG to be the low cost provider of oil and gives us a tremendous competitive advantage." ] }, { "name": "Doug Leggate", "speech": [ "I know it's not an easy question to answer. So I'm going to follow up with an even worse question, I apologize. You've also -- I don't know if the language was deliberate on your dividend comment in the call on the press release, but targeting -- setting a target yield kind of starts to bring in considerations of how the market thinks about evaluations, so i'm thinking about dividend discount models, which then begs a couple of obvious question as one, what do you see is the appropriate growth rate for the dividend? This is supported basically by what you said earlier about not less than 14% oil growth. And then related to that, there is implications for the payout ratio, how do you -- do you have parameters around that that you could share with us when you're -- you've kind of laid out this subjective of 2% yield? Because basically we can all come up with long-term projections so what that could look like, but some framework around that would be really helpful?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, certainly, Doug. Our goal is to continue to aggressively increase the dividend, certainly at the 20% right or better every year and that would be in consideration of reasonable oil prices like we've seen this year, we believe we can do that or better. And so our focus is just to have a sustainable strong dividend growth every year and get the dividend up through the yield of the 2% level. We don't have a specific timeline to give you because we need to manage the business according to our view of the business environment. Obviously, going forward. But directionally, we want to be competitive with the S&P 500 companies and the dividend yield, just like we are going to be competitive in growth and in return on capital employed. And I think the dividend yield for the S&P is about 5% -- about 2% and so that's where we want to be long-term in the company." ] }, { "name": "Doug Leggate", "speech": [ "Sorry. Bill, just to be clear, the 2%, does that also have an oil price parameter, obviously premier locations or premier inventory is at $40 oil. 2% yield is at what commodity price?" ] }, { "name": "Bill Thomas", "speech": [ "Well, no, it's not really based on that. The speed of which we can get the yield to that level of course would have to be, have oil price considerations. But we're lowering the price of the company to be very successful. As we said in the opening remarks, where we can do it very well at 50 with all in the 50s right now. But we're really heading the company to where we can be successful with oil in the 40s. So overtime, we believe we can be competitive on the dividend, returns and growth with oil in the 40s." ] }, { "name": "Doug Leggate", "speech": [ "Understood. Thanks for taking the question." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Jeffrey Campbell of Tuohy Brothers Investment Research. Please go ahead." ] }, { "name": "Jeffrey Campbell", "speech": [ "Good morning. And I've just been listening to the lower decline stuff with great interest and I just wanted to ask you if we -- if", "we think of a typical first year on conventional decline is say 60%, can you roughly quantify how much of the decline rates could be modified with these new exploration plays that you've been discussing. I don't mean the corporate decline. I mean the well decline in one of these new plays?" ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Jeffrey. This is, Bill. We're really in the early process of testing these plays. And so we just need to get some well result behind us to give you specific numbers on that and some history. But these are plays that have better matrix permeability than a typical shale play, it's not, we're not looking for a rock that has nano Darcy firm. This is really more micro Darcy maybe even milli-Darcy[Phonetic] firm kind of rocks and there are also rocks that would respond really well to the horizontal completion technology where you can get a complex, fracture pattern, where you can drill long laterals, etc.. And you can contact a lot of this better permeability rock to the well bore. And so that combination just in general will give you a very high recovery for the amount of oil in place, but it also gives you lower decline rates in the current shale plays." ] }, { "name": "Jeffrey Campbell", "speech": [ "Okay. That sounds really interesting. We look forward to hearing more about that in the future. I think my other question is I believe last quarter you said that the Eagle Ford EOR program was completed or more or less complete. I just wondered, do you have any other programs going on anywhere else in the portfolio that's experimenting with or seeing to try to capture more resource, total resource from the wells than what we typically expect and unconventional resource?" ] }, { "name": "Bill Thomas", "speech": [ "I'm going to ask Ken to comment on that." ] }, { "name": "Ken Boedeker", "speech": [ "Yeah. This is Ken. We have about 150 wells in our enhanced oil recovery process in the Eagle Ford and we really are seeing premium results in line with our 30% to 70% add in our primary recovery. We're really watching our program and refining our process as we go. This is a process that you want to do after your primary drilling is complete. So we're going to evaluate expanding that new water footprint in that area as we -- as we finish primary drilling in the surrounding units. As far as expanding that into other areas, we're constantly evaluating that, but we are not expanding that process into any of the other formations at this time." ] }, { "name": "Jeffrey Campbell", "speech": [ "Okay, great. Thank you." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Leo Mariani of KeyBanc. Please go ahead." ] }, { "name": "Leo Mariani", "speech": [ "Hey, guys. Very impressive progress and the cost reduction initiatives. I guess, basically you're sort of an 80% of your targets here by mid-year on the well costs. Just wanted to get a sense, I know it's probably difficult question, of course no one can kind of predict the future here. But just based on efficiencies, do you guys think that it's realistic that you might be able to knock another say 5% off those cost again in 2020 or 2021?" ] }, { "name": "Bill Thomas", "speech": [ "Good morning, Leo. I'm going to ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah Leo. First of all, let me just say we are extremely proud of the efforts that our operational teams have made to get to the 4% hurdle halfway through the year. And when we set our 5% goal out at the start of the year. I think we had no idea exactly how quickly they would get there, but confidence that they would, and they've excelled just tremendously, being able to accomplish another 5% next year, it's a little early to say where that's going to come from. But I do have confidence that we'll be able to continue to lower cost, I mean there is no doubt in my mind that we can continue to push well costs down and not just well costs, but also our unit costs. We're making tremendous progress there. So I don't want to go without given those guys a kudos as well because they've done a great job and I guess we just have to so much confidence in our teams that I know we can achieve continued cost reductions across the board." ] }, { "name": "Leo Mariani", "speech": [ "Okay, that's great. And I guess just wanted to, a quick question on sort of the guidance here. So just looking at your third quarter. US oil production guidance versus the last few quarters, just noticing that your kind of rate of growth in the US oil slow is a little bit in the third quarter. Just wanted to get a sense if anything read into that or is that just kind of timing, sort of on well tie-ins[Phonetic]?" ] }, { "name": "Billy Helms", "speech": [ "Yeah Leo, this is Billy again. Yeah, the rate of growth, certainly slowed a little bit in the third quarter, but really it falls directly in line with what our plan was laid out at the start of the year. And as you know, most of our activity and capital expenditure was in the first half. So that's where you're going to see most of your production growth.", "So it will modestly decrease the rate of growth or modestly decrease a little bit in the third and fourth. But we're still on pace to really stay within our plan. And then, we're not concerned at all about how that sets us up for the following year. We're still in great shape as we go into the next year as well." ] }, { "name": "Leo Mariani", "speech": [ "Okay, that's very helpful. And I guess just any follow-up thoughts on US exports, obviously you guys unveiled incremental volumes that you'd be shipping out last quarter and certainly made a point putting your slides. As you kind of look at the marketing side over the next couple of years, do you guys think that US oil export is going to become even more important for you and is that an area you really looking to expand going forward?" ] }, { "name": "Bill Thomas", "speech": [ "Well, let me -- let Lance comment on that." ] }, { "name": "Lance Terveen", "speech": [ "Hey, Leo. Good morning, this is Lance. How are you?" ] }, { "name": "Leo Mariani", "speech": [ "Great." ] }, { "name": "Lance Terveen", "speech": [ "Yeah. Good. Hey, yeah, on exports, it's definitely exciting. As we've talked about in the past, we've got our -- today we've got our existing Houston capacity, we're taking advantage of that. But we get more excited about next year with our capacity growing in Corpus. So I think one of the things that really to think about us from an EOG standpoint, what really differentiates us is, when you think about the Corpus capacity, we're going to have the capability to really show our segregated WTO that we're going to be able to show across the dock. And we're also going to be able to show our Eagle Ford as well. So I think when you look a lot of the peers and you look at a lot of our, the competition that's out there too.", "Our capability with our transportation capacity, the storage tankage that we have, ability to deliver segregations into the market. We're going to be able to show multiple grades across the market. And, yes, absolutely. I think you're seeing spreads tighten up and I think we don't see any concerns as it relates to export capacity at least in the short term. But I think one of the more important points to make is, if you call export capacity right at 4.5 million barrels per day of export capacity. What we felt was very important is that we secured existing brownfield capacity. So that way, if you do see price dislocations that do occur maybe at the dock, we are advantage there because we're not waiting on permitting, we're not waiting on dock expansion.", "So our capacity is going to ramp up as we move into next year and I think that's going to be key, because we can really take advantage of the values if there is a dislocation. And again we've got the flexibility that we can pivot our barrels and we can supply our great customers, our domestic refiners. But then we can also supply the international markets as well. So we've got a full range in our portfolio there. Leo." ] }, { "name": "Leo Mariani", "speech": [ "Okay. Well, that's great color. Maybe just on that point, do you think there is a decent chance or could be dislocations over the next couple of years. Just want to get a sense how you're thinking about that piece?" ] }, { "name": "Lance Terveen", "speech": [ "Yeah, I'm not going to speculate. I think you're definitely seeing when you look at the four curves, you can see kind of the brand MEH spreads and that's right around $3. So it definitely shows that the export arm is open. But I think for us, you've seen, we talked about in the opening comments too about the Permian, kind of the Gulf Coast spreads have definitely narrowed. So yeah, I think really where you could possibly see the price dislocation is that you've got a lot of oil that's going to show up at Corpus and there's going to be some players that aren't going to have secured dock capacity. And so there could be a dislocation that occur there. But as it relates to EOG and what we've done, we've went ahead and kind of take that, we took that variable kind of out of play as we think about our growth and our capacity ramping up and how we're going to place barrels into the export market." ] }, { "name": "Operator", "speech": [ "And our next question today comes from Paul Sankey of Mizuho Securities, please go ahead." ] }, { "name": "Paul Sankey", "speech": [ "Good morning all. Just trying to bring together everything that you've talked about this morning. Bill, I was wondering, just in terms of your competitive position against the oil industry as opposed to the whole market, where do you think you are furthest ahead of the industry and where do you think there's furthest to go? And obviously, I'm talking about the various components of your business, whether it's the acreage, the exploration, drilling fracking, operating, transport and even decline rates? Thanks." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, good morning, Paul. Yeah, clearly the competitive advantage that EOG has is our culture, our culture is just amazing, it really drive all the success of the company. We have tremendous assets because the culture built out over the years through our exploration efforts, we have tremendous cost reduction, continuous sustainable cost reduction because our culture never", "is satisfied. It's just continually innovative and continues to figure out better ways to run our business. So really the confidence that we have about the direction of the company to be able to be very successful, even with oil prices in the 40s is really due to our culture. And of course that's supported by a lot of different things. We have a -- we have a core competency obviously an exploration, we've got a core competency in operations, we drill the wells the fastest in the US in the lowest cost. We have a lead and completion technology. We have by far the most advanced information technology system that where we can make real-time decisions continuously across the company. And the real value of the company is coming from every person in the company. The value of EGO is not top down driven, it's really from every person in the company. So that's where we have the lead and that is not easily duplicated. It's taken us three decades to build the culture where it is right now and we believe our culture is improving as we go forward. So we're super excited about where EOG is and where we're headed." ] }, { "name": "Paul Sankey", "speech": [ "Thanks, Bill. If I could make it much more specific. Could you just talk a bit more about the defracking, that seems to be very interesting? Thank you." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, Paul, I'm going to let -- ask Billy to comment on that." ] }, { "name": "Billy Helms", "speech": [ "Yeah, Paul. As far as defracking goes, we got into the, into the idea of utilizing the electric frac fleets, mainly because we are attracted by the efficiency gains as well as the cost reduction. The efficiency gains is what really we view as being sustainable to help lower our cost long-term. And that has continued to get better with continued use. We've got four of those frac fleets operating today in the Eagle Ford and the Delaware Basin. And we're always looking for ways to continue to utilize our infrastructure to enable that to be spread into other plays.", "So I think as you look forward, we will look for opportunities to continue to put those in new plays. It's unique in that the fuel savings are mainly achieved through not only the cost of the gas, but really our ability, the ability of our facility teams to get ahead of the completions and come out with innovative solutions to get the gas readily available to the frac fleets. And without that infrastructure and those teams enable to do that, we wouldn't be able to take advantage of it to the extent that we are, so just super proud of that effort and where it's taken us." ] }, { "name": "Paul Sankey", "speech": [ "Yeah, just a quick follow-up, could you talk about the capacity of that and also I think you mentioned how big you are in the market, could you just repeat, how much of it you are dominating? Thanks." ] }, { "name": "Bill Thomas", "speech": [ "Yeah, I think what we're hearing and certainly this number might move a little bit, but there is currently about 11 frac fleets available in the market today. We're using about four of those. And then our frac fleet count varies week-to-week, but it typically run at about 16 frac fleets 15 or 16, so it's about a quarter of our frac fleet in the company." ] }, { "name": "Operator", "speech": [ "And ladies and gentlemen, this concludes our question-and-answer session. I'd like to turn the conference back over to Mr. Thomas for any final remarks." ] }, { "name": "Bill Thomas", "speech": [ "In closing, I first want to say thank you to everyone at EOG for their tremendous contribution to our performance in the first half of 2019. We are proud and honored to be on the same team. The company is performing at the highest level in history, and we continue to improve every quarter. We're excited about the second half of the year and the years beyond. We're focused on returns and creating significant long-term value. Well, thanks for listening, and thanks for your support." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
JPM	2020-01-14	[ { "description": "Chief Financial Officer", "name": "Jennifer A. Piepszak", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "James Dimon", "position": "Executive" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Keefe, Bruyette & Woods -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Vining Sparks -- Analyst", "name": "Marty Mosby", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" }, { "description": "Bloomberg Intelligence -- Analyst", "name": "Alison Williams", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's Fourth Quarter 2019 Earnings Call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation, please standby.", "At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO, Jamie Dimon and Chief Financial Officer, Jennifer Piepszak. Ms. Piepszak, please go ahead." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Thank you, Operator. Good morning, everyone. I'll take you through the presentation which, as always, is available on our website and we ask that you please refer to the disclaimer at the back.", "Starting on Page 1, the firm reported net income of $8.5 billion, EPS of $2.57, and revenue of $29.2 billion, with a return on tangible common equity of 17%. Underlying performance continues to be strong. Deposit growth accelerated in the fourth quarter across Consumer and Wholesale with average balances up 7% year-on-year.", "We saw solid loan growth with Card and AWM being the bright spots as average loans across the Company were up 3% year-on-year, excluding the impact of home lending loan sales from prior quarters.", "Client investment assets in Consumer & Business Banking were up 27% and Asset and Wealth Management, AUM, was up 19%, reflecting stronger market performance versus the prior year as well as organic growth. We ranked Number one for the full year in global IB fees with 9% wallet share and growth IB revenue in the Commercial Bank was a record $2.7 billion.", "In CIB markets, we were up 56% year-on-year compared to a weak fourth quarter last year. However, it's important to note the quarter was very strong in absolute terms, in fact a record fourth quarter. And credit performance continues to be strong across the Company.", "On to Page 2 and some more detail about our fourth quarter results. Revenue of $29.2 billion was up $2.4 billion or 9% year-on-year with net interest income down $220 million or 2% on lower rates, largely offset by balance sheet growth and mix and higher CIB Markets NII. Non-interest revenue was up $2.6 billion or 21% on higher revenue in CIB markets and AWM and continued strong performance in home lending and auto.", "Expenses of $16.3 billion were up 4% on volume and revenue-related costs. Credit remains favorable with credit costs of $1.4 billion, down $121 million or 8% year-on-year, reflecting modest net reserve releases and net charge-offs in line with expectations.", "Turning to the full-year results on Page 3; the firm reported net income of $36.4 billion with EPS of $2.72 and revenue of $118.7 billion, all records and delivered a return on tangible common equity of 19%. Revenue was up $7.2 billion or 6% year-on-year with net interest income up $2.1 billion or 4% on balance sheet growth and mix as well as higher average short-term rates, partially offset by higher deposit pay rates. Non-interest revenue was up $5.1 billion or 9%, driven by growth across Consumer and higher CIB markets revenue and expenses of $65.5 billion were up 3% year-on-year, driven by continued investments as well as volume and revenue-related costs, partially offset by lower FDIC charges.", "Revenue growth and our continued expense discipline generated positive operating leverage for the full year. And on credit, performance remained strong throughout 2019. Credit costs were $5.6 billion. In Consumer, credit costs were up $210 million reflecting an increase in card due to balance growth, largely offset by lower credit costs in home lending,. And in wholesale, we were up $504 million, largely due to reserve releases and higher recoveries both in 2018.", "Moving to the balance sheet and capital, on Page 4; we ended the fourth quarter with the CET1 ratio of 12.4%, up slightly versus last quarter. The firm distributed $9.5 billion of capital to shareholders in the quarter, including $6.7 billion of net repurchases and a common dividend of $0.90 per share. And while on the topic of capital, it's worth noting, given the actions we have taken, we fully expect that we will remain in the 3.5% GSIB bucket.", "Before we move into the business results, I'll spend a moment talking about CECL on Page 5. As you know, the transition to CECL was effective on January 1st and therefore there is no impact to our 2019 financials. On the page is the CECL adoption impact and overall net increase to the allowance for credit losses of $4.3 billion, which is at the lower end of the range we provided.", "This was driven by an increase in consumer of $5.7 billion mostly coming from card, partially offset by a decrease in Wholesale of $1.4 billion. In Cards, the increase is a result of moving to lifetime loss coverage versus a shorter loss emergence period under the current model, whereas in wholesale, modeling changes like using specific macroeconomic forecasts versus through-the-cycle loss rates under-incurred result in a decrease, especially given the forecast of credit environment.", "Recognition of the allowance increase has resulted in a $2.7 billion after-tax decrease to retained earnings, as you can see on the page. Also important to note, we have elected to use the transition approach to recognize the impact on capital.", "And now turning to the businesses, we'll start with Consumer Community Banking on Page 6. In the fourth quarter, CCB generated net income of $4.2 billion and an ROE of 31% with accelerating deposit growth of 5%, client investment assets up 27% and total loans down 6%. For the full year, results in CCB were strong with $16.6 billion of net income, up 12% and an ROE of 31% on revenue of $55.9 billion, up 7%. Fourth quarter revenue was $14 billion, up 3% year-on-year.", "In Consumer & Business Banking, revenue was down 2%, driven by deposit margin compression, largely offset by strong deposit growth and higher non-interest revenue on the increasing client investment assets as well as account and transaction growth. Home Lending revenue was down 5%, driven by lower NII on lower balances which were down 17% reflecting prior loan sales and lower net servicing revenue predominantly offset by higher net production revenue, reflecting a 94% increase in origination.", "And in Card, Merchant Services & Auto; revenue was up 9% driven by higher card NII on loan growth as well as the impact of higher auto lease volumes. Cards loan growth was 8% with sales up 10%, reflecting a strong and confident consumer during the holiday season. Expenses of $7.2 billion were up 2%, driven by revenue related costs from higher volumes as well as continued investments in the business, including market expansion, largely offset by expense efficiencies.", "On Credit, this quarter's CCB had a net reserve release of a $150 million. This included a release in the home lending purchase credit impaired portfolio of $250 million, reflecting improvements in delinquencies and home prices which was partially offset by a reserve build in card of $100 million driven by growth. Net charge-offs were $1.4 billion largely driven by card and consistent with expectations.", "Now turning to the Corporate & Investment Bank on Page 7; for the fourth quarter, CIB reported net income of $2.9 billion and an ROE of 14% on revenue of $9.5 billion, a strong finish to the year. For the full year, CIB delivered record revenue of $38 billion and an ROE of 14%. In Investment Banking, IB fees reached an all-time record for the full year.", "We maintained our number one rank in global IB fees and grew share to its highest level in the decade. For the quarter, IB revenue of $1.8 million was up 6% year on year, outperforming the market which was flat. Advisory fees were down 3% following a record performance last year.", "On a sequential-quarter basis, fees were up meaningfully as we benefited from the closing of some large transactions, and for the year, we ranked number two and gained share. Debt underwriting fees were up 11% year-on-year due to higher bond issuance activity as clients accelerated their funding to take advantage of attractive pricing conditions to strengthen their balance sheets.", "And for the year, we maintained our number one rank overall and we were number one from these acquisitions in both high-yield bonds and leveraged loans. Equity underwriting fees were up 10% year-on-year, reflecting strong performance in the U.S. and Latin America.", "The new issuance market continue to be active, and for the year we ranked number one in equity underwriting as well as IPOs. Our overall pipeline continues to be healthy and strategic dialogs with clients is constructive, equity markets remain receptive to new issuance and the rate environment is favorable for debt issuance.", "Moving to markets; total revenue was $5 billion, up 56% year-on-year, driven by record fourth quarter revenues in both fixed income and equity markets. Fixed income markets was up 86% benefiting from a favorable comparison against the challenging fourth quarter last year, but also reflecting strength across businesses, notably in securitized type products and rates driven by strong client activity and monetizing flows.", "Equity markets was up 15% driven by strength across cash and prime. Treasury services revenue was $1.2 billion, down 3% year-on-year primarily due to deposit margin compression, which was largely offset by organic growth. While Security services revenue was $1.1 billion [Phonetic], up 3%. Expenses of $5.2 billion were up 12% compared to the prior year with higher legal, volume and revenue related expenses, as well as continued investment.", "Now moving on to Commercial Banking on Page 8; Commercial Banking reported net income of $938 million and an ROE of 16% for the fourth quarter, and for the year $3.9 billion of net income and an ROE of 17%. Fourth quarter revenue of $2.2 billion was down 3% year-on-year with lower deposit NII on lower margins, largely offset by higher deposit fees and a gain on the strategic investments.", "Gross investment banking revenues were $634 million, up 5% year-on-year, driven by increased large-scale activity. Full year IB revenue was a record $2.7 billion, up 10% on strong activity across segments with record results for both middle market and corporate client banking. Expenses of $882 million were up 4% year-on-year, driven by continued investment in banker coverage and technology.", "Deposit balances were up 8% year-on-year as we continue to see strong client flows. Loan balances were up 1% year-on-year. C&I loans were up 2% driven by growth in specialized industries and expansion markets, partially offset by the run-off in our tax exempt portfolio. CRE loans were up 1% where we continue to see higher originations in commercial term lending, driven by the low rate environment, offset by declines in real estate banking as we remain selective given where we are in the cycle.", "Finally, credit costs were $110 million and NPL rate of 17 basis points, largely driven by single names which was reserved for in prior quarters. Underlying credit performance continues to be strong.", "Now on to Asset Wealth Management on Page 9; Asset Wealth Management reported net income of $785 million with pre-tax margin of 28% and ROE of 29% for the fourth quarter. And for the year, AWM generated net income of $2.8 billion with both pre-tax margin and ROE of 26%. Revenue of $3.7 billion for the quarter was up 8% year-on-year as the impact of higher investment valuations and average market levels as well as deposit and loan growth were partially offset by deposit margin compression.", "Expenses of $2.7 billion were up 1% year-on-year. And for the quarter, we saw net long-term inflows of $14 billion driven by fixed income and multi-asset and we had net liquidity inflows of $37 billion. AUM of $2.4 trillion and overall client asset of $3.2 trillion, both records, were up 19% and 18% respectively, driven by higher market levels as well as continued net inflows into long-term and liquidity products. Deposits were up 8% year-on-year, driven by growth in interest-bearing products. And finally, we had record loan balances, up 8% with strength in both wholesale and mortgage lending.", "Now on to Corporate on Page 10; Corporate reported a net loss of $361 million. Revenue was a loss of $228 million for the current quarter, driven by approximately $190 million of net markdowns on certain legacy private equity investments. Sequentially, revenue was down $920 million due to lower rates, the benefit recorded in the prior quarter related to loan sales, as wells as the PE losses I just mentioned. Year-on-year revenue was down also primarily driven by lower rates. Expenses of $343 million were down $165 million year-on-year due to the timing of our contributions to the foundation in the prior year.", "And turning to Page 11 for the outlook; at Investor Day, as always, we'll give you more information on the full-year outlook. However, for now, I'll provide some color and reminders about the first quarter. We expect NII to be approximately $14 billion, market-dependent; adjusted expenses to be about $17 billion. And as a reminder, the effective tax rate in the first quarter is typically impacted by stock compensation adjustments, and as a result, it's currently estimated to be approximately 17% since the managed tax rate is about 500 basis points to 700 basis points higher.", "So to wrap up; 2019 was a year of record financial performance across revenue, net income and EPS. Our outlook heading into 2020 is constructive, underpinned by the strength of the U.S. Consumer. And despite expected slower global growth and the backdrop of geopolitical uncertainties, we remain well positioned as we continue to build on our scale and benefit from the diversification of our business model.", "And with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] Our first question comes from Ken Usdin of Jefferies." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi, Ken." ] }, { "name": "Ken Usdin", "speech": [ "Thanks, good morning. Hi, Jen, how are you? Jen, I was wondering if -- in terms of the NII outlook, you talked about the $14 billion level, obviously getting to a point of stability. Can you help us -- outside of day count, can you help us understand just where we are in terms of repricing of the balance sheet? What happens if rates generally stay flat from here, just in terms of rate side of the equation, if we hold volume aside?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. As we look at rates paid, on the retail side, we didn't obviously have repriced on the way up. And so there is little to do on the way down. In fact there from a rate paid perspective, we continued in the fourth quarter to see rates paid tick up a little bit on migration from savings to CDs.", "And then on the wholesale side, we did see rates paid come down, as you would expect and we did see betas accelerate after the second cut. So there we saw more, more of a decline in CIB than we did in CB or AWM as you might expect. Importantly though, as we always say on the wholesale side, we price client-by-client. And so we're not going to lose any valuable client relationships over a few ticks of beta.", "And then, I would just say, in terms of the outlook, with the Fed on hold, the implied do still had one cut later in 2020. And based on the latest implied, we'll give you more detail at Investor Day, as we always do, but I would say NII for the full year of 2020, flat to slightly down as the headwinds from rates will be offset with balanced growth." ] }, { "name": "Ken Usdin", "speech": [ "Yeah, got it. And just one question on just the volume side of things, ex the mortgage loans, sales last year, you were still in that like 3% core growth and obviously you talk a lot about this, the environment and how there's been some settling out, but at a lower level. Just, what's the status at just corporate and commercial customers now that we're closer to Phase 1 getting finalized, UMCA [Phonetic] is on the table? What's the -- what's the backdrop of just economic activity as you guys see it." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, the fourth quarter definitely, I would say, stabilized. Things trade certainly stabilized. Things, broadly speaking, stopped getting worse and so, we saw sentiment improve a bit, which I think contributed to the overall success of the fourth quarter. And then, certainly there are some puts and takes. I mean the U.S. consumer remains in very strong shape both from a credit perspective sentiment spending. Obviously labor market is very strong and the Fed and the ECB on hold, and then capital spending is still a bit soft, but sentiment is at least, certainly better than it was six months ago. So we have a, broadly speaking, constructive outlook headed -- as we're heading into 2020 here." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi, good morning. I have a question on credit and CECL. And you guys have been pretty clear that your business decisions are based on economic outcome -- economic outcomes and not accounting outcomes and -- but CECL does materially change the way in which timing -- change the timing in which earnings accrete to book value and capital, obviously with a higher upfront hit. But you guys have also been shifting your loan book pretty materially toward cards, which have a much higher loss content than your total book.", "So I guess a two-fold question. One is, how do we think about provisioning in this context, should we think provisioning is going to be well above charge-offs as your reserve ratio moves up, because I would think your ALLL ratio post CECL adoption, which is I think is about 1.8 1.9, it should move up as cards, which have a much higher loss content and that continue to grow in the mix. So just how do we think about provisioning in the context of the mix shift and CECL's adoption?", "And then, I guess secondly, if there is a change in the macro environment and the credit environment does get worse and if CECL -- that inflection goes to your reserves and your provisioning, is there a point where CECL actually does change the way you think about pricing and underwriting in that environment?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So I'll start with the provisioning. So look, I think it's fair to say under CECL you could have incremental volatility given that reserves are more dependent on specific macroeconomic forecasts. But there, that would depend of course on our ability to have foresight into the timing and extents of those downturn.", "in Cards specifically, as you say, in any one period of growth or a downturn, you could see an increase in reserve in the sense that we're taking life of loan versus the next nine or 12 months. So, that's true.", "And then on the Wholesale side, you could see some differences of course, because there are modeling differences between specific macroeconomic forecasts and through the cycles. Having said that, we continue to believe [Phonetic] that that incremental volatility would be material for us. And of course net charge-offs are not changing. And then from a price perspective, we don't foresee in the near term any pricing changes. The cash flows with the customer have not changed. And so we don't see any, but it is true, as you rightly pointed out that there is an increased cost of equity in the sense that we're taking reserves upfront versus through time. So over time you could see that, but we're not expecting it in the near term." ] }, { "name": "Saul Martinez", "speech": [ "Got it. I guess on the provisioning side. My question is more just on an ongoing basis is the mix changes more toward higher loss content lending, which obviously has higher margins and higher profitability through the -- over the course of the loan. But like in that context, I would -- is it fair to say your provisioning levels also could be materially above your charge-offs because I would think that your reserve ratios, your ALLL ratios do have to move up as that mix changes on your balance sheet it?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "It could be -- it could be important. So that's just timing, particularly on the card side, it's just timing. But it's difficult to know, again, because it relies on our ability to have perfect foresight into the timing and extent of a downturn." ] }, { "name": "Saul Martinez", "speech": [ "Got it. No, that's fair. Thanks a lot. Appreciate it." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Our next question comes from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi, Erika." ] }, { "name": "Erika Najarian", "speech": [ "So, I was hoping to get a little bit more credit on what happened in the quarter to produce such stellar results. Understand that obviously the fourth quarter ' 18 comp was light, but $3.4 billion is still a pretty heavy number for a fourth quarter for JPMorgan. So, any color you could provide would be very helpful Jennifer?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So you're taking about markets, Erika?" ] }, { "name": "Erika Najarian", "speech": [ "Markets, thank you." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. Okay, sure. So there -- at Goldman, in early December, I did say we expect it to be up meaningfully. I would say the performance was broad based. In rates we call out securitized products -- I'm sorry, in fixed income, we call out securitized products in rates which were bright spots. But broadly speaking, obviously equities had a very strong quarter as well. So it's really across the franchise and we saw very strong client flow and we had $0.06 monetizing those flows, so just a very healthy environment for us and really strong performance." ] }, { "name": "Erika Najarian", "speech": [ "Got it. My follow-up question is that a quarter ago or -- and two quarters ago, the revenue backdrop for banks in general, when the outlook was starting to deteriorate. And I think management had got -- gave us some color that you'll continue to invest your efficiencies and initiatives, no matter what the changes are in the revenue environment. But you could cut back on certain expenses if revenue environment was changing. That being said, your revenue production seems to always outperform to the upside. So as you think about 2020, is the best way to think about expense is just at 55% overhead ratio?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "So look, on the efficiency ratio, I would say that, we run the Company with great discipline, whether it's relentlessly pursuing expense efficiencies or investing with discipline through the cycle. But because the efficiency ratio is an outcome, not an input and is about expenses and revenue, we're not going to give a target for any one year. We think about operating leverage over time and as we always say we're not going to change the way we run the Company for what could be temporary revenue headwinds.", "And on expenses, I would just say that at Investor Day last year, Marianne told you that we expected the cost curve to flatten post 2019 and 2019 adjusted expenses were up 3%. 2020, we expect them to be up less than that." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Mike Mayo", "speech": [ "Hi." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi Mike." ] }, { "name": "Mike Mayo", "speech": [ "Is Jamie on the call?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes." ] }, { "name": "Mike Mayo", "speech": [ "I'm sorry?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, he is. Yeah." ] }, { "name": "Mike Mayo", "speech": [ "Okay. So I just -- a question for Jamie, because in the first paragraph you mentioned easing trade issues helped market activity and I know this is a very simple question, but can you talk about the connection between easing trade issues and better trading and you said that was better toward the end of the year. Is this something that you expect to remain or is this a one-off quarter." ] }, { "name": "James Dimon", "speech": [ "Yeah, that's a hard question, Mike. So the obviously [Indecipherable] a lot of consternation that has eased off a little bit. I don't think we seen it completely go away. So you still have potential ongoing trade issues with China and Europe and stuff like that. But I think because that sentiment got better trading got better. But for how long that continues, we don't know." ] }, { "name": "Mike Mayo", "speech": [ "And then, Jennifer, you mentioned expense growth was 3%, it should be less than that this year. You guys had also mentioned that your technology spending might be leveling off. So as that levels off maybe you see paybacks from prior investment, any sense of where tech spending will be this year versus the prior year and how you think about that. And I know we'll get more at Investor Day." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure, of course. So I think you can think about tech spendings on a fully loaded basis being in line with what I described for the company. And we continue to realize efficiencies from investments in tech. but as you well know, we continuously invest in tech and so there is a fair amount of velocity in the investment portfolio there as investments roll off and we're investing in technology and innovation. So you can think about tech spending as being broadly in line with how I describe the Company in terms of trend." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Two questions, one on asset growth. In the last couple of years fourth quarter, you have to go through this exercise of trying to squeeze down to hit the GSIB target. And then in addition, this year, I think you sold some residential mortgage loans to investors or at least the investors are taking the risk of it and then you're requesting to have regulatory capital reflect that transfer of risk to an investor pool while you're keeping the customer relationship.", "When I see these things, I'm wondering how you're thinking about how much room you have for asset growth as we go into 2020 and is there an opportunity to potentially do more of this residential mortgage loan trade to free up space for growth. Maybe you could speak to that." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So I mean we're bound by the standardized capital and so, of course, that is a consideration for us and one of the reasons that we're looking to structure loan sales as you described in the mortgage business. So we think that there is more we can do there. And then on GSIB, we remain hopeful that we will see the refinements there and recalibration that the Fed has been talking about for some time because that will become increasingly difficult. So, both are, at the margins, constraints for us, But broadly speaking, I wouldn't say that we're constrained given where we are on our capital ratios." ] }, { "name": "Betsy Graseck", "speech": [ "And as I think about CECL, appreciate the commentary you had earlier on the call. I'm just wondering, a couple of things; one, why do you think you ended up toward the low end of your $4 billion to $6 billion increase in reserves that you outlined earlier. And what kind of estimates you have for the economic outlook? You've got the assumption for the economic outlook in the reasonable supportable period etc. And so, I'm just trying to understand what kind of forecast you have in your model so that I understand what's embedded in your scenarios and in your ALR ratio?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, we -- I think we ended up at the low end, as we -- through the year, continue to get more certainty around what the macroeconomic forecasts were going to look like. And so I think that's really what's driving it. Obviously, portfolio mix as well continue to be very strong in terms of performance of the portfolio.", "And then, on the estimates for the economic outlook, as you rightly say, there is the reasonable and supportable period which for us is two years. And so, we do use multiple weighted scenario there. So we weight multiple scenarios with the one most likely getting the greatest weight and that's where you went up with what looks like a reasonably benign outlook for the reasonable and supportable period which also obviously would contribute to us hitting the low end of the range." ] }, { "name": "James Dimon", "speech": [ "And Jen, are we going to disclose some of those variables over time?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "that's a great point Jamie. I should have said that. Yes, we -- I mean there will be more disclosure about CECL in the Q for the first quarter." ] }, { "name": "James Dimon", "speech": [ "Which means all the banks will be showing these ridiculous forecasting going forward and the differences and we'll spend time talking about that as opposed to the actual business." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Right." ] }, { "name": "James Dimon", "speech": [ "But we'll disclose it. You need to know to make it clear what we're doing and why we're doing it." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "That's right. So you'll see more in the Qs." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi Matt." ] }, { "name": "Matt O'Connor", "speech": [ "Two quick follow-ups to some themes that have been talked about. I guess first on expenses, the full-year outlook was pretty clear. Less than 3% growth, but the first quarters seems a little bit higher than maybe I would have thought, up 4% year-over-year and I don't know if that's just rounding and I'm getting too obsessed over $100 million here or there or if you are upfronting some investment spend, and if so what that's for?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, the first quarter tend to be a bit higher for us, if you look through history and so -- but there, you can think about it, comparing it year-over-year. We have volume and revenue related expenses increasing, a bit of an increase on investments, but both are being partially offset by expense efficiency." ] }, { "name": "Matt O'Connor", "speech": [ "Okay. And then the other follow-up question is just on capital allocation. Obviously, it's a good problem to have. But the ratio just keep going up, the capital generation keeps going up. The stock keeps going up. You're obviously buying back a lot of stock. The goal is to get the dividend, I think, higher over time. But maybe just talk about how you think about buying back stock at these levels. If there is other call it, creative uses of capital. Like, I would think about all the money you spend on technology. Does it make sense to buy technology versus do it organic? So, just maybe address some of those things. Thank you." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So on that ratio, I'll just remind you that of course we have our capital distribution plan approved once a year. And so since our last CCAR filing, we have realized some RWA efficiency and we've out-earned relative to the assumptions in the CCAR filings. And so that's part of the reason why we've seen the ratios load up there.", "On stock buybacks, you know as you rightly point out, our first priority is always going to be to invest for organic growth. And so we are always looking to do that, first and foremost. And then, to have a competitive and sustainable dividend and only then do distribute excess capital to shareholders through buybacks and we have said that it makes sense to continue to do that at or above 2 times tangible book which is about where we are now.", "We will obviously, when distributing excess capital, always be looking at the alternatives. But at a 17% ROTCE and 2% or 3% dividend payout ratio, there is a high bar to the alternative." ] }, { "name": "James Dimon", "speech": [ "And yeah, you're absolutely right about acquisitions, we did do InstaMed this year, which hooks up electronics -- InstaMed hooks up providers and consumers of healthcare, while, I think the numbers are like 80% or 90% is still done by check. So if there are opportunities like that, we absolutely will be on hunt for them." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "That's right, WePay last year. Yeah." ] }, { "name": "James Dimon", "speech": [ "And WePay the year before." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yeah." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Hi Jennifer." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "A question on credit, you obviously put up some really good numbers, once again, on credit quality and I noticed that you had a nice material decline in the wholesale non-performing assets quarter-to-quarter. Can you give us any color on what brought that down and could you tie in also any concerns that you may have about the energy portfolio. I know it's not material, but there is some concerns out there about energy credits." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, on wholesale non-performing loans in the CIB. That was some name-specific upgrades that we had in the CIB. And then in the commercial bank that was related to charge-offs taken in the quarter. And then, on energy, really nothing there semantically, I would say like any sector we have upgrades and downgrades and this quarter was no exception. But I wouldn't say anything semantically in our portfolio that we're concerned about." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then, I don't know if I heard you correctly on the last answer to the stock repurchase program. I understand of course it's driven by your CCAR results. But if the price of the stock, and that's a good problem to have, gets to a level that you consider to be too high.", "I think you may have said 2 times tangible book value, what then happens if the price, if it gets to a point where you guys think it's just too high to buy it back, what do you do with the excess capital at that point? Have you given that much -- and again, that's a good problem to have. I understand that. But have you given any thought to that?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure, we give a lot of thought to it. And I agree, it is a high-class problem. And so, we said that at or above two times tangible book makes sense. If it continues to go up, we're going to continue to look at alternatives. Most importantly, within the Company in terms of how we should really think about the returns on buying our stock back at a higher level versus perhaps thinking about the returns a bit differently in terms of organic growth. Jamie, I don't know if there is anything you want to add?" ] }, { "name": "James Dimon", "speech": [ "No, you said it all." ] }, { "name": "Operator", "speech": [ "Our next question is from Steven Chubak of Wolfe Research." ] }, { "name": "Steven Chubak", "speech": [ "Hi, good morning. So Jennifer, wanted to start with a question on capital. Quarles indicated in a recent interview that he plans to implement the bulk of the SEB in 2020 CCAR. Also alluded to the possibility of deploying a counter-cyclical buffer as part of that. I'm just wondering if the counter-cyclical buffer is actually deployed or incorporated within the test. Is that something that's underwritten as part of your 12% CET1 target and are you anticipating changes to the GSIB coefficient calculations that you alluded to earlier in the call as part of the coming cycle as well." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Thanks, Steven. So, I mean, you touched on a number of things that are all important and I think what's most important to us is that we end up with a cohesive framework across all of them. The comment from the Vice-Chair has been constructive in the sense that he always reiterate that he thinks the level of capital in the system is about right. And so we'll have a firmer view when we see a final rule. As you say, we do expect to see something in 2020 based upon the comments that we have heard, just like you have and we expect that our 12% target will not be impacted because we do constructively hear the Vice Chair say over and over that the amount of capital in the system is about right. And then, but we didn't have a firm view until we see the final rule.", "And then, on GSIB we remain hopeful that we're going to see the refinements that the Fed has been talking about, perhaps not full recalibration until Basel IV, which is what the Vice Chair recently said. But, certainly, there are a number of refinements that we've been talking about and the Fed has been talking about for year and that we remain hopeful that we'll see them very soon." ] }, { "name": "Steven Chubak", "speech": [ "Thanks for that color. Jennifer. And just one final one from me. We saw really strong FIC results as well as really strong institutional deposit growth. I was hoping you could speak to what impact the Fed balance sheet growth is actually having on all of your different businesses or how that's manifesting, because it seems to be providing a pretty nice tailwind whether it's some increased activity as well as some benefit in terms of deposit growth that you're seeing across the overall franchise but institutional in particular." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So you're absolutely right. On the wholesale side, the Fed balance sheet extension was for sure a tailwind for us, although I would say, the more meaningful portion of our deposit growth on the wholesale side in the quarter was from strong organic growth in client acquisition [Technical issue] was a tailwind. And elsewhere I would say, obviously it was the right thing to do and provided stability in the repo markets throughout the quarter." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hey, good morning. Quick question on the deposit costs, could you just break down maybe by segment where the big drivers were, that saw -- you saw have the big reduction in deposit costs linked-quarter. Was that in security services, was it the wealth management?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. Sure, Brian. So on that, I'll start with retail where we saw rates paid tick up a bit and that's on migration from savings to CDs. We have seen CD pricing come off its peak, but continuing migration from savings to CDs. And then, on the wholesale side, you see bigger declines in rates paid in treasury services for sure and then a little bit less so in the commercial bank and AWM.", "And again, as we always say, these are name specific client by client decisions. And while we feel good about where we are, these are decisions we make client by client and we're certainly careful and have a lot of discipline not going to lose valuable relationships over a few ticks of beta." ] }, { "name": "Brian Kleinhanzl", "speech": [ "And then, a separate question. In the Commercial Bank, I mean you're seeing loans come down quarter-on-quarter for end of period and generally modest growth year-over-year. I mean what's the sentiment now in the middle market and the corporate client. Is it a sentiment issue? Is it just timing issue there for seeing better loan growth?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So there are obviously some puts and takes which I'll run through, but broadly speaking, I would say, what we're seeing is more a function of our own discipline than it is a function of demand. And in C&I, we feel good about the growth that we're seeing in the areas where we're focused, in specialized industries and market expansion, but of course, that's offset partially by the tax-exempt portfolio that's running off. And then in CRE, good growth in commercial term lending as we continue to have opportunity there, given the rate environment and then that is offset by real estate banking where we are very disciplined, given where we are in the cycle." ] }, { "name": "James Dimon", "speech": [ "I would just add. When capital expenditures come down, all things being equal, which they're not, but all things being equal, you're going to see a reduction in some lendings as companies need less money to pay off receivables and inventory and plant and equipment." ] }, { "name": "Operator", "speech": [ "Our next question is from Glenn Schorr of Evercore ISI." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hello there, hi. A quick question on open APIs and what the big picture is here and how it impacts you and the rest of the banking industry meaning there is concerns over data security and things like that, but JPMorgan has some -- plenty of agreements with some of the bigger providers. I'm just curious to get your big picture thoughts on what level concern should we have and what's the good and the bad.", "Yeah. I mean there, I would say, Glenn, our customers' data privacy and security is of utmost importance to us. And we think over time the best way for us to do that as securely as we can is to have third-party apps only access data through our APIs. And so we are working name by name to get those agreements in place. And we hope, through time that is exclusively the only way that third parties can access our customers' data. We think that's the most secure way to do it." ] }, { "name": "James Dimon", "speech": [ "But very importantly, is that, that data is the data the customer agrees to give them on the basis they agree to give it to them is not unlimited access to customer data and the customer will have the ability to turn it off as opposed to today, if you gave you bank passcode to someone, they're taking your data every day, maybe even every minute and you don't even know about it because you forgot." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Great point. And we're going to make it super easy for our customers to be able to do that." ] }, { "name": "Glenn Schorr", "speech": [ "So you will give them the tools to control that." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, you can imagine a dashboard, where they will have the..." ] }, { "name": "James Dimon", "speech": [ "That is the full intent." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yeah." ] }, { "name": "Glenn Schorr", "speech": [ "And then, just curious if you've seen any follow-on impacts that you've seen some repricing on parts of the illiquid markets and for specifically some of the unprofitable parts of those companies, and is that just the repricing and everybody that owns them will take some hits a little bit slower progress on banking front and that's it or is there anything bigger there to worry about with what's going on in the illiquid side." ] }, { "name": "James Dimon", "speech": [ "Are you taking about the private companies?" ] }, { "name": "Glenn Schorr", "speech": [ "Yes, I am, sorry." ] }, { "name": "James Dimon", "speech": [ "Yeah, look, there are a lot of private companies, lot of them do well, some don't, some have failed. Some have access to capital now and they wouldn't have access to capital in a downturn, but it's not a systemic issue. It's just -- in the capital market there are a lot of private companies and -- so I don't think it's that big a deal. You just have an adjustment in access to capital that will happen periodically." ] }, { "name": "Operator", "speech": [ "Our next question is from Marty Mosby of Vining Sparks." ] }, { "name": "Marty Mosby", "speech": [ "Thank you. Jennifer, you were kind of foreshadowing lower tax rate as you kind of move into the first quarter and then the tax rate here in the fourth quarter was a little bit lower than what we expected. Is there anything that's permanent here or are there some things that are just kind of rolling through these two quarters?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yeah, there -- I wouldn't say there's anything permanent there. The first quarter is typically lower for us Marty. You can think about full-year '20 as been 20% plus or minus, and of course that would depend on any non-recurring items we might have or any change in regulation. But 20% plus or minus, and then of course that managed tax rate is typically 500 to 700 basis points higher than that." ] }, { "name": "Marty Mosby", "speech": [ "And then a bigger question, when we came into 2018, the net interest margin was around 2.5% and then now as we are coming out of 2019, the net interest margin has fallen below 2.4%. So interest rates went up a 100 basis points and then down 75 basis points and we've netted down a negative 10 basis points. So I was just curious on that path, it's either the way the Fed kind of inflected very quickly that created a little bit more pressure in the net between deposit pricing a loan pricing or do we think that this is probably just some of the competition that came in after the tax reform and maybe this is just the evidence of some of that competition with the increased profitability that we got from the benefit from the taxes?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yeah. So there, I would say Marty, on that -- sort of the last several hikes, there were some catch-up there because we know we had some lags on reprice in the rising rate environment. So if you're just looking at the last few high, the betas would certainly be higher than what we're seeing in terms of the first three eases here. But broadly speaking on NIM, I mean we don't -- NIM is an outcome for us, not an input and as we think about looking forward, certainly the environment is very competitive, it always has been. And NII, the outlook for 2020 is, at this point, based upon the implied flat to slightly down and we do expect balance sheet growth." ] }, { "name": "Operator", "speech": [ "Our next question is from Andrew Lim of Societe Generale." ] }, { "name": "Andrew Lim", "speech": [ "Hi, morning, thanks for taking my questions. Wondering if you can give a bit more color on your markets performance there, obviously it's done very well. Geographically though, is there much more weighting there on the U.S. versus Europe and APAC." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "I would say Andrew that it was broad based. We can have Jason and team follow up specifically on a geographic breakdown. But, but it was -- it was largely broad based." ] }, { "name": "Andrew Lim", "speech": [ "Right. And would you say with confidence that you're gaining market share in both territories there?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Again, I don't have the split on market share by region, but Jason and team can certainly follow-up on that." ] }, { "name": "James Dimon", "speech": [ "Yeah, I'm not sure we want to start disclosing that regularly. But I do believe the market share went up in -- pretty much in most markets, but you can't say most markets in all products." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yeah." ] }, { "name": "Operator", "speech": [ "And our next question is from Alison Williams of Bloomberg Intelligence." ] }, { "name": "Alison Williams", "speech": [ "Good morning. So I had a similar question, just circling back to trading and then CIB more broadly. So obviously, the bank has gained share, but can you speak to future opportunities and runway and maybe this is more of a question for Investor Day, but specifically, businesses like cash management, transaction banking and corporate clients in general. You're a leader in the U.S. Anecdotally we hear U.S. banks have been making gains in Europe. Can you speak at all to that opportunity." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So as you said, we'll give you more color at Investor Day for the Treasury Services business. We feel really good about where we're positioned. I think going forward, there will obviously be some rate headwinds there, which we think can be offset by organic growth. But given the investments that we have made there, Jamie have mentioned InstaMed earlier. We feel really good about the capabilities that we're adding and what we're seeing in terms of organic growth there, but we can talk to you more about that at Investor Day." ] }, { "name": "Alison Williams", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Okay. Thanks everyone." ] }, { "name": "James Dimon", "speech": [ "Guys, we'll see you. Thank you. I'll see you guys tomorrow." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Thanks, see you tomorrow." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
JPM	2018-01-12	[ { "description": "-- Chief Financial Officer", "name": "Marianne Lake", "position": "Executive" }, { "description": "-- Bank of America -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "-- Buckingham Research -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "-- Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "-- Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "-- Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "-- Wells Fargo Securities -- Managing Director", "name": "Mike Mayo", "position": "Executive" }, { "description": "-- Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "-- Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "-- Nomura Instinet -- Analyst", "name": "Steven Chuback", "position": "Analyst" }, { "description": "-- RBC -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "-- Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "-- Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" }, { "description": "-- UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "-- KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JP Morgan Chase's Fourth-Quarter and Full-Year 2017 Earnings Call. This call is being recorded. Your line will be on mute for the duration of the call.", "We will now go live to the presentation. Please stand by. At this time, I would like to turn the call over to JP Morgan Chase's chairman and CEO, Jamie Dimon, and chief financial officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thank you. Good morning, everyone. I'm going to take you through the earnings presentation, which is available on our website. Please refer to the disclaimer at the back of the presentation.", "Starting on Page 1, the firm reported net income of $4.2 billion, EPS of $1.07, and a return on tangible common equity of 8% on revenue of $25.5 billion. The impact of U.S. tax reform is the one significant item we have this quarter. We reported a $2.4 billion reduction to our fourth-quarter net income.", "Excluding this, our performance would have been $6.7 billion of net income, EPS of $1.76 a share with an ROTCE of 13%. Similar to the last few quarters, our underlying results were quite strong in the fourth quarter, and highlights included average core-loan growth of 6% year on year, bringing up to 8% for the full year, and credit performance continued to be very strong. A good holiday season fueled double-digit growth in card sales and merchant volumes, each up 13%. Our client investment assets were up 17%.", "We maintained our No. 1 rank in global IB fees and we grew share. And we have record net income and revenues in the commercial bank and record revenues and AUM in asset and wealth management. Before I go into our results, let's spend time on tax reform on Page 2. The $2.4 billion impact of tax reform was largely driven by deemed repatriation of our remitted overseas earnings as well as an adjustment to the value of our tax-oriented investments, including affordable housing and energy.", "These were partially offset by a benefit from the revaluation of our next deferred-tax liability. The impact is primarily in corporate but, as you can see, there was some impact to each of the CIB and the commercial bank. The capital impact is $1.2 billion higher, at $3.6 billion or about 25 basis points of CET1, and our effective tax rate will be approximately 19% this year and 20% over the near term, think through 2020, after which it should start to gradually increase as certain business credit will phase out over time. While there is now an enacted bill and with that there's more clarity, there are still a number of open implementation as well as accounting questions that will require clarifications and as such our estimated impact may be refined in future quarters.", "That said, I know there are a number of important questions which I'll try and get you clarity on. So with respect to the deemed repatriation, the operative word for us is \"deemed.\" In many ways you can think of our unremitted overseas earnings as the equivalent of bricks and mortar, being required in order to meet local jurisdictional capital and liquidity requirements. So we do not expect to actually remit anything significant. Second, although the reduction in the corporate tax rate was 14%, you can see that the reduction in our effective tax rate is only about 10%.", "Given the impact of the geographic mix of our taxable income, the disallowance of FDIC fees, and smaller benefits associated with tax-exempt income and other deductions as a result of the lower absolute rate. Moving on to the BEAT tax, this is an area where there do remain open questions. However, at this point we do not expect to have a BEAT liability, but if we are wrong, we would not expect it to be material. Next, the question of whether the benefit will be competed away and if so, over what timeline.", "Pricing strategy would differ across products. It is true that we operate in competitive and transparent markets, and this means that ultimately you can expect some of the benefit for the industry will be passed through to our customers over time. Competition is one key driver but there are other factors such as scale, expertise, the breadth of your products and services, and the investment that you're making in customer experience, and these matter a lot. And for certain of our businesses, pricing is not necessarily directly or immediately driven by fluctuations in the cost of capital, think slow markets.", "And remember, we didn't get to price up the changes in market structure and capital and liquidity over the last several years. So it will be in nuanced, it will be different across products and time is a very important dimension. Any competitive dynamics will play out over time. We are in the process of putting together a cohesive and comprehensive set of long-term and sustainable actions for our employees, for customers, and communities in part in response to tax reform.", "Some of our plans may involve subsidies for lower-income borrowers and support for small business and for these customers and for some others, they may see the benefits sooner. With respect to our capital plan, there are no immediate changes to note. This won't change our overall strategy, and remember the first half of 2018 is governed by last year's CCAR. Finally, on the potential impact to our businesses, the modernization of the U.S. tax code is a significant step forward for the country and a big win for the economy, and we include an estimated 20 to 30 basis points of growth in the U.S. this year and next. However, clients are still digesting the tax bill and much like this rate cycle, we haven't seen this movie before: we'll have to watch it play out. There will be pluses and minuses by clients and pluses and minuses across the products.", "So overall, stepping back, tax reform is a positive and for our clients there's more certainty, more clarity, and that should give them confidence to act. Moving on to Page 3, I've given some details on the fourth-quarter results. Revenue of $25.5 billion was up $1.1 billion, or 5% year on year, as net interest income was up $1.3 billion, mainly reflecting the impact of higher rates and continued strong loan and deposit growth, partially offset by lower NII in market. Non-interest revenue was down modestly, as growth in auto as well as asset- and wealth-management partly made up for lower market performance. Adjusted expense of $14.8 billion was up 9% year on year, reflecting higher compensation expense as well as business growth, including auto-lease depreciation.", "In the fourth quarter we took an impairment charge of a little over $100 million related to certain leased assets in the commercial bank and we increased our contribution to the foundation, adding $200 million this quarter. Credit costs of $1.3 billion were up about $450 million year on year, charges were flat with an increase in cards being offset by continued decreases across other portfolios. And although net-reserve builds this quarter were modest reserve, we saw releases in the fourth quarter of last year of approximately $400 million. Shifting to the full year on Page 4, we reported net income for the year of $24.4 billion, a return on tangible common equity of 12%, and EPS of $6.31.", "Adjusting for the two front-page significant items that we had this year, being tax reform this quarter and the benefit of the WAMU settlement in the second quarter, our net income would have been another record of $226.5 billion with an ROTCE of 13% and EPS of $6.87. Revenue crossed back over the $100 billion threshold this year, which feels good: $104 billion, up 5%, $4.1 billion of which was higher net interest income, in line with guidance, benefiting from higher rates and growth, relatively modest deposit repricing but pressured by lower market NII. Non-interest revenue was up $400 million with higher auto lease income as well as higher fees across investment bank, asset wealth-management, and consumer, adding $2.6 billion to revenues and more than compensating the headwinds in home lending on a smaller market, investments in cards, and other markets. We ended the year with adjusted expense of $58.5 billion but, as you can see, we made a total contribution to our foundation this year of $350 million in part in anticipation of tax reform.", "This brings our adjusted overhead ratio to 57% for the year even as we continue to make very significant investments across the franchise. Credit costs for the year were $5.3 billion, down 1% as the environment remains benign. Moving on to Page 5, balance sheet and capital. We ended the year with CET1 of 12.1%, down almost 40 basis points versus the prior quarter, about 25 basis points of which related to tax adjustments and the remainder low growth.", "All the other ratios,as well as tangible book value per share, also reflected a combination of $6.7 billion of capital distributions and the $3.6 billion impact of tax reform. Moving on to Page 6 and consumer and community banking. CCB generated $2.6 billion of net income and an ROE of 19%. We continued to grow core loans, up 8% year on year, driven by home lending, up 13%, and business banking, card, and auto loans and leases were each up 6%.", "Consumer deposit growth was strong, up 7%, and we believe we are maintaining our sizable lead over the market despite an industrywide slowdown given rising rates. Card sales and merchant processing volumes were each up 13%, driven by continued strengths from card new products as well as ongoing momentum in merchant services. In December, we completed the acquisition of WePay, which marks a big step for us into the integrated-payment space, allowing us to efficiently provide software-enabled payments to small business clients. And we also completed the renegotiation with Marriott for our co-branded cards, which will make us the largest issuer of the largest co-branded hotel program in the world.", "For all intents and purposes, we've now finished the renewals of our co-branded card deals. Revenue of $12.1 billion was up 10% year on year. Consumer and business banking revenue was up 16% on higher NII driven by continued margin expansion as well as strong average deposit growth. Home-lending revenue was down 15% on lower net servicing revenue driven by MSR as well as loan spread compression. Our originations were down 15% in a market down an estimated 25%, and we gained share, a trend we expect to continue given our investments.", "Card and merchant services and auto revenue was up 11 % year on year on higher auto lease income, growth in card loan balances and margins, and lower net acquisition costs. For the full year, card revenue rate was 10.6%, in line with our guidance, and we still expect to reach 11.25% in the first part of this year. Expense of $6.7 billion was up 6% year on year, driven by higher auto lease depreciation and continued underlying business growth. The overhead ratio was 55% for the quarter, 56% for the year, as the business moved past the impact of investments and started generating positive operating leverage in the second half of 2017.", "Finally, on credit, card charge-offs came in line with guidance for the year, at 2.95%. The increase in card charge-offs was predominantly offset by pristine credit performance across other portfolios. In terms of credit reserves, the net $15 million build this quarter was driven by a $200 million build in card on growth, offset by releases in home lending of $150 million and auto of $35 million. And, as I noted last quarter, auto trends seem to have stabilized and the industry feels to be on solid footing.", "Now, turning to Page 7 and the corporate investment bank. CIB reported net income of $2.3 billion on revenue of $7.5 billion and an ROE of 12%, but revenue was impacted by two noteworthy items this quarter and both of them had an impact in markets. So I'll start with markets. Total markets revenue was $3.4 billion, down 26% year on year. However, fixed-income markets included the net impact of tax reform on our tax-oriented investments, which was approximately $260 million, accounting for 6% of the year-on-year market decline.", "Additionally, equity market included a notable loss of $143 million on a single margin loan. This accounted for 3% of the year-on-year decline. It's worth noting that the loss appeared here in markets as reelected fair value option on this loan. However, when you do industry comparisons, be aware that others involved in this facility may not have made that same election and may have all of their losses in credit.", "So, in addition, although not in markets revenues, $130 million of credit cost this quarter was driven by a reserve build related to that same name. So adjusting for those items, our markets revenue would have been down 17% year on year, which is much closer to the experience up to the beginning of December, when we last spoke publicly. Fixed-income revenue was down 27% adjusted, principally driven by a tough prior-year comparison and low volatility and tight credit spreads, which have continued into this quarter. Equities revenue was up 12% adjusted against a record fourth quarter of 2016. And similar to the past few quarters, the driver of the increase was continued tailwinds from investment in cash, prime, and corporate derivatives.", "Moving on to banking, we had a record year for total fees and for debt underwriting fees. We maintained our No. 1 rank in global IB fees while growing share and we also ranked No. 1 in North America and EMEA. This quarter, IB revenue was $1.6 billion, up 10% year on year, driven by broad strengths across capital markets. Advisory fees were up 2% and we saw good momentum with some large deals closing. We ranked No. 2 for the year in wallets, gaining share, and we completed more deals than any other bank. Equity underwriting fees were up 14%, with indices up across every region and several at or near all-time highs. We maintained leadership positions in wallet and volume across every product globally this year and while we ended up No. 2 in wallet, the difference to No. 1 is only a few basis points. And debt underwriting fees were up 12% as the market remained receptive to new issuance across high grade and leveraged demands and refinancing activity was strong. We maintained our No. 1 rank, we gained share, and this year [Inaudible] the most number of deals in the firm's history.", "The overall pipeline remains healthy and at levels similar to last year. Our balance sheets are strong and market conditions favorable. Treasury services revenue of $1.1 billion was up 13%. In addition to higher rates, we continue to see organic growth within the business, as the investments we've made over the past several years have improved our clients' experience across the platform.", "Securities services revenue of $1 billion was up 14%, driven by rates and balances, with average deposits up 12% year on year and higher asset-based fees on record AUC given higher market levels globally. Finally, expense of $4.5 billion was up 8% year on year driven by the relative timing of compensation accruals. The comps/revenue ratio for the quarter was 27%, for the year, 28%, broadly in line with prior year. Moving to commercial banking on Page 8, it was another outstanding quarter for the commercial bank, with record net income of $957 million, record revenue of $2.4 billion, and an ROE of 18%, and for the year, net income and revenue were also records.", "The businesses fired on all cylinders and delivered an ROE of 17%. For the quarter, revenue included the benefit of a little over $100 million associated with tax reform and in our community development banking business. Even without this benefit, revenue would still be a record, up 14% year on year on higher NII from higher rates as well as deposit and loan growth across businesses. IB revenue of $587 million was down 3% year on year but still a strong performance.", "For the full year, we saw record IB revenue of $2.3 billion, up 2%, with particular strength in middle markets, which was up over 50%, compensating for a smaller number of large deals. The pipeline of momentum into the first quarter feels good. Expense of $912 million including the impairment charge, also a little over $100 million, on certain lease equipment which we expect to sell in the first half of this year. Excluding this, we saw an expense growth of 9% as we executed on our technology and product investments. This year we added net 120 new bankers in the business and entered six new markets, giving us a presence in all top 50 MSAs.", "Loan balances were up 7% year on year, 1% quarter on quarter. C&I loans were up 6% year on year, driven by continued strength in expansion markets and specialized industries. While sequential growth was up a more modest 1%, we are seeing decent deal flow and pipelines are holding steady, client sentiment continues to be strong, supported by corporate tax reform. CRE saw growth of 9% year on year and 1% quarter on quarter, in line with the industry.", "Multifamily lending continued to see tightened pricing on elevated competition. We remain appropriately focused on client selection, given where we are in the cycle and with particular caution around construction lending. Finally, credit remains among the best we've seen. This quarter we saw a benefit of $62 million, largely driven by reserve releases in the oil and gas portfolio, a net charge-off of 4 basis points.Leaving the commercial bank and moving on to asset and wealth management on Page 9.", "Asset and wealth management reported net income of $654 million with a pre-tax margin of 30% and an ROE of 28%. Revenue was a record $3.4 billion this quarter, driven by higher management fees on growth in AUM as well as higher NII on deposits and loans. For the full year, net income and revenue were records, with a pre-tax margin of 28% and an ROE of 25%. Expense for the quarter of $2.3 billion was up 8% year on year, driven by a combination of higher compensation as well as a growth [Inaudible] for external fees, which is offset in revenue.", "For the quarter we saw long-term net inflow of $30 billion, with positive flows across all asset classes on continued, strong long-term performance. For the full year we had long-term net inflows of $68 billion, driven predominantly by fixed-income, multi-asset, and alternatives. Record AUMs of $2 trillion and overall client assets of $2.8 trillion were up 15% and 14% respectively year on year, reflecting higher market levels globally as well as net inflows. Deposits were down 10% year on year, down 2% sequentially, reflecting continued migration into investment-related assets, the vast majority of which we are retaining and new client flows remain healthy. Finally, we had record loan balances, up 11% year on year, including mortgage, up 14%.", "Moving to Page 10 and corporate. Corporate reported a net loss of $2.3 billion, which includes $2.7 billion of the tax reform adjustment. Treasury and [Inaudible] results improved year on year primarily due to the benefit of higher rates.", "Finally, turning to Page 11 and the outlook. Before I get to specifics, remember, we do have Investor Day coming up in February. So we will be giving you a lot more guidance there. That leaves me with two structural things to talk about.", "The first, staying on the theme of tax reform, a lower corporate tax rate in 2018 well have the effect of reducing the tax equivalent adjustments or growth [Inaudible] revenues. On a run-rate basis, that reduction for the full year would be about $1.2 billion and more than half of that is in the NII. Secondly, effective January 1, 2018, a new revenue recognition accounting rule came into effect, which requires certain expenses to be grossed up that were previously the recognized as contra-revenue. We estimate for the full-year impact will increase both revenues and expenses for the firm by another $1.2 billion, the vast majority of which will be in asset and wealth management with a small amount in the CIB.", "So for guidance, expect the first-quarter NII will be down modestly quarter on quarter, reflecting a combination of a lower growth, as I mentioned, as well as normal day count, which offset the benefits of higher rates and growth. And we estimate the first-quarter effective tax rate will be about 17%, reflecting seasonality and stock comp adjustments. So to wrap up, the end of 2017 was constructive, characterized by strong equity markets, higher interest rates, good economic base globally, decent client activity, high levels of confidence, and obviously the enactment of the Tax Cuts and Jobs Act. Against that backdrop, our underlying financial performance in the fourth quarter of 2017 was strong, benefiting from diversification and scale, and consistently delivering for our customers and communities, gaining share across our businesses.", "Adjusting for significant items in the year, net income and EPS would have been [Inaudible], driving a healthy 13% return on tangible common equity. We're excited about the landscape and the opportunities for our clients in 2018. We will be there for them and the company is poised to continue to perform. With that, Operator, now we'll take questions." ] } ]	[ { "name": "Operator", "speech": [ "Please press 1 on your telephone keypad for a question. We kindly request that you ask one question and only one related follow-up. If you would like to ask additional questions, please press 1 to be reentered into the queue. And our first question comes from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Good morning. So, I do expect you to defer either the response to February 27, Marianne, but I just had to ask the question. The revenue outlook seems to be quite strong for the banking industry generally in 2018 and many investors were wondering if the 55% overhead ratio a long-term target for JP Morgan regardless of the revenue environment or could that potentially be better over the short term as we get a boost in the economy from the tax act?" ] }, { "name": "Marianne Lake", "speech": [ "You are right. That's probably more of an Investor Day discussion, but what I would tell you is that when we have given that as our sort of medium-term guidance, in our simulation, we kind of imagined an environment that was more normalized in lots of ways. So, we anticipated higher, more normal interest rates, we anticipated the continuation of somewhat benign credit, and we anticipated continuing to invest in the businesses and you've seen us do it in 2017, and we would expect to do it and more in 2018. So, certainly there could be years when we would be below it, and there have been years when we were above it but I think it's at a decent place for us to be aiming for in the near term." ] }, { "name": "Erika Najarian", "speech": [ "That you. And my follow-up question to that is, a lot of investors are excited about the prospect of stronger economic activity in 2018 leading to greater amount of markets activity and greater lending activity. And if you look back in the 1980s at least for loan growth, loan growth actually stepped down in 1987. I'm wondering if you could share your insights on how you think those activity trends will shape up in 2018." ] }, { "name": "Marianne Lake", "speech": [ "Yea. So, I know everybody is eagerly awaiting there to be direct and notable impact of tax reform but we're only a couple of weeks into the year. So, our expectation, as I said before, just really stepping back, is that it will boost growth in the economy. People have different points of view.", "Our research team is saying by up to 30 basis points in each of the next two years but know it could be better than that. We do know that there will be puts and takes across our businesses but in general we would expect the sort of certainty that people have been waiting for, coupled with the confidence that we know they've had and the need for people to try and deliver growth to their shareholders should mean that things that they were going to do become more compelling and they might be willing to do more. So, I think you'll see the capital market space potentially react more quickly and I think loan growth may have a bit of a lag but never say never. So, we just need to, I think, be a little patient to see some of that play out but sentiment is strong, tax positions will be improved, profitability will be higher, things that were rich before will be more fairly valued now.", "So, I think it should be all very constructive and certainly we would take the upside and support our clients." ] }, { "name": "Operator", "speech": [ "Our next question comes from Jim Mitchell of Buckingham Research." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Maybe a question on NII. I want to make sure I understand the moving parts. If I think about, your guidance for the first quarter, down slightly, you have two less days in the quarter, that's maybe almost $300 million sequentially and then half of the impact from the tax act in terms of tax-equivalent adjustments that's going to be [Inaudible] NII, sort of linear and equal.", "So that's another $150 million. So if I do the math, that's going to be about $400 million, sort of apples-to-apples benefit from higher rates that you've seen. Is that the way to think about it?" ] }, { "name": "Marianne Lake", "speech": [ "It's a good model with just one clarification. So, yes, a little more than half of the growth adjustment is NII. Yes, it is broadly linear, for the sake of argument. So, $150 million is not a bad estimate.", "Actually, it's more like $160 million but pretty close. The day count is actually not worth 300. It's worth a little bit less than $200 million. So, you've got [Inaudible] headwind, for want of a better word, or call it $300 million and change and then we would have had a combination of the impact of the December hike.", "With obviously each hike the impact is less, some gross and other puts and takes. So, call it $350 million of a headwind offsetting growth and the rate hike." ] }, { "name": "Jim Mitchell", "speech": [ "Right. Just to follow up on, it seems like deposit beta's actually slow this quarter and you're expecting that to sort of reaccelerate this year? How do we think about, I guess, beyond 1Q and the benefits of rates?" ] }, { "name": "Marianne Lake", "speech": [ "Yes. So, I would say, about deposit beta, at this point, you really do have to think about it in a sort of bifurcated way. So, firstly, I would say that the accumulative beta we've experienced, and I wouldn't say we've seen it slow down but it's remained disciplined generally, what we've seen so far in this rate cycle is very similar to what we saw in previous rate cycles. So, it's not like we learned stunning new news from which we can extrapolate and make changes to our expectations.", "So, we have no real change in the long-term expectations for reprice and it really is at this point bifurcated. So, retail, checking, and core savings, there's been little to no movement in the industry. Again, given the absolute level of rates, that would be in line with our expectations and on the wholesale space, we're definitely in reprice territory. It is accelerating with every hike and it's different across the spectrum.", "So, obviously, more significant in the sort of TS/securities services space. So, my expectation, just given where we are in the absolute level of rates, is on the retail space, we would still see a lot of discipline in the market in 2018 but ultimately we haven't changed our expectations that whatever that pipeline looks like, we're going to get to an overall reprice of above 50% but we'll have to see." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Betsy." ] }, { "name": "Operator", "speech": [ "Ms. Graseck, your line is open." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, sorry, I was on mute. Hi, good morning. It feels like we have a once in a lifetime or at least in my lifetime benefit to earnings with this tax change and we've got a lot of PMs asking the question how are managements going to use that. I saw your comment in the deck that, you know, competitive over time, compete away, blah, blah, blah, but I really wonder if you could help give us some insight as to how at a management level you're thinking about strategically using this benefit that you're getting in the various buckets of reinvest in tech, reinvest in people, reinvest in clients? Do you feel like it's equal across those or is there a skew that you're thinking about to take advantage of this because how managements use this benefit is going to be critical for stock performance over the next two to three years." ] }, { "name": "Marianne Lake", "speech": [ "I'll give you a framework to think about it if it's helpful, and you can certainly ask a follow-up question, but you are very familiar with the way that we think about sort of our strategy over time and our investment strategy in particular, and investing in our businesses, growth and profitability has always been first and foremost in our minds and, to be honest, we've talked to you before about the fact that we don't constrain ourselves because we have budgetary targets on those activities if we think we can execute well and we see great opportunities. So, expect that the first thing that we would do is to continue to lean into the investment opportunities we have writ large. So, that's bankers, that's offices, that's global expansion to the degree that that's on the cards, that's digital capabilities, payment capabilities, across all of our businesses, and we've been working even before tax reform on identifying where those opportunities are and we want to lean into that. We will also, Jamie said it earlier, we are really pleased that there are some immediate responses for employee benefits and we will be doing that plus more across our stakeholder constituents, and there'll be more to come on that over the next few weeks and we want to focus on that being comprehensive and sustainable.", "So, we're really trying to be thoughtful about the things that will matter to our employees and to our customers. And then to the degree that we end up still with earnings that were otherwise above plan, then normal capital strategy comes into play. We've been clear. We think that we are adequately capitalized, that we should expect to have the capital ratio move down slowly over time and our strategy on potentially continuing to see dividend increases and having repurchase programs that allow us to achieve our target ratios, that hasn't changed, it just might be a bigger dollar number." ] }, { "name": "Operator", "speech": [ "Our next question comes from Ken Usdin of Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Hi, good morning. Just to move to, I guess, a business question, a couple of things just on the card business. It looks like credit continues to be pretty good. You did build the reserve for growth, as you mentioned, but most of the card revenue rate was also still a little bit down.", "Can you just talk a little bit about your outlook for that card business as you look forward?" ] }, { "name": "Marianne Lake", "speech": [ "Yes. So, I'll just deal with the card-revenue rate real quick, because I think we sort of gave a little bit of this in the third quarter that given the Sapphire Reserve products, given the extraordinary success we had with that in the fourth quarter of 2016, there is annual travel credit renewal that took place in the fourth quarter, which we already told you you would expect, to see the revenue-rate go down. It was contemplated, which is why our full-year revenue rate of 10.6% was in line with our guidance. And as we lap the acquisition costs and reward costs associated with acquiring all of the Sapphire Reserve customers and for that matter our other new products, we're going to see that revenue rate get to 11.25%, if not in the first quarter, in the first half of next year and stabilize out at or above that level." ] }, { "name": "Ken Usdin", "speech": [ "OK. That's great to hear that's intact. And then consumer credit, broadly speaking, auto's continued to look a little bit better and cards still within your expectation, so a lot of the focus on tax has obviously been on the potential for commercial lending to potentially pick up. How are you guys just thinking about how the consumer behaves and what that means for both consumer loan growth and consumer credit? Thanks." ] }, { "name": "Marianne Lake", "speech": [ "Yes. Again, it's nuanced. So, the first question generally that we were getting is the impact on the housing market and given certain specific changes in the tax code, I would say that the overall net-net we would expect that to be not a significant impact on the housing market and demands nationally although that could differ by state. So we feel like that's going to hold up nicely.", "And you're right, whether you're talking about consumers or whether you're talking about small businesses, think about small business environment, it's quite positive for them. So, they're going to see higher profitability, higher free cash flow, and for all intents and purposes, the equivalent of an upgrade. So, we would be hopeful that much like the commercial space, that could be the catalyst to see them spend money and hire, and we'll be focusing on that as we think about programs to help. So I think in general it's going to mean that the already very good credit trends we're seeing will be good for longer." ] }, { "name": "Operator", "speech": [ "Our next question comes from Glenn Schorr of Evercore ISI." ] }, { "name": "Marianne Lake", "speech": [ "Morning, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hello there. How are you? So, first question on fixed income and I guess the question is, if not now, when. I mean, the industry's gone down, had this multi-multi-year degrade in revenues for lots of structural and cyclical reasons. We're off QE in the U.S.", "We're raising rates in the U.S. Europe's doing better. They are still on QE and have a lot of negative rates but we're going to get some changes there. Can you talk about your best guesses in terms of the backdrop for this environment for such an important revenue item? Thanks." ] }, { "name": "Marianne Lake", "speech": [ "So, Glenn, I feel like in 2017 we spent so much time talking about year over year, declines in comparable period. It's helpful to, I think, step back and look at the full performance in 2017 for fixed income and for equities and for markets in total. So, acknowledging that the first quarter was quite strong, if you look at the last three quarters, I mean, we were talking about reasonably quiet environment, low volatility, historically tight spread, and yet those businesses individually and together delivered meaningfully above the cost of capital for us. So, maybe not at the sort of at-performance level of 2016, but really good performance.", "So, discipline, scale, optionality, those are the ways we think about the fixed-income business. I don't have a crystal ball, I can't tell you when that will be a catalyst for change, fixed-income is a little on the accounts cyclical side, there will be change and we're positioned to continue to be able to grow with our clients. So, our businesses are doing well and I can't tell you when things will become more volatile and obviously that's always an emotional discussion. It will happen and when it does, we will be there to serve our clients and to intermediary for them." ] }, { "name": "Glenn Schorr", "speech": [ "I appreciate that. A follow-up is on Steinhoff and I know that a) you can't predict fraud, but I'm just curious on that as a business in general and lots of other banks were involved but how many other similar types of books are there and can you talk to the nature of those relationships because hindsight's 20:20 and like \"Wow, that's a lot of leverage to get somebody on a highly active stock\" but it's usually just a customer-flow, simple in and out facilitation business. So, I wonder if you could just talk about a little bit more." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. I mean this has got our attention because of the sort of sudden and significant decline, and it is by far and away the largest loss in that business that we've seen since the crisis and it will happen from time to time, maybe not this significantly or this suddenly and remember, that because we've got that in fair value, we marked that down. So, that's not a reserve, that's a mark-to-market on a publicly traded equity at this point that is significantly down. So I would say while we are obviously disappointed with the outcome, it's the business we're in.", "It's a large and diversified business that even after this loss is still very profitable. So, it's noteworthy because of its size, its rapidity, and its significance but it's a profitable business and without sort of laboring the point, obviously we go through talking about the potential for there to be [Inaudible] and sudden risk situations and I've been talked about that in our governance processes and sometimes that will happen." ] }, { "name": "Operator", "speech": [ "Our next question comes from Mike Mayo of Wells Fargo Security." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Hi. How are you doing?" ] }, { "name": "Marianne Lake", "speech": [ "Great." ] }, { "name": "Mike Mayo", "speech": [ "I just wanted to follow up on the tax question. Jamie says on Page 1 of the release that you'll have an accelerated spend for those tax benefits for employees, customers, and communities. I know you kind of answered that, but so how much of that benefit -- I guess you paid $11 billion in taxes last year and that might have been under $7 billion with the lower rate. So, if we assume a $4 billion tax benefit, if that's correct, how much of that would be passed on to the employees, customers, and communities versus hitting the bottom line? And then the philosophical question, if Jamie's there, if he can answer after you, should that be crucial for stock performance, how much you allow to fall to the bottom line?" ] }, { "name": "Marianne Lake", "speech": [ "Look, I'm not going to give you quantification, but you're not meaningfully wrong about the sort of assessment you made, which is a big, significant positive and most of it will fall through our bottom line in 2018 and beyond and time is an important part to how it plays out. So, we want to do really constructive thoughtful things for all of our constituents but it won't be the significant portion of that." ] }, { "name": "Jamie Dimon", "speech": [ "I would just add that we have [Inaudible] $300 billion tax benefit next year. There are two major, you should put in the back of your mind, uncertainties. One is the code has to be actually written. So there will be a lot of noise going down the road about what that actually means for various industries and stuff like that.", "And the second [Inaudible] ostensibly is competition. Some of it will be competed away. I'm only telling you this because you got to put it in your mind. Don't get so exuberant that everything everywhere falls to the bottom line.", "The second is our investment. Marianne's already spoke, we already are fairly aggressive investing for our future and in some places like pushing a string. We can only go so fast in hiring new bankers and doing some things and we may accelerate some of that and on Investor Day we'll be quite clear if we change how we look at that kind of thing. And the other one is, what are we going to do special to help the United States of America as a result of tax change and we think we should, we think there's very good [Inaudible] done it, we think it's time that all of America share broadly, and we're going to have things that we think are good for some employees and think of also stable growth of communities around the world.", "So, we're going to give you in the next couple weeks very thoughtful things that we're going to do and it may very well bite into some of that $3.5 billion and so be it. That's what we're supposed to do. We're a bank, we're supposed to help support and grow communities. It will enhance our growth in the future too, by the way, it's not a giveaway.", "It's kind of a thoughtful approach to how we should use some of this." ] }, { "name": "Marianne Lake", "speech": [ "And I do want to just say, there are two other things just to add to what Jamie said, which is, if some of this is competed way out over time, and gets to a lower cost of credit and cost of borrowing and improved pricing for our customers and allows them to grow their businesses and spend more strongly, there is a feedback loop. Similarly, if at the end of the day it results in some higher dividends and repurchases, that also recycles back into the economy. So, we're very optimistic for the performance of this company, which is extraordinarily client-centric that anything that's good for the economy and our clients will continue to drive long-term profitability for the company. That's No. 1, and No. 2, not to be defensive, you know, you guys will appreciate this more than anyone almost, is, you can do your own math, but if you add up the cost of controls, market, structural reform, capital, and liquidity, much of which with entirely [Inaudible], if you add up the impact that it had on our returns over the last five to 10 years, I mean, it in many ways dwarfs that. So, there will be an element of this that goes back into making sure that the banking system is properly covering cost of equity and it should." ] }, { "name": "Mike Mayo", "speech": [ "I've one follow-up on that feedback loop. So, you, Marianne, or Jamie, a year from now do you think that the tax code or other factors will result in increase in capital markets activity, increase in corporate lending and increase in CAPEX, which we've been waiting for all decade?" ] }, { "name": "Jamie Dimon", "speech": [ "Again, I think it is really important to note people focus very much what happens to [Inaudible] in the tax reform and I think it's a very good thing. You've seen it with corporations. You've seen it with sentiment. You've seen it with people's plans and things like that.", "I think it's very good. I think the far more important thing is that 20 years ago our corporate, federal, and state rate was 40%, [Inaudible] was 40%. Over 20 years they came down to 20% and we stayed at 40%. Over that time, it's driven brains, capital, you see the reinvested money overseas.", "One of the accounting firms did a study that 5,000 companies that would've been headquartered here are either headquartered overseas or owned by foreign companies, which I'm not against. This is a huge number. It's the cumulative effect of retained capital and increasing competitive American companies that will drive jobs and wages in the long run. I have absolutely no question that would be far better off year after year if we hadn't done this.", "And it's just impossible to tell exactly what it means this month, or this quarter, something like that. So, we're going to be watching just like you and waiting just like you but I don't -- I hate guessing about the effect, like, on capital markets. I don't know. The fact is we look at capital market, we have fabulous people in sales and trade, fabulous research, great technological capability and in the last five years we've dealt with Dodd-Frank, MiFID, all these rules and regulations, [Inaudible], what are the other ones called in Europe? And we've done OK.", "I look it at as a big positive. We'd still be there buying and selling securities for clients, issuing securities and, yea, I think if we're right about it in improving American competitive growth in the global economy, it will drive [Inaudible] activity. Let's just wait and see." ] }, { "name": "Operator", "speech": [ "Our next question comes from John McDonald of Bernstein." ] }, { "name": "John McDonald", "speech": [ "Hi, good morning. Apologies if this is asked. I got cut off for a second. Marianne, I was wondering about charge-offs and credit.", "Things look good this quarter for the full year, came in line with your kind of $5 billion charge-off outlook. Just wondering how you're thinking about the credit environment heading into this year. And if the environment remains strong, do you still have some seasoning that might put some upward pressure on charge-offs even in a good environment?" ] }, { "name": "Marianne Lake", "speech": [ "I would say if you look across the consumer spectrum, ex cards, the performance is like really, really good and should continue to be really good in 2018. So, 2018 feels like very strong performance in consumer. In card, we said at Investor Day that we would expect to continue to charge-off rates go up and we are growing loans. So, a combination of those things will mean we'll have higher charge-offs and some reserve build.", "I will tell you that we're not seeing anything that isn't in line with our expectations. So, this is not normalization, deterioration. This is seasoning and maturation of the new advantages and growth. So, if I sort of send you back to what we talked about earlier in the year, it's probably closer to 3.25%, in line with our expectations.", "So, we're expecting very much more of the same in the consumer space. And in the wholesale space, credit is really, really good and some of the places where we have been watching for that to essentially [Inaudible] fundamentals are improved and we continue to obviously watch retail and to be cautious given where we are in certain parts of real-estate banking but we're not seeing any fragility right now in our outlook." ] }, { "name": "John McDonald", "speech": [ "OK. And then just a follow-up on card. You've had some good balanced growth. Are you seeing any change in propensity to revolve from your customers or is your balanced growth coming more from new customers or is there any increase in kind of revolve rate?" ] }, { "name": "Marianne Lake", "speech": [ "We actually had been on a pretty significant strategic drive to make sure that we had at a DPDC-engaged customer base, if you go back pre-crisis and look at the industry there was lots of [Inaudible] and less-engaged customers. So, we worked really hard over the course of many years to drive engagement, which is why you can see that we have a larger share of spend than we do about [Inaudible] but we've grown both. So, we are getting balances and new customers. We are working on making sure that the right customers are revolving and we're making progress.", "So, year on year we've gained share in both and will continue to focus on revolve." ] }, { "name": "Operator", "speech": [ "Our next question comes from Steven Chuback of Nomura Instinet." ] }, { "name": "Steven Chuback", "speech": [ "Hi. Marianne, I had a question on the tax guidance that you guys have given. The Slide 2 disclosure's really helpful but I really wanted to dig into the comment on the B provision. You know that the ultimate impact for your business shouldn't be material and at the same time, the guidance from some of your foreign bank competitors, suffice it to say, has been much more measured.", "I'm wondering if the impact's not that material for you guys but weighs more heavily on the peer set, do you actually see your market-share consolidation opportunity emerging in particular within the repo and sec-lending side?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. I mean, obviously the impact is differently situated for the foreign banking and I know that, as Jamie said, there is still a lot of work to be done in terms of implementation and finalization of actual code itself. So, I don't want to guess on how all that will play out. I certainly don't want to guess about the second-order impact of potential consolidation." ] }, { "name": "Steven Chuback", "speech": [ "All right, fair enough. Well, maybe just try one more on tax, specifically relating to CCAR. I'm assuming that the tax parameters for '18 are broadly consistent with last year which I think is most people's general expectation. You have the lower starting capital ratio from the tax hit.", "Your peers will have the same thing but within the new tax law, there's also a somewhat complicated element where it eliminates the ability to carry back NOLs against prior-period income, which could impact your stress ratios. I'm wondering does that at all inform your outlook for the upcoming test, and do you anticipate capital-return capacity to be more constrained just in light of some of those changes?" ] }, { "name": "Marianne Lake", "speech": [ "OK, there's a lot. So, if you assume that the 2018 structure is much like 2017 with a nice healthy caveat that DTAs, DTLS, and the impact then can be volatile based on the scenario. So with that caveat, I would tell you that not carrying back NOLs has a very particular interplay with foreign tax credits, which means it's not really going to affect us in a meaningful way. There are two things that would change but they also offset.", "So, the two things that would change is your absolute level of losses would be higher as the tax rate is lower. So, that would be a negative but against that your NOL carry-forward would be lower and that's a capital deduct. So, in the law of very big numbers with health warnings, plus or minus, at our low point, we think not a significant impact. And then if you were to take a look at our starting-point capital, I'd just make two comments.", "The first is, obviously, given all of the conversations we've just had, there is also the strong possibility that we will have higher earnings in the third part of the year and be able to accrete back portions if not all of that capital. And secondly, for what it's worth, our actual spot capital ratios were higher than our CCAR outlook was. So, both from a starting point and test perspective, I feel OK, but that's a really complicated question and we need to really work through it." ] }, { "name": "Jamie Dimon", "speech": [ "Then there's a new sheriff in town [Inaudible] they're going to be looking at the whole picture. I think, it's probably more important than this one item." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning. Marianne, assuming the economy in 2018-2019 accelerates due to this tax reform, I think, it may imply that we would have higher interest rates and possibly a steeper yield curve. Do you guys have any thoughts on what you might do to the interest sensitivity of the balance sheet? Would you change it or you want to just keep it the way it is?" ] }, { "name": "Marianne Lake", "speech": [ "Yea. I mean, for what it's worth, we should know our house view on interest rates is for there to be four hikes next year. The Fed Inaudible] is three, the market has two. I would say tax reform and a stronger growth outlook will solidify the path of rate hikes.", "So, we've been factoring that into our balance sheet positioning anyway. So, I would not expect there to be a material change in our strategy." ] }, { "name": "Gerard Cassidy", "speech": [ "OK. And then in your release in the fourth quarter, you guys said how would the tax change affect your capital-distribution plans and there's no change, the first-hal distribution is going to be based on the 2017 CCAR approval. Is that in terms of the payout ratio on the 2017 CCAR or the nominal dollars because obviously your earnings now are going to be higher in the first half of '18 versus what you got approved for in the CCAR '17, which would imply, if you kept the payout ratio constant, you would actually have a higher nominal payout in the first half of '18." ] }, { "name": "Marianne Lake", "speech": [ "Our capital plan approval is on a nominal dollar basis." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Matt. How are you?" ] }, { "name": "Matt O'Connor", "speech": [ "Good, thank you. It's probably a bit early to know how to play this, but as you think about the winners and losers from tax reform, do you think there will be changes in terms of how you come to market, where you come to market? A lot has been written obviously on the impact of some of the high-tax states and how money can flow from there to others and obviously you're in some high-tax states and also in low-tax states. I'm just trying to think through how you might tweak your business model to focus on some of your products in some of those markets." ] }, { "name": "Marianne Lake", "speech": [ "Yes. I'd say, in essence, time is our friend, so if you go back and look at, and obviously nothing is exactly like this, but if you go back and look at similar empirical evidence, it would say that any influence in terms of migration and flow of funds is pretty modest and pretty gradual. And if you think about something as first-order as housing in high-tax states, people are pretty situated where they live with their families and their jobs, and higher-income borrowers are typically less price-sensitive. So, I think lots and lots of things come into play.", "I think the area that we're thinking about a little more is what's the optimal financing structure for clients, given changes across the capital-market structure, but even in that sense, while you could say debt may be more expensive, it's still probably cheaper than equity, and equity may be more seen as fair value but for JP Morgan it's of course what we do. We do cross-border equities and acquisition financing, liability management, bespoke capital-structure strategies. We do all of it. So, even if there's sort of mixed and optimal structure change, I think we're pretty well-situated.", "So, it's early days to be able to say that we would have strategic changes. I think it's early days and I would say that if that was to be the case, I would probably expect them to be quite marginal." ] }, { "name": "Matt O'Connor", "speech": [ "And then how about just more on aggregate on the consumer underwriting side? If you are feeling more positive about the economy and you're seeing the growth in consumer personal income before the tax cut here and that might accelerate, does it make you more open to loosening underwriting standards a little bit? I feel like in aggregate standards are still fairly tight versus where they were pre-crisis and there could be some opportunity there for you and others?" ] }, { "name": "Marianne Lake", "speech": [ "I think that may be a fair observation but I also think, to Jamie's earlier point, as much as we would like to imagine that all of this takes effect immediately, you would need to see the benefits of the environment in the income and spending and profitability and creditworthiness of people before you would be able to lean into the changes necessarily. So, maybe but, again, I think it's going to be something that will unfold." ] }, { "name": "Jamie Dimon", "speech": [ "We haven't changed our standards very much and the one exception that might change over time, which I hope it does actually, is in mortgage lending where, I think, because of service requirements, capital requirements, reporting requirements, various litigation uncertainty, that it has tightened the credit box around people who probably deserve credit -- younger people, first-time buyers, prior defaults -- but that's going to take the agencies working together to set new rules and new guidelines. If that happens, that can actually be really good for growth in America." ] }, { "name": "Marianne Lake", "speech": [ "And pretty immediate." ] }, { "name": "Jamie Dimon", "speech": [ "And pretty immediate. And it's not going back to subprime, it's just opening up the credit box and reducing the cost of the average mortgage and we're hopeful that the agencies will eventually do that." ] }, { "name": "Operator", "speech": [ "Our next question is from Andrew Lim of Societe Generale." ] }, { "name": "Andrew Lim", "speech": [ "Hi, morning. Thanks for taking my question. Just want to play devil's advocate for a bit. I've looked at the credit markets and the [Inaudible] has increased across spectrum, especially at the short end rather than the long end and I'm thinking that these high interest rates would feed into high credit losses at some point.", "I'm wondering if that was part of your thinking or whether that feeds into your credit-quality models. And if, at what time would you think that the deterioration in credit might start to accelerate?" ] }, { "name": "Marianne Lake", "speech": [ "So, a couple of things. Just one thing because I think it's worth pointing out that there's been a lot of attention on a flatter yield curve, but you're right, it's driven by higher front-end, which is a good type of flattening, so to speak. So, that's what's been driving sort of NII growth for us and we do expect that that will, together with Feds normalizing its balance sheet ultimately end up with higher [Inaudible] rates. So, we're pretty optimistic about that.", "You're right, at some point, typically, you will see potentially higher rates, depending on the speed and inflation and other factors, would be, proceed, potential for a credit cycle. I mean, I suspect this will be no different but that is not something that we see in our models or in the outlook over the near term. So, hopefully, the monetary policy will be gradual and as expected and we will continue to see the front-end rates and everything be rational, and of course there could be surprises but at some point, yes, but not in the near future.", "Could you say what's the average maturity of your corporate loan book or across the loan book in general?", "It differs." ] }, { "name": "Jamie Dimon", "speech": [ "It's clearly disclosed in the 10-K, but it's different for every single product, and it also changes, interest rates move around." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi. Good morning. So, on your tax Q&A you mentioned what the impact of tax reform is across different businesses from a growth standpoint but you also talk about the potential for competition, being uncertain in terms of how it impacts different businesses and different products. Can you talk to that a little bit and speak to which products and businesses you see more scope for competition, less scope for competition, and how does that influence how you think about investing in, across your different businesses?" ] }, { "name": "Marianne Lake", "speech": [ "So, I would start by saying that I think we showed at Investor Day last year and if we could do something similar, maybe we will. It would look very similar today, which is if you go below our top-line businesses to the businesses beneath that, the vast majority of our businesses are more than covering their cost of equity by a fair margin today. So, our investment strategy wouldn't be directly impacted by marginal changes in pricing and possibility up or down. We're going to continue to invest in everything that we can do well to improve the customer experience and grow the business.", "So, I think we've been pretty consistent on that, not just today but over the course of the last several years. And then, I think, it is uncertain. So, I would just give you the obvious extremes, which is if you have four different organizations competing for a single large-structure transaction and the cost of capital and taxes are direct input to pricing, I'm sure it will feature in the discussion. And if you are talking about a very, very scaled, very, very high-volume business with extraordinarily tight margins, it will probably have ultimately or at least in the very, very near term less impact but, again, I actually think people to be quite disciplined how they think about this." ] }, { "name": "Jamie Dimon", "speech": [ "Can I give you an example away from finance? Utilities already are being put in a position because part of the rate-base and after-tax return, that they're going to pass it on to consumers, probably 100%. That may be different by state but think of it that way. And Marianne spoke about cap rates and stuff and obviously anything in the marketplace that's being bid at in after-tax rate, you could see a pretty quick effect but go all the way to Hershey candy bar. It's not necessarily clear that if you sell candy or cereals or something like that, you're going to have immediate repricing effect because of a tax-rate change.", "So, we run that whole gamut of things. So, we just have to wait and see how it works out. At the end of the day, everyone benefits from more growth and to me that's probably the most important thing." ] }, { "name": "Saul Martinez", "speech": [ "Yea. No, that's helpful. One of the businesses that has been doing extremely well in terms of growth and profitability momentum is the commercial-banking business and I feel like I ask this every quarter but, I guess, the question is what you can do for an encore. It's a relevant part of your earnings now and revenues and a big part of the growth but can you just talk to the sustainability of the momentum in terms of balance sheet growth, revenue growth? How much headway is there still to continue to grow in that business?" ] }, { "name": "Jamie Dimon", "speech": [ "Decades. Marianne already mentioned we are now in the top 50 MSAs. We're already [Inaudible] products and services. We built technology in cash-management side.", "We're doing a better job serving U.S. middle-market companies for their international needs. It can go on for a long time and we're competitive, we've got very good margins and we're constantly investing, and people have done a great job, we've added specialty finance lines. So just more of the same thing." ] }, { "name": "Marianne Lake", "speech": [ "The thing about the commercial bank, it's the absolute nexus of everything we do. It's delivering the whole company to our clients in a way that very few other people can do. So we've been investing in 100 banks a year for a period of time, opening offices, adding capabilities, focusing on digital, and improving the customer experience like in the rest of our business. So credit applied where ultimately there will be a cycle and it will be fine.", "That business is really poised to do very well." ] }, { "name": "Jamie Dimon", "speech": [ "And I would just add, because we shouldn't leave this call without talking about it. In the custody and fund services business, we've got a great new technology. I think it looks like we've gained a little bit share in the emerging markets where we were probably a little bit weak. Service levels have gone way up and I'm embarrassed to say they weren't particularly good a couple years ago.", "And treasury services, we're building new international payment system. The banking industry has built a real time -- it hasn't been all rolled out yet -- a real-time payment business. What we've done with the Latin, we feel exceptional about [Inaudible] custody fund services. On the consumer side we have a whole bunch of -- If you look at our digital offering, it's gotten better and better and better.", "There's a whole bunch more coming. Zelle and Chase QuickPay, we're not gaining share but we're definitely gaining clients, and we have barely started to market that. That's where real-time P2P has opened. How many banks are part of it now, like 30 to 40, which is going eventually to be -- Everyone's going to be opened up to Zelle.", "And then, of course, this year we have beta ready, we spoke a little bit about online, [Inaudible] mobile banking. Some of these things may not work but they're really great products and services and we're pretty excited about it actually." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hi, good morning. I just had one quick question on securities services. Within that, you saw good growth and your assets under custody up over 3% quarter on quarter on annualized but the revenues were up less than 1%. Were there some timing issues when the AUC came on? If you kind of highlight what was the difference between the AUC growth and revenue growth this quarter." ] }, { "name": "Marianne Lake", "speech": [ "Yea. In securities services we make money on NII, we make money on transactions, we money on AUC and depending upon whether that's fixed income or equities or whether it's emerging markets or the U.S. will drive the extent of that. So, it's not like you can take the overall revenue of securities services and link it to increases in assets under custody and draw a direct.", "I mean, there's obviously a direct relationship but it's not going to necessarily move in line. So, I can tell you that looking at that decomposition of, what's higher market levels and higher flows by region and looking at the portion of our revenues that related to assets under custody that they were in line." ] }, { "name": "Jamie Dimon", "speech": [ "And full-year effect doesn't happen for 12 months. If you were to [Inaudible] go up by $2 trillion and two-thirds of assets going up but it will take a year before the full-year effect of that is felt. So you see partial effects actually flowing into this quarter." ] }, { "name": "Brian Kleinhanzl", "speech": [ "OK, thanks." ] }, { "name": "Brian Kleinhanzl", "speech": [ "More JPM analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
JPM	2018-10-12	[ { "description": "Chief Financial Officer", "name": "Marianne Lake", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Evercore ISI -- Managing Director", "name": "Glenn Schorr", "position": "Executive" }, { "description": "Wolfe Research -- Executive Director", "name": "Steven Chubak", "position": "Executive" }, { "description": "Morgan Stanley -- Managing Director", "name": "Betsy Graseck", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Managing Director", "name": "Erika Najarian", "position": "Executive" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Buckingham Research -- Analyst", "name": "James Mitchell", "position": "Analyst" }, { "description": "Sanford C. Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "HSBC -- Director", "name": "Al Alevizakos", "position": "Executive" }, { "description": "Jefferies & Company -- Managing Director", "name": "Ken Usdin", "position": "Executive" }, { "description": "UBS Investment Bank -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Deutsche Bank -- Managing Director", "name": "Matt O'Connor", "position": "Executive" }, { "description": "Keefe, Bruyette & Woods -- Managing Director", "name": "Brian Kleinhanzl", "position": "Executive" }, { "description": "RBC Capital Markets -- Managing Director", "name": "Gerard Cassidy", "position": "Executive" }, { "description": "Vining Sparks -- Director", "name": "Marty Mosby", "position": "Executive" } ]	[ { "name": "Operator", "speech": [ "Please stand by. We are about to begin. Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's Third Quarter 2018 Earnings Call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation. Please stand by. At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO, Jamie Dimon, and Chief Financial Officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thank you, operator. Good morning, everyone. I'm going to take you through the presentation, which is available on our website. Please refer to the disclaimer at the back of the presentation. Starting on Page 1, the firm reported net income of $8.4 billion and EPS of $2.34 on revenue of $27.8 billion with a return on tangible common equity of 17%.", "The results this quarter were strong. Record net income for third quarter, even excluding the impact of tax reform, with key drivers being higher net interest income across businesses, reflecting continued rate normalization and solid growth in both loans and deposits, as well as very strong credit performance across all portfolios. Highlights include average core loan growth excluding the CIB of 6% year on year, card and debit sales as well as clients' investment assets and merchant processing volumes in Consumer were all up double digits. We gained share in global IBCs and across all regions year to date. And, in Asset and Wealth Management, AUM and client assets were both up 7%.", "Turning to Page 2 and some more detail about our third-quarter results, revenue of $27.8 billion was up $1.4 billion or 5% year on year. Net interest income was up $945 million or 7%, reflecting the impact of higher rates net of lower market NII as well as loan and deposit growth. Non-interest revenue was up $425 million, driven by market NIR and higher auto lease income, partially offset by markdown on certain legacy private equity investments.", "Expense of $15.6 billion was up 7% year on year. More than half of the increase relates to investments we're making in technology, marketing, bank as broadly defined, and real estate, and the remainder is driven by revenue-related costs, principally higher auto lease depreciation, and transaction expenses on higher volumes. Credit trends remain favorable across both Consumer and Wholesale. For the quarter, credit costs of $950 million were down $500 million year on year, driven by changes in consumer reserves.", "Briefly on Page 3, turning to balance sheet and capital, there's little to say here other than as you can see, capital and risk-weighted assets remain basically flat quarter on quarter with a CET-1 ratio of 12%. Moving on to Page 4 and Consumer and Community Banking, CCB generated $4.1 billion of net income and an ROE of 31%. Core loans were up 6% year on year driven by home lending up 10%, business banking up 5%, card up 4%, and auto loans and leases up 3%. Deposits grew 4% year on year, continuing to outpace the industry, although slower than a year ago. According to the recently released FDIC annual survey, we grew at nearly two times the average, and we were the fastest-growing bank in nine of our top 10 markets. Chase also earned the No. 1 spot in customer satisfaction in the JD Power U.S. National Banking Satisfaction Study.", "Client investment assets were up 14% as we saw clear record net new money flows, more than doubling year on year, with flows accounting for more than half of the growth. Card sales volume was up 12% with strengths across our portfolio, and we also saw very strong debit sales performance, up 13%. Revenue of $13.3 billion was up 10%, consumer and business banking revenue up 18% on higher NII, driven by continued margin expansion and deposit growth. Home lending revenue was down 16% as higher rates drive loan spread compression and a smaller market, pressuring production margins. In addition, net servicing revenue was down, including the MSR.", "Card, merchant services, and auto revenue was up 10%, driven by higher card NII on margin expansion and loan growth, higher net card fees on lower acquisition costs, substantially offset by lower net interchange, and also on higher auto lease volumes. Expense of $7 billion was up 7%, driven by continued investments in technology and by auto lease depreciation. The overhead ratio was 53%.", "Finally, on credit, starting with reserves, this quarter, we built reserves in card of $150 million, largely driven by growth, and we released reserves in the home lending purchase credit-impaired portfolio of $250 million, reflecting improvement in home prices and delinquencies. On charge-offs, there are a few moving pieces. Year on year, charge-offs were down $137 million, driven by a recovery from a reperforming loan sale in home lending this quarter of about $80 million together with an approximately $50 million charge-off adjustment in auto this period last year.", "Excluding those charge-offs, we're about flat, but we are seeing improvement across all portfolios except for card, and in card, while charge-offs are up as newer vintages season, they are up less than expected as credit performance remains very strong. At this point, we expect card charge-off rates for the year to be below our guidance at about 310 basis points.", "Now, turning to Page 5 and the Corporate and Investment Bank, CIB reported net income of $2.6 billion and an ROE of 14% on revenue of $8.8 billion, up 2%. In banking, we maintained our No. 1 ranking year to date in global IBCs as well as in North America and EMEA and gained share across regions. For the quarter, CIB revenue of $1.7 billion was flat to a strong prior year, and we outperformed a market that was down meaningfully as we saw robust activity, particularly in ECM. Equity underwriting fees were up 40%, gaining share across all products, with continued strength in IPOs, particularly in technology and healthcare.", "Advisory fees were down 6% compared to a third-quarter record last year, outperforming the market and gaining share year to date. And, debt underwriting fees were down 11%, although better than the market, as our strong lead-left positions drove share gains. Looking forward, the overall pipeline remains strong, up solidly from the prior year across products.", "Moving to Markets, total revenue was $4.4 billion, down 2%, or up 1% when adjusting for the impact of tax reform -- so, another good performance. Fixed-income markets revenue was down 6% adjusted with no single predominant driver. We saw mild weakness in rates, financing, credit trading, and securitized products as a result of compressed margins and tighter financing spreads in range-bound and competitive markets. This was partially offset by higher activity levels in emerging markets on volatility and commodities returning to more normal levels relative to a weaker prior year.", "Equities continued the momentum from previous quarters and was up across all segments on the back of strong client activity. Equities revenue was up 17%, reflecting continued share gains in cash and prime and strong performance in corporate derivatives. Treasury services and security services revenue were $1.2 billion and $1.1 billion, up 12% and 5% year on year respectively, driven by high rates and balances, and security services also benefited from higher asset-based fees on new client activity. Quarter on quarter, security services revenue was down, principally on seasonality and the impact of a business exit. Finally, expense of $5.2 billion was up 8%, driven by higher legal expense, higher compensation expense as we invest in technology and bankers, and volume-related transaction costs.", "Moving to Commercial Banking on Page 6, another strong quarter for this business with net income of $1.1 billion and an ROE of 21%. Revenue of $2.3 billion was up 6% year on year, driven by higher deposit NII. Gross IB revenue of $581 million was flat, although we saw a strong underlying flow of business and pipelines remain robust and active. On deposits, while we continue to benefit from the normalizing rate environment, as expected, balances are down year on year, bases are trending higher, and we are seeing some migration at the top end to higher-yielding investments.", "Expense of $853 million was up 7%, as we continue to invest in the business, in banker coverage, and technology initiatives. Loan balances were up 4% year on year and 1% sequentially. In C&I, demand remains muted in the wake of tax reform, as well as client confidence is high, balance sheets are strong and liquid, and the environment is competitive. For us, C&I loans were up 4% year on year and flat sequentially, in line with the industry, but if you decompose it, we're growing strongly in our expansion markets and specialized industries, growing solidly in our core markets, but are seeing notable offsets in tax-exempt activity given the mix of our business. CRE loans were up 3% year on year, a little less than the industry, as we are seeing increased competition and continue to be very selective. Finally, credit performance remains strong, with net recoveries of 3 basis points.", "Moving on to Asset and Wealth Management on Page 7, Asset and Wealth Management reported net income of $724 million with a pre-tax margin of 27% and an ROE of 31%. Revenue of $3.6 billion was up 3% year on year, driven by higher management fees net of fee compression on higher market levels and continued growth in long-term products. These were partially offset by lower mark-to-market gains, including on seed capital investments. Additionally, banking results are strong.", "Expense of $2.6 billion was up 7%, driven by continued investment in advisers and technology as well as higher external fees on revenue growth. For the quarter, we saw net long-term inflows of $8 billion with positive flows across all asset classes. In addition, we saw net liquidity inflows of $14 billion. AUM of $2.1 trillion and overall client assets of $2.9 trillion were both up 7%, with more than half of the increase being driven by flows and the remainder on higher markets. Deposits were down 8% year on year, reflecting migration into investments with us, and down 5% sequentially, including seasonality. Finally, we had loan balances up 12%, with strengths in global wholesale and mortgage lending.", "Moving to Page 8 and Corporate, Corporate reported a net loss of $145 million. Treasury and CIO net income was up year on year, primarily driven by higher rates. Other corporate was a net loss of $241 million, including markdowns on certain legacy private equity investments of $220 million pre-tax. For the whole company, legal costs were a modest negative with a benefit here in other corporate being more than offset in the CIB.", "Moving to Page 9 and outlook, we recently gave you updated outlook, so, unsurprisingly, that still holds, and it's here on the page. Only two things of note: Our expense outlook assumes that the SEIC surcharge ended this quarter, so clearly, an extension would pose a risk, and on tax, there are a number of questions in the rules which we expect to be clarified by the end of the year. We will have to work through them, but would not expect any changes to be material.", "So, to close, we are growing across most of our businesses, we're investing heavily in all of them; we're investing in technology, bankers, and beyond. Credit is in great shape and the earnings power of the company is evident. We are particularly proud of the strength and improvement in customer satisfaction broadly and our continued investments, which drive leadership positions and market share gains. This quarter, we announced Sapphire Banking and our digital investing platform, You Invest. We opened our first branch of part of our expansion strategy in Washington, D.C., announced additional expansion into Philadelphia and Boston, and also announced our Advancing Cities initiative, as we invest for growth in the clients and communities that we serve. With that, operator, please open up the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "If you would like to ask a question, please press 1 on your telephone keypad. We kindly request that you ask one question and only one related follow-up. If you would like to ask additional questions, please press 1 to be reentered into the queue. Your first question comes from the line of Glenn Schorr with Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Good morning. So, at the Investor Day, I remember asking you this same question, so I apologize, but you have a slide that talked about Consumer and Corporate balance sheets being in great shape and having a low debt service burden. The 10-year is up a modest 35 basis points since then, and the world is freaking out that it's the end of the cycle, and that's gonna choke off the recovery. Your results are your results, but some would say they are backward-looking. Are you seeing any impact A). At the modest increase in the curve now, and B). I'll ask again -- is there a level of rates where you would start to see an impact of slowdown and what you're willing to lend rising in credit costs, things like that? Thank you." ] }, { "name": "Marianne Lake", "speech": [ "Yes. So, I would say -- I would pick up on the tone that you had in your question, which is the level of rates is not surprisingly high, and so, from our vantage point, we're not seeing anything in terms of looking at our client dialogue or, for that matter, at the credit trends that would suggest that this is problematic. With higher rates -- and, we do this all the time -- we obviously look at all of our portfolios and stress them for shocks of up 100 basis points, even up 200, although, clearly, where we are now, risks are more symmetric.", "But, there doesn't seem to be any extraordinary stress that becomes evident, even if you -- obviously, at the margin, you're going to get more, but it doesn't seem to be overwhelming, and I think it speaks to the fact that low rates have been for a long time, people have had the chance to get prepared, there is a lot of liquidity, and in the corporate space in particular, people have been able to hedge. So, is there an absolute level of rates where things would be problematic? At some point, but we don't think we're anywhere near there. So, I'm not saying that there couldn't be select downgrades, I'm not saying that at the margin, there may not be some incremental stress if rates continue to go much higher, but that's not where we are right now." ] }, { "name": "Glenn Schorr", "speech": [ "Okay, thanks very much, Marianne." ] }, { "name": "Operator", "speech": [ "Your next question comes from Steve Chubak with Wolfe Research." ] }, { "name": "Steven Chubak", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Morning, Steve." ] }, { "name": "Steven Chubak", "speech": [ "I wanted to start with a question on the You Invest launch. As we think about the strategy for the business, I want to understand -- is the goal to compete with the incumbents to win new clients, or are you simply trying to augment the existing offerings for JPMorgan clients? And, it's really just our effort to understand the long-term strategy given that the pricing is quite competitive, but at the same time, the marketing effort has been fairly minimal so far." ] }, { "name": "Marianne Lake", "speech": [ "Remember, You Invest -- it's early. Jamie just said -- I don't know if you heard it -- yes and yes. Clearly, we are trying to add products and capabilities and value to our existing clients in an effort to continue to drive loyalty and engagement, and also earn more share of their wallet, but we do think that the proposition is compelling, and that the pricing is disruptive, and we should also expect over time to be able to attract new accounts. So, yes and yes, but it's early days. We're going to continue to develop You Invest and its capabilities to iterate it and improve it. So far, it's early, but good." ] }, { "name": "Steven Chubak", "speech": [ "Got it. Thanks for that, Marianne. Just one follow-up from me relating to the commentary on the deposit side. You spoke of some of the headwinds to deposit growth, and these are more industry trends, including yield-seeking behavior on both the Commercial and Asset Management sides. I know you've given some helpful guidance in terms of the impact of Fed QE unwind as well in the past. I'm just wondering -- is the yield-seeking behavior you've seen so far consistent with your expectation? Do you still expect to grow deposits as we look out for the next couple of years?" ] }, { "name": "Marianne Lake", "speech": [ "So, the answer is generically, yes, as we would have expected. Obviously, we have no crystal ball as to the timing in part of these things, but it is playing out arguably a little slower than we thought, but like we thought, and I would say that our outlook for deposit growth is for it to be slower, but still positive." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Betsy Graseck with Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Good morning, how are you?" ] }, { "name": "Marianne Lake", "speech": [ "Good, how are you?" ] }, { "name": "Betsy Graseck", "speech": [ "Good, good. So, first question just on the rate question that you got earlier, but I wanted to understand how you're thinking about the impact on the outlook for your asset yields, and in particular, the securities portfolio. I know you've given guidance on that before, but given the sharp backup that we got over the last couple of weeks, how's that impacting your forward look on that?" ] }, { "name": "Marianne Lake", "speech": [ "On the asset side of the balance sheet, a big rule of thumb is a little less than half our loans are variable indexed to a primer LIBOR, so what we've been seeing -- in any one quarter, there can be noise on one-time items, mix, or whatever else, but largely speaking, for every rate hike we've been seeing on the front end, we're seeing our assets repriced about half of that. Or, our loans reprice about half of that, and that's what we'd expect. Similarly, if we see sustained increases in the long end of the curve, then we would see that play through into our investment securities yield. Obviously, this quarter, while there was a meaningful increase on a spot basis -- on an average basis -- that wasn't the case, and particularly not for mortgages, so it had a modest impact on investment security yields this quarter, but again, if it were sustained and more sizable, we would see that pass-through yet, and we would rotate the assets into higher book yields over time." ] }, { "name": "Betsy Graseck", "speech": [ "Okay. And then, my follow-up question has to do with a blockchain that you launched this quarter -- I think it was on September 25th. You launched a blockchain for international payments, and I know that at Investor Day, you talked a lot about the investments you were making on that side. Should we be viewing this as a competitor to Swift? Is that how the vision is for this blockchain?" ] }, { "name": "Marianne Lake", "speech": [ "So, this is the Interbank Information Network, which we talked about at Investor Day, and now we have, I think, 75 banks and growing signed up to it. I wouldn't necessarily look at it exactly like that. I would say this use case -- at least, for now -- is very much around reducing the friction in the wholesale payment space in terms of inquiry and information sharing, and not at this point about processing payments. So, we are still exploring use cases across the board on blockchain, and are very excited about this and the uptake. I think it will be meaningful, but I wouldn't think of it that way -- not yet." ] }, { "name": "Operator", "speech": [ "Your next question comes from Erika Najarian with Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Erika." ] }, { "name": "Erika Najarian", "speech": [ "My first question expands on what Glenn had asked. So, clearly, the bank stocks have been hit along with the broad market, and I guess you're telling us one of two things. Either the economy is slowing down or the relationship between bank revenue growth and solid economic growth in the U.S. is broken or not somehow as correlated as expected. And, I'm wondering -- given your fairly strong results across the board -- where is the market wrong in terms of how they're thinking about either the economy or bank revenues related to a strong economy?" ] }, { "name": "Marianne Lake", "speech": [ "I wanted to start by saying -- I mean, there's a lot of macro uncertainty, noise, and overhang that have been affecting the markets over the last few days, so overthinking any one driver or conclusion might be challenging. I would say that as we look at the economy, we don't see it slowing down. It seems to be continuing to grow pretty solidly. There is divergence around the world, so it's led by U.S. strength, but still expecting there to be more convergence going forward. So, I actually think that our outlook is still quite optimistic on the global economy, not to say -- to Jamie's point -- that there aren't some risks out there.", "And so, as we continue -- and also, just to talk about monetary policy for a second, everything -- given that growth outlook -- is lining up for a December rate hike, and for more hikes into 2019, and the continuation, hopefully, for a steeper yield curve, and that all should be constructive for bank stocks. It is definitely the case that as we've been talking about for years now, as the Fed is shrinking its balance sheet and liquidity is coming out of the system, yes, we are seeing deposit growth slow, and there's a natural feedback loop. As you reprice liabilities, you'll have a natural asset-based response, so you might have slower growth on the asset side relative to the past, but it should be at higher spreads, and that should be how it plays out. So, there's really no change, I don't think, in our expectation of the drivers." ] }, { "name": "Erika Najarian", "speech": [ "That's helpful. And, just as a follow-up, I picked up in part of your response to an earlier question, Marianne, as we think about your wholesale loan trends year over year, which continue to outpace the banking industry, could you tell us a little bit more about the dynamics in terms of competition from non-banks, particularly in private middle-market lending? And, I guess we're really wondering what you're observing in terms of competition more on structure rather than rates, and whether or not some of the liquidity that you noted could be drained out of the system would change those competitive dynamics near-term, and what is JPMorgan's indirect exposure that remains on balance sheet on the sponsor-backed transactions? Sorry, I know that was a lot." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, I'll try and remember all that. First of all, I would just clarify that when you say wholesale loan growth has been outpacing the industry, I would say that from my recollection over the course of the last several quarters, we've basically been saying in line with -- if not even slightly less than in line with -- the industry, but it is nuanced. You need to get beneath it. There are areas where we would fully expect to be growing more strongly than the industry, and those are in our newer expansion markets, where we've been investing, we're reaping the benefits of those investments, and we're growing from a smaller base and deepening into the markets. In our core markets -- the mature markets -- in line to maybe not even quite, as we are being cautious given where we are in the cycle, so I just want to clarify that --" ] }, { "name": "Jamie Dimon --", "speech": [ "We haven't changed our standards." ] }, { "name": "Marianne Lake", "speech": [ "We haven't materially changed our underwriting standards, no, and if anything, I would say we're just being cautious at the margin. With respect to competition outside of banks, it's definitely true that non-banks are gaining share, and it's also true that they are, structure-wise, going to be willing to do and are willing to do things that we are not. And so, for our best clients, we aren't largely going to lose on price. We would be willing to work on price. But, we would walk away on structure." ] }, { "name": "Jamie Dimon --", "speech": [ "And, we don't have a lot of residual exposure to sponsors doing that kind of lending." ] }, { "name": "Marianne Lake", "speech": [ "That's right." ] }, { "name": "Erika Najarian", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from Mike Mayo with Wells Fargo Securities." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Hi, can you hear me?" ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "Mike Mayo", "speech": [ "So, Marianne, look, ROTCE is 17%. You seem to have some deposit market share gained, but year over year for the third quarter, expenses are up more than revenues. So, can you highlight the dollar amount of investment spending, and how that's changed, and where you are in that progression?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. Actually, before we get into expense for a second, if you step back, there's a couple of things. I wouldn't look at any one quarter when I'm thinking about operating leverage. Not to overplay seasonality or anything else, but I would look at the whole year, and tax reform is an important part of that. So, if you look at year to date on a reported basis rather than a managed basis, year-over-year year to date, we have about 200 basis points of positive leverage, so tax reform is a big factor. And then, obviously, we had some private equity losses, which are episodic in this quarter's revenue print.", "So, I think there's strong growth across the businesses. The expense number in investments -- our expenses are up over $1 billion year on year -- are in line outside of FDIC and revenue-related costs we gave in the guidance at Investor Day. So, think about that $2.7 billion of year-over-year investment, and we're working through it. So, we're on track. It's different from revenues insofar as it's more linear, and so, expenses are in line and positive leverage is, I think, pretty strong." ] }, { "name": "Mike Mayo", "speech": [ "All right. And, just one separate question for you, Jamie. Your CEO letter highlights the expectation that interest rates would go a lot higher -- so, I guess for along the track that you laid out -- but it doesn't seem like the market is digesting it as well as you might have thought the market would digest. It's basically what you expected. So, what's different between your expectation and how the recent market has been reacting?" ] }, { "name": "Jamie Dimon --", "speech": [ "I think I noted that the market might not take it that well if rates go up because it'll surprise people, but people shouldn't be surprised. And, of course, so many things have changed since we've been through this before, like monetary policy, liquidity ratios, capital ratios, et cetera. So, I was also pointing out that just about probabilities that rates can go higher -- people should be prepared for that. They should not be surprised about it. I'm always surprised when people are surprised. And, the why is more important -- you're still growing. The economy is strong; rates are going up. Mostly, that's considered a healthy normalization and going back to more of a free market when it comes to asset pricing, interest rates, et cetera, and we need that.", "So, to me, overall, it's a good thing, particularly because the economy is strong. And so, I do expect rates to continue to go up. We don't bet the company on that; that's just my own expectation. I have much higher odds at being at 4% than most other people, but again, the economy is strong, so as long as we're normalized, a strong economy is a good thing. The economy could be strong for a while. Marianne pointed out that wages are going up, participation is going up, credit has been pristine, housing is in short supply, confidence -- both small business and consumer -- is extraordinarily high, and that could drive a lot of growth for a while in spite of some of the headwinds out there." ] }, { "name": "Marianne Lake", "speech": [ "I also think -- not exactly, but if you went back and looked a couple of years ago what the two-year forward 10-year rate would look like, it would look much like this. And so, it's just that it's been -- because the curve was having a hard time pushing up, people are now focused on it, but this is what we would have expected, should expect, and higher." ] }, { "name": "Operator", "speech": [ "Your next question comes from Jim Mitchell with Buckingham Research." ] }, { "name": "James Mitchell", "speech": [ "Hey, good morning. Maybe just a quick question on deposits. We're starting to see some slowing of growth, if not outflows in some areas, as rates rise, but you guys still have a loan-to-deposit ratio that's in the mid-60s and have been gaining share on the retail side. What's your sense of competition for deposit and pricing, particularly in the core retail bank?" ] }, { "name": "Marianne Lake", "speech": [ "Well, it's not really about competition particularly. When we think about the deposit base and the retail/consumer relationship, deposits and rates paid is an important part of it, but it's increasingly less important, not that it's not significant. And so, when you think about the value that we give to our customers, it's not just that, but it's also all of the customer experience initiatives that we've had. It's about convenience, about digital mobile capabilities, it's about launching new products, new services, simplifying the environment for them. So, there's a lot of different investments and things to play, which might make this kind of normalization cycle a little different. So, the way we think about it is we look carefully across the spectrum of deposits -- retail and wholesale -- at what we are seeing in terms of flows and balances and elasticity for our customers on our balance sheet. And, that's how we think about our strategy for deposit reprice, and it's largely behaving as we would have expected." ] }, { "name": "Jamie Dimon --", "speech": [ "Can I just make a macro point, too? As the Fed reduces balance sheets -- say, by $1 trillion over the next 18 months or whatever, which they've indicated they're going to do -- that's $1 trillion out of deposits. That will have an effect on macro competition and stuff like that, and we try to estimate the big points. Is it coming out of wholesale, out of retail? It's hard to know, but that will change the competition a little bit for deposits." ] }, { "name": "James Mitchell", "speech": [ "Okay, fair enough. And, maybe a follow-up on that investment spend -- obviously, it went up, with the tax cut helping to accelerate some investments. Going forward, do we think of it stabilizing at these high levels, or is this sort of a one-off increase and we might see that come down, or do we keep increasing? How do we think about the investment-spend needs going forward a little further out?" ] }, { "name": "Marianne Lake", "speech": [ "I would say first of all, obviously, we'll give you more thoughts on forward-looking guidance at a future date, but just generically, I wouldn't really put tax reform as being a primary reason for what we're doing on investment. I would say that we have identified the opportunity to accelerate capabilities that are consistent with our clients' strategic long-term goals, so we've been leaning into that this year.", "And so, it was a pretty sizable step up this year acknowledging that. We wouldn't necessarily expect to see that continue, but we're going to carry on investing in technology, adding bankers, opening branches, launching new products so that we're defending the long-term growth and profitability of the company. And, in the absence of giving you guidance, I would just point you to the fact that we're still targeting -- not targeting, but we're still expecting an overhead ratio to be around the mid-50s over the medium term, which, on revenue growth, implies we're going to continue to invest, and there's also volume-related costs associated with that." ] }, { "name": "Operator", "speech": [ "Your next question comes from John McDonald with Bernstein." ] }, { "name": "John McDonald", "speech": [ "Hi, good morning. Marianne, I was wondering -- on the regulatory front, do you have any visibility yet into the future interaction of CCAR process with the new loan loss accounting rules -- CECL -- particularly in the context of the stress capital buffer particularly being implemented? It seems like we could have some overlapping pro-cyclicality, and then the potential to freeze that into the run rate capital. So, I'm wondering if there's any visibility yet on that. Is that a big area of uncertainty for you?" ] }, { "name": "Marianne Lake", "speech": [ "So, you hit the nail on the head with both your question and what that could imply. It is a big area of uncertainty. We do not have clarity on capital broadly as it relates to CECL, including whether there will be permanent capital relief and/or how that will play into CCAR. It is one of the most open questions we have. So, right now, what we know is -- as far as I know, anyway -- we don't have to put the CECL impact in until CCAR 2020, so it's not an imminent question, but it's an important one, and we don't know the answer." ] }, { "name": "Jamie Dimon --", "speech": [ "It seems to me that every single time there's a chance to make things more pro-cyclical or less, we make it more pro-cyclical." ] }, { "name": "Marianne Lake", "speech": [ "That's the danger for sure, so we would encourage the dialogue on clarifying capital treatments writ large to be at the forefront of standard set of mind." ] }, { "name": "Jamie Dimon --", "speech": [ "This also won't change our strategy. That's just accounting." ] }, { "name": "John McDonald", "speech": [ "Got it. And, just as a follow-up, I was just wondering how rising rates are affecting competition and capacity in the mortgage business, and whether the regulations in mortgage have made you open to reconsidering getting back into some areas that you exited after the crisis." ] }, { "name": "Marianne Lake", "speech": [ "So, mortgage being a cyclical business as it is, we are -- on higher rates -- expecting the overall market to be down about 10% year on year. We are down in line or more than that, but for us, it's a tale of two channels. We are flat year on year in the Consumer channel, so decent consumer engagement and purchase market share, and we're down meaningfully in correspondent because we are pricing for some risk and higher rates. With respect to would we be willing to reconsider opposition on mortgage, the narrative -- the dialogue is constructive, but there hasn't actually been any resolution to the bigger challenges, so if we can get that resolution, then I think the answer would be largely, yes. Jamie?" ] }, { "name": "Jamie Dimon --", "speech": [ "I would just add that mortgage -- the mortgage company is earning money, doing quite well. Delinquency is way down. We're competitive. We started Chase My Home so you can digitally track your mortgage process, and there's a lot of good stuff coming, so the big picture is pretty good. Obviously, refinances and new home sales will probably be down because of the rates a little bit." ] }, { "name": "Marianne Lake", "speech": [ "And, you're right, there's excess capacity in the market right now, and that will clear -- it will clear itself out over the course of coming months, and we're in this for relationships, not volumes, and margins are under pressure as a result, but they will stabilize." ] }, { "name": "Jamie Dimon --", "speech": [ "And, that is an area, by the way, where all the riskier lending has gone to non-banks, pretty much." ] }, { "name": "Operator", "speech": [ "Your next question comes from Al Alevizakos with HSBC." ] }, { "name": "Al Alevizakos", "speech": [ "Hi, thank you. I would like to ask a question on the CIB, especially I would like to focus more on the outlook that you gave that the spreads are getting tighter. I would like to know regarding the credit and securitization business where we see an issuance being quite slow during the summer, then continuing like that in September. Do you see that there is a risk of mode in the market, and how would you believe that the revenues would actually move going into foreign in the new year? Do you think that generally, fixed-income wallet would actually be going down? Thank you." ] }, { "name": "Marianne Lake", "speech": [ "A risk of what? Sorry." ] }, { "name": "Al Alevizakos", "speech": [ "The what? Sorry." ] }, { "name": "Jamie Dimon --", "speech": [ "The risk the wallet will go down." ] }, { "name": "Marianne Lake", "speech": [ "So, I'd like to say on the margin point, it's been the case that particularly in the more liquid space, you've seen margins coming down consistently over the years, so it's not necessarily that this is some sort of step change or new phenomenon, but it's competitive, so that's what we're seeing. On the SPG side, pipelines aren't strong at this point, so we expect fourth quarter to go much like the third." ] }, { "name": "Jamie Dimon --", "speech": [ "I'll just make a long-term point or two. In the next 20 years or so, the total fixed-income markets around the world are going to double, and that is an important thing to keep in the back of your mind. So, when you run the business, you run the business to capture your share of that doubling, and of course, margins over time will come down, and the way you do it is being transformed by electronics, et cetera, but it's a pretty good future outlook." ] }, { "name": "Al Alevizakos", "speech": [ "Okay, thank you." ] }, { "name": "Marianne Lake", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from Ken Usdin with Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Thanks, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Ken Usdin", "speech": [ "Marianne, on the consumer credit side, you made the point about card losses remaining low and toward the low end of what you had thought for the year, but I also noticed that you added to the card reserve and noted higher losses, so can you give us the to and fro about what you're seeing and the underlying on card and losses and trajectories? Thanks." ] }, { "name": "Marianne Lake", "speech": [ "Sure, OK. So, as you know, we've been talking for a couple of years now about the fact that we did some targeted credit expansion in the card space a few years back, and naturally, as that seasons, it will -- risk-adjusted returns that are healthy, but underwriting loans with higher loss rates, which means that as that seasons, the overall portfolio loss rate will naturally increase, so the higher the percentage of newer vintages are, the higher the loss rate will be in accordance with our underwriting standards and good risk-adjusted returns. So, that's something we've been tracking, guiding to, and expecting. The build this quarter was more about loan growth than it was about the seasoning of the charge-off rate, but it was a bit of both.", "My comment about the performance, though, is if we had looked at the 2018 card loss rate as we did at the beginning of the year, we said we would have expected it to be closer to 3.25%, but there are three things driving it to be slightly better. The first is the pre-expansion vintages are holding up very well -- so, the pre-2015 vintages continue to hold up very well. The second is that as we have continued to observe the newer vintages, we've been rigorous in terms of -- at the margin -- doing risk pullbacks and ensuring we're managing the performance really well, and the third is that we've been improving our collection strategy. So, a combination of factors have allowed us to deliver, apples to apples, a charge-off rate for the portfolio that's a little better than we would have expected coming into the year." ] }, { "name": "Ken Usdin", "speech": [ "Great color, thank you." ] }, { "name": "Jamie Dimon --", "speech": [ "[Inaudible] to the cycle number, so you should explain that to them, too." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, and obviously, in this portfolio, as we go through the cycle, we would expect charge-off rates to continue to rise, and that's one of the reasons why I emphasize that the pre-expansion vintages continue to be -- you'll remember we hit that 2.5% charge-off rate, which is extraordinarily low for this kind of portfolio, and we're still there for those pre-expansion vintages, so, naturally, as the cycle matures, we will see that rise, but we aren't seeing it yet." ] }, { "name": "Ken Usdin", "speech": [ "Yup, makes sense. And, on the other side, can you talk a little bit of auto in the same context too, where the losses have been flat as a pancake? Can you talk about that, and also just that leasing side of the book, which we more see in the other income? Are you still seeing the same potential for growth in both the on-balance-sheet and the leases?" ] }, { "name": "Marianne Lake", "speech": [ "So, on the loan side in auto, I would say that we are losing share as we face competition from credit unions and captives that may have economic frameworks that are different from ours. We are not going to chase volume. We're going to get the appropriate return for the risks. So, our credit reflects our discipline on pricing and underwriting standards, so it is continuing to be flat to a little better. On the leasing side, we do leasing with our manufacturing partners. We are seeing very strong growth. We're very careful about how we think about residual risks and reserving on that portfolio, but it's very high-quality growth, and that looks set to continue." ] }, { "name": "Operator", "speech": [ "Your next question comes from Saul Martinez with UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Saul Martinez", "speech": [ "I just wanted to follow up on the question on operating leverage. How should we think about the outlook for positive operating leverage more philosophically? Your efficiency ratio is currently not materially above the 55% through the cycle expectation. So, should we be thinking of positive operating leverage as part of the investment narrative, or is the goal really to invest in favorable business outcomes, operating leverage does what it does, and really doesn't drive business decisions?" ] }, { "name": "Marianne Lake", "speech": [ "More the latter than the former. So, obviously, we have a view of what we think the right return profile for these businesses should look like, and we're investing to deliver these returns through the cycle and over the long term, so we don't have an operating leverage target in mind when we set our investment strategy, nor, for that matter, do we have an expense target in mind either. So, again, we saw a reasonable step up year on year this year because we saw the opportunity to do that well. I wouldn't necessarily expect to see that kind of growth. But, again, operating leverage is more of an outcome -- not entirely, but more of an outcome than an input." ] }, { "name": "Jamie Dimon --", "speech": [ "And mix." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, and mix." ] }, { "name": "Saul Martinez", "speech": [ "Got it, OK. Fair enough. And, if I could just ask a quick follow-up on CECL, I know you don't manage to accounting outcomes, and I think, Marianne, you mentioned a number of areas last quarter where CECL could have an impact. But, any update on CECL preparations and when you think you might have an estimate of what the effects could be?" ] }, { "name": "Marianne Lake", "speech": [ "I appreciate that you guys have been asking about this now for a while, and I hate to tell you that the modeling, the data, the methodologies, are complicated, so, operationally, we are working through that across all of our businesses. We continue to expect to be running in parallel through some parts of 2019 across some of our portfolios so that we can make sure that we fully understand the potential implications.", "We don't have a number for you, but I will tell you this: Same as I said last time, the biggest driver is likely to be card because of the size of the portfolio and the 12-month incurred loss model today, so, the weighted average life of the portfolio driven by revolvers would be longer than that, most likely. There will be some other impacts, pluses and minuses. Research reports have been written. I think on average, those that have been written have suggested that not just for us, but across others, that the reserve increase could be 20-30%, and while I don't have a number for you, it's not implausible." ] }, { "name": "Operator", "speech": [ "Your next question comes from Matt O'Connor with Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Matt O'Connor", "speech": [ "Hi. I wanted to follow up on the discussion about increased competition in FIC. The language in the release implied there was some increase in competition. Your comments on the call here say it's been competitive for some time. I guess I was trying to square the two, and I would just add that coming into this year, you had the No. 1 FIC share, and incredibly, you've been the biggest FIC share gainer year to date when we look on a global basis. So, you've been building on top of that share, and I'm just trying to gauge if there's been a change among competition trying to get some of that share back, and maybe that's just started to accelerate." ] }, { "name": "Marianne Lake", "speech": [ "I think if you go back a number of years, when we were all having those deep and meaningful debates about whether we should be changing our FIC operating model, and we were committed to the full-spectrum, complete platform, you roll forward to 2016, there was outperformance in fixed-income, and coming in -- and, people had made changes to their operating model and operations, and the competition came back pretty fiercely, I would say, into 2017. And then, in 2017, the market didn't play nicely, particularly. The volatility and volumes were less robust than they had been in 2016.", "But, we haven't seen the competition let up, so people are back and wanting to enjoy -- Jamie just talked about it -- the fixed-income wallet will double, and pretty much, everyone everywhere wants to enjoy some of that. And so, the competition -- it's a combination of it's been very competitive for a while and it continues to be so. So, I don't think it's a step change, but it does obviously feel -- particularly when volatility has been reasonably contained outside of specific emerging-market areas -- that everybody is competing for these thin margins." ] }, { "name": "Matt O'Connor", "speech": [ "And then, just broadly speaking, if we look at both FIC and equity tradings, obviously, you've had the leadership position with FIC. You've been gaining a lot of share in equity, including this year. What do you think the biggest driver of that is? It doesn't feel like it's the capital or liquidity advantage. Is it all the technology spend that you've been doing? What are a couple reasons you'd just chalk it up to high level?" ] }, { "name": "Marianne Lake", "speech": [ "If you think about the -- we're gaining share most notably in cash and prime, and if you go back a number of years ago, we were pretty open and honest about the fact that we weren't where we needed to be in either of those two scenarios, and we have been consistently investing in the platform, and it is technology. Think about prime with the -- building out of the prime platform, particularly internationally, has been a game changer, and we've had a best-in-class competitive offering over the course of the last couple of years, and now we're getting the momentum of being able to deliver that to clients, and similarly, we've been investing in the cash side, so it's across the complex, but we're getting the benefits of the investments we've been making. I also think that the relationship effects of having the equities business with our private bank and with the commercial bank -- the feedback loop -- is also quite powerful, so it has a little bit to do with our operating model, our platform as a company." ] }, { "name": "Jamie Dimon --", "speech": [ "And really great research." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, great research." ] }, { "name": "Operator", "speech": [ "Your next question comes from Brian Kleinhanzl with KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Thanks. I had a quick follow-up question on the securities services. You mentioned that there was a decline sequentially based on seasonality and the exit of the business, but is there any way to size that to get to what the underlying growth trends were in that segment?" ] }, { "name": "Marianne Lake", "speech": [ "From an underlying growth trend perspective, I would look year over year rather than sequentially. I point out the sequential points because of seasonality. We also exited U.S. broker/dealer business, so that obviously has an impact. It is also the case -- so, if you think about the year-on-year growth of 5%, we have been growing more than that, led by very strong growth in NII. For this business, this is a wholesale business where deposit bases are high, so we would expect that growth to level off, and in this quarter in particular, just the specifics of our internal transfer pricing is that -- so, LIBOR OAS narrowed, and it just had an impact. Year over year, continue to expect us to grow assets, asset-based fees, NII solidly but not as strongly, and transactions. So, I don't know whether it's going to be high single-digit or mid-single-digit growth year on year." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Okay, thanks. And then, just one separate question on the non-interest-bearing deposits -- it came down quarter over quarter. Was that just on the corporate side, or was there also some pickup on the deposit gammas on the retail side as well?" ] }, { "name": "Marianne Lake", "speech": [ "Not on the retail side, not yet. There's not a sufficiently compelling rate differential to be driving any product migration on the retail side yet, but we are seeing it on the wholesale side." ] }, { "name": "Operator", "speech": [ "Your next question comes from Gerard Cassidy with RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, Marianne." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Gerard Cassidy", "speech": [ "I apologize if you've already addressed this, but can you give us the outlook for the pipeline for commercial loan growth or commercial loans in investment banking? I know it's very early in the quarter, but with the trading volatility we've seen, any color that you can share with us on that as well." ] }, { "name": "Marianne Lake", "speech": [ "So, commercial loans -- we're 4% up year on year, flat to 1% up sequentially. At this point, as we look forward over the near term, it feels like that kind of steady growth -- GDP plus, GDP -- is what we're going to get. And remember, everybody has a different mix, but one of the things that happened quickly with tax reform is that the government healthcare hospital not-for-profit space was less compelling from a loan sense, and now are going to be more compelling in the capital markets, so we're seeing that impact, our growth down. So, I would say that not quite mid-single-digit growth feels like a decent outlook, all other things being equal.", "In terms of the capital markets, I would say that the third-quarter pipelines coming out into fourth quarter and momentum sets us up for a decent fourth quarter, honestly, across products. Clearly, volatility depending upon how long it stays around and what the drivers are can impact business confidence. We're not necessarily expecting that, so I would still say the outlook across products is good, with ECM obviously being the one that would most likely be impacted, but even there, I think it might be more of a temporary set of pauses as people see how everything is digested.", "And, honestly, on markets, no good ever comes of trying to predict what a course will look like after a couple weeks. And, volatility is not necessarily a bad thing. It can be constructive in some ways and less in others, so there's no good coming of a prediction at this point. I will say one thing about markets, just to give you guys a tiny view, as I know you now, but just because of tax reform and another one-off item in the fourth quarter, flat year-on-year comparably would be up." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. I appreciate that. The second question is when we look at the weekly H8 data on Fridays, the smaller banks in this country are growing their loan books much faster than the larger banks. You obviously had good loan growth this quarter, but it doesn't match up to what the smaller banks are producing. So, the question is, what impact do you think the CCAR process has had on you when you compare your underwriting pre-financial-crisis? I know you're not changing your underwriting standards, but do you think the larger banks are more conservative as a general statement? And, it's reflected in these very strong credit quality numbers you and your peers are posting today." ] }, { "name": "Marianne Lake", "speech": [ "It's difficult to generalize, and obviously, everybody has a different risk appetite. It might be fine if you're getting properly paid to grow more quickly. We are sticking with our guns in terms of our underwriting and risk appetite on credit. The other thing I think you have to bear in mind -- again, it depends on the particular situation of any competitor -- is that we are materially and increasingly bound by standardized risk-weighted assets. And so, while we don't overthink that and we do honestly think about economic capital, at some level, we have to generate a positive return for shareholders and shareholder value, and it's on these very high-credit-quality loans that we're producing, it's expensive." ] }, { "name": "Operator", "speech": [ "Your next question comes from Marty Mosby with Vining Sparks." ] }, { "name": "Marty Mosby", "speech": [ "Thanks, and good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Marty." ] }, { "name": "Marty Mosby", "speech": [ "I wanted to take a little bit of a different slant on deposit betas and just ask a three-part question. 1) Is the increase in deposit betas that we've seen over the last couple of Fed moves surprising at all or abnormal, in your opinion, to normal historical trends?" ] }, { "name": "Marianne Lake", "speech": [ "So, I would say if you look at the first four hikes, it was relatively muted deposit reprice across the complex. It accelerated for the last three hikes excluding September, given, obviously, when it happened. So, we are seeing an acceleration in betas, and it started at the top end of wholesale, and it will migrate through the complex over time. I would say it's in line to arguably better than we would have modeled, but remember that this cycle did start in a very different place. So, while if we looked at history, we might have seen reprice in totality having been higher at this point, we started at 100 basis points of rates, not 25. So, I think that plays into it too. So, generally in line with expectations is what I would say." ] }, { "name": "Marty Mosby", "speech": [ "Okay, that's what I would say, so let's go to the next question. Given that rates have been low for so long going up until we started increasing rates, we've repriced almost every security and loan we had on the books. So, the actual upward potential to reprice portfolio yields to current market rates has got to be larger than what we typically have seen historically. Do you agree or disagree with that idea?" ] }, { "name": "Marianne Lake", "speech": [ "I would say yes. Obviously, it depends on how you position the company over that period, but we talked about it before -- we were and have consistently been relatively short the market. We've been keeping dry powder so we could invest as long as rates go up, and we still are looking at that, but obviously, there's convexity in the portfolio too, so, paying attention to that. Yeah, I agree." ] }, { "name": "Marty Mosby", "speech": [ "So, the stretch between this portfolio yield -- so, asset yields can actually reprice faster than what we've seen historically. So, the combination of those two things in our estimation gives us a threshold -- so, if we solve backwards for deposit betas, it gives us a threshold if we estimate for J.P. Morgan of somewhere between 80-90% deposit betas before you actually break through and start eroding net interest margin. Currently, you had about a 40% deposit beta this quarter, so you had a lot of headroom still to go before margin starts to really erode, given deposit pricing. So, I just wanted to get a feel for that estimate of 80-90%, given where you're at today." ] }, { "name": "Marianne Lake", "speech": [ "So, obviously, I don't know exactly your mental model, but let me tell you this: I think you're right. I don't know about the 80-90% specifically, but you're right about net interest margin if you look through any short-term noise. So, we would expect the trend for our firmwide anchor NIM to trend or grind higher over time, but it does depend on the path and pace of reprice.", "So, if we continue to see deposit betas stay low or lower than, potentially, a linear kind of move, you'll see margins increase, and then, as they accelerate back to target, you might even see it compress, but if you see through that over the long run, yes, net interest margins will be higher, and that will be driven mainly by balance sheet growth, mix, and long end of rates. At Investor Day, you might remember we told you that beyond 2018, net-net, there was little rate left to go, and it was going to be more about balance sheet, mix, and growth, and long end of rates a little compounding, but the path does matter. So, you can see core NIM in particular will be very vulnerable to the pace of reprice, but I would look through that." ] }, { "name": "Operator", "speech": [ "There are no additional questions at this time." ] }, { "name": "Marianne Lake", "speech": [ "Thank you, everyone." ] }, { "name": "Jamie Dimon --", "speech": [ "Thank you." ] }, { "name": "Marty Mosby", "speech": [ "More JPM analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
JPM	2019-04-12	[ { "description": "Executive Vice President & Chief Financial Officer", "name": "Marianne Lake", "position": "Executive" }, { "description": "Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Wells Fargo -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Chairman & Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "HSBC -- Analyst", "name": "Alevizos Alevizakos", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Buckingham Research -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Vining Sparks -- Analyst", "name": "Marty Mosby", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's First Quarter 2019 Earnings Call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation. Please stand by.", "At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO, Jamie Dimon; and Chief Financial Officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thank you, operator. Good morning, everybody. I'm going to take you through the earnings presentation, which is available on our website. Please refer to the disclaimer at the back of the presentation.", "Starting on Page 1, the firm reported record net income of $9.2 billion, an EPS of $2.65 on record revenue of nearly $30 billion with a return on tangible common equity of 19%. The results this quarter were strong and broad-based. Highlights include core loan growth ex-CIB of 5% with loan trends continuing to progress as expected. Credit performance remained strong across businesses. We saw record client investment assets in Consumer of over $300 billion and record new money flows this quarter, and double-digit growth in both card sales and merchant processing volumes, up 10% and 13% respectively. (inaudible) number one in Global IB fees and gained meaningful share with share well above 9% this quarter. In the Commercial Bank, we had record gross IB revenue. In Asset & Wealth Management record AUM and client assets and the firm delivered another quarter of strong positive operating leverage.", "Turning to Page 2 and talking into more detail about the first quarter. Revenue of $29.9 billion was up $1.3 billion or 5% year-on-year, driven by net interest income, which was up $1.1 billion or 8% on higher rates as well as balance sheet growth and mix. Non-interest revenue was up slightly as reported. But excluding fair value gains on the implementation of a new accounting standard last year, NII would have been up 5%, reflecting auto lease growth and strong Investment Banking fees. And while markets revenue was lower, there were other items more than offsetting.", "Expense of $16.4 billion was up 2% relating to continued investments we're making in technology, real estate, marketing and front office, partially offset by a reduction in FDIC charges of a little over $200 million. Credit remains favorable across both Consumer and Wholesale. Credit costs of $1.5 billion were up $330 million year-on-year, driven by changes in Wholesale reserves.", "In Consumer, charge-offs were in line with expectations and there were no changes to reserve this quarter. In Wholesale, we had about $180 million of credit costs driven by reserve builds on select C&I client downgrades, and recall that there was a net release last year related to energy. Once again, these downgrades were idiosyncratic. It was a handful of names and across sectors. Net reserve builds to this order of magnitude are extremely modest given the size of our portfolios, and we are not seeing signs of deterioration.", "Moving on to Page 3 and balance sheet and capital. We ended the quarter with a CET1 ratio of 12.1%, up modestly from last quarter, with the benefit of strong earnings and AOCI gains, given rallying rates being partially offset by slightly higher risk-weighted assets. RWA is up primarily due to higher counterparty credit on trading activity, but most of these this quarter being offset by lower loans across businesses on a spot basis.", "Quarter-on-quarter loans were down in Home Lending as a result of a loan sale transaction and the CIB as a result of the large syndication and in Card and Asset Wealth Management seasonally. Also on the page, total assets are up over $100 billion quarter-on-quarter, principally driven by higher CIB trading assets, in part a normalization from lower levels at the end of the year given market conditions.", "Lower end-of-period loans are partially offset by treasury balances, including higher securities. In the quarter, the firm distributed $7.4 billion of capital to shareholders, including $4.7 billion of share repurchases (inaudible) we submitted our 2019 CCAR capital plans to the Federal Reserve.", "Moving to Consumer & Community Banking on Page 4. CCB generated net income of $4 billion and an ROE of 30% with consumers remaining strong and confident. Core loans were up 4% here year-on-year, driven by Home Lending and Cards both up 6% and Business Banking up 3%. Deposits grew 3%, in line with our expectations, and we believe we continue to outperform. Client investment assets were up 13%, driven by record new money flows, reflecting growth across physical and digital channels, including You Invest. We also announced plans to open 90 branches this year in new markets.", "Revenue of $13.8 billion was up 9%. Consumer & Business Banking revenue up 15% on higher deposit NII, driven by continued margin expansion. Home Lending revenue was down 11%, driven by net servicing revenue on both lower operating revenue and MSR. But notably while volumes are down, production revenue is up nicely year-on-year on disciplined pricing. And Cards, Merchant Services and Auto revenues was up 9%, driven by higher Card NII on loan growth and margin expansion and higher auto lease volumes.", "Expense of $7.2 billion was up 4%, driven by investments in the business and auto lease depreciation, partly offset by expense efficiencies and lower FDIC charges. On credit, net charge-offs were flat as lower charge-offs in Home Lending and Auto were offset by higher charge-offs in Card on loan growth. Charge-off rates were down year-on-year across lending portfolios.", "Now turning to Page 5 and the Corporate & Investment Bank. CIB reported net income of $3.3 billion and an ROE of 16% on strong revenue performance of nearly $10 billion. For the quarter, IB revenue of $1.7 billion was up 10% year-on-year. And outside of an accounting nuance, all of advisory, DCM and total IB fees would have been record for a first quarter. Advisory fees were up 12% in a market that was down, benefiting from a number of large deals closing this quarter. We ranked number one in announced dollar volumes and gained nearly 100 basis points of wallet share.", "Debt underwriting fees were up 21%, also outperforming a market that was down, driven by large acquisition financing deals and our continued strong lead-left positions in leverage finance. We maintained our number one rank and gained well over 100 basis points of share. And equity underwriting fees were down 23%, but in a market down more, as the combination of the government shutdown, uncertainty around Brexit and the digital (ph) impacts from the December volatility weighed on issuance activity across the regions in the first quarter. But already in the second quarter, we've seen a major recovery in US IPO volumes back to normalized levels, and we are benefiting from our leadership in the technology and healthcare sectors, which again dominate the calendar.", "Moving to markets. Total revenue was $5.5 billion, down 17% reported, or down 10% adjusted for the impact of the accounting standard last year that I referred to. Big picture, on a year-on-year basis, we are challenged by a tough comparison. Backdrop in the first quarter of 2018 was supportive, clients were active and we saw broad-based strength in performance with a clear record in equities last year. In contrast, this quarter started relatively slowly and overhanging uncertainties kept clients on the sidelines, despite a recovered and more stable environment.", "So with that in mind, I would categorize the results as solid and a little better than we thought at Investor Day just a few weeks ago, largely due to a better second half of March. And for what it's worth so far the environment in April feels generally constructive, but it's too early to draw any conclusions in terms of P&L. Fixed income markets revenue was down 8% adjusted, driven by lower activity particularly in rates and in currencies and emerging markets, which normalized following a strong prior year. However, we did see relative strengths in credit trading on strong flows as well as in commodities.", "Equities revenue was down 13% adjusted, speaking more to the record prior year quarter (inaudible) performance, which was still generally strong across products. Although derivatives got off to a somewhat slower start, cash in particular nearly matched last year's exceptional results. Treasury services revenue was $1.1 billion, up 3% year-on-year, benefiting from higher balances and payments volume being partially offset by deposit margin compression. Securities services revenue was $1 billion, down 4% as organic growth was more than offset by fee and deposit margin compression, lower market levels and the impact of a business exit.", "Of note, deposit margin in both treasury services and securities services is impacted by funding basis compression rather than client basis, and at the firmwide level there's an offset. Finally, expense of $5.5 billion was down 4%, driven by lower performance-based compensation and lower FDIC charges, partially offset by continued investments in the business. The cost to revenue ratio for the quarter was 30%.", "Moving to Commercial Banking on Page 6. A strong quarter for the Commercial Bank with net income of $1.1 billion and an ROE of 19%. Revenue of $2.3 billion was up 8% year-on-year on strong Investment Banking performance and higher deposit NII. Record gross IB revenue of over $800 million was up more than 40% year-on-year due to several large transactions and the pipeline continues to feel robust and active. Deposit balances were down 5% year-on-year and 1% sequentially as migration of non-operating deposits to higher yielding alternatives have decelerated, and we believe is largely behind us. From here, we expect deposits to stabilize given the benign rate outlook. Expense of $873 million was up 3% year-on-year as we continue to invest in the business in banker coverage and in technology.", "Loans were up 2% year-on-year and flat sequentially. C&I loans were up 2% or up 5% adjusted for the continued runoff in our tax-exempt portfolio. We continue to see solid growth across expansion markets and specialized industries. CRE loans were up 1% as competition remains elevated and we continue to maintain discipline given where we are in the cycle. Finally, credit costs of $90 million were predominantly driven by higher reserves from select client downgrades and net charge-offs were only 2 basis points on strong underlying performance.", "Before we move on, I want to address the perceived gap between our reported C&I growth statistics and those that we will see in the Fed weekly data. If we look across all of our Wholesale businesses, we also show strong growth year-on-year at about 8%, but there are three comments I would make.", "The first is that there can be reasonable noise in the Fed weekly data. Second, CIB is a big contributor for us, and CIB loan growth this quarter was supported by robust acquisition financing and higher market loans. And third, as previously noted, the definition of C&I for the Fed does not include our tax-exempt portfolio, which has seen significant year-on-year declines given tax reform. So while it's true that the Fed data is showing strong growth year-on-year and apples-to-apples (inaudible) mainstream middle market lending space, we're seeing good mid-single digit demand in line with our expectations.", "Moving on to Asset & Wealth Management on Page 7. Asset & Wealth Management reported net income of $661 million with a pre-tax margin of 24% and an ROE of 25%. Revenue of $3.5 billion for the quarter was flat year-on-year as lower management fees on average market levels as well as lower brokerage activity were offset by higher investment valuation gains.", "Expense of $2.6 billion was up 3% year-on-year as continued investments in our business as well as other headcount-related expenses were partially offset by lower external fees. For the quarter, we saw net long-term inflows of $10 billion with strength in fixed income, partially offset by outflows from other asset classes. Additionally, we had net liquidity outflows of $5 billion. AUM of $2.1 trillion and overall client assets of $2.9 trillion were both record up 4%, driven by cumulative net inflows in the liquidity and long-term products and with first quarter market performance nearly offsetting fourth quarter declines.", "Deposits were up 4% sequentially on seasonality and down 4% year-on-year, reflecting continued migration into investments although decelerating as we continue to capture the vast majority of these flows. Finally, we had record loan balances up 10% with strength in both Wholesale and Mortgage Lending.", "Moving to Page 8 and Corporate. Corporate reported net income of $251 million with net revenue of $425 million compared to a net loss of over $200 million last year. The improvement was driven by higher NII on higher rates as well as cash deployment opportunities in Treasury. And recall, last year, we had nearly $250 million of net losses on security sales relative to a small net gain this quarter. Expense of $211 million is up year-on-year and includes a contribution to the foundation of $100 million this quarter.", "Completing on Page 9. To wrap up, this is (inaudible) that really showcases the strength of the firm's operating model, benefiting from diversification and scale, and our consistent investment agenda. We delivered record revenue and net income and a clean first quarter performance despite some hangover from the fourth quarter. Underlying drivers across our businesses continue to propel us forward, and in March and coming into April, the economic backdrop feels increasingly constructive. Client sentiment has recovered and recent global data shows encouraging momentum. Investor Day is only six weeks behind us so our guidance for the full year hasn't changed. We do remain well positioned and optimistic about the firm's performance.", "With that, operator, we'll take questions." ] } ]	[ { "name": "Operator", "speech": [ "(Operator Instructions) Our first question comes from the line of John McDonald with Autonomous." ] }, { "name": "John McDonald", "speech": [ "Hi, good morning. Marianne, you had good expense control this quarter, and your -- Jamie's letter you show goals of improving the efficiency ratio in each of the main business units for the next few years. Just kind of wondering what's driving that, is there any kind of cresting of investment spend that's going to occur in 2020 or is this kind of positive operating leverage carrying through?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. Hey, John. So, I would say just big picture it's a combination of both obviously. We talked at Investor Day about the fact that we're always going to make the net investment -- the net incremental investment decision based on its own merit, but in total with the amount we're spending now and the amount of dollars that roll off every year that get repositioned for investments, we feel like we should see our net investment spend reach a reasonable plateau over the course of the next several years.", "And so, that is -- obviously a lot of the investments that we've been making in technology are also not only to do with customer service and risk management and revenue generation, but they are also to do with operating efficiency. So we do would also expect to start to see some of that drive operating leverage. But it's also in the case that we're looking for revenue growth too. So it's a combination of both." ] }, { "name": "John McDonald", "speech": [ "Okay. And then, just on the NII outlook, it's reassuring to be able to hold the Investor Day outlook of $58 billion for this year even though the curve's flattened, there were some concerns there. What are the dynamics that enable you to keep the guidance even with the change in curve that we've seen?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I mean, the first thing I would say is that we've said this before and we've seen these periods where you get kind of short-term fluctuations in the curve is that it's a bit dangerous to chase it up and down every month or so. And so, in the big picture, we said $58 billion plus, yes, it's true that a persistent flatter curve would have us more net drag on carry, and we're not immune to that. So, there is a little bit of pressure as a result of that if it is persistent at this level throughout the year, but we continue to grow our loans and our deposits. And against that, there's a mixed bag of lower for longer.", "So, while we may not have a tailwind of higher rates, we also may not have the same kinds of pressures that we would see on bases necessarily. And while lower long end rates may be a net small drag in the short-term on earnings, there's the credit on the balance sheet and you could argue a patient Fed and lower rates for longer may elongate the cycle. So, net-net, there are pluses and minuses. I would say, there may be some pressure as a result of that as it's persistent, but it's modest." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Mike Mayo with Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Hi . You mentioned consumer deposit growth is outperforming where you get average consumer deposits up over $20 billion year-over-year. So, those are the numbers. I was hoping for a little bit more on the why. And to what degree does that reflect your build-out of branches? How is that deposit growth growing? How much of this is related to digital banking? And then how much would be due to simply a perception that you have superior strength? I know that came up during the CEO hearings, the IMF study saying that you get a benefit due to a perception of being too big to fail. Thanks." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, look, I would say, there's lots of different opportunity for people to get insured deposit. So -- come back to the third point, but -- all of that plays a piece. So, you'll recall that we've built a large number of branches following the financial crisis as we densified our position in new markets in California and Florida and Nevada and the like. And so, we do have a decent portion of our branches that are still in their maturation phase, and so we're definitely seeing some growth in deposits there.", "I also firmly believe and we've talked about it many, many times that we've been investing consistently over the last decade in customer experience. Customer satisfaction in our consumer banking is at an all-time high and continues to increase consecutively. Digital products, new products and services, value propositions to our customers, convenience, new markets, all of which, I think, are increasingly important to our customers as well as obviously a number of other factors. So, to me, it's a combination of all of the above and less so, at this point, a perception of flight to quality, the people have a lot of choices.", "Year-over-year, I would say, we're seeing deposit growth slow exactly in line with our expectations, but this year the slowdown speaks a little bit more as far as we can see to higher consumer spend and a little bit less to do with deposit flows out to rate-seeking alternatives. So, customers are voting with their business. They're bringing deposits to us, and I think it speaks to a combination of the investments we're making and also including branches." ] }, { "name": "Mike Mayo", "speech": [ "So how much of the deposit growth is due to digital banking? Can you quantify that or give us a ballpark figure?" ] }, { "name": "Marianne Lake", "speech": [ "Well, I can tell you that -- I'm sorry, it's not just deposit growth. As far as I remember, it's also about investment assets and we talked about our digital offerings providing headwinds there. So I don't have a breakout for you. We can follow-up. It's decent, but our branch growth, the reason why we continue to believe in a physical and digital combined channel presence, both are important, but we can get back to you." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Glenn Schorr with Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi, thanks very much. On sec services, I heard you loud and clear about the funding basis compression being part of the answer on revs down. Could you talk about the business exit? I wasn't aware of that how big that is. And then, flip to the better side, you also did mention about organic growth. We haven't heard too much since the big trillion dollar win, but I know there is stuff going on underneath the covers. Talk about what type of business you are winning there." ] }, { "name": "Marianne Lake", "speech": [ "Yes. So, on the business exit, this is -- it's the sort of feature of always talking about year-over-year. To me this feels like really old news. It was a US broker-dealer exit that we talked about many quarters ago, but obviously we're still on a year-over-year basis for another couple of quarters going to see the impact of that on our revenues. It's about just over $20 million year-on-year revenue negative impact, but it's, relatively speaking, old news in terms of the exit took place last year. Lower market levels were about an equivalent drag on revenues.", "And then, we are seeing solid underlying growth. But this is a very competitive environment, and as we are growing our custody assets, and as we're growing and winning new mandates, fees are under competitive pressures, and it also depends on mix. So there's a bunch of factors going on. What we are focused on is for both of these businesses that the long-term growth opportunities are very big, and the organic growth and the underlying businesses are performing well. And even with these revenue pressures, we're focused on continuing to drive efficiencies, and these are good ROE businesses above mid-teens." ] }, { "name": "Glenn Schorr", "speech": [ "Appreciate." ] }, { "name": "Marianne Lake", "speech": [ "I'm sorry. I'll just make one more comment. Mike, I didn't say this on the digital space, but I think it's important as we think going forward that as we think not just about our digital assets, but digital account opening, and that has been a feature of how we are attracting new account 25% of checking production, 40% of savings production now able to be open digitally. So, increasingly digital will be a driver, but we will get back to you with the mix. All right?" ] }, { "name": "Glenn Schorr", "speech": [ "Marianne, just one quick qualifier on the seven-hour marathon the other day in DC. Besides finding out Jamie is a capitalist, that's shocking news, one of risks that I think that the Group talked about was in the private credit markets and non-bank lending. And I just wanted to..." ] }, { "name": "Marianne Lake", "speech": [ "Yeah." ] }, { "name": "Glenn Schorr", "speech": [ "...get a little qualifier of that. I'm pretty sure you didn't mean the exposure JPMorgan has to those, it's just more risk being taken, but if you can just expand on that, that would be helpful." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, for sure, the comment is more about the overall risk in the environment and not about our risks to those sectors. And our risks are that all the things that we've always told you about, which are relatively modest, relatively senior, well secured, well diversified, we look at -- losses under a variety of such scenarios are manageable.", "The comments are really about the percentage of leverage lending or the percentage of some of our businesses that have now been taken outside of the banking market. And while we wouldn't say necessarily that's systemic, being not systemic and suggesting that there won't be problems are two different things, not all non-banks are situated similarly. So there are some healthy fighting, well-capitalized, well and responsibly run companies, and there are some others who may not be standing at the end of another downturn.", "So, the real question for all of this business that is migrated outside of banks is, how much of it will be unable to be rolled over, refinanced on the same terms and with the same prices as it is now. So it's not about us, but it's about understanding that we would want to be able to be there to support and intermediate within these markets going forward. But for a variety of reasons whether it's structured, whether it's capital liquidity pricing, that may not be as easy as it sounds in a downturn for portions of that market." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. Can I just take the big numbers put on rolling, so obviously regulators keep an eye on it, and we're not particularly worried about it. Just to give you some facts, the banks, there's a $2.3 trillion. The banks have generally the senior piece, the A piece of about $800 billion or $900 billion. Then institutional investors, some of them are quite right, these are life insurance companies, funds, etcetera, owned BPs about $900 billion, and there's $500 billion what they call direct, and think of these as large funds. For the most part large funds, some are very capable, very bright, they have long-term capital. In the institutional piece that I mentioned, a lot of them are CLOs. And I know that people are worried about that, but if you actually look at the CLOs, they are more equity in those CLOs, they are more funded and both the direct piece and the CLO piece is more capital -- permanent capital. So, this system is OK. It's just getting bigger as more outside regulated sentiment. It should be something that should be watched, but it's not a systemic issue at this point." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Betsy Graseck with Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Betsy Graseck", "speech": [ "I had a question for Jamie. Jamie, in the shareholder letter, you mentioned because of some significant issues around mortgage that you are intensely reviewing your role in origination servicing and holding mortgages, and the odds are increasing that we will need to materially change our mortgage strategy going forward. Could you give us some color and context for that statement and what kind of things you're thinking about there?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So, if you look at the business, I mean, it is just costly. You have 3,000 federal and state origination and servicing requirements. It is litigious. You just look at history, you can see that, and it's becoming a huge -- non-banks are becoming competitors. And they don't have the same regulations, the same requirements in the servicing or production. So you're having that issue of servicing itself is a hard asset. And so we just want to -- we know it's an important thing for a bank. We also want -- and also we standardize capital since lot of banks are constrained by generalized capital. It's just a capital pod. Far more than it should be, if you look at it relative to the real risk embedded in holding mortgages. So we just want to have our eyes open, look at that, go through every piece, and structure it in a way that we're very happy going forward. We don't mind the volatility. We don't mind staying in the business. You got to look at that and ask a lot of questions about whether banks should even be in it." ] }, { "name": "Betsy Graseck", "speech": [ "Okay. And then, separate topic, but just a question I wanted to ask because I got a couple of questions on it yesterday. The whole group of CEOs was asked, who do you think could succeed you? Would a woman or would a person of color succeed you? And I don't think you raised your hand. And just wanted to understand why and just hear from you, why you answered the question that way?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So, what I should have said is that we don't comment on or speculation on succession plan. That's a Board level issue. It's not something you do in Congress, where you play your hand out in Congress, but also I was confused by a question likely without a timetable. So we have exceptional women. And my succession may very well be a woman, and it may not. And it really depends on the circumstance of the time, and it might be different if it's one year from now versus five years from now. So that's all of that was. I think a bunch of people were kind of confused and saying what you would likely mean was stuff like that. So I (inaudible) several people on the operating committee who can succeed me." ] }, { "name": "Betsy Graseck", "speech": [ "Thanks. I appreciate that. That's the answer I expected. You -- we're going to give, we wanted to hear from you. So, appreciate that. Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "You're welcome." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Steven Chubak with Wolfe Research." ] }, { "name": "Steven Chubak", "speech": [ "Hi. I just wanted to follow-up on the remarks on the mortgage business. We did see a healthy decline in resi mortgage loans. And Marianne, I know you spoke at Investor Day of the balance sheet optimization strategy, which could drive more growth in securities versus loans. I'm wondering if that what's really driving the slowdown that we saw in resi loan growth and maybe more broadly how we should think about core loan growth or a sustainable pace of core loan growth in 2019?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, mortgages in 2018-2019 are the epicenter of the mortgage. So, the market itself is more year-on-year, it's about 15% smaller because notwithstanding all of the discussion about lower rates are still higher year-on-year than they were this time last year. So that obviously is having an impact. And as we've been -- and we're down similarly. So we've added about $6 billion of core mortgage loans to our portfolio. But against that, as you saw last year, we did a number of loan sales and a number of loan sales and we did another sale again in the first quarter and that speaks to optimizing the balance sheet. We're trying to take loans off of our balance sheet, core loans of our balance sheet, and sell them if we can reinvest in agency MBS and non-resi assets that has better capital liquidity characteristics. So, it's going to be a little bit harder to look at the trend. You're going to need to look at things grow. So we are originating high quality loans, we are adding a number of loans to our portfolio. We're distributing based on better execution as that would go, but we will continue to optimize our balance sheet." ] }, { "name": "Steven Chubak", "speech": [ "Very helpful. And just a follow-up for me on CCAR. The Fed released a document recently highlighting the changes to the loss models this year, including some higher Card and Auto losses in the upcoming exam. I'm just wondering how does that inform the way you're thinking about capital return capacity. And are you still confident in that sustainability of 75% to 100% net payout as well as the 11% to 12% CET1 target?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I didn't hear the second part of the question on losses, which losses were up this year that you were mentioning, but here is what I would say." ] }, { "name": "Steven Chubak", "speech": [ "The Card and Auto losses." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I applaud transparency for sure and we love to be able to get more detail as we think about the way that the Fed model losses for our portfolios. And we've been observing that over time. Necessarily, it's the case that the Federal Reserve models are typically less granular and less tied to our specific risks necessarily, because they are industry wide. Net-net, it doesn't change our point of view that as we're at 12.1% CET1 right now, so arguably little bit above the high end of our range and continuing to grow earnings that we ought to be able to distribute a significant portion of earnings, but we always invest in our businesses first.", "So, we are growing our businesses responsibly every time we're adding branches, we're adding customers, we're adding advisors across our businesses. But to the degree that we have excess earnings, we'll continue to distribute them and the ranges that we gave you at the end of February, nothing changed." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Brian Kleinhanzl with KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hi. Good morning, Marianne. Quick question. I know you mentioned that the increase in NPLs within Wholesale was again idiosyncratic. But last quarter, there was also an increase and it was five credits last quarter. Is there a way you can give more color as to specific drivers in there? I know you said in the past that you expect to normalize that you're off a low base. I got that, but I mean just a little bit of additional color perhaps?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, the color is, there is really no color, which is to say if you were to go back over the course of the last eight quarters and take oil, gas, energy releases out, you would've seen quarters where reserve builds were close to home and other quarters where there are $100 million (inaudible). So there's always been the propensity for there to be one or two or three or four downgrades. The thing we look for is whether or not as we look at the portfolio of facilities we have, whether we're seeing pressure on corporate margins and free cash flow, and whether we're seeing that broadly across the sectors and companies we're banking in, and we're just not.", "So, it's not to say that we aren't playing close attention to real estate given where we are in the cycle, it's not to say, we're playing close attention to retail, but the color is there is no real color that these are genuinely a handful of names across a handful of sectors as was true last quarter. And even if you look quarter over quarter over quarter, there's no trend to call out, and we have a large wholesale lending portfolio. These are extremely modest in the context of that.", "And remember, every quarter, like we talk about a few, because it's non-zero, but we downgrade and upgrade hundreds of facilities every quarter, and it's not just downgrades, it's upgrades, and they're approximately of equal measure. So, we're looking very carefully. I think we understand why people are questioning, concerned, and these are cyclical businesses and the cycle return, but we're not seeing it yet." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Okay. And then a separate question in the mortgage banking. It looks like gain on sale margins were at a high point over the last five years this quarter. Was that something in the market? Something with the rates? Or was there a one-off impacting that number this quarter?" ] }, { "name": "Marianne Lake", "speech": [ "So, you may recall that we did a mortgage loan sale last quarter and realized -- and there's geography. In the Home Lending business, when we do these mortgage loan sales, because we're match funded, net-net, there's very little P&L. But last quarter, there was a loss in NIR and an offset in rate funding in NIR, this quarter there's a gain. So you've got a loss quarter, gain this quarter, both small, but nevertheless that's driving the majority of the production margin going up. But in addition, if you just strip all that noise out, which is not material, but nevertheless significant quarter-over-quarter, we are seeing better revenue margins on better pricing." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Okay. Great, thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Gerard Cassidy with RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning, Marianne." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Gerard Cassidy", "speech": [ "Can you share with us -- obviously you've got your de novo branching strategy moving forward. And what have you guys discovered and how long does it take for the branches to reach breakeven and then eventually get to your desired return on investment numbers?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So we're really, really excited to be able to open these branches in these markets and serve more customers across the United States. But when you talk about branches, you are talking about investment for the long-term, and when I say long-term, multiple years, decades. So with respect to the new markets that we're entering, these are extremely nascent investments, the branches, in many cases we haven't even broken ground on. However, that said, early indication -- these very, very early indications are strongly positive. We're seeing a lot of excitement in the market. We're seeing new accounts in production, a little better than we would have expected at this very early stage. On the whole, you see branches break even over several years and mature in terms of deposit and investments and relationships closer to 10 years or below that." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then, following up on some comments you made at Investor Day, and I believe touched on today about technology spending, if I recall correctly, next year technology spending should be self-funding and stabilized at just about where you are today. When you compare it to the past five years, what has changed with the growth trajectory of technology? Nominal dollars has now kind of stabilized versus what it was like again in the past five years?" ] }, { "name": "Marianne Lake", "speech": [ "So, I just want to reiterate something that I want to make sure you guys completely internalize, which is, we believe given the level of spend and the continued efficiency we're getting out of each dollar of spend that overall our net investment should be more flat going forward than they have in the past, but we will continue to look at every investment on its own merit. That said, we've been growing our technology spend, and in particular, we've been growing the portion of it that is invested in changing the bank. And that runs the gamut from platform modernization and cloud to controls and security and customer experience and digital, R&D and the whole lot.", "It's a large number, and each year, a lot of the dollars that we've been investing roll off and we get the ability to redecision and reinvest them. So, this is not that we're going to be doing anything other than continuing to invest very, very heavily in the agenda, and in particular in the technology agenda. It's just that each year (technical difficulty) and we'll continue to make the right decisions, and we see that being flatter going forward than it has been." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you." ] }, { "name": "Marianne Lake", "speech": [ "And we're getting more efficient. So in the past, the way the technology was delivered was very different, and the more that we're in, our modern virtualized cloud-ready way with new technology, each dollar of technology is more productive." ] }, { "name": "Gerard Cassidy", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Al Alevizakos with HSBC." ] }, { "name": "Alevizos Alevizakos", "speech": [ "Hi. I've got a quick question and a follow-up basically. My question is on the Treasury Services. Year-on-year, the growth going from double-digit, you just grow to 3% where apparently the volumes remained healthy, but the margins started to deteriorate. I wonder how you feel going into the remaining of 2019, especially given that the trade talks are still ongoing and therefore volumes could actually be a bit more problematic. Do you still believe that we can go back to kind of double-digit growth year-on-year for the remaining quarters? And my follow-up question is, we talked about change the bank versus run the bank for IT budget, can you give us a number just to get the indication of how much you're spending on innovation? Thank you." ] }, { "name": "Marianne Lake", "speech": [ "Yes. Okay. So first point on Treasury Services, obviously, revenue growth was in double digits, you're right, this quarter (inaudible) year-on-year. I mentioned earlier that for both of our Wholesale businesses, we happen to have basis compression between the funding spreads that we provide to the businesses and pricing declines. And so that just given where rates have moved headwind this year as the segment results are reported, but for the Company it's obviously net zero.", "The more important point is that organic growth underlying all of that balances and payments is holding up very well and we do expect that to continue. So, you will see margins really compressed on that. It's not speaking to deposit flows, it's not speaking to volumes and it's not speaking to escalating payouts at this point. So we feel good about the underlying organic growth in the business.", "With respect to technology spend, you'll recall last year we were kind of 60-40 run the bank, change the bank, and it's more 50-50 this year, so $11.5 billion of spend about half and half." ] }, { "name": "Alevizos Alevizakos", "speech": [ "Thank you very much." ] }, { "name": "Marianne Lake", "speech": [ "Remember, in the change of the bank, it runs the whole gamut from platforms and controls to customer experience, digital, data, R&D, so it's the whole spectrum." ] }, { "name": "Operator", "speech": [ "Your next question is from the line of Matt O'Connor with Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. I just wanted to follow up on the net interest income, and it came in a lot better than expected this quarter. Is there anything that's lumpy or one-time that you'd flag? Because if you annualize it, you're already above the full year target at $58 billion plus and obviously there's day count drag this quarter and really just puts and takes with rates and balance sheet growth, but it seems like the guidance is conservative versus where you're at right now." ] }, { "name": "Marianne Lake", "speech": [ "Okay. So, we did slightly better in the first quarter, two things driving it. One is small but nevertheless is arguably non-recurring, which is -- we've talked about the fact that overall in the Company when we do these loan sales that net-net there may be a small residual gain or loss that resides in Treasury, and it was a small gain in the first quarter in NII, call it, $50 million (ph) approximately.", "And then, in addition, we talked in the fourth quarter about the fact that we were seeing the opportunity to deploy cash in short duration liquid investments that were high-yielding than IOER that continued into the first quarter. So we did benefit from that, and it may or may not continue, but we're not necessarily expecting that to continue all the way through.", "And so, I would say that day count was a drag. As we look forward with some opportunities, honestly obviously the risk associated with the flat yield curve, not big, but nevertheless net neutral to downward pressure or downward pressure, its long end rates stay lower for longer. As we don't have the tailwind anymore from higher rates and we continue to process the December rate hike, you could see more rates paid to a little bit more into second quarter. So there are risks and opportunities. We still think it's a decent outlook, but I don't think it's conservative. I think its $58 billion is straight down the middle at this point. The trouble with the yield curve is it can fluctuate dramatically over the short-term and we shouldn't over-interpret or over chase it. At this point, I think it's a decent estimate, and we'll continue to update you." ] }, { "name": "Matt O'Connor", "speech": [ "Okay. And then just on the repositioning of the balance sheet and the approach to adding securities, are you thinking any differently going forward than maybe you were six weeks ago? You clearly seem more positive on the macro, and obviously things can change there, but are you approaching from the balance sheet management a little bit differently, given may be more positive macro outlook?" ] }, { "name": "Marianne Lake", "speech": [ "Well, so, I mean, we only spoke to you most recently about six weeks ago. So, the sort of overall answer is, no, not really. We expected at that point that we would have a patient Fed. It turns out that all the central banks are pointing to being a little bit more dovish, which we couldn't generally be constructive for the environment and for credit risk for the balance sheet. Obviously the curve being flatter is not sort of a compelling situation to add more duration, but there's natural risk in our balance sheet. So, overall very little, we feel good about the credit. The curve is flat and we'll continue to manage the overall environment and company as we see the economy unfold." ] }, { "name": "Matt O'Connor", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Erika Najarian with Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Yes, hi, good morning. I just wanted to follow-up, Marianne, on the comments. In the backdrop for lower rates for longer, could you give us a sense on how you're thinking about your deposit strategy in retail and wholesale? In other words, I know you discussed some dynamics on pricing for the first quarter, but when do you expect competition to taper off? And do banks have room to actually lower deposit costs if the rate curve stays this way for a prolonged period of time?" ] }, { "name": "Marianne Lake", "speech": [ "So, I'll just put the big contextual answer will always be the same, which is, when we think about our strategy around deposits and deposit pricing, it is 100% driven by what we're observing in our consumer behavior than what we're seeing in deposit flows. And so, that's the environment that we look at to determine what's happening. And you've seen naturally over the course of the last couple of years as rates have been rising that we've seen flows of deposits to higher yielding alternatives, whether it's investments or whether it's more recently in CDs, and that may continue. We'll continue to watch that.", "It is our expectation that rates will be relatively stable from here in terms of the short end, and it's the short end that predominantly drives the sort of deposit pricing agenda. So, even if the curve is flatter, as long as it's because the front end is stable, I don't necessarily see deposit costs going down, but we're going to continue to watch our customer behaviors and deposit flows and respond accordingly." ] }, { "name": "Erika Najarian", "speech": [ "Thank you. And my follow-up question is, we heard you loud and clear during your prepared remarks that the increase in wholesale non-accruals was idiosyncratic. And I'm wondering as we look at a tick-up in non-accrual loans in the Corporate & Investment Bank for the past two quarters, are we just in the part of the cycle where we're just growing from a low base or should we expect a step-down in the second quarter in non-accruals similar to how we saw last year?" ] }, { "name": "Marianne Lake", "speech": [ "There are a couple of situations that we would expect to maybe not be present in the second quarter, but I would say it's a feature more of extremely low base. And so from that any movement whether they are up or down, it's somewhat exaggerated. But we would continue to call the credit environment benign." ] }, { "name": "Erika Najarian", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Ken Usdin with Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Thanks. Marianne, just if I could ask you, you mentioned that there are some signs that the economy is strengthening, and I wanted to just ask you to can you split that between just what you're seeing on the Consumer side versus the Wholesale corporate side in terms of -- the spend numbers are obviously still double-digit year-over-year. Some others have talked about a little bit of a slowdown, you are just still saying quite good. And then there is this unevenness about just CapEx and spending and corporate side, so just -- could you just kind of walk us through just where you're seeing pockets of relative strength and improvement?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah, I mean I think that as it relates to US and in particular looking at the US Consumer, you've got all of jobs more recently, auto, housing, spend all generally encouraging and holding up well and robust. And whether it's double-digits or whether it's not, we're continuing to see that -- and consumer confidence by the way, which is still very high and has recovered from any sort of hangout from the equity market actions over the four quarters. So, for us, US Consumer has always been strong and confident. And even if we're not all-time high and confidence is still very high, and generally the beta is -- and even some like housing and also that hasn't necessarily been super strong, is looking encouraging.", "And then, on the global front, it is a little harder. But as you look at some of the areas that have been struggling a bit, and Europe would be a good example, we would think that in the first quarter sort of transitory factors around social unrest and politics in Brexit, and they seem to be fading a little, business confidence has recovered a little, businesses are still spending on labor, so generally a good side of the underlying confidence notwithstanding any kind of sentiment numbers. And even there there's job growth, there's wage growth helped by dovish monetary policy and general financial conditions having increase and eased. So, I think, generally, we feel optimistic across the Consumer and the rest of the sector, albeit it's sort of green shoots on the Wholesale buy. So, it's early, but it's what we were expecting to see and so it may continue." ] }, { "name": "Ken Usdin", "speech": [ "Yeah. And one follow-up just on Investment Banking business, you had mentioned that the pipelines look good and obviously we've seen the reopening of the ECM market. Your general outlook just again on that global point about the -- a bit unevenness between US and global. Just how do you feel about the advisory backdrop and obviously some big deals on the tape again today? But had it been a little bit of an air pocket here partially probably because of the soft fourth quarter, but how is that side of the business you're feeling and sounding from a backlog perspective?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I would say that a couple of things. Obviously there were some deals that moved into the first quarter out of the second half of 2018. And so, we did benefit from that. But just as a general market matter, M&A is still attractive in a low growth environment, albeit a growth environment, investors are still constructive. North America, which is by far the biggest market for M&A, is still healthy. And so, Europe was a big driver last year and Europe has been a sharp drop off in volumes and wallet and so that may continue although we have a pretty good position there. So, I would say that the pipeline is down, but still M&A is attractive and people are looking for synergistic growth." ] }, { "name": "Ken Usdin", "speech": [ "That makes sense. Thanks very much." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Jim Mitchell with Buckingham Research." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Maybe just a follow-up on the NII outlook. I mean, I think we've talked about a flat curve. What kind of levers do you have to pull if we were to see what some are speculating, it doesn't sound like you're in that camp, but if you were to get a rate cut, how do you manage that? How do you think the balance sheet reacts and NII reacts to a potential for rate cut over the next 12 months?" ] }, { "name": "Marianne Lake", "speech": [ "Right. So, the market which is usually more, I would say, pessimistic, but more in that camp, (inaudible) expecting and ease at the end of the year. So, we are not by the way as you point out. So, I think for 2019's NII outlook, it's not a clear and present danger and there will be any. Obviously we have on the way up on rates, been over-indexed to total end rates. And so, clearly if we were to have an ease, it would have an impact on our NII.", "If we felt generally that that was the direction that the economy and rates were going in, then it might change our view on how we position the balance sheet. But right now, the Fed is on course. Right now, that's constructive for corporate deposit margins, constructive for credit, and generally constructive for how we're positioned on the balance sheet." ] }, { "name": "Jim Mitchell", "speech": [ "It's still you like you have room to, I guess, extend duration to kind of protect NII and NIM if that would happen?" ] }, { "name": "Marianne Lake", "speech": [ "Yes, yes, we do." ] }, { "name": "Jim Mitchell", "speech": [ "Okay. All right. Thank you very much." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Saul Martinez with UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi, good morning. I wanted to follow-up on Matt's question on sort of idiosyncratic items in the quarter and lumpiness. This is obviously a pretty strong quarter from an earnings standpoint, earnings well ahead of my estimates and consensus, especially in CCB, but there weren't a lot of obvious non-core items really called out. So, Marianne, can you just comment on the sustainability of the results and whether there is some idiosyncratic things that weren't necessarily called out during the call. You mentioned corporate cash deployment revenues really high relative to historical levels there. So, are there any sort of idiosyncratic items that call into question? How sustainable the results are?" ] }, { "name": "Marianne Lake", "speech": [ "So, first of all, just sort of big pic, first of all, really high I think is a bit of an overstatement -- higher, I think is fair. No, not really if there were, you know, we would have called them out. There are a few little things. So, I'm just going to call out a few of the things that we have mentioned. We contributed $100 million to the foundation this quarter. Net-net, even with a very, very small but nevertheless positive this quarter, so there's a few little bits and pieces like that. But if you look at revenue performance, we did a little better across the board than you all were expecting. We did better in IBCs and we gained a lot of share. We did a little better in markets. We did a little better in NII, so we just got a little bit of a wind on our backs sort of phenomenon.", "My -- probably my best answer to you is, as happy as we are with the performance, and we are gaining share and continuing to see our underlying drivers propel us forward and the momentum we got in our businesses, we are not making material changes to our full year outlook. So -- we'll still see how market performed for the year. We do still expect, as Dimon mentioned at Investor Day, that while we feel great about our positioning in investment banking in the first quarter, coalition is still expecting the wallet to be down between 5% and 10% year-on-year. So, we do expect to gain share to help offset that, but last year was a record. So -- we haven't changed our full year guidance at all yet. We'll take this as a very good down payment to that. And if markets are constructive and wallet expands, we will benefit from that, but..." ] }, { "name": "Saul Martinez", "speech": [ "Okay. No, that's..." ] }, { "name": "Marianne Lake", "speech": [ "We're not leading across and changing everything." ] }, { "name": "Saul Martinez", "speech": [ "That's helpful. I'll change gears a little bit. Any update on distressed capital buffer, what the Fed is thinking there and when you think we could see a little bit more details or a little bit more clarity on the proposal?" ] }, { "name": "Marianne Lake", "speech": [ "So, the best I know, there is a chance, but not necessarily a probability that there could be an SCB proposal for 2020 CCAR. So, there's a set of meetings or a meeting coming out sometime in the summer that I think might be an important moment. But we continue to work as constructively as we can to help understand the better way to bridge growth capital together with point-in-time capital, but it's complicated. So, as we said, the most important thing is not to issue an SCB proposal, it doesn't deal with the entire landscape of capital and look at it cohesively. So we're talking about GSIB, we're talking about minimums, we're talking about Basel, we're talking about SCB, it's complicated. I'd say there's a chance but not a probability that we might have something in time for 2020 CCAR." ] }, { "name": "Saul Martinez", "speech": [ "Got it. Thanks a lot." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Marty Mosby of Vining Sparks." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Marty." ] }, { "name": "Marty Mosby", "speech": [ "Thanks for taking the question. Hey, good morning. First, I want to ask as going to CCAR, now we're getting into that season again, one of the things that I think has an impact is that -- what we had was a significant 30% plus growth in earnings last year. So if you kind of look at the plan for your capital going forward and you think of holding payout ratios so to say they were just constant, doesn't that kind of presume that you have kind of some wind behind the sales just to increase fairly significantly just off the increase in earnings last year?" ] }, { "name": "Marianne Lake", "speech": [ "I think -- yes, yes, if you look at payout ratios, obviously it's sort of described as a percentage. Then we said over the longer term, we'd expect to payout in a benign environment between 75% and 100%, and analysts have estimates of 90% plus. And obviously as earnings grow, that would be a bigger dollar number. But again, we'll always calibrate that relative to our opportunity to invest in our businesses, and its capacity not a promise. So, we'll continue to see how the whole environment unfolds. But you're right. As earnings continue to grow, a strong payout ratio, we're above the top end of our capital range. So, we are starting at a robust level, would be a higher dollar number, yes." ] }, { "name": "Marty Mosby", "speech": [ "And then, Jamie, I was just curious. I think one of the issues facing the industry, and just we get pushed from the outside is that the cycle is 10 years old, and my thought is that that internal time clock is just off this time. And so, if we look at it, I think there's things that you're seeing or Marianne that you see inside the Company that probably dispel that the recession is kind of on the horizon. So, just wanted to get your comment on that as well? That's my follow-up question. Thanks." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, so I guess I -- sorry, go Jamie." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. Some sort of number that's out that Australia had growth for 28 years. And just so I'm saying in notional, but you have to have a recession. They've had a lot of back winds, there's growth in Asia and stuff like that. But if you look at the American economy, the consumer's in good shape, the balance sheet's in good shape, people are going back to the workforce. Companies have plenty of capital, and capital expenditure is still up year-over-year, little bit less this quarter than last quarter. Capital is being retained in the United States. Business confidence and consumer confidence are both rather high and not all-time peaks -- rather high.", "So you can just easily -- it can go on for years. There's no law that says it has to stop. We do make a list, and look at all the other things, geopolitical issues, lower liquidity. So there maybe a confluence of events that somehow cause the recession, but it may not be in 2019, 2020, 2021. Obviously at one point though there will probably be something, and yeah, I think the bigger short-term risk would be something to go wrong in China, the trade issues in China. So, I just wouldn't account on there having to be a recession in the short run kind of years." ] }, { "name": "Marty Mosby", "speech": [ "I agree, thanks." ] }, { "name": "Operator", "speech": [ "Question comes from the line of Andrew Lim with Societe Generale." ] }, { "name": "Andrew Lim", "speech": [ "Hi, morning. Thanks for taking my questions. So my first question is on the end-of-period loans. So, if we look across the board, it looks like there are some contraction there on a quarter-to-quarter basis of about 3% of 4%. And I was just wondering if you saw that as a one quarter issue relating to what happened in 4Q '18. And if you can give some color maybe on the quarters ahead speaking to companies' CEOs (inaudible) emerging again." ] }, { "name": "Marianne Lake", "speech": [ "Yes. So, quarter-on-quarter, and I think I mentioned a couple of these things, but across our businesses for a variety of reasons on an end-of-period basis, loans are down. So, like stepping through them, the first one I would point out is mortgage, and we just talked about that, I think, earlier in the call, which is we continue to originate mortgage loans. We continue to distribute them on portfolio. We did do a loan sale, which is part of the discussion that we've been having with you about optimizing our balance sheet. We did a sale at the end of the quarter. So that's impacting mortgage loans. In the CIB and one of the reasons why we call out core loan growth ex-CIB is because we don't consider CIB loans core, because they are just by their nature oftentimes more episodic and lumpy.", "And so, we did see a see a large funded syndicated loan at the end of last quarter, which was fully syndicated into the first quarter. And then, in our other businesses in Asset & Wealth Management, a bit of seasonality, a few pay-downs in Card seasonality. So, it's just sort of combination of factors but I would say two drivers, CIB and Home Lending, CIB on sort of a large syndication, Home Lending on a loan sale (ph). Going forward, we'll continue to optimize the loan versus security part of our balance sheet as best we can for cash and liquidity purposes. But just underlying core business demand for bank balance sheet lending, I look at the middle-market space and say, we're still seeing solid demand. It is in our investment areas and our expansion markets and specialized industries that we're still growing that portion of our loans in the mid-single digits year-on-year." ] }, { "name": "Andrew Lim", "speech": [ "Yes. Great, thanks. So my following question is on..." ] }, { "name": "Marianne Lake", "speech": [ "Before you go into that there are going to be other areas where we just won't (inaudible). I mean, in Commercial Real Estate, you see loan growth is much lower. It's very competitive. Its prices have come down. We continue to provide financing and funding for our core loans, but we're not going to chase it down and similarly Auto." ] }, { "name": "Andrew Lim", "speech": [ "Sure. Okay, thanks. So my follow-on question is on CLOs. So, as some Japanese institutions are big buyers of US highly rated CLOs, but a few weeks ago, the Japanese FSA introduced some new rules saying that there had to be 5% risk retention by US issuers in order for the Japanese institutions to buy them. So, I'm just wondering if you're seeing yet any change in demand from Japanese institutions and likewise on the other side if there is any change in behavior from US CLO issuers in terms of trying to integrate 5% risk retention." ] }, { "name": "Marianne Lake", "speech": [ "So that is a great question. The answer I'm going to give you is not that I'm aware of at this point, but I'll have to follow up with you. Jamie are you aware? No? So, Andrew, we'll come back to you. Not that I'm aware of, but it is a good, but nevertheless quite detailed question." ] }, { "name": "Andrew Lim", "speech": [ "Okay, thanks." ] }, { "name": "Marianne Lake", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "There are no further questions at this time." ] }, { "name": "Marianne Lake", "speech": [ "Thank you everyone." ] }, { "name": "Operator", "speech": [ "Thank you for participating in today's call. You may now disconnect." ] } ]
JPM	2021-04-14	[ { "description": "Chief Financial Officer", "name": "Jennifer Piepszak", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "Portales Partners -- Analyst", "name": "Charles Peabody", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's first-quarter 2021 earnings call. This call is being recorded. [Operator instructions] We will now go live to the presentation.", "Please stand by. At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and Chief Financial Officer Jennifer Piepszak. Ms. Piepszak, please go ahead." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you, operator. Good morning, everyone. I'll take you through the presentation, which, as always, is available on our website, and we ask that you please refer to the disclaimer at the back. Starting on Page 1, the firm reported net income of $14.3 billion, EPS of $4.50 on revenue of 33.1 billion, and delivered a return on tangible common equity of 29%.", "Included in these results are two significant items: 5.2 billion of net credit reserve releases, which I'll cover in more detail shortly; and a $550 million contribution to the firm's foundation in the form of equity investments. Touching on a few highlights, we saw another strong quarter in CIB. In fact, net income was an all-time record with IV fees up 57% year on year, reflecting continued robust activity, and markets up 25% year on year as the environment remained favorable in January and February, although it did start to normalize in March. In AWM, we had record net long-term inflows of 48 billion this quarter.", "And deposits of 2.2 trillion were up 36% year on year and 5% sequentially as the Fed balance sheet continues to expand, but loan growth remains muted, up 1% year on year and 2% quarter on quarter with the bright spots being AWM and secured lending in CIB. On to Page 2 for more detail on our results. When looking at this quarter's performance, there's a lot of noise in the year-on-year comparisons, particularly given what happened in March of last year. And so it's important to remember a few key points here about March of 2020.", "Effectively, investment banking activity stopped or got delayed, except for investment-grade debt issuance. We recorded 950 million of losses in credit adjustments in other and CIB, as well as a $900 million markdown on our bridge book. And in credit, we built 6.8 billion of reserves relative to this quarter's release of 5.2 billion. So with that in mind, revenue of 33.1 billion was up 4.1 billion or 14% year on year.", "Net interest income was down 1.6 billion or 11%, primarily driven by lower rates. And noninterest revenue was up 5.7 billion or 39%. While this comparison is in part impacted by several of the items I just mentioned, in absolute terms, we saw strong fee generation across the franchise, including in investment banking, AWM, and home lending as well as a strong performance in markets. Expenses of 18.7 billion were up 12% year on year on higher volume and revenue-related expenses, the contribution to the foundation that I just mentioned, as well as continued investments.", "And credit costs were a net benefit of 4.2 billion driven by reserve releases. And here, it's worth noting that charge-offs were down about 400 million year on year or 28%, and continue to trend near historical lows. Turning to Page 3 for more detail on our reserves. We released approximately 5.2 billion of reserves this quarter as recent economic data has been consistently positive, indicating that the recovery may be accelerating faster than we would have thought just a few months ago.", "Starting with consumer, in card, we released 3.5 billion. As the employment picture has continued to improve, the round three stimulus has provided another level of support, and early stage delinquencies remain very low. And in home lending, we released 625 million, primarily driven by continued improvement in HPI expectations and to a lesser extent, portfolio runoff. And then in wholesale, we released approximately 700 million.", "While a strong recovery seems in motion, we're also prepared for more adverse outcomes given remaining uncertainties around the impact of new virus strains and the health of the underlying labor markets. So for now, we remain cautious and are still weighted to our downside scenarios, and that about 26 billion were reserved at approximately 7 billion above the current base case. However, it's worth noting that even in a more normalized environment, we wouldn't expect to be 100% weighted to the base case as we'll always have some weighting on alternative scenarios. Now moving to balance sheet and capital on Page 4.", "We ended the quarter with a CET1 ratio of 13.1%, flat versus the prior quarter, as net growth in retained earnings was offset by lower AOCI and higher RWA. Perhaps the more interesting ratio right now is SLR, which is at 5.5%, excluding the temporary relief that just expired. As we've said all along, we were never going to rely on short-term temporary relief as a long-term planning matter, and this is evidenced by actions we've taken. We've already engaged with our wholesale deposit clients to explore solutions, and we issued 1.5 billion of preferred stock in the first quarter.", "Having said that, it's worth reinforcing a few points here. First, it's important to remember that the SLR is a leverage-based requirement, not a risk-based requirement. The growth in bank leverage has been driven by deposits and therefore, cannot be cured by reducing lending. In fact, the opposite would be true.", "If we had more loan growth, it would help because it would absorb excess risk-based capital. The issue is that we've had muted loan demand to date. And even if it starts to pick up, it's hard to envision that organic loan growth could keep pace with further QE. And therefore, we expect this leverage issue to persist for some time.", "And finally, when a bank is leverage constrained, this lowers the marginal value of any deposit, regardless if it is wholesale or retail, operational or nonoperational. And regulators should consider whether requiring banks to hold additional capital for further deposit growth is the right outcome. As we told you last quarter, we have levers to manage SLR, and we will. However, raising capital against deposits and/or turning away deposits are unnatural actions for banks and cannot be good for the system in the long run.", "And then just to wrap up on capital. Regarding distributions, the limitations were extended another quarter. So based on our income, that corresponds to buyback capacity of about 7.4 billion in the second quarter after paying our $0.90 dividend. Given the preferreds we plan to issue and the work under way around excess client deposits, while, of course, this could become more challenging, we believe that we should be able to buy back most, if not all, of that capacity.", "Now let's go to our businesses, starting with consumer and community banking on Page 5. CCB reported net income of 6.7 billion, including reserve releases of 4.6 billion. Starting with the key drivers of the year-on-year financial performance, which I'll just note, have generally been consistent over the last few quarters against the backdrop of strong consumer balance sheets with higher savings rates and investments as well as healthy deleveraging. Deposit growth was 32% or $240 billion as existing customers' balances remain elevated, and we also continue to acquire new customers.", "Client investment assets were up 44%, driven by market appreciation and positive net flows across our advisor and digital channels. Home lending originations were 39 billion, up 40% in an overall larger market. And auto loan and lease originations were 11.2 billion, up 35%, with March being the best month on record. However, loans were down 7% as outstandings in card remain lower even as spend is recovering to pre-COVID levels.", "This is in addition to the continued runoff of the mortgage portfolio and partially offset by PPP additions. Mobile users grew 9% to nearly 42 million, and the customer migration to digital continued with branch transactions still down double digits. In consumer banking, approximately 50% of new checking and savings accounts were opened digitally, and that's up more than 10 percentage points year on year. Notably, we're also seeing a few emerging trends worth covering.", "Consumer sentiment has returned to more normalized levels, reflecting increased optimism. We've seen debit and credit card spend returned to pre-pandemic levels, up 9% year on year and 14% versus 1Q '19, despite T&E remaining significantly lower. That said, we are seeing strong momentum in T&E with spend up more than 50% in March compared to February and similar growth across CX loyalty and ultimate reward travel bookings. With higher rates, mortgage lock margins have tightened and refi applications have slowed, but the overall market is still robust.", "And on credit, government stimulus and industry forbearance programs have provided confidence that the bridge is likely going to be long enough and strong enough. Taken together with the pace of the vaccine rollout, we believe there are some permanent to the loss mitigation. And while 1Q '21 card losses are higher quarter on quarter, we do expect losses to decrease in the second and third quarters. In summary, revenue of 12.5 billion was down 6% year on year driven by deposit margin compression and lower card NII on lower balances, largely offset by strong deposit growth and higher home lending production revenue.", "Expenses of 7.2 billion were down 1% as we self-fund our investments. And credit costs were a net benefit of 3.6 billion, driven by the 4.6 billion of reserve releases I previously mentioned, partially offset by net charge-offs of a billion. Now turning to the corporate and investment bank on Page 6. CIB reported net income of 5.7 billion and an ROE of 27% on record first-quarter revenue of 14.6 billion.", "Investment banking revenue of 2.9 billion was up 67% year on year, excluding the impact of the bridge book markdown last year. IB fees of 3 billion were up 57%. And while we now ranked No. 2, largely due to SPAC IPOs, we maintained our global IB wallet share of 9%.", "The quarter's performance was an all-time record, driven by the continued momentum in the equity issuance markets as well as robust activity in M&A and DCM. In advisory, we were up 35%, benefiting from the surge in announcement activity in the second half of 2020. Debt underwriting fees were up 17%, driven by leveraged finance activity. And here, we maintained our No.", "1 rank and lead left position. And in equity underwriting, fees were up more than 200%, primarily driven by IPOs as clients continue to take advantage of strong market conditions. Looking forward, the IPO calendar is expected to remain active with M&A momentum likely to continue. And while the pipeline is higher than it's ever been, the number of flow deals outside of the pipeline, both this year and last year, make it difficult to predict the second quarter.", "So at this point, I'd say we expect IB fees to be about flat year on year. Moving to markets, total revenue was 9.1 billion, up 25% against the strong prior-year quarter. In January and February, we saw a robust trading environment, and client activity remained elevated with the positive momentum from the end of 2020 carrying through to the start of the year. In March, our performance started to normalize but remained above pre-COVID levels.", "Fixed income was up 15% with outperformance in securitized products and credit, supported by active primary and secondary markets, partially offset by lower revenues in rates and currency and emerging markets against the tough compare in March of last year. Equity markets was up 47% and an all-time record, driven by a favorable trading environment in equity derivatives as well as strong client activity across products. In terms of outlook, based on recent weeks, we would expect this quarter to be closer to the second quarter of 2019, as 2Q '20 was the best quarter on record for our markets franchise, but obviously, it's still early. Wholesale payments and security services revenues were 1.4 billion and 1.1 billion, respectively, both down 2% year on year, with higher deposit balances more than offset by deposit margin compression.", "Expenses of 7.1 billion were up 19% year on year on higher revenue-related compensation, partially offset by lower legal expense. And credit costs were a net benefit of 331 million, driven by the reserve releases I discussed earlier. Now let's go to commercial banking on Page 7. Commercial banking reported net income of 1.2 billion and an ROE of 19%.", "Revenue of 2.4 billion was up 11% year on year with higher lending and investment banking revenue in the absence of a prior year markdown in the bridge book, partially offset by lower deposit revenue. Record gross investment banking revenue of 1.1 billion was up 65% with broad-based strength as market conditions remain favorable. Expenses of 969 million were down 2% driven by lower structural expenses. Deposits of $291 billion were up 54% year on year and 5% quarter on quarter as client balances remain elevated.", "And loans were down 2% year on year and 3% sequentially. C&I loans were down 4% from the prior quarter on lower revolver balances as clients continue to access capital markets for liquidity, partially offset by additional PPP funding. And CRE loans were down 1% with continued low origination volumes in commercial term lending, partially offset by increased affordable housing activity. Finally, credit costs were a net benefit of 118 million driven by reserve releases with net charge-offs of 29 million driven by oil and gas.", "Now on to asset and wealth management on Page 8. Asset and wealth management generated record net income of 1.2 billion with pre-tax margin of 40% and ROE of 35%. For the quarter, revenue of 4.1 billion was up 20% year on year as higher management fees, growth in deposit and loan balances, as well as investment valuation gains, were partially offset by deposit margin compression. Expenses of 2.6 billion were up 6% with higher volume and revenue-related expenses, partially offset by lower structural expense.", "And credit costs were a net benefit of $121 million, primarily due to reserve releases. For the quarter, record net long-term inflows of 48 billion were again positive across all channels, asset classes, and regions, with particular strength in equities. And in liquidity, we saw net inflows of 44 billion as banks encourage clients to move excess deposits away from them. AUM of 2.8 trillion and overall client assets of 3.8 trillion, up 28% and 32% year on year, respectively, were driven by higher market levels as well as strong net inflows.", "And finally, deposits were up 43% and loans were up 18%, with strength in security-based lending, custom lending, and mortgages. Now on to corporate on Page 9. Corporate reported a net loss of $580 million. Revenue was a loss of 473 million, down 639 million year on year.", "Net interest income was down nearly 700 million on lower rates, as well as limited deployment opportunities on the back of continued deposit growth. And expenses of 876 million were up 730 million year on year, primarily driven by the contribution to the foundation I mentioned earlier. The results for the quarter also include a tax benefit related to the impact of the firm's expected full-year tax rate relative to the level of pre-tax income this quarter. So with that, moving to the outlook on Page 10.", "You'll see here that our 2021 NII outlook of around 55 billion remains in line with our previous guidance, as the benefits of the steepening yield curve are being offset by customer behavior in card. It's worth noting that forecasting NII is perhaps more challenging than it's been in a long time as many of the key inputs, market-implied rates, deposit forecast, securities reinvestment, and customer behavior in card are all quite fluid. And as a reminder, while customer deleveraging and higher payment rates in card is a headwind for NII, it's a tailwind for credit. And we now expect our card net charge-off rate to be around 250 basis points for the year.", "And then on expenses, we've increased our guidance to approximately 70 billion, with the largest driver being higher volume and revenue-related expenses, which importantly have offsets in revenue. So to wrap up, the year has gotten off to a strong start, and a robust economic recovery seems under way. Of course, there are still risks and uncertainties ahead that we're preparing for as well as specific issues that we're facing, including the balance sheet dynamics I mentioned, the rate environment and tough year-on-year comparisons, among other things. Having said that, the earnings power of the franchise remains evident, and we'll continue to use our resources to serve our clients, customers, and communities.", "And with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Your first question comes from the line of Erika Najarian with Bank of America Merrill Lynch." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Erika." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Good morning. My first question is for Jamie. Jamie, you noted during a December conference that you believe that normalized ROTCE for JPMorgan would be about 17%.", "And investors were wondering, as we think about JPMorgan perhaps cementing a higher G-SIB surcharge at 4% this year, is 17% still achievable under that context or constraint?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So --" ] }, { "name": "Jamie Dimon", "speech": [ "Go ahead, Jen." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. So, Erika, I'll start. So just a couple of things to think about on capital. So while we're -- we ended the year in the 4% bucket for G-SIB, and it's probably worth mentioning, given the continued expansion of the system through the Fed balance sheet, even staying in 4% could become challenging for us.", "But just a couple of things to keep in mind there is we believe that -- we do have offsets in the stress capital buffer and we do believe that it's very possible that we'll see those come through in this round. Of course, it's dependent upon the Fed models, not our models. But we've talked about things that -- actions that we've taken sort of mechanical in nature in addition to moving investment securities into held to maturity that should give us some benefit on the SCB. Of course, that's scenario-dependent, but we do expect some benefit there that could offset.", "It's also important to remember that we still are waiting for the Basel three endgame. And the indication from the Fed is that they will address G-SIB recalibration as part of that. And so it's quite possible that we see G-SIB recalibration, but perhaps another constraint that we'll be managing. So there is a lot that we'll learn over probably the next year or two.", "And of course, the higher G-SIB doesn't come into effect until the first quarter of '23. So we do think we have offsets. We're still thinking about 12% as being a target CET1 for us, of course, given what we know today. But we are still waiting for that Basel three endgame to really understand what we're dealing with.", "And at that 12% in a more normalized environment, which wouldn't just be about rates, it would also be about loan demand, 17% still feels achievable for us." ] }, { "name": "Erika Najarian", "speech": [ "Got it. And thank you for going through some of the leverage constraints now that SLR has been -- exemption has expired. The investors have also been wondering, as we think about your opportunity to continue to facilitate the economic recovery globally, does the constraint on SLR and the moving pieces on G-SIB change your priorities in terms of timing or sizing of the $30 billion buyback or inorganic growth opportunities that you've mentioned in the past?" ] }, { "name": "Jennifer Piepszak", "speech": [ "I would say, broadly speaking, no, but an important point there on SLR, we obviously -- the levers we have are issuing preferreds. We can retain more common. But we're also working closely with wholesale clients in a very selective way, as I mentioned, to find alternatives for excess deposits. So it is true that common is one of the levers, although I will say that while it might give us more flexibility, it comes at a much greater cost.", "So at this point, given what we know and what we expect, we don't expect that we would have to retain more common. We think we can manage this through issuing more preferreds and working closely with our clients to find alternatives. So I would say, broadly speaking, no. The G-SIB constraints, as we've been saying for years now, is one that will become increasingly challenging for us.", "And now particularly with the expansion of the system, it's even more challenging than perhaps it was just a few years ago, but we're managing through that as well." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of John McDonald with Autonomous Research." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, John." ] }, { "name": "John McDonald", "speech": [ "Hey. Good morning, Jen. I wanted to ask about expenses. Obviously, you've raised the outlook by a billion dollars a few times the last couple times you've spoken.", "I guess, in terms of the increase that you announced today to the outlook, can you give a little more color on how much of that is volume and revenue related as opposed to the other buckets you talked about in January, which were investments in structural?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. Sure. So the increase from the 69 billion, which was the guidance we gave in the K, is almost entirely volume and revenue-related. And so there, I'll just make an important point that it's volume and revenue-related.", "So as an example, volumes in CCB, just given the environment, they are very valuable for long-term franchise revenue growth, but we may not see that revenue growth in the near term. But as we always say, we're -- we don't manage displaced for one quarter or even one year. So there are expenses associated with volume growth that may not have the revenue growth you would anticipate over the long run, but it's almost entirely volume and revenue-related. There are a few other things like marketing expense that, given the strength of the recovery that we expect, we now expect to lean more in on marketing expense in the second half of the year.", "So that's part of it as well." ] }, { "name": "John McDonald", "speech": [ "OK. And I guess the follow-up would be does that necessarily mean that it's more concentrated the increase in the first quarter because you had such a big quarter. And are there COVID-related costs that you have in your numbers this year that might come out over time?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Obviously, some of it is in the first quarter, but things like further volume-related expenses like I talked about or marketing, they're less so in the first quarter. And then what was your other question?" ] }, { "name": "Jamie Dimon", "speech": [ "COVID." ] }, { "name": "Jennifer Piepszak", "speech": [ "COVID. Those numbers are lower than they were even last year and included in the outlook, but not material in the grand scheme of things." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Glenn Schorr with Evercore ISI." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hello there. So if you're right on the economy, which I think a lot of us think you are, we're starting to see the spend part of the pickup now, as you mentioned, across credit and debit and some of the P&A. So my question is how do you think about the staging of the lens part? Both consumer and corporates are so flushed with all that liquidity. How do you think about the timing for loan growth? And if I could get a consumer versus wholesale comment, that would be great." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So you used the right word, which is demand, and it really is all about demand, which, of course, is quite healthy, particularly as it relates to consumer when you think about the amount of deleveraging that we've seen through this process. So there, we do expect a second-half pickup because, as you say, we first have to see spend recover before we see relevering on the consumer side. And then it is also true even for small business, which is obviously part of CCB.", "Their demand has been very low given the support that's available through PPP. And so that will likely pick up in the second half as well. And then elsewhere, AWM has been strong throughout, and we see that continuing. And then on the CIB side, I mean, that's always lumpy and deal dependent, but that's active as well.", "And we do see within secured lending opportunities there across asset classes. Again, that's a bit more opportunistic. And then in the commercial bank, given the level of support, the amount of liquidity in the markets as well as the amount of cash on balance sheet, loan growth there has been muted and probably will be for some time. But again, that's incredibly healthy ultimately for the recovery.", "And so whether we see that pick up later this year or next year remains to be seen, but it's all for good reasons." ] }, { "name": "Glenn Schorr", "speech": [ "I appreciate that. Maybe I'll just ask one follow-up on the deposit side. Obviously, deposit growth has been incredibly strong. So the two-parter is what do you think happens on the deposit side as the economy goes down the path that you've outlined? And what do you do with the deposit money in the meantime? Because I saw it loud and clear, Jamie's comments on It's hard to justify the price of U.S.", "debt. So what are we doing with all that liquidity in the meantime?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So first of all, I would say that deposits are going to be driven by the Fed balance sheet and to some extent, obviously, by bank lending. But given the demand picture there, you can think of it in the near term is all being driven by Fed balance sheet expansion. And so we obviously continue to expect significant deposit growth, which is why we've been talking about this so much. And then just in terms of how we deploy it, you will have seen that our cash balances are up quarter over quarter.", "And there, it's just important to remember that, for sure, we are being patient in the investment securities portfolio. That is true. I'll also mention that we are -- because of the steepening of the yield curve, we are less short. Banks will drift long in a sell-off.", "And so that has been part of the dynamic as well, but they're short-term cash deployment also. And so what we saw there was when repo markets fall below IOER, we're going to hold that short-term cash deployment in IOER relative to the repo market. So you'll see that dynamic on our balance sheet as well." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Ken Usdin with Jefferies." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Ken." ] }, { "name": "Ken Usdin", "speech": [ "Hey, Jen. Thanks. Good morning. Just wondering if you can elaborate on that.", "You mentioned the record investment banking pipeline and flattish year over year as a best guess. I was wondering if you could talk about the mix dynamics there. Obviously, the first quarter was just ridiculously great in terms of the ECM markets. And can you just give us a flavor of just where you see activity? And how much is that underwriting activity potentially dampening what might be happening on the commercial loan side?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, I'll start with the latter, which is it's absolutely been very, very supportive of corporates. And therefore, it has a lot to do with what we're seeing in terms of the muted loan demand from corporates. And then in terms of the mix, we expect ECM and M&A to continue. But on DCM, there's a lot of flow activity that doesn't necessarily get represented in a pipeline because it's high-velocity type activity.", "We saw that in the second quarter of last year. We continue to see that now, which is why I said it makes it a little bit difficult to predict the second quarter. So while the pipeline is higher than it's ever been, there is still a lot of high-velocity activity. And so that's why we think that the quarter will be flattish year over year despite the very high pipeline." ] }, { "name": "Jamie Dimon", "speech": [ "Let's call him. Let's see. Can you guys hear me?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes." ] }, { "name": "Ken Usdin", "speech": [ "Yes." ] }, { "name": "Jamie Dimon", "speech": [ "'Cause we can't hear you anymore. I'm gonna put you on mute for a minute." ] }, { "name": "Jennifer Piepszak", "speech": [ "OK. Jamie is traveling. So we have him on Zoom. I know everybody can appreciate technology challenges 'cause we've all had them over the last year." ] }, { "name": "Ken Usdin", "speech": [ "OK. Great, Jen. And my -- just my follow-up." ] }, { "name": "Jamie Dimon", "speech": [ "Jen, just keep on going 'cause I can hear the questions. I can hear you, but you're doing a great job, and you don't really need me." ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, thank you. I'm sure I'll need you at some point, so I hope they're on that. Anyway, go ahead. I'm sorry." ] }, { "name": "Ken Usdin", "speech": [ "Yes. No problem, Jen. OK. So the second one is just with regards to the comments that you guys have made for a while about looking at acquisition opportunities.", "Just wondering just how is the interplay between everything you've talked about already on balance sheet capacity and ongoing deposit growth and limitations on CET1 and SLR versus how you make potential decisions around usage of capital and an acquisition capacity?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. It's a great question. Interestingly, the issue is not that we don't have capital available to make those types of decisions. The issue is that we have the wrong binding constraint.", "So the binding constraint is leveraged, not risk-based. And so it doesn't change the way we think about acquisitions at all. In fact, acquisitions and/or increased loan growth would help to kind of normalize the constraints between leverage and risk-based. And so we would love to be able to absorb some of our CET1 through acquisitions because, as I said, it sort of just brings the balance back into focus.", "The issue is that its leverage-based constraint that is the constraint, and we're in a low rate environment with low loan demand and very strong deposit growth. So it's the combination of all those things that makes leverage the binding constraint, but it doesn't change the way we're thinking about acquisitions." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Betsy Graseck with Morgan Stanley." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Hey, Jen. Hey. Thanks for the time. Jen, a question on card and looking at the net charge-offs.", "You gave us the full year of 2.5%. And I know you spent a lot of time in card earlier in your career. So maybe you could give us some sense on how you're thinking about the \"normalization\" of that loss content over time. When I think back to the bankruptcy, changes in the 'OOs, it took many years for consumers to relever.", "And I'm wondering, given your background there, could you give us a sense as to what is different this time? And are there time frames historically we should look at for what a normal course like releveraging back to normal of that card loss content should be? How do you think about that?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. I would say, first of all, it's difficult to find a historical comparison that's totally relevant here because I don't think we've ever seen this amount of support in the system, which came, of course, on top of an already reasonably healthy consumer. So it's difficult to find the historical perspective. But I will say the 2.5%, I mean, pre-COVID, we would have thought that our loss rate in card this year would have been 3.3%, 3.5% So it just gives you a sense there of that tailwind on credit is significant.", "And in terms of what it's going to take for consumers to relever, I mean, we do expect there to be significant economic activity in the second half. And so that could come quite naturally, but it could come a little bit later, given the amount of deleveraging we've seen. But the fact that we already see spend above pre-COVID levels, and obviously, we still have restrictions in place, particularly around T&E on consumers' ability to spend, when that comes back, we do think that we'll see spend tick even higher. And that will be a point where perhaps we'll start to see that delevering.", "But it is difficult to know. It's a great question." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And then the follow-up I have, on your comments around the NII guide and the fact that it's hard to forecast. I got a couple of questions in this morning just on, hey. Why do you think it's flat versus prior guide given the curve has deepened? And also deposit growth should continue to be up significantly given QE's continuing this full year? So is there some spread angle that you're kind of thinking about that keeps you a little bit more muted? Is it more the loan growth? Maybe you could talk a little bit about those piece parts that you identified." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. I think it's probably all of the above, Betsy, but starting with the steepening of the yield curve. So If you look at the earnings at risk disclosure, I mean, we did see the benefit roughly in line with what that disclosure shows, which is since we last guided on NII, we steepened probably 25, 30 basis points. So that is incorporated in the outlook, but it is completely offset by the fact that we continue to see consumer behavior in card in terms of higher payment rates, and we haven't started to see relevering as we were just talking about, even though spend has recovered.", "So card, the impacts of card completely offset the steepening of the yield curve. You also mentioned loan growth, which is critically important to realizing the benefits of the steepening yield curve. And then I would just mention, we have reflected in our outlook, the fact that we have been patient on deploying further deposit growth into the securities portfolio in terms of duration. And then also, it's probably worth noting that the marginal benefit of further deposit growth is quite small given the fact that, that deployment opportunities are minimal.", "And so you can think about them as being something less than 10 basis points because we do have pay rates above zero. So it's something less than 10 basis points. So the marginal deposit growth from here doesn't add a whole lot in this environment anyway." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Mike Mayo with Wells Fargo Securities." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Hey, Jennifer. My question is for Jamie. And, Jamie, your philosophy is to invest through a downturn and you're increasing your investments by one-fourth year over year.", "You already said that. But what's your philosophy about investing through a boom as you expect over the next three years? I mean, if the pie is growing, do your investments go higher? It looks like that's not the case with the guidance you guys gave." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. So I think, Mike, the way to really look at it is it probably doesn't -- it isn't affected as much by boomer bus as you think. So we isolate opportunities like for -- and we're now sort of going to hire 300 black financial advisors. We're going to do that whether it's boomer bus.", "We're building new data centers. We're building new agile. We're going to the cloud. So I think it doesn't really change that much over time.", "I just think you'll probably see our investments go over time not go down. We can get plenty of organic growth opportunities, which we want to invest in." ] }, { "name": "Mike Mayo", "speech": [ "And then how much are you spending in climate? Your 66 pages CEO letter was, I guess, that's like a -- could be a third of a book almost, but you really had the table on climate risk and what you guys need to do. How much are you actually spending? And what's the payback on that spending for shareholders, or is this really an ESG reputational benefit you're looking for?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So I'll start there, Mike. And then, Jamie, you can chime in. But climate is a long game, obviously, and we're investing a lot of effort in our ESG initiatives, not only because they have a positive impact on society and communities, but because they're also important to our clients, customers, and our shareholders. So we don't exactly think about it that way, Mike.", "But we've also invested in multiple teams to help clients through the transition, and we do recognize it's a transition, and clients appreciate that. We've also made the Paris-aligned financing commitment last year, and we're going to release our annual ESG report next month, so you'll see more there. And then we also committed to finance $200 billion toward climate action and sustainable development, and we're continuing to grow those efforts as well. And in fact, your question is quite timely because we're planning to make an ambitious announcement tomorrow about long-term scaling of our financing efforts here.", "So much more detail to come shortly on that. But, Jamie, I don't know if you wanna add anything." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Jim Mitchell with Seaport Global." ] }, { "name": "Jim Mitchell", "speech": [ "Hey. Good morning." ] }, { "name": "Jennifer Piepszak", "speech": [ "Good morning." ] }, { "name": "Jim Mitchell", "speech": [ "Maybe -- just maybe a question on the bank SLR, which I think was a bit more of a constraint even than the firmwide SLR. Just, I guess, two questions related to that. What kind of flexibility do you have to kind of manage the difference between the two moving assets out of the bank perhaps? And then just if you have any updates or thoughts on potential changes that regulators are discussing to kind of give maybe Relief 2.0 in a more permanent sense on the SLR." ] }, { "name": "Jennifer Piepszak", "speech": [ "So the bank SLR, I mean, broadly speaking, it's going to be the same levers. We do have a little bit more flexibility, as you note, because we can move things -- we can inject capital into the bank from the holding company. So it's a little bit more flexible. But generally speaking, the constraints and the levers are the same.", "And then in terms of changes, we know what you know. And so we look forward to a proposal. The only thing I can mention is, of course, the difference between the U.S. and Europe on Basel as it relates to SLR is there, it's a 3% plus half-year G-SIB.", "And so we have a constant 2% buffer. And so with that, you get the flexibility in a Basel-compliant way to exclude deposits at Central Banks for a period of time. So it's possible that it could look something like that, but we don't know." ] }, { "name": "Jamie Dimon", "speech": [ "So I think there's too much focus there. We run the business do a great job servicing clients over time. We manage -- God knows how many different capital liquidity contents. We have multiple levers to pull all the time to do that while serving our clients.", "If we've got to adjust our strategy going forward, so be it. We'll probably be fine. I think the question you used to be asking isn't what it means for us, it's what it means to the marketplace? I've already mentioned several times, we have $1.5 trillion of cash and marketable securities, which we cannot deploy in a whole bunch of different ways into the marketplace with repo or just financing positions or helping people because of these constraints. So the constraints are more of a constraint on the economy than they are on JPMorgan Chase.", "We will find a way, regardless of any constraints, to do things. The other thing is G-SIB, the SLR, they're all these couple things, they need to be recalibrated. And I think people have been asking why how would you really do the best job for the United States and the people in the United States, not for JPMorgan. JPMorgan is going to be fine either way." ] }, { "name": "Jim Mitchell", "speech": [ "Great. Thanks." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Gerard Cassidy with RBC." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Hi, Jen. How are you?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Good. Yes." ] }, { "name": "Gerard Cassidy", "speech": [ "Question, I apologize if you addressed this. I had to jump off for a minute here. But can you share with us on the service -- mortgage servicing business, it looked like you had a small loss this quarter similar to the fourth quarter. Can you tell us some of the metrics that went into why the servicing business recorded a small loss?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Oh, gosh, Gerard. I'm not even sure, but Reggie and the team can follow up with you." ] }, { "name": "Gerard Cassidy", "speech": [ "OK. Very good. And the second question has to do with when we go back to the day one loan loss reserves established in January 1st, 2020, for you and your peers under CECL accounting, if I recall, I think your loan loss reserves to total loans at the time were approximately 1.87%. Today, they're approximately 2.42%.", "I know you guys gave some color on your outlook for what you think credit will look like. You're being a little more conservative. But can you share with us what would it take to bring the reserves back down to the day one levels that we saw in January 1, 2020?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, it's very difficult to try to compare today to just taking our balance sheet today, taking the profile of our portfolio today and compare it to CECL day one because we are very far away from that, in fact, in a very healthy way. So that's very difficult to do. What I will say is that it is true that things have continued to improve even since we closed our process in the first quarter. And we obviously expect things to be -- we expect the recovery to be robust in the second half of the year.", "And so if we continue to see that, if we continue to see labor markets recover, if we continue to see vaccine rollout be successful, we would have future releases from here. But I would note importantly that the $7 billion, that is the distance between our reserve and the base case, is just for context. We will always have weightings on alternative scenarios. And so all else equal, which is there's a lot in the all else equal bucket, but we would release something less than $7 billion.", "So difficult to compare back to CECL day one, but there could be further releases ahead." ] }, { "name": "Jamie Dimon", "speech": [ "One of the negatives to CECL, which I pointed out right at the beginning, that we spent a lot of time on these calls describing something which is virtually irrelevant for the bank, which is these are multiple scenarios, hypothetical, probability-based. And obviously, the more volatile environment, the more volatile these numbers. If a base case was $20 billion, and we now have something like 30, we're not going to be taking down a lot of reserves now because you always -- as Jen said, you're always going to have an extreme adverse case. Think of it like kind of a CCAR test, and you always have a percentage of reserves up for that permanently.", "And so always -- hopefully, I mean, my view is we should waste a lot less time in CECL that makes almost no difference for the company in general." ] }, { "name": "Jennifer Piepszak", "speech": [ "And then back on your servicing point, I got the answer. It's updates to the MSR model. So HPI updates, prepay updates. So it's less about the operation and more about the MSR model update." ] }, { "name": "Operator", "speech": [ "Next question comes from the line of Matt O'Connor with Deutsche Bank." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Matt." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. I wanted to ask about the CEO letter where there was talk about being open to fintech deals, which is something you've talked about in the past. But what type of deals would you be interested in? And I guess, could it be material to JPMorgan as we think about whether it's your strategy or financial impact?" ] }, { "name": "Jamie Dimon", "speech": [ "So remember, we're after paying a steady careful dividend stuff like that. We much prefer to invest in our business organically, including the acquisitions and buying back stock. We're buying back stock because our cup run is over. We have 13.6% capital to risk-weighted -- to advanced risk-weighted assets.", "We're earning a tremendous sum of money, and we really have no option right now. But I think the door is open to anything that makes sense. So we've already done InstaMed, which is an electronic digital payments platform between providers and consumers in healthcare. We did 55 IP, which is a tax way -- a tax-efficient way of managing money, and we're looking at tons of things ourselves.", "Some were billing ourselves like Dynamo. Some of it are part of the -- we've got investments in probably a hundred different... hundreds of points to be either partner with or like, but we're completely open-minded. It could be payments.", "It could be asset management. It could be adjacency. It could be data. It could be anything like that.", "But it cannot be a U.S. bank. So we're just reminding people, if you got great ideas for us, let us know." ] }, { "name": "Matt O'Connor", "speech": [ "And as the mentality and Fintech specifically, is it to potentially accelerate from the investments that you would have done on your own or to add capabilities or maybe protect what you already have?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, it's a little of everything. Because you see us adding Chase My Plan and Chase By Loan and obviously see competing a little bit of buy now, pay later. You see us doing Chase offers a compete with people. You see us doing Zelle payments.", "And we've got tons of fabulous stuff coming. We did do invest a couple of years ago. We had a very good quarter. We're adding robo investing, which is just getting going.", "So we're adding a broad set of capabilities across the full spectrum. And you're going to see a lot more. And you're going to see personalization of apps. And if you go into the payment system, you're going to see Global Wallets.", "You're going to see tons of stuff is coming. And like I said, the fintech has done a great job. I'd point to add that they live under different constraints. But they've done a great job getting rid of pain points, making automated, digitizing things using the cloud.", "It's incumbent upon us to go faster to the cloud. We already have 150 major AI projects. But my guess is in five years, it will be a thousand AI project. So we're going as fast as we can to do a great job for customers.", "And obviously, fintech will be a challenge. There's a lot of money there. They're very smart people. I want to be clear.", "We're not wishing regulations on them like on us. I think it would be bad for America. But we are wishing for a level playing field when it comes to ramp certain products and certain services. I for one think it's grossly unfair that a neo bank can have a small checking account earn $200 in the Durbin fees, and we earn $100.", "That just isn't right. And I could go on and on and on about some of the unfair things. But look, let the regulars do it, I'm not expecting any change. We will just adjust and guide these accordingly." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Brian Kleinhanzl with KBW." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Brian." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hey. Hey. Good morning. I just have a quick question.", "I mean, as we start to look out to forward rates and market kind of implying Fed moving somewhat in the near term or intermediate term. I mean, how are you guys thinking about deposit beta this cycle? And kind of what's included in your NII sensitivity, both on the consumer and commercial deposits?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So --" ] }, { "name": "Jamie Dimon", "speech": [ "So I think the way to answer is the betas have gamma, meaning they change over time. And we have our best guess in numbers that Jen gave you. So obviously, the beta is going up all the time. And then it levels off." ] }, { "name": "Jennifer Piepszak", "speech": [ "That's right. And so the betas have gamma, like I'd say that you can think of it as being nonlinear, meaning the beta for the first hundred basis points will be lower than the beta for the second and third increments of a hundred basis points. And so from here, on the retail side specifically, the first hundred basis points will be very valuable because there is a lower beta associated with it. So that's really where we see the benefit in NII with short rates in an environment with low loan growth." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Charles Peabody with Portales Partners." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hello." ] }, { "name": "Operator", "speech": [ "And, Mr. Peabody, your line is open. Please ensure that you do not have your line on mute." ] }, { "name": "Charles Peabody", "speech": [ "Hello? Can you hear me now?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Hello. Go ahead. Yes. We can hear you.", "Go ahead." ] }, { "name": "Charles Peabody", "speech": [ "Sorry about that. I had a question about the impact that negative rates at the short end of the yield curve might have on your entity. Specifically, if we -- you touched a little bit on the IOR rate and the overnight repo rate being raised. Would that have any impact on your market-related NII if they had to raise by five basis points? Secondly, if we do get negative rates at the short end, is that incorporated in your $55 billion NII guidance? And then thirdly, If we do get negative rates at the short end, does that have any implications for what loan demand might look like?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So I'll just start by saying while we have seen repo go negative at times. It's been quarterly. And so we don't expect short rates to be negative for any longer period of time or -- and we certainly haven't seen spikes, which is something you would worry about more.", "I think with the amount of capacity in the money market complex and the fact that the Fed increase their RRP facility, now that facility is at zero, so that certainly is supportive of ensuring short rates don't go negative for any meaningful period of time. They also obviously could increase that. And then for us, I would say, not a meaningful impact because obviously, we have 10 basis points of IOER as an option for us, but we do trade around it." ] }, { "name": "Jamie Dimon", "speech": [ "I will just add, the why is far more important to the number. Like NII, obviously, like in trading, it goes in and out, the whole thing have been equal. No, it just shows up in a different place. But if you go negative NII because you're going back into recession because there's a negative variance.", "That's a whole different issue than it was a temporary timing thing. I would tell you, we would expect rates to be moving up over time, and we expect a rather healthy, very strong economy." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. Yes. And what we've seen so far on the short end is not unhealthy or something we're worried about. It's a dynamic of so much cash chasing the supply." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Andrew Lim with Societe Generale." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Andrew." ] }, { "name": "Andrew Lim", "speech": [ "Hi, Jen, Jamie. Morning. So just circling back to the SLR, despite issuing 1.5 billion preferreds, you still lost about 30 basis points on your SLR. I'm just wondering how you think about the ratio two or three quarters out from now, whether issuing preferreds and having your discussions with wholesale depositors because there's going to be enough to put a floor on the SLR at 5.5%? Or whether you're going to have to pull harder on that on those levers or have to pull hard on other levers?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. So the minimum is 5%. So we have some room. Naturally, we will have a buffer above the minimum as you always need to when you have binary consequences of going.", "So you can think about some management buffer above that, but we do still have room at 5.5%. And we do think that we can manage this at this point through issuing. We'll be in the market again with preferreds as well as the conversations that we've had with clients. So far, they have not been disruptive.", "We're hopeful that, that remains the case and that we can manage this." ] }, { "name": "Andrew Lim", "speech": [ "OK. So what was your level of comfort for the buffer above the 5%? That's my follow-on. And then just another question. You gave an update a couple of quarters ago saying that you had a buffer or, let's say, excess proficiency of about $10 billion versus your best-case scenario economic outlook.", "Obviously, you've released a lot of provisions since then. Can you give an update on what that figure is now?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So you can think about a buffer on the SLR of, call it, 25 basis points. There, it is important to note, something like AOCI is something that we have to incorporate into our thinking and the impact of AOCI as that's part of tier one capital. So we need to have a buffer to make sure that we can manage through any noise we might see there.", "So that's why we have a buffer, and 25 basis points is probably a reasonable one to think about. In terms of the -- on reserves, the distance between where we are in the base case, as I said in my prepared remarks, that's now 7 billion. What's interesting to note is that that was 10 billion. It was then 9 billion, and we've released 8 billion, and it's still 7 billion.", "So all of the scenarios have been moving, and there are lots a lot that goes into how we think about reserves. We've always just provided that as context for everyone, particularly last year as we were managing through so much uncertainty in terms of the inputs into our reserves. So I wouldn't put a lot of weight into that because what I also said on the 7 billion is that you shouldn't think about that as available for release because we will always have some weighting on alternative scenarios. And so even if everything plays out exactly as we expect, based upon where we closed the books for the first quarter, it would be something less than 7 billion." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Mike Mayo with Wells Fargo Securities." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Hi. I'm still wrestling with the deposit conundrum. So I guess your national deposit share is something like 12%. And over the last year, I think your incremental deposit share gain is 20%.", "And in others, the industry deposits were up around $3 trillion, and your deposits are up 600 billion. So I'm just wondering how much of that was due to QE? And how much of that is due to organic growth? And maybe you can fill us in because you're building out the branches in the lower 48 states? And you're expanding commercial bankers and trying to build up all this organic growth at a time when you can't really monetize those deposits." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So first of all, as we always say, we're running the place for the long term, and we don't expect this challenge to be a long-term challenge, maybe a short to medium term, but not a long term. And then I'll just say that, yes, there was certainly some organic growth, but it is Fed balance sheet and bank lending that create deposits. And so that's what we are focused on.", "And we do think, given what we expect here, that we can manage it. And it certainly isn't going to change the way we think about market expansion or otherwise as that is long-term franchise value." ] }, { "name": "Jamie Dimon", "speech": [ "I think, Jen, another kind of -- hey, Mike, it's the 600, and it's really hard to see that. We think we're growing actual stair in almost every business deposits, but 500 to 600 was the Fed balance sheet. And we're a big wholesale bank and a big consumer bank. So obviously, a big portion of that shows up inside our company.", "And again, we try to -- the new brands are doing great, but they're not going to move the needle quite like the Fed adding 3 trillion to deposits in the system" ] }, { "name": "Jennifer Piepszak", "speech": [ "That's right." ] }, { "name": "Mike Mayo", "speech": [ "And just a quick update on the build-out into the 48 lower states branches, you said, by the middle of this year." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. Yes. So we'll be in all lower 48 by the end of July. Is that right? Yes.", "Reggie is confirming for me. We will be in all lower 48 by the end of July. We opened about 75 branches in market expansion. Last year, we got a little bit slowed down by COVID, but that's going to be about 150 this year.", "So we remain super excited about that. And all the opportunities that bring across the company, not just in deposits, of course, because it brings incredible value to the commercial bank and to the private bank. And so the business case there, if you will, is not just about deposits." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Erika Najarian with Bank of America Merrill Lynch." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Erika again." ] }, { "name": "Erika Najarian", "speech": [ "Apologies for prolonging the call. I just got this question a lot on Bloomberg from investors. Just wanted to reask the first question another way. It seems like we have been waiting for recalibration on the G-SIB for some time now.", "On the other hand, clearly, the expansion of your balance sheet comes with additional revenue generation and market share taking and some opportunities. And so investors are wondering, if we don't get any sort of calibration that's meaningful and that CET1 floor does have to move up from 12%, what is the sensitivity of the normalized ROTCE outlook, if any at all, if that 12% does have to move up in 50 basis points increment?" ] }, { "name": "Jennifer Piepszak", "speech": [ "OK. So if the 12% has to move up, Erika, that would obviously have an impact. But there is so much between here and there and that being a reality that we can't really comment on it because not only -- I know we've been waiting for G-SIB recalibration for a long time, but it has been made very clear that G-SIB recalibration will be part of the Basel three endgame, which we have also been waiting for, for a very long time. And so there will be potential offsets that we yet are not -- we're unable to manage because we don't know what they are yet.", "So we continue to wait for Basel three endgame. And then as I said, we do believe we can manage the stress capital buffer. Again, it's scenario-dependent, but we do believe we can manage that to be closer to 2.5%, which helps an awful lot in terms of an offset to G-SIB constraints. So we are thinking about that 12% number until we know something different." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. And I'll just add, we're gonna finally kinda keep the 12, and we're pretty sure we can do it. So I'm not that worried about it. But I don't know what the confusion is.", "If it did go up by -- if we're earning 20% tangible equity and our capital goes up by 5% and we get no return to 5%, our ROE goes to 19. So I don't understand the confusion. The underlying results are still fabulous and great and you have slight low returns. But I even think that will be temporary, we will, over time, find strategies and tactics to get returns to compare to our shareholders.", "But the most important of those returns, we have a great business, great branches, great products, great services, good margins, good service goes up, it controls goods. And that's what we really build all the time. It's there other stuff that just managing around capital constraints that It's a shame that this is -- I mean, this is not the way to run a railroad anymore. We're spending time and is calling CECL and SLR, and it's a shame.", "And it does distract from growing the American economy. I've mentioned over and over, we have one -- we have 2.2 trillion deposits, 1 trillion loans, 1.5 trillion of cash and marketable securities, much of which cannot be deployed to intermediate or lend. How conservative do you wanna get?" ] }, { "name": "Erika Najarian", "speech": [ "No. I agree. I think the market needed to hear that. Thank you." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "There are no further questions at this time." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you. Thanks, everyone. Thanks, operator." ] }, { "name": "Jamie Dimon", "speech": [ "Thank you.Operator[Operator signoff]" ] } ]
JPM	2020-10-13	[ { "description": "Chief Financial Officer", "name": "Jennifer Piepszak", "position": "Executive" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew O'Connor", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "James Dimon", "position": "Executive" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew OConnor", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steve Chubak", "position": "Analyst" }, { "description": "Seaport Global Securities LLC -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" }, { "description": "Portale Partners, LLC -- Analyst", "name": "Charles Peabody", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's third-quarter 2020 earnings call. This call is being recorded. [Operator instructions] At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jennifer Piepszak.", "Ms. Piepszak, please go ahead." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you, operator. Good morning, everyone. I'll take you through the presentation, which, as always, is available on our website. And we ask that you please refer to the disclaimer at the back.", "Starting on Page 1. The firm reported net income of $9.4 billion, EPS of $2.92 and revenue of $29.9 billion with a return on tangible common equity of 19%. Included in these results are $524 million of legal expenses primarily related to the resolution of legal matters announced last month. Overall in the quarter, while we're still in a very uncertain environment, our underlying business fundamentals performed quite well, so I'll just touch on a few highlights here before getting into the line-of-business results.", "CIB continued its strong performance with our IB fees of 9% and markets revenue up 30% year on year and we had record revenue in AWM, up 5% year on year. On deposits, while we expected to see some normalization in our balances, instead, we saw another quarter of growth, with average deposits up 5% sequentially. And notably, we moved into the No. 1 spot in U.S.", "retail deposits with 9.8% market share, gaining 50 basis points of share year on year. On the other hand, average loans were down 4% quarter on quarter, primarily on revolver pay downs from our Wholesale clients. With that, let's turn to Page 2 for more detail on the third-quarter results. We reported revenue of $29.9 billion, which was flat year on year.", "Net interest income was down approximately $1.2 billion or 9% on some lower rates, partly offset by higher Markets NII and balance sheet growth. And noninterest revenue was up $1.2 billion or 7%, primarily driven by CIB, including higher banking and markets revenues as well as net securities gains in corporate. Expenses of $16.9 billion were up approximately $500 million or 3% year on year on the higher legal expenses that I already mentioned. This quarter, credit costs of approximately $600 million were down $900 million year on year, primarily driven by modest reserve releases, which you can see in more detail on Page 3.", "We released approximately $600 million of reserves this quarter, primarily on run-off in Home Lending and changes in Wholesale loan exposure. Charge-offs across our portfolios remained relatively low and, in fact, were down slightly year on year and quarter on quarter. While we could see an uptick in charge-offs over the next few quarters, given payment relief and government stimulus already provided, and we don't expect any meaningful increases in charge-offs until the second half of 2021. As you can see at the bottom of the page, our updated base case reflects some improvement from last quarter.", "However, the medium to longer term is still highly uncertain in particular as it relates to future stimulus. And so we remain heavily weighted to our downsize scenarios, and with reserves of just $33.8 billion, we're prepared for something worse than the base case. And now turning to Page 4. I'll provide a quick update on what we're seeing in our customer assistance programs.", "You can see here that the vast majority of Card & Auto customers have exited relief, and so what's left in deferral is primarily in Home Lending, including $11 billion of owned loans and $17 billion in our service portfolio. And in terms of what we're seeing with our customers that have exited relief, approximately 90% of accounts remain current. Now turning to balance sheet and capital on Page 5. We ended the quarter with a CET1 ratio of 13%, up 60 basis points versus last quarter on earnings generation and lower RWA, partially offset by dividends of $2.8 billion.", "It's worth noting that we have over $1.3 trillion of liquidity sources available to us across HQLA and unencumbered securities. Now let's go to our businesses, starting with Consumer & Community Banking on Page 6. CCB reported net income of $3.9 billion and an ROE of 29%. Revenue of $12.8 billion was down 9% year on year driven by deposit margins compression and lower Card NII on lower balances, partially offset by deposit growth and strong Home Lending production margins.", "Deposit growth was 28% year on year, up over $190 billion, largely on the lower spending and higher cash buffers across both our consumer and small business customers as well as organic growth. Client investment assets were up 11% year on year driven by both net inflows and market performance. Overall, consumer customers are holding up well. They have built savings relative to pre-COVID levels and at the same time, lower debt balances.", "With regard to digital adoption, early signs suggest the increased customer migration to the digital will persist. In fact, nearly 69% of our customers are digitally active, and that's up 3 percentage points year on year and accelerating. And quick deposit now represents more than 40% of all check deposits versus 30% pre-COVID. Moving on to consumer lending.", "Starting with Home Lending. Total originations were down 10% year on year driven by correspondent. However, consumer volumes were up 46% year on year. And notably, more than half of consumer applications were completed digitally, twice the level of the first quarter.", "In Cards, while our net sales were down 8% year on year, spend continued to improve throughout the quarter. And in the month of September, sales were down only 3% year on year, reflecting the lowest decline since March. Retail, which is a significant portion of overall spend, was a bright spot, reaching double-digit year-on-year growth in the third quarter, largely driven by card-not-present transactions. And then in Auto, record originations for the quarter of $11.4 billion were up 25% year on year.", "Total CCB loans were down 7% year on year, with Home Lending down 15% due to some portfolio run-off and Cards down 11% on lower spend, offset by Business Banking, up 83% due PPP loans. Expenses of $6.8 billion were down 4% predominantly due to lower marketing investments. And lastly, credit cost of $794 million included a $300 million reserve release in Home Lending and net charge-offs of $1.1 billion driven by Cards. Now turning to the Corporate & Investment Bank on Page 7.", "CIB reported net income of $4.3 billion and an ROE of 21% on revenue of $11.5 billion. Investment Banking revenue of $2.1 billion was up 12% year on year and down sequentially off an all-time record quarter, and we maintained our No. 1 rank in IB fees year to date. And the quarter's performance was largely driven by our equity capital markets business, which saw an uptick in IPO issuance driven by a strong equity backdrop with stocks trading at or near all-time highs.", "In advisory, we were down 15% year on year, largely impacted by the muted M&A announced volumes in the first half of the year. However, we saw a surge in M&A activity this quarter with announced volumes returning to pre-COVID levels as companies began to shift their focus from day-to-day operations to more strategic and opportunistic thinking. Debt underwriting fees were also up 5% year on year but down 21% sequentially as we saw investment-grade activity return to more normalized levels from the record volumes we saw in the second quarter. The leveraged finance market continued to recover with high-yield spreads approaching pre-COVID levels and some notable acquisition financing deals closing.", "We maintained our No. 1 rank in overall wallet, and we're the leaders in lead left across leveraged finance. In equity underwriting, fees were up 42% year on year, resulting in the best third quarter ever, primarily driven by our strong performance in the IPOs and follow-ons. In terms of the outlook, we expect fourth quarter IB fees to be roughly flat versus a strong quarter last year and down sequentially.", "However, if valuations remain elevated, we could continue to see momentum in capital markets. Moving to Markets. Total revenue was $6.6 billion, up 30% year on year. While activity continued to normalize, with spread, volume and volatility reducing from the elevated levels of the first half of the year, the performance was strong throughout the quarter and across products, reflecting the resilience and the earnings power of this franchise through a broad range of market conditions.", "Fixed income was up 29% year on year against a strong third quarter last year driven by a favorable trading environment across products, notably in commodities as well as elevated client activity in credit and securitized products. Equities was up 32% year on year on continued robust client activity in equity derivatives as well as a recovery in prime balances and a solid performance in cash. Looking forward, it's important to remember that 4Q '19 performance was very strong, making for a difficult year-on-year comparison. And obviously, forecasting market performance still remains very challenging in this environment.", "Wholesale Payments revenue of $1.3 billion was down 5% year on year driven by deposit margin compression, largely offset by balance growth as well as a reporting reclassification in merchant services. Securities Services revenue of $1 billion was flat year on year, where higher deposit balances were offset by deposit margin compression. Expenses of $5.8 billion were up 5% compared to the prior year largely due to higher legal expense, partially offset by lower structural and volume- and revenue-related expenses. So, now moving on to Commercial Banking on Page 8.", "Commercial Banking reported net income of $1.1 billion and an ROE of 19%. Revenue of $2.3 billion was flat year on year driven by deposit margin compression, offset by higher balances and fees and higher lending revenue. Gross Investment Banking revenue of $840 million was up 20% year on year on increased debt and equity underwriting activity. Expenses of $966 million were up 3% year on year.", "Average loans were up 5% year on year but down 7% quarter on quarter due to declines in revolver utilization by C&I clients and lower origination volume in CRE. Deposits of $248 billion were up 44% year on year and 5% quarter on quarter as client balances remain elevated. Finally, our credit costs were a net benefit of $147 million, including a $207 million reserve release and net charge-offs of $60 million. Now on to Asset & Wealth Management on Page 9.", "Asset & Wealth Management reported net income of $877 million with pre-tax margin of 31% and ROE of 32%. Record revenue of $3.7 billion for the quarter was up 5% year on year as growth in deposit and loan balances, along with higher management fees and brokerage activity, were largely offset by deposit margin compression. Expenses of $2.6 billion were flat year on year, with -- credit costs were a net benefit of $51 million, primarily due to reserve releases. For the quarter, net long-term inflows of $34 billion were positive across all channels and driven by fixed income and equity.", "At the same time, we saw net liquidity outflows of $33 billion. AUM of $2.6 trillion and overall client assets of $3.5 trillion, up 16% and 15% year on year, respectively, were driven by net inflows into liquidity and long-term products as well as higher market levels. And finally, deposits were up 23% year on year, and loans were up 13%, with strength in both wholesale and mortgage lending. Now on to corporate on Page 10.", "Corporate reported a net loss of approximately $700 million. Revenue was a loss of $339 million, down $1 billion year over year, driven by lower net interest income on lower rates, including the impact of faster prepays on mortgage securities, partially offset by $466 million of net securities gains in the quarter. Expenses of $719 million were up $438 million year on year primarily due to an impairment on a legacy investment. Now let's turn to Page 11 for the outlook.", "You'll see here that our full year outlook for 2020 remains in line with what I said at Barclays. We expect net interest income to be approximately $55 billion and adjusted expenses to be approximately $66 billion. And that while we don't have anything on the page for 2021 and we're not planning to do Investor Day, we'll share more color with you on the outlook in the first quarter of next year. So to wrap up, even though recent economic data has been more constructive than we would have expected this -- earlier this year, there remains a significant amount of uncertainty.", "And so we continue to prepare for a broad range of outcomes while focusing on serving our customers, clients and communities through this time. With that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions]Our first question comes from Matthew O'Connor of Deutsche Bank." ] }, { "name": "Matthew O'Connor", "speech": [ "Good morning. So I think one of the key questions on investors' minds right now is how will banks grow revenue kind of medium term here as we think about lower-for-longer rates? And I was hoping you could just talk about how you think about managing the company if rates stay very low for a long time and how you can grow revenue. And obviously, year to date, the revenue has been very good, up 4%. And if you could just squeeze in the branch expansion that you alluded to in the comments as part of that answer, that would be helpful." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So in terms of how we think about the revenue outlook for 2021, first of all, it's early and we'll come back to you in the first quarter with more details. But it is true that if we think about the NII outlook, that that will be under pressure relative to 2020 and I can't give more detail on that. But also, we are on pace for record revenue in markets and investment banking, and so that will be a tough compare.", "Having said that, we're not going to change the way we run the company because of what might be temporary rate headwinds, and we see significant franchise value in the growth that we're seeing in the deposit base. And with that branch expansion -- we are continuing on our plans in branch expansion. We have, I think, almost 120 branches open in our expansion markets. We'll do more than another 150.", "So far this year, we got approval to enter 10 additional states, which we'll ultimately put up in all lower 48. So we continue with the branch expansion and remain very excited about it with those new branches, in most cases, performing well above the original business case." ] }, { "name": "James Dimon", "speech": [ "Can I just add to that to give you a little bit of longer-term view? There's not one single business or not any bankers, countries, products, digital. We're growing securities services and cash management services. We're adding -- we're growing the Chase wealth management business. We're adding private bankers.", "We're adding products in Asset Management. And we kind of look through all the things -- I kind of call them the weather. We just keep on growing. The branch expansion is one example of that.", "We never stopped doing that. We never stopped gaining credit card products. We never stopped growing digital Home Lending products, and we'll be doing that for the next decade. And of course, you have all these ins and out from what I call the weather: NII, spreads, margins, markets, etc., but the goal is always the same.", "You grow the business to serve your clients around the world." ] }, { "name": "Matthew O'Connor", "speech": [ "And then as a follow-up, Jen, you'd said that you'd elaborate on the net interest income. I don't know if you meant now or you're going to wait until January for that in terms of the outlook for next year, just some puts and takes." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So there, I had said at Barclays that the current run rate was a good place to start. So $13 billion is a good place to start and for 2021 reflects the impact of the rate environment and some normalization in market's NII.But from there, balance sheet growth and mix should be supportive throughout the year. And so for the full year of 2021, my best view at this point would be $53 billion, plus or minus.", "But yes, we'll sharpen our pencils on that and continue to provide updates. But right now, full year, $53 billion." ] }, { "name": "Operator", "speech": [ "Our next question is from Glenn Schorr of Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hello there." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Good morning. So I guess the reserve release was definitely driven by mortgage prepay and run-offs, I get that. But NPAs were still up 18% quarter on quarter. I wonder if you could talk about what drove that.", "Maybe comment on commercial real estate specifically. It'd be appreciated. Thanks." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So the reserve release, as you said, was largely on portfolio run-off and changes in exposure in Wholesale, so not a reflection of a change in our outlook. And then the increase in nonaccrual loans is -- on the consumer side is mortgage, and it represents the customers that have come out of forbearance and are not paying. And so as you saw on that slide, the payment deferral slide, about 90% are still current.", "The other 10% has now been reflected in the nonaccrual exposure. So that is all mortgage. And then the increase in nonaccrual on the wholesale side was just a few name-specific downgrades, which are in sectors you would expect, as you just said, retail-related real estate and oil and gas. And then more broadly on commercial real estate, I'll just share that we feel adequate reserve for what we're facing.", "But if you look at rent collection as an example overall, with the exception of retail, between 85% and 95%. And then even retail in the month of September was about 80% -- has recovered to about 80%. So still a lot of uncertainty there, but we feel adequately reserved." ] }, { "name": "Glenn Schorr", "speech": [ "OK. I appreciate that. Maybe one on asset management. You have been doing great.", "I don't need to ask on your specific business. But in the past, you've spoken about potential interest in participating in industry consolidation. We saw some of that happening lately. Can you just talk -- remind us about the parameters of what you would and might not be interested in doing in asset and wealth management?" ] }, { "name": "James Dimon", "speech": [ "Well, since we have you all on the line, our doors and our telephone lines are wide open. We would be very interested, and we do think you will see consolidation in the business but we're not going to be more specific than that. [Inaudible] product-sensitive, the systems, the technology, the business projects, the ability to execute, there's lot -- there are a lot of issues that will determine whether something makes sense for us in there." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Hey, Jen and Jamie, that was some comment. You said you do not expect much higher charge-offs until the second half of next year, and that's even with the higher NPAs. So what are your assumptions behind that, Jen, as far as specifically when the forbearance actions run their course? And, Jamie, policy actions that might be embedded in that expectation?" ] }, { "name": "Jennifer Piepszak", "speech": [ "OK. So I'll just start, Mike, with, first of all, the increase in nonaccrual was on mortgage. And when you look at the LTV on those -- the loan to value on those loans, that's what is embedded into how we're thinking about the -- what charge-offs will look like in the near term. There's still very healthy LTVs on those loans.", "So really, when we talk about losses really emerging in a significant way, not until the back half of '21, we're talking about cards. And just given the amount of stimulus and payment relief and just support in the system, we haven't seen the delinquency buckets begin to fill up, and we charge 180 days past due in cards. So that is primarily just a timing issue as it relates to cards. We could see increases in charge-offs in the next few quarters on the wholesale side or maybe here and there on the consumer side.", "It's just that the meaningful change in charge-offs, we don't expect until the second half of 2021." ] }, { "name": "James Dimon", "speech": [ "Yes. And, Mike, about policy, first of all, I wouldn't say that policy is determinative here because this is unprecedented times. And what we're saying is that policy will matter and will skew the odds of having a better outcome. So I think the policy -- obviously, the Fed is doing what it can to keep markets open, but the policy on the fiscal side is just some kind of continuation of unemployment insurance and PPP.", "So, those are the two most vulnerable areas to just maximize the chance that we'll have better outcomes and I do think that over time, intelligent return to work. I caution people -- remember, 100 million people go to work every day. So the complete focus is on the 50 million who don't go to work. But the 100 million who go to work, it's rather safe.", "There's a lot of examples where you do the social distancing and the cleaning and all the various things like that, that it may be safer than being home in your community. And so -- but the getting back to work is a little bit important because you look at cities and travel and a whole bunch of stuff. There are a lot of people who are under a lot of stress and strain who won't be able to survive another year of complete closedown. So the other policy is numerous, rational, thoughtful return to the office, done properly, which will help all those businesses support the big office towers and buildings and stuff like that.", "And those two things will maximize the chance of good outcome. They don't guarantee the chance of a good outcome." ] }, { "name": "Mike Mayo", "speech": [ "And I know this is a tough question, but you're in the middle of the stress test part two. When all is said and done, Jamie or Jen, where do you think these charge-offs go as a percentage of the global financial crisis? You have to have -- I know you have scenarios, but where should we think -- is it like half the GFC level, same as GFC level, twice the GFC level? What are you guys thinking at the back of your mind?" ] }, { "name": "Jennifer Piepszak", "speech": [ "It's a very difficult question to answer. It's very different, of course, because the GFC was heavily mortgage-related, and this will probably be less so. We also -- our portfolios are in significantly better shape coming into this, whether it's mortgage or card. But just given the amount of uncertainty about where this could go, we still have 12 million people unemployed, I think it's very difficult.", "I don't know, Jamie, whether you would add." ] }, { "name": "James Dimon", "speech": [ "It's very hard -- I agree with you, Jen. It's very hard to say. And, Mike, it depends on the outcome. Again, we look at the good case, the medium case, the relative adverse case and the extreme adverse case.", "And there, the answers are completely different, and we don't know the future. So it's hard to predict what it's going to be. But our reserves are prepared pre -- relative to the adverse case, which is equal to the -- roughly equivalent to CCAR extreme adverse case that we just got, roughly. Again, very hard to compare apples to apples in these things." ] }, { "name": "Operator", "speech": [ "Our next question is from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Good morning. I'm going to ask the two questions that I often get from investors that are hesitant to dip their toe back into bank stocks. And the first is -- and Jen, this goes back to your earlier comment.", "The one question I get on credit quality is did stimulus and policy redefine cumulative credit losses lower for this cycle? In other words, I think Jamie said changed the outcome or do you think it just delayed the realization of these losses?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So I think it's difficult to know. I think the purpose of it was to change the outcome, not just delay the losses. But it's difficult to know. People sort of described it as a bridge, and the question is whether the bridge will be long enough and strong enough to bridge people back to employment and bridge small businesses back to normalcy.", "So I think it remains to be seen. As Jamie said, we're obviously preparing for it to not necessarily change the outcome, obviously, because we built significant reserves. So we're prepared for it to be a delay rather than change the outcome." ] }, { "name": "Erika Najarian", "speech": [ "Got it. And my follow-up question, and perhaps if I could direct this to Jamie. This is a bit of a follow-up to Matt's earlier question but investors are essentially worried on the other side of the credit recovery about what the interest rate environment may imply for \"normalized ROTCE.\" And as you think about what you mentioned to be \"weather considerations,\" what prevents JP Morgan from going back to that 17%, 19% ROTCE that you posted in '18 and '19?" ] }, { "name": "James Dimon", "speech": [ "Well, you guys know that's a forecast of the future. It's hard to tell. I think negative interest rates are a bad idea and will probably force, over time, the banking industry to strength, which means they'd be buying back stock and doing other things with their capital. But I -- but we're able to handle low rates, and we can have decent returns at low rates.", "I think it's a bad long-term strategy. I also think it's a bad idea for you all to assume they're going to continue like that forever. I mean we had massive global QE in the last go around, and we didn't have inflation. So I remind people, a lot of that QE was around Fed.", "The Fed and the central banks support securities so that would create deposits to banks. The banks support to put deposits in the central banks. So it was not new inflationary fiscal stimulus. Fiscal stimulus, which has been extraordinary around the world is, by its nature, inflationary.", "And so we don't really know the outcome of that. But my view, and what I tell investors, we're going to build our businesses day in and day out regardless of interest rate environments, etc., and we have plans to adjust interest rate environments. We can not do certain things. We can charge for certain things.", "We can do a whole bunch of different stuff. But the services is still required, moving money around the world, trading for people, underwriting securities, helping manage their money, and we'll be OK. We'll work through it." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning. Can you hear me?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. Hi, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. I had two questions. One was be interested in understanding how you are threading the needle between your outlook here for reserve and the potential to buy back stock. You've got the reserve level high with a base case outlook for unemployment that's above where we are today for the next six months, it looks like, or even longer.", "And your capital build is obviously continuing to increase here. So how should we think about that? Could we imagine that your buyback could kick off before reserve release happens? And would you release reserves before the net charge-offs start to come through, like you mentioned, in second half '21?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So as we -- first of all, on stock buybacks, obviously, we are restricted here in the fourth quarter. We are hopeful that the Fed will see what they need and get what they need in the resubmission to give them the confidence to revert to a more normal distribution framework under SCB in the first quarter. So that's obviously the most important hurdle for us.", "And then if we have excess capital -- and the reserve division and the buyback division are not related to one another. We are always going to make sure that we have our best estimate of losses that we're facing considering the uncertainty as well. And then, of course, our capital hierarchy would always look to grow our businesses, first and foremost. But if we have excess capital and if we do not have regulatory restrictions, you could see us buy back stock as early as the first quarter.", "And like I said, that wouldn't necessarily be related to a reserve release. The other thing on potential reserve releases, we obviously need to see the economy continue to deliver on the base case to give us the confidence that, that is what we're dealing with. But I would just say that, remember there was a capital release -- a partial capital release on CECL builds. So when you release reserves, only about half of that actually falls through to capital." ] }, { "name": "Betsy Graseck", "speech": [ "And could you talk a little -- Jen, could you talk a little bit about the Slide 3 where you've got the base case outlook for unemployment? And just give us a sense as to what's driving this base case outlook for unemployment in 4Q '20 at 9.5% and then 20 -- 2Q '21 at 8.5%? They're obviously above where we are today. And could you help us understand how you're thinking about flexing that going forward? What would change those assumptions?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. That's like largely, Betsy, a timing issue with when we actually run the models for the reserve. That's not necessarily, as you rightly point out, reflective of our autonomous latest outlook. So we would, as we progress through the fourth quarter, use the latest outlook for the base case.", "But then again, as Jamie said, we look at a number of different scenarios. And depending upon what we think we're dealing with in terms of the uncertainty, then we may continue to heavily weight the downside scenarios or maybe even more heavily weight the downside scenarios. We have to see. So if you look at the weighted outcome of all of the scenarios that we use to derive the reserves, it is -- we are prepared for a double-digit unemployment, peak unemployment level.", "But so -- it would now start with the revised base case, shall I say, from our comments." ] }, { "name": "James Dimon", "speech": [ "Yes. Kind of just put into perspective just a little bit, the capital. I mean we have extraordinary amounts of capital, $200 billion. We've got $1.3 trillion of liquid assets and securities.", "And the way you should look at it is the $200 billion in just next eight quarters will earn PPNR like pre-tax, pre-provision earnings of roughly $80 billion, give or take. We don't know exactly what that's going to be. So with that $80 billion, if things get better, it will be more than that, and we take down reserves. If it didn't get worse, it may be about that.", "All the worse than that, we have to put up $20 billion. Even if you put up the $20 billion, in my view, that won't emerge in a quarter. That will emerge over several quarters, which also means you can buy -- pay the dividend, buy back stock, have plenty of capital and still be very conservatively capitalized. And that's the reality of it.", "OK? Forget all the other stuff you read. And we're conservative. We like to be conservative regarding loan loss reserves and capital. So we'll be patient, but we have tremendous amount of wherewithal to do both when the time comes.", "And I hope we're allowed to do it too before the stock is much higher." ] }, { "name": "Jennifer Piepszak", "speech": [ "And the $20 billion that Jamie referenced, as we talked about the extreme adverse scenario last quarter. So you can think that that's the $20 billion that Jamie is referencing, if that is what --" ] }, { "name": "James Dimon", "speech": [ "Yes. And that $20 billion is unemployment of 12%, 13% that goes off into the better part of six quarters. I mean it's really extremely adverse. It's far worse than the CCAR case we just got." ] }, { "name": "Operator", "speech": [ "Our next question is from John McDonald of Autonomous Research." ] }, { "name": "John McDonald", "speech": [ "Good morning. Jen, you mentioned that next year, you have some tough revenue comps. Can you talk about the notion of expense flexibility at JP Morgan? Underneath the surface of flattish expenses, where are you on saving money from digitization and structural change? And how does that give you flexibility against where you'd like to be investing?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So first of all, it's early. We're still working through next year. So I will certainly refine the guidance in the first quarter.", "But as it relates to expenses, we will -- and you mentioned digital, that's one. We will continue to deliver on our structural expense efficiencies as we have been for the last several years. There will -- as we do expect the world to normalize a bit, there will be opportunity in volume and revenue-related expenses. But we're going to continue to invest.", "And so there will be puts and takes, and we'll just provide you more detailed guidance in the first quarter." ] }, { "name": "John McDonald", "speech": [ "OK. And as a follow-up, on capital, can you talk about the notion of reducing your SCB and maybe your GSIB surcharge footprint over time? I think you had commented that there's potential to do that. What is the path and the route to doing that? And how do you feel about the prospects for those two things getting better over time?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So I'll start with GSIB, which is that we do expect to be in the 4% bucket at the end of this year, but it is not effective immediately. And so we will have 2021 to manage that back down. What I would say there is that with the Fed balance sheet of -- at these levels possibly expanding, that makes managing the GSIB back down quite challenging.", "So in the absence of recalibration, which we remain hopeful about, managing that back down will certainly be challenging but not impossible, but we'll really certainly think about any impact on our client franchise before we do anything. So we have some time there. We could see recalibration, that would help. But no doubt that, that's a challenge.", "On SCB, I'd start by saying it's scenario-dependent, of course. So all else equal, we do think that we have opportunities to manage down the SCB, and so that can include transferring securities from AFS to held to maturity and then some other mechanical issues on our side that we're confident will now, all things equal, reduce our SCB. But again, it's scenario-dependent. So all that being said, John, I would just say that our expectation at this point over time is that our target capital level of 11.5% to 12% is -- should be unchanged over time." ] }, { "name": "Operator", "speech": [ "Our next question is from Ken Usdin of Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Thanks. Good morning. Jen, Jamie, you mentioned earlier that you've got $1.3 trillion of cash and securities. It didn't look like you really changed the size of the investments portfolio this quarter, but you did make a bunch of moves into held to maturity from available for sale.", "And I'm just wondering, you guys have talked about expectation that deposits might settle down, but they're continuing to grow. And so what can you do at this point and going forward with the move -- starting to move some of that cash into things that might at least earn some more to protect the NII going forward? Thanks." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So I'll talk --" ] }, { "name": "James Dimon", "speech": [ "So, Jen, I just want to say that we're not going to do anything to protect the NII. We have $300 billion of cash we can invest today, and that becomes $400 billion. We're not going to invest it in stuff making 50, 60 or 70 basis points, so we get to see a teeny little bit more of NII. But we're going to make long-term decisions for the company.", "And if your NII gets squeezed a little bit, so be it. But we don't want to be in a position where we lose a lot of money because you may invest in some five- or 10-year securities, which you'll lose a lot if rates go up. So we're not protecting NII." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. So as a principal matter, it's important to remember that we manage the portfolio across multiple dimensions, not just optimizing NII, as Jamie said. And we're thinking about capital protection at these levels. But just in terms of the activity that you saw in the securities portfolio, we've been very active.", "We added about $160 billion through now the end of Q2. In Q3, we were active buyers and sellers because in Q3, we saw attractive selling opportunities, which made economic sense for us. So just to Jamie's point, so you give up some NII, but it just made economic sense for us, but we have -- we were also buying in the third quarter. We also focused -- or focused on optimizing liabilities with the excess liquidity.", "So you'll see that our debt is down nearly $40 billion from last quarter. So then just in terms of the transfer to held to maturity with the significant growth in securities portfolio, it just made sense from a capital protection perspective. And it's also helpful for SCB as I mentioned, and these were high-quality core holdings." ] }, { "name": "Ken Usdin", "speech": [ "Yes. I fully agree on that duration point, Jamie. A follow-up just on -- if you think about the fee businesses and some of the --James DimonYou guys should also be raising the question about why moving some of the held to maturity, reducing SCB. Like that is a rational thing, which I don't think it is.", "But that's what it is and that's what we're going to deal with. It's why we can drive down SCB.", "Yes." ] }, { "name": "Jennifer Piepszak", "speech": [ "On duration, with 10-year has backed up a bit over the last couple of weeks, and so we have been -- we'll remain opportunistic, but we have added at these levels." ] }, { "name": "Ken Usdin", "speech": [ "Great. And then just one follow-up on just fees in general. You've got the consumer fee businesses that are still trying to get back to where they were a year ago. And then last quarter, Jamie had made this comment about cut it in half and trading, and it wasn't anywhere close to that, which was positive.", "It's still quite, quite good. And how you think through just the pushes and pulls between fees as you look forward, right, in terms of how much better do you think the consumer can get from where it is? So, how much, if any, are the institutional businesses over-earning relative to where they posted in the first half?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So on consumer fees, you'll see that consumer fees recovered a bit in the third quarter. The decline there was both release actions that we took, but also because of the higher cash buffers that consumers are experiencing that also impacts fees. And so -- and that's a good thing, so we'll take that.", "So that did recover a bit in the third quarter, but that will take time to get back to what you might consider normalized levels. And then on the institutional side, we did expect to see markets normalize in the third quarter. And we did also that that a bit, but not as much as we had thought when we were at second quarter earnings. And IB fees also continued to be very strong in the third quarter, exceeding our expectations for what we might have thought in the second quarter.", "Looking forward, though, the fourth quarter is a tough compare. So we do -- and we do expect markets to continue to normalize. And then on the IB fee side, our pipeline is flattish to what it was last year. It's just still down a bit in M&A, but we did see M&A recover in the third quarter, and it's up in ECM.", "So as I said, flattish in the fourth quarter feels about right at this point." ] }, { "name": "Operator", "speech": [ "Our next question is from Steve Chubak of Wolfe Research." ] }, { "name": "Steve Chubak", "speech": [ "Hi. Good morning. So, Jen, I was hoping you could speak to the expectations for loan growth across both the institutional and consumer channels. When do you anticipate we could begin to see balances quite positively? And separately, just what level of loan growth is contemplated in the $53 billion NII guide that you provided for '21?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So loan growth will be challenged, I think, for-- in the short term. On the Wholesale side, I think we'll probably tread water at these levels, but increasing CEO confidence with M&A activity and capital investment should be supportive of more normalized loan growth, but that may take some time. On the consumer side, we are seeing cards continue to revert to more normal levels.", "And so that will continue into 2021, but that could be offset by continued prepays in the mortgage. So there will be puts and takes there. And then asset management, I think we'll continue to see solid growth. So net-net, not significant loan growth, but the mix will be helpful because of the card growth is supportive of a mix benefit on NII." ] }, { "name": "Steve Chubak", "speech": [ "And maybe a question for you, Jamie. You had alluded to potential for charging for additional products and services to offset rate pressures. And I was hoping you could speak to some of the areas where you might look to potentially charge clients. So just philosophically, how you're handicapping the risk of client attrition if competitors ultimately don't follow suit." ] }, { "name": "James Dimon", "speech": [ "There is -- first of all, I don't think it's going to happen, so I don't spend too much time worrying about it. But we have, as a company matter, gone through everything we do and how we do it and how we respond to negative rates. I'm not going through account by account. But like I said, while these are necessary services, all the competitors -- it's a competitive world, I agree with you.", "If competitors don't do stuff, you have a hard time doing it. But I think that you will see a lot of competitors respond to negative rates in a lot of different ways. So there will be an opportunity, and something like that." ] }, { "name": "Operator", "speech": [ "Our next question is from Jim Mitchell of Seaport Global." ] }, { "name": "Jim Mitchell", "speech": [ "Hey. Good morning. Maybe just a question on deposit growth. I think we've all been surprised at the continued growth.", "Can you just kind of talk to what you're seeing? It looked like we had further growth in September. Are you expecting this to continue? Is it sort of moving out of money markets into deposits? What do you think is driving the growth? And do you expect it to continue?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So there's no doubt that with the Fed being this active that there is significant excess liquidity in the system. We did think that we would see deposits normalized in the third quarter, both on consumer spending on the consumer side and then on just the wholesale side in places like security services, with asset managers hold cash on the sidelines. We didn't what we thought we would.", "So yes, we did continue to see deposit growth here in the third quarter. Going forward, I think that normalization is still just very much a part of our outlook except for that. Given that the normalization is a bit deferred here, it will likely be offset by the continued organic growth, perhaps more than offset by continued organic growth." ] }, { "name": "Jim Mitchell", "speech": [ "Right. Makes sense. And then maybe a follow-up on credit. I mean I appreciate that we're not going to see charge-offs given where delinquencies are today.", "But what do you think -- how do we think about delinquencies and what triggers you to either release or build reserves? I would imagine that we'll see it -- you would be making those decisions before charge-offs. Where do we see delinquencies? You've had very good experience so far in your core book as well as the deferrals acting well. When do we -- are we -- I mean it just seems very surprising that we haven't seen delinquencies tick up yet in any material way. When do you expect that or is it really all dependent on sort of the goodwill of the government?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, I think we -- one of the reasons we haven't seen delinquencies tick up is because of the payment relief, but also the extraordinary support that has been provided through stimulus. So we'll probably see delinquencies tick up in the early part of 2021. We're not assuming further stimulus beyond the end of this year and how we think about reserves. So we do think you'll start to see delinquencies tick up early 2021 and then charge-offs in the back half of 2021.", "I think future stimulus would give us more confidence in the economy delivering on the base case. There's just a lot of factors that we'll be looking at as we think about the right level of our reserves over the coming quarters, and delinquencies will be just one part of that." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, Jennifer." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "I may have missed this, I had to jump off for a minute on the call but can you give us some color? As you've spoken very well about what's going on in the consumer credit area, but when you go into the commercial side of the business, can you share what the sectors that you're seeing the biggest challenges? And can you give us some color on the rerating process that you're going through on those credits that are in trouble today and what kind of deterioration you're seeing in those specific credits in terms of possibly writedowns or revaluations or if it's collateral, like in a commercial real estate loan?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So the sectors, I think, are ones that you would expect: airlines, lodging, restaurants, other T&E, real estate, oil and gas. And those continue to be the sectors under the most pressure. When you look at downgrades here in the third quarter -- or not here in the third quarter -- in the third quarter, we saw downgrades slow a bit because in the second quarter, we saw significant downgrades just on the increased level of debt that companies were taking on.", "So we saw downgrades slow a bit in the third quarter, but we do expect downgrades to continue, particularly in real estate. And then elsewhere, in wholesale, I would say CEO sentiment is guarded, but constructive." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then as a follow-up, I know you -- Jamie touched on interest rates and how you're very focused in growing your business in any rate environment. Could you give us some color, inflation, if it does pick up and if we get a steepening in the curve? Obviously, Chairman Powell has indicated he is not going to move on rates for quite some time. But if we're looking in your third quarter of, let's say, '21 and then 10-year government bond yield is, let's say, the 125 basis points, can you just give us some color? I know that's not your prediction, but what would that do for the margin in revenues if we were fortunate enough now to see a steeper curve due to higher inflation?" ] }, { "name": "Jennifer Piepszak", "speech": [ "It's a great number. I don't have the sensitivity to hand if it would be -- go ahead, Jamie." ] }, { "name": "James Dimon", "speech": [ "Yes. I'd tell you, there's a disclosure we make in the 10-Q, it shows what would happen if rates go up 100 basis points. I forgot the number, Jen, isn't like, I'm going to say, $2.5 billion a year, with the rolls and as a piece of that, but the smaller piece. The rolls -- and that rolls in and compounds over time.", "But that's not the right way to look at it. You have to ask the why. If you have an active environment, rates are going up, we're going to have more volume and more NII. If you have stagflation, by a big chance, that's just a really good idea.", "So the why is more important than just the what here." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hello? Sorry about that, I was on mute. I wanted to follow-up on an earlier question, I think it was from Ken -- on probably sales and trading. But you're tracking this year in sales and trading to a revenue of close to $30 billion. And if we go back to, say, 2010, shortly after the crisis, it's been pretty consistently the annual revenues in, say, the $18 billion to $21 billion range.", "There was obviously a lot of volatility on a quarterly basis, but it's generally been in that range. And so how do we think about, or frame the range of outcomes as market conditions normalize? Do you feel like there have been changes in terms of either share or market structure that maybe allow you to have a larger revenue base than the -- and more revenues from those businesses than you have had historically even as market conditions normalize or is it just kind of too hard to tell? I'm just trying to think through because you obviously had a pretty big impact on your overall PPNR and revenue forecast going forward." ] }, { "name": "Jennifer Piepszak", "speech": [ "I think that -- I mean as you know, we're on pace for a record year. So I think any compares are going to be challenging, and we do expect the market to continue to normalize. And that could be partially offset by share gains, as you mentioned, but it is never a good idea to try to forecast market even early in the quarter, never mind the year before. I don't know, Jamie, do you want to add anything?" ] }, { "name": "James Dimon", "speech": [ "I'd say, look, this is a ground working. We got a lot of tough competitors, and we're all building systems and stuff like that. They can do a better job to that. Almost impossible to forecast short-term numbers in that." ] }, { "name": "Saul Martinez", "speech": [ "Yes. No -- and I understand that. I totally get that and appreciate that. It's just that you're kind of tracking to a revenue that's about 50% higher than what you've done in the post -- any year in the post-crisis environment or to that, somewhere to that effect.", "So just that delta between the current run rate and what has been a more normalized run rate is pretty sizable. So I'm just trying to get any color in terms of kind of thinking through kind of a range of outcomes for just where that could settle in, and not necessarily in a given quarter, per se, but just more on a normalized base as you think about the business as a whole." ] }, { "name": "James Dimon", "speech": [ "Yes. So I'd say our trader did -- have done an exceptional job. But I would say the second quarter will not be typical and the third quarter probably won't. Hopefully, it might be better than what it's been in the past couple of years, but we don't know.", "But remember, the market itself, total bonds, total assets under management, total credit cards, total mortgage products, total global products, that's growing over time. So there is this underlying growth as we spread, we sell them around, our competition moves around." ] }, { "name": "Operator", "speech": [ "Our next question is from Andrew Lim of Societe Generale." ] }, { "name": "Andrew Lim", "speech": [ "Hi. Good morning. Thanks for taking my questions. So the first one, you've got $33.8 billion of reserves.", "I guess that's in line with an extreme adverse scenario. I know you can't tell what's going to happen going forward given these many different variables, but we've already seen some of that being released. So I was wondering if we had the base case scenario pan out over the coming years, how much of that $33.8 billion should we be -- expect to be released then back through the P&L and over what time period?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So I'll start by saying we're not reserved for the extreme adverse scenario. So we are reserved for something worse than this base case because we have put heavy weight on scenarios that are worse than the base case, but we are not reserved for the extreme adverse scenario. And the release this quarter was, first of all, very small in the grand scheme of things and was almost exclusively related to portfolio runoff or the exposure changes, and not anything to do with the change in our outlook. And then if the economy delivers the base case, you will see reserve releases from us in coming quarters, but it is very, very difficult to try to tell you how much and when." ] }, { "name": "Andrew Lim", "speech": [ "I mean surely, you've got like -- you can make like an estimate of your reserves if you did assume the base case going forward. And I guess, it's the difference between you --" ] }, { "name": "James Dimon", "speech": [ "I've already said that the base case -- if the Fed base case happens, there's probably something like $10 billion of reserve." ] }, { "name": "Andrew Lim", "speech": [ "$10 billion over reserved?" ] }, { "name": "James Dimon", "speech": [ "Over reserved, if that happens." ] }, { "name": "Andrew Lim", "speech": [ "[Inaudible]" ] }, { "name": "James Dimon", "speech": [ "No, no. $10 billion over reserved." ] }, { "name": "Andrew Lim", "speech": [ "Got it. Understood." ] }, { "name": "Jennifer Piepszak", "speech": [ "And I mentioned it earlier, it's just important to remember that there were capital modifications to CECL. So only about half of that ends up in capital, because as you release your reserves --" ] }, { "name": "Andrew Lim", "speech": [ "Yes, of course." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes." ] }, { "name": "Andrew Lim", "speech": [ "Got it. Understood. Thanks for that. And then just a follow-up question on your CET1 ratio.", "You had a nice pickup there this quarter. Obviously, you've had strong earnings, but you've also had a near 2% reduction in risk-weighted assets. I'm just wondering if you could give a bit more color on the moving parts there and how you expect that to play out in the coming quarters." ] }, { "name": "Jennifer Piepszak", "speech": [ "That's largely -- the RWA reduction was largely on revolver paydowns. So I wouldn't expect that kind of pace to continue. We will continue to bill if we're not allowed to buy back stock, but we will continue to build capital on earnings, so probably less so on RWA reduction." ] }, { "name": "Operator", "speech": [ "Our next question is from Charles Peabody of Portales Partners." ] }, { "name": "Charles Peabody", "speech": [ "Yes. Good morning. A question about your rate sensitivity to the long end. If I look at a time series going back to the second quarter of last year, your rate sensitivity has increased every single quarter to a steepening yield curve.", "In other words, your NII would improve for more than the yield curve steepened at the long end. So my question is, was that an intended action or residual effect? Because I did notice that you've been adding fairly significantly to your MBS portfolio." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. So Charles, I don't know precisely the answer to that, but it's largely going to be, I'm assuming, on the growth in our deposit base, which then has supported the growth in the securities portfolio." ] }, { "name": "Charles Peabody", "speech": [ "OK. It's substantial. I mean if you go back to the second quarter of last year, you had a $600 million potential increase, and second quarter of this year was $1.7 billion. Anyway, my second question is related to the legacy impairment charge.", "Can you give us some color around that, what sort of asset class that was in? And is it over half a billion, under half a billion?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So under $0.5 billion of what remains, and it was a legacy investment that we took an impairment on, and it's not meaningful in the grand scheme of things." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "OK. Thanks. Just a quick question to start with, maybe as you think about kind of what you've been doing for a customer accommodation. As it relates to the pandemic, I know there would have been fee waivers first quarter, second quarter of this year. But what kind of customer accommodation was happening in the third quarter? Is it kind of a clean number from a fees perspective in the third quarter or is there still a certain level of accommodation going on?" ] }, { "name": "Jennifer Piepszak", "speech": [ "There is probably -- I don't actually know. Jason and team can get you the detail. It's less than what it was in the second quarter, and it's more -- the -- what we mean in terms of the reduction in fees is more a function of cash buffers." ] }, { "name": "Brian Kleinhanzl", "speech": [ "OK. And then is there a way that you can give an update on the IB pipeline, but on a geographic basis? I mean as we've seen negative highlights around COVID kind of around the world, is there different pipelines building in different regions?" ] }, { "name": "Jennifer Piepszak", "speech": [ "There's less of a regional story. But from a product perspective, overall, we're flattish to last year, but M&A is a little bit lower. Importantly though, we're covered quite nicely in the third quarter, and ECM is a little bit higher, but overall flattish." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Jennifer Piepszak", "speech": [ "OK. Thanks, everyone." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2023-07-14	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Portales Partners -- Analyst", "name": "Charles Peabody", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's second quarter 2023 earnings call. This call is being recorded. Your line will be muted for the duration of the call.", "We will now go to the live presentation. Please stand by. At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jeremy Barnum. Mr.", "Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, operator. Good morning, everyone. Presentation is available on our website and please refer to the disclaimer in the back. Starting on Page 1.", "The firm reported net income of $14.5 billion, EPS of $4.75 on revenue of 42.4 billion, and delivered an ROTCE of 25%. These results included the First Republic bargain purchase gain of 2.7 billion, a credit reserve build for the First Republic lending portfolio of 1.2 billion, as well as $900 million of net investment securities losses in corporate. Touching on a few highlights. CCB client investment assets were up 18% year on year.", "We had record long-term inflows in AWM, and we ranked No. 1 in IB fee wallet share. Before giving you more detail on the financials, let me give you a brief update on the status of the First Republic integration on Page 2. The settlement process with the FDIC is on schedule.", "The number of key milestones being recently completed. Systems integration is also proceeding apace, and we are targeting being substantially complete by mid-2024. First Republic employees have formally joined us as of July 2nd, and we're pleased to have had very high acceptance rates on our offers. And although it's still early days, as we get the sales force back in the market, we are happy to see that client retention is strong, with about $6 billion of net deposit inflows since the acquisition.", "Now, turning back to this quarter's results on Page 3. You'll see that in various parts of the presentation, we have specifically called out the impact of First Republic, where relevant. To make things easier, I'm going to start by discussing the overall impact of First Republic on this quarter's results at the firmwide level. Then, for the rest of the presentation, I will generally exclude the impact of First Republic in order to improve comparability with prior periods.", "With that in mind, in this quarter, First Republic contributed $4 billion of revenue, 599 million of expense, and 2.4 billion of net income. As noted on the first page, this includes $2.7 billion of bargain purchase gain, which is reflected in NIR in the corporate segment, as well as 1.2 billion of allowance build. And remember that the deal happened on May 1st, so the First Republic numbers only represent two months of results. You'll see in the line of business results that we are showing First Republic revenue as allowance in CCB, CB, and AWM.", "And for the purposes of this quarter's results, all of the deposits are in CCB and, substantially, all of the expenses are in corporate. As the integration continues, some of those items will get allocated across the segments. Now, turning back to firmwide results, excluding First Republic. Revenue of 38.4 billion was up 6.7 billion or 21% year on year.", "NII, ex markets, was up 7.8 billion, or 57%, driven by higher rates. NIR, ex markets, was down 293 million, largely driven by the net investment securities losses I mentioned earlier, partially offset by a number of less notable items, primarily in the prior year. And markets revenue was down 772 million or 10% year on year. Expenses of 20.2 billion were up 1.5 billion, or 8% year on year, primarily driven by higher compensation expense, including wage inflation and higher legal expense.", "And credit costs of 1.7 billion included net charge-offs of 1.4 billion, predominantly in card. The net reserve build included a 389 million build in the commercial bank, a $200 million build in card, and a 243 million release in corporate, all of which I will cover in more detail later. Onto balance sheet and capital on Page 4. We ended the quarter with a CET1 ratio of 13.8%, flat versus the prior quarter, as the benefit of net income less distributions was offset by the impact of First Republic.", "And as you can see in the two charts on the page, we've given you some information about the impact of the transaction on both RWA and CET1 ratio. And as you know, we completed CCAR a couple of weeks ago. Our new indicative SCB is 2.9%, versus our current requirement of 4%, and it goes into effect in 4Q '23. The new SCB also reflects the board's intention to increase the dividend to $1.05 per share in the third quarter.", "On liquidity, our bank LCR for the second quarter ended at 129%, in line with what we anticipated at Investor Day. About half of the reduction is associated with the First Republic transaction. And while we're on the balance sheet, as we previewed in the 10-K, we will be updating our earnings-at-risk model to incorporate the impact of deposit repricing lags. So, when we release this quarter's 10-Q, you will see the up 100-basis-point parallel shift scenario will be about positive 2.5 billion.", "Whereas, in the absence of the change, it would have been about negative 1.5 billion. Now, let's go to our businesses, starting with CCB on Page 5. Both U.S. consumers and small businesses remain resilient, and we haven't observed any meaningful changes to the trends in our data we discussed at Investor Day.", "Turning now to the financial results, which I will speak to excluding the impact of First Republic for CCB, CB, and AWM. CCB reported net income of $5 billion on revenue of 16.4 billion, which was up 31% year on year. In banking and wealth management, revenue was up 59% year on year, driven by higher NII on higher rates. End-of-period deposits were down 4% quarter on quarter as customers continue to spend down their cash buffers, including for seasonal tax payments, and seek higher-yielding products.", "Client investment assets were up 18% year on year, driven by market performance and strong net inflows across our advisor and digital channels. In home lending, revenue was down 23% year on year, driven by lower NII from tighter loan spreads and lower servicing and production revenue. Originations were up quarter on quarter, driven by seasonality, although still down 54% year on year. Moving to card services and auto.", "Revenue was up 5%, largely driven by higher card services NII on higher revolving balances, partially offset by lower auto lease income. Card outstandings were up 18% year on year, which was the result of revolver normalization and strong new account growth. And in auto, originations were up 12 billion, up 71% year on year, as competitors pulled back and inventories continue to slowly recover. Expenses of 8.3 billion were up 8% year on year, driven by compensation, predominantly due to wage inflation and headcount growth as we continue to invest in our front office and technology staffing, as well as marketing.", "In terms of credit performance this quarter, credit costs were 1.5 billion, reflecting a reserve build of 203 million, driven by loan growth in card services. Net charge-offs were 1.3 billion, up 640 million year on year, predominantly driven by card as 30-day-plus delinquencies have returned to pre-pandemic levels, in line with our expectations. Next, the CIB on Page 6. CIB reported net income of 4.1 billion on revenue of $12.5 billion.", "Investment banking revenue of 1.5 billion was up 11% year on year, or down 7% excluding bridge book markdowns in the prior year. IB fees were down 6% year on year, and we ranked at No. 1 with a year-to-date wallet share of 8.4%. In advisory, fees were down 19%.", "Underwriting fees were down 6% for debt and up 30% for equity, with more positive momentum in the last month of the quarter. In terms of the second half outlook, we have seen encouraging signs of activity in capital markets, and July should be a good indicator for the remainder of the year. However, year-to-date announced M&A is down significantly, which will be a headwind. Moving to markets.", "Total revenue was 7 billion, down 10% year on year. Fixed income was down 3%. As expected, the macro franchise substantially normalized from last year's elevated levels of volatility and client flows. This was largely offset by improved performance in the securitized products group and credit.", "Equity markets was down 20% against a very strong prior-year quarter, particularly in derivatives. Payments revenue was 2.5 billion, up 61% year on year. Excluding equity investments, it was up 32%, predominantly driven by higher rates, partially offset by lower deposit balances. Securities services revenue of 1.2 billion was up 6% year on year, driven by higher rates, partially offset by lower fees.", "Expenses of 6.9 billion were up 1% year on year, driven by higher noncompensation expense, as well as wage inflation and headcount growth, largely offset by lower revenue-related compensation. Moving to the commercial bank on Page 7. Commercial banking reported net income of $1.5 billion. Revenue of 3.8 billion was up 42% year on year, driven by higher deposit margins.", "Payments revenue of 2.2 billion was up 79% year on year, driven by higher rates. Gross investment banking and markets revenue of 767 million was down 3% year on year, primarily driven by fewer large M&A deals. Expenses of 1.3 billion were up 12% year on year, predominantly driven by higher compensation expense, including front office hiring and technology investments, as well as higher volume-related expense. Average deposits were up 3% quarter on quarter, driven by inflows related to new client acquisition, partially offset by continued attrition in non-operating deposits.", "Loans were up 2% quarter on quarter. C&I loans were up 2%, reflecting stabilization in new loan demand and revolver utilization in the current economic environment, as well as pockets of growth in areas where we are investing. CRE loans were also up 1%, reflecting funding on prior-year originations for construction loans and real estate banking, as well as increased affordable housing activity. Finally, credit costs were 489 million.", "Net charge-offs were 100 million, including 82 million in the office real estate portfolio. And then net reserve build of 389 million was driven by updates to certain assumptions related to the office real estate market, as well as net downgrade activity in middle market banking. Then, to complete our lines of business, AWM on Page 8. Asset and wealth management reported a net income of 1.1 billion, with pre-tax margin of 32%.", "Revenue of 4.6 billion was up 8% year on year, driven by higher deposit margins on lower balances and higher management fees on strong net inflows. Expenses of 3.2 billion were up 8% year on year, driven by higher compensation, including growth in our private banking advisory teams, higher revenue-related compensation, and the impact of Global Shares and J.P. Morgan Asset Management China, both of which closed within the last year. For the quarter, record net long-term inflows were 61 billion, positive across all channels, regions, and asset classes, led by fixed income and equities.", "And in liquidity, we saw net inflows of 60 billion. AUM of 3.2 trillion was up 16% year on year. And overall client assets of 4.6 trillion were up 20% year on year, driven by continued net inflows, higher market levels, and the impact of the acquisition of Global Shares. And finally, loans were down 1% quarter on quarter, driven by lower securities-based lending, and deposits were down 6%.", "Turning to corporate on Page 9. As I noted upfront, we are reporting the First Republic bargain purchase gain and substantially all of the expenses in corporate. Excluding those items, corporate reported net income of 339 million. Revenue was 985 million, up 905 million compared to last year.", "NII was 1.8 billion, up 1.4 billion year on year, due to the impact of higher rates. NIR was a net loss of 782 million and included the net investment securities losses I mentioned upfront. Expenses of 590 million were up 384 million year on year, largely driven by higher legal expense. And credit costs were a net benefit of 243 million, reflecting a reserve release as the deposit placed with First Republic in the first quarter was eliminated as part of [Technical difficulty] Next, the outlook on Page 10.", "We now expect 2023 NII and NII ex markets to be approximately 87 billion. The increase is driven by higher rates, coupled with slower deposit reprice than previously assumed across both consumer and wholesale. And I should take the opportunity to remind you once again that significant sources of uncertainty remain, and we do expect the NII run rate to be substantially below this quarter's run rate at some point in the future as competition for deposits plays out. Our expense outlook for 2023 remains approximately 84.5 billion.", "And on credit, we continue to expect the 2023 card net charge-off rate to be approximately 2.6%. So, to wrap up, we are proud of the exceptionally strong operating results this quarter. As we look forward, we remain focused on the significant uncertainties relating to the economic outlook, competition for deposits, and the impact on capital from the pending finalization of the Basel III rules. Nonetheless, despite the likely headwinds ahead, we remain optimistic about the company's ability to continue delivering excellent performance through a range of scenarios.", "With that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Please stand by. The first question is coming from the line of Jim Mitchell from Seaport Global Securities. You may proceed." ] }, { "name": "Jim Mitchell", "speech": [ "Oh, thanks. Good morning. Hey, Jeremy, you talked about NII guidance up. Clearly, Fed funds futures are up.", "So, it makes some sense. But maybe I guess, first, could you kind of discuss -- I guess, comment on deposit behavior broadly around betas and mix? And what you're seeing there so far seems to be coming in a little better expected. And then secondly and probably more importantly, can you help us think about the implications of higher for longer rates on the outlook for NII next year and beyond? You know, I guess the intermediate term outlook that you guys have talked about." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Sure. Thanks, Jim. So, yeah.", "So, when we talk about the drivers of the upward revision, as I said, it's, you know, higher rates, coupled with lower deposit reprice. Hard to untangle the two drivers. And specifically, I think when you look at consumer, the combination of the passage of time, you know, and the positive feedback we're getting from the field on the CD offerings, in particular, has meant that -- you know, it's quite a kind of stable environment from that perspective. And similarly, in wholesale, we're just seeing slower internal migrations.", "You know, you asked about mix. I think that, obviously, we're seeing the CD mix increase, and we would continue to expect -- we would continue to -- we would expect that to continue to take place probably even past the peak of the rate cycle into next year as we continue to capture money in motion. But as you say, the most important point is the fact that, as I said earlier, we don't consider this level of NII generation to be sustainable. And we talked previously about a sort of medium-term run rate in the mid-70s.", "That was before First Republic. And, you know, we could argue that maybe that number should be a little higher. But whatever it is, it's a lot lower than the current number. We don't know when that's going to happen.", "You know, we're not going to predict the exact moment. That's going to be a function of competitive dynamics in the marketplace. But we want to be clear that we do expect it at some point." ] }, { "name": "Jim Mitchell", "speech": [ "OK. But I guess just one follow-up on that, just if we don't get rate huts -- rate hike -- rate cuts, sorry, till middle of next year or later, does that sort of give some confidence to the outlook for next year or are you still worried about significant reprice?" ] }, { "name": "Jeremy Barnum", "speech": [ "I wouldn't necessarily assume that the evolution from the current run rate into that mid-70s number is that sensitive to the rate outlook, in particular. When we put that number out there, we looked at a range of different types of rate environments and the reprice that we think would be associated with that. It was really meant to capture more of what we consider to be a through-the-cycle sustainable number. So, I wouldn't think of it as being particularly rate-dependent." ] }, { "name": "Jim Mitchell", "speech": [ "OK. Great. Thanks." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Erika Najarian from UBS. You may proceed." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Good morning. Jeremy, I'm just laughing to myself because I said to you on Investor Day, do you have any more NII rabbits to pull out of the hat? And I guess you do. So, I guess I want to ask a broader question really here.", "And maybe, Jamie, I'd like to get your thoughts. So, you earned 23% ROTCE on 13.8% CET1, and we hear you loud and clear that your more normalized NII generation is not 87 billion. You know, that being said and fully taking into account the potential haircut from Basel III end game, is it possible that your natural ROTCE is maybe above that 17% through-the-cycle rate when rates aren't zero? Because when you first introduced that ROTCE target, we were in a different world from a rate scenario, and everybody's talking about even if the Fed cuts, the natural sort of bottom in Fed funds is not going to be zero. So, any input on that would be great." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks, Erika. I mean, it's a good question. There's a lot in there, obviously.", "I guess I would start by saying that, you know, when we've talked about the 17% through-the-cycle ROTCE, even though we may have introduced that in a moment where we're at the lower zero bound, it was always premised on a sort of normalized rate environment. And at some level, that remains true today. Furthermore, you know, you didn't ask this explicitly, but in the context of the proposed Basel III end game, you know, one relevant question might be if you have a lot more capital in the denominator, what happens to that target? So, I think, as I said in my prepared remarks, we feel very confident about the company's ability to produce excellent returns through the cycle. There's a lot of moving parts right now in that.", "Some of them could be good. Some of them could be bad. Narrowly, on the Capital One, the one thing to point out is that the straight up math of simply diluting down the ROTCE by expanding the denominator misses the possibility of reprice, repricing of products and services, which, of course, goes back to our point that these capital increases do have impacts on the real economy. So, we're not suggesting that we can price our way out of it, but we obviously need to get the right returns on products and services, and where we have pricing power, we will adjust to the higher capital.", "So, a lot of moving parts in there. But I think the important point is that through a range of scenarios, we feel good about our ability to deliver good results, and we'll see how the mix of all the various factors plays out, especially after we see the Basel III proposal and it goes through the comment period." ] }, { "name": "Jamie Dimon", "speech": [ "Hey, Erika. I'd just add one thing. Due to we have a mix of businesses that earn from like 0% ROTCE to a 100, we have some which are very capital-intensive, so we look at kind of all of them. And I think 17 is a good number and a good target.", "The other thing we're always earning on is credit. You know, we've been over-earning credit for a substantial amount of time now. We're quite constant about it. We know that it's going to tick up.", "Just as it's normalized, it'd be consuming more than that now. Like, you know, we would consider credit card normalized to be close to 3.5%." ] }, { "name": "Erika Najarian", "speech": [ "And so, my follow-up question there, maybe Jeremy, could you remind us what unemployment rate is embedded in your ACL ratio as of the second quarter?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. It's still 5.8." ] }, { "name": "Erika Najarian", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "We'll go to the line of John McDonald from Autonomous Research. You may proceed." ] }, { "name": "John McDonald", "speech": [ "Hi. Good morning. Jeremy, wanted to ask about capital. In the wake of the Barr speech, we don't have the details yet, but just kind of want to ask about options that you have and strategies for mitigation, both on RWA and potentially on the GSIB front as well as you contemplate what you heard recently?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks, John. So, obviously, we're thinking about that a lot. On the other hand, as much as there have been a lot of very detailed rumors out there that might lead you to start to try to do some planning, it does seem like this time it's real and we are actually going to get a proposal sometime this month or something.", "So, soon enough, we'll get to see something actually on paper, and we can stop kind of the guesswork. Having said that, indulging in a little bit of guesswork, it does seem like the biggest single driver of the increase that people are talking about, including Chair Powell's 20% number or Vice Chair's Barr -- Vice Chair Barr's 2% of RWA, which winds up being roughly the same, is just the way operational risk is getting introduced into the standardized pillar. And that is a little bit of a straight-up across-the-board tax on everything. It's kind of hard to optimize your way out of that, with the exception, obviously, of the fact that you can simply increase price assuming you have pricing power.", "But that's obviously not what we want, and that's what we sort of mean by impacts on the real economy. So, there are details. There's a lot of the FRTB stuff. You know, we can get way into the weeds there within the markets business, and we do have a good track record of adjusting and optimizing.", "But this time around, it may be a more fundamental set of questions around business mix as opposed to, you know, the ability to sort of optimize in a very technical way." ] }, { "name": "John McDonald", "speech": [ "OK. That's helpful. And with a number of years for this to phase-in and you generating capital at a high level, even if the ROTCE comes down a bit, how should we think about your pace of building capital for these new changes versus doing your everyday course of investing and buybacks and things like that over the next couple of years?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, I guess I'm sort of tempted to give you our standard capital hierarchy here. I mean, we're not going to select investments, right? That won't come as a surprise to you. Generally speaking, we're always going to try to comply with new requirements early.", "So, when we know the requirements and when we have visibility, obviously, given how much organic capital we're generating right now, whatever the answer winds up being, it'll be pretty easy to comply, narrowly speaking. But that's not the same as saying that there won't be consequences to returns or to pricing. And, you know, if, for whatever reason, things aren't exactly as we're anticipating, I don't see us sacrificing investments that we see as strategically critical in order to comply with higher capital requirements ahead of the formal timing or whatever." ] }, { "name": "John McDonald", "speech": [ "OK. And there's some room for buybacks?" ] }, { "name": "Jeremy Barnum", "speech": [ "Unlikely [Inaudible] That would be an unlikely outcome." ] }, { "name": "John McDonald", "speech": [ "OK. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Sorry, John, go ahead. Did you have a follow-up?" ] }, { "name": "John McDonald", "speech": [ "Yeah, no, just do buybacks play a role in the next couple of years strategically, just episodically buybacks." ] }, { "name": "Jeremy Barnum", "speech": [ "I mean, you know, capital hierarchy again, right? In the end, you know, when we have nothing else to do with the money, we'll do buybacks. And, you know, we talked about the $12 billion for this year. Obviously, a lot of new moving parts there. Although, all else equal, given what we've done so far, that's still probably a reasonable number for the full year.", "But, yeah, that's always going to be at the end of the list. But yeah." ] }, { "name": "John McDonald", "speech": [ "Got it. OK. Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Ken Usdin from Jefferies. You may proceed." ] }, { "name": "Ken Usdin", "speech": [ "Thanks. Good morning. I just wanted to ask a little bit about how you're feeling about the trade-off between like the commercial economy and what might come through in terms of future loan growth versus the kind of green shoots that people are talking about in the investment banking pipeline and just how it feels in terms of like reopening of markets and the trade-off between, you know, getting some more of those fees in and versus what's happening on the loan demand side? Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. Good question, Ken. So, I think in terms of investment banking and markets, yeah, some -- you know, it's better than expected. Last month, a lot of talk about green shoots, especially in capital markets generally.", "Still definitely some headwinds in M&A. You know, lower announced activity, some regulatory headwinds there. So, we'll see. I think it's a little too early to call a trend there based on recent results, but we'll see.", "In terms of the broader economy and loan growth expectations, generally, we do still expect reasonably robust card loan growth. But away from that, for a variety of different reasons and different products, whether it be mortgage or C&I after revolver normalization, you know, and especially if we see a little bit of a cooling off of the economy, I would expect loan demand to be relatively modest there. So, we're not really expecting meaningful growth away from card. But of course, you know, we're there for the right deals, right products, right terms.", "You know we lend through the cycle. So, I see that as more of a demand-driven narrative, which will be a function of the economy rather than a -- any tightening on our side." ] }, { "name": "Ken Usdin", "speech": [ "That makes sense. And as a follow-up to that, on the consumer side, you mentioned that consumers continue to spend, albeit a little more slowly, and you mentioned that consumers are also using their excess deposits a little bit more as well. Can you just elaborate a little bit more on just your feeling about the state of the consumer and is that card growth continued to be driven by people needing to revolve as opposed to, you know, wanting to have more in their deposits? Just kind of what the trade-off on that side, too?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, to us, I think we still see this as a normalization, not a deterioration story when we talk about consumer credit. Actually, revolve per account has still not gotten to pre-pandemic levels actually. So, I would definitely say that it's a wanting rather than needing, at least for our portfolio at this point.", "And yeah, you know, I think the consumer continues to surprise on the upside here." ] }, { "name": "Ken Usdin", "speech": [ "Got it. OK. Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Gerard Cassidy from RBC Capital Markets. Please go ahead." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning, Jeremy. Good morning, Jamie. Jeremy, can you give us your view on how you're measuring the Treasury functions and the asset liability of your balance sheet as we go forward versus the way you guys were positioning and managing it a year ago in view of the fact that it looks like maybe we're approaching the terminal rate on Fed funds rates?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Gerard, I would say, honestly, not much change there actually. You know, we've been pretty consistently concerned about the risk of higher rates. Of course, we always try to position things to produce reasonable outcomes across a broad range of scenarios.", "But at the margin, we've been biased toward higher rates, and that may be a little less true at these levels than it was before, although a lot of that is just the consequence of positive convexity playing out in the modeling. But in any case, you know, all else equal, I think we are going to continue to focus on making sure we're fine in a higher rate scenario while staying balanced across a range of scenarios. So, not really a lot of change in our positioning. And that's obviously including the fact that we took on First Republic, which, you know, even net of some of the liabilities, had a long structural interest rate position.", "And we did not actually want to get longer as part of the deal. And so, as a result, we took actions to ensure that net-net, we are still about the same as we were last quarter." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then as a follow-up, you mentioned in giving us the read-through on the commercial banking segment of the business that you had some reserve building tied to some office real estate and also some downgrades in the middle market area. Can you go a little deeper? What are you guys seeing in this area of both commercial real estate, but also the C&I loans, what's happening in that segment as well?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, I would caution you from drawing too broad a conclusion from this. I mean, I think that when we talk about office, for example, you know, our portfolio, as you know, is quite small and our exposure to sort of so-called urban dense office is even smaller. The vast majority of our overall portfolio is multifamily lending.", "And so, as a result, like our sample size of observed valuations on office properties is quite small. But, you know, we'd like to be sort of ahead of the cycle. And based on everything that we saw this quarter, it just felt reasonable to build a little bit there to get to what felt like a comfortable coverage ratio. Across the rest of the middle market segment, we saw downgrades and excessive upgrades.", "But I don't see that as sort of necessarily indicative of anything terribly significant in the broader rate across." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Steve Chubak from Wolfe Research. Please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Steve, are you there?" ] }, { "name": "Operator", "speech": [ "It looks like his line dropped. So, next, we'll go to the line of Ebrahim Poonawala from Bank of America. You may proceed." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Good morning. I guess just first question, following up on the outlook for the economy. Like we've all been worried about a recession for a year, and there's a debate about the lagged effects of the Fed rate hike cycle. When you think about -- Jeremy, I think you mentioned your unemployment outlook relatively similar today versus a quarter ago.", "How worried should we be in terms of the credit cycle six to 12 months from now or are you leaning toward concluding that maybe U.S. businesses, consumers have absorbed the rate cycle a lot better than we expected a year ago?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, I mean, I'm sure Jamie has some views here, but in my view, I would just caution against jumping to too many super-positive conclusions based on a couple of recent trends. And I think, generally, our point is less about trying to predict a particular outcome and more about trying to make sure that we don't get too much euphoria that over concentrates people on one particular prediction when we know that there's a range of outcomes out there. So, obviously, people are talking a lot about the potential for soft lending right now.", "You know, no lending, you know, immaculate disinflation or whatever. And, you know, whether our own views on that have changed meaningfully, I don't know. But the broader point is that we continue to be quite focused on Jamie's prior comments that, you know, loss rates still have time to -- have room to normalize even post-pandemic, so we're probably over-earning on credit a little bit. Obviously, we've talked about the expectation that the NII is going to come down quite a bit.", "So, even forgetting about whether you got some surprisingly negative outcomes on the economy from where we stand today, even in the central case, you just need to recognize that there should be some significant normalization." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. And I would just add, the 5.8% is not our prediction. That is the average of the unemployment under multiple scenarios that we have to use, which are hypothetical for CECL. So, asset prediction is going to all look something different, and we don't know the outcome.", "We're trying to be really clear here. The consumer is in good shape. They're spending down their excess cash. That's all tailwinds.", "If even we're going to recession, they're going in with rather good condition with low borrowings and, you know, good house price value still. But the headwinds are substantial and somewhat unprecedented. This war in Ukraine, oil and gas, quantitative tightening, unprecedented fiscal needs of governments, QT, which we've never experienced before. And I just think people should take a deep breath in that.", "And though -- we don't know if those things could put us in a soft lending, a mild recession, or a hard recession. And obviously, we should all hope for the best." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Got it. And just to follow up on the upcoming Basel reforms, two questions. You've talked about the impact to the U.S. economy.", "Like others have said the same. At this point, is that falling on deaf ears? And secondly, maybe, Jeremy, if you can touch upon just structural changes that you expect to make in the capital markets business because of FRTB? Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, on your first point, I mean, you know, I think you can just read Vice Chair Barr's speech, right? He addressed that point fairly directly. He clearly doesn't agree, as is his right. So, we'll see what happens.", "We continue to feel that, all else equal, higher capital requirements definitely are going to increase the cost of credit, which is bad for the economy. So, we'll see what happens on that. On FRTB, it's really very nuanced. It's probably like too much detail for this call, to be honest.", "But just to give you like one immaterial and insignificant but useful example, you know, one product under FRTB is yield curve spread options. And, you know, if the FRTB proposal goes through as currently written, that product just becomes not viable. So, obviously, if we need to stop doing that product, no one really cares. But it's just one example of the way sometimes when you're really disciplined about allocating capital thoroughly all the way down to individual products and responding accordingly, you can wind up having to change your business mix.", "There are obviously more significant products that matter much more for the real economy like mortgage, where, you know, the layering on of the operational risk in the way it's being proposed, especially if some of the other beneficial elements of the proposal don't come through, you know, you're once again making that product even harder to offer to homeowners. So, we'll see what happens." ] }, { "name": "Jamie Dimon", "speech": [ "And I would just add to that. So, the product -- even if your product doesn't make money, you might do it for clients who are great clients. You're going to manage by product, by client, and by, effectively, business mix. And those are the adjustments.", "Roughly, loans don't make sense to put into your balance sheet as a whole. Almost any loan. And, you know, that's just people have to recognize that. And, you know -- so we just have to manage through all the various complications here and figure what we're supposed to do." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Mike Mayo from Wells Fargo Securities. You may proceed." ] }, { "name": "Mike Mayo", "speech": [ "Hi. I had another question on Vice Chair Barr's speech from this week. To the extent that capital ratios do go up 20% for you and perhaps others, to what degree would you think about changing your business model in terms of remixing where you do business repricing or simply removing activities that you used to do? It's Kind of ironic or maybe it's not ironic that Apollo hits an all-time stock price high the same week as the speech. So, does that -- how much business leaves JPMorgan or the industry if capital ratios do go up as much as potentially proposed?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Mike --" ] }, { "name": "Jamie Dimon", "speech": [ "Before -- wait, before Jeremy answer your question, I just want to say this is great news for hedge funds, private equity, private credit, Apollo, Blackstone, you know, and they're dancing in the streets." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Exactly. And I was going to say, Mike, yes to everything. So, meaning, repricing, yes, definitely, to the extent that we have pricing power.", "And the higher capital requirements mean that we're not generating the right returns for shareholders, we will try to reprice, and we'll see how that sticks and how that flows into the economy and how that affects demand for products. And if the repricing is not successful, then, in some cases, we will have to remix, and that means getting out of certain products and services. And as Jamie points out, that probably means that those products and services leave the regulated perimeter and go into, you know, elsewhere. And that's fine.", "As Jamie points out, those people are clients. And I think that point was addressed also in Vice Chair Barr's speech. So -- but, you know, traditionally, having risky activities leave the regulated perimeter has had some negative consequences. So, these are all important things to consider." ] }, { "name": "Mike Mayo", "speech": [ "All right. And a separate question. I appreciate the Investor Day. It gives a little bit more color on the degree that your investment may or may not pan out.", "We are still all watching that closely. Having said that, you just increased revenue guidance by 10 billion for NII between this quarter and the first quarter without changing expense guidance by even $1. Aren't you tempted to spend a little bit more? Why not spend more if you're gaining share? And I'm not saying that you should. I'm just wondering like aren't you tempted to do so? You have $10 billion more revenues, and you're not spending $1 more on expenses.", "Like why not?" ] }, { "name": "Jeremy Barnum", "speech": [ "Mike, let me get this right. You're actually complaining that our expenses aren't high enough. Is that right?" ] }, { "name": "Mike Mayo", "speech": [ "Well, I -- wait, just to just be clear, I'm just -- it's just the flip side of the question I asked for two years, you know, going back [Inaudible]" ] }, { "name": "Jeremy Barnum", "speech": [ "Fair enough. I appreciate the balance. Now, in all seriousness, we've always been pretty clear, right, that our spending is through-the-cycle spending, based on through-the-cycle investment, through-the-cycle spending based on our through-the-cycle view of the earnings-generating power of the company and the goal to produce the right returns. So, broadly speaking, NII tends to flow straight through to the bottom line, both when it's going up and, by the way, when it's going down, too.", "And we've been through those moments, as you well remember. So, whether or not there are opportunities to deploy some more dollars into marketing and stuff like that, we have actually looked at that recently. I don't see that being a meaningful item this year, which is part of why we have not revised the expense guidance so far. But this is about investing through the cycle and being honest and disciplined about which revenue items flow, carry expense loading, and which of them don't." ] }, { "name": "Mike Mayo", "speech": [ "And then last quick follow-up." ] }, { "name": "Jamie Dimon", "speech": [ "[Inaudible] I think we're kind of running as fast as we can. So, we actually sat down directly with credit compliance, audit markets, bankers, recruiter, trainers to sustain this. Mike, this is it. You know, we're full effort right now, and we want to make sure we get things right and get things thoughtful and careful.", "So, it's not just the money, it's the people and how many things can you change all at once and add to all at once." ] }, { "name": "Mike Mayo", "speech": [ "And then one quick follow-up to that. Your efficiency ratio this quarter is the lowest we've seen in a long, long time. I guess you're saying don't extrapolate this efficiency ratio because NII will come down at some point. But when you just simply look at you benchmark yourself against the low-cost providers, where do you think you're there now and where can you still go because if you extrapolate this quarter, you're getting closer?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, you said it yourself, right? You definitely can't extrapolate the current numbers. But I think more broadly, on venturing -- benchmarking ourselves to low-cost providers, it sort of speaks to an area that you've been interested in for a long time, which is all of the investment that we're doing in technology to improve generally scalability and get more of our cost base to be, you know, variable versus fixed in terms of how we respond to volumes, that's a big part of the reason that we're doing the investments that we're doing in modernization and cloud and AI and all the type of stuff that we talked about a lot. So, I think we feel really good about our efficiency as a company, but there definitely is room for improvement." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Steven Chubak from Wolfe Research. You may proceed." ] }, { "name": "Steven Chubak", "speech": [ "All right. Thanks for taking the question and apologies for the technical issues earlier. I wanted to ask on the deposit outlook, just with signs that recent liquidity drawdown has come predominantly out of our RRP versus industry deposits. Just want to get your thoughts on what expectations you have for deposit growth in the second half, both for you and even the broader industry, especially as Treasury issuance really begins to ramp in earnest?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Good question, Steve. So, let me say a couple of things about this. So, obviously, our deposit numbers have bounced around a little bit as a function of some of the turmoil that we saw in regional banks, as well as, obviously, the First Republic transaction.", "But now, if you look at our kind of end-of-period deposits this quarter and you project forward, our core view is that we would expect a sort of modest downward trend to reassert itself from this higher starting point broadly as a function of QT playing to the system but noting that we do have some hope for offsets by taking share. Just to give a couple of examples, like in consumer, you know, we've got some of our branch expansion markets seasoning, and so there are shareholder committees there. And then wholesale, we obviously invested a lot in products and services. And so, we think we have compelling offerings that are helping us win mandates.", "And so, there are potentially some share offsets there. But broadly, we -- our core view remains modest deposit declines across the franchise. Within that, you note the same thing we've noted that, you know, as we got through the debt ceiling and the TGA build has come into effect, and you've seen a lot of build issuance, you know, big question in the market about whether that was going to come out of reserves or come out of RRP. And so far, with most of the TGA build, I guess they're targeting 600, and they're up 550 or something, so they're almost done.", "You know, more of it than some people feared has come out of RRP. So, as you say, I think that's a relatively good sign and highlights how the system works better when you've got, you know, ample supply of short-dated collateral in the front of the yield curve. So, that whole RRP TGA thing, you know, reserve dynamic is going to continue to be significant, but it is good to see RRP coming down a little bit." ] }, { "name": "Steven Chubak", "speech": [ "Helpful color. And just a follow-up on card income. You know, revenues were muted in the quarter. I was hoping you could unpack just the sources of pressure, maybe more specifically, how much of the drag is associated with FAS 91 versus some other factors?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, actually, that card income number, Steve, is a little bit of a one-off thing. So, we had a reward liability adjustment this quarter, kind of a technical thing. So, that's just a temporary headwind.", "And also, the sequential comparison is also getting hurt by a small positive one-off item in the prior period. So -- and obviously, I know you guys look at it, but card income isn't sort of a thing that we look at that much ourselves." ] }, { "name": "Steven Chubak", "speech": [ "Can you size the reward liability impact?" ] }, { "name": "Jeremy Barnum", "speech": [ "Why don't you get Michael to give that to you? It's not that significant, but it's enough to just make the sequential number look a little bit wonky." ] }, { "name": "Steven Chubak", "speech": [ "Great. Thanks for taking my questions." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Glenn Schorr from Evercore ISI. You may proceed." ] }, { "name": "Glenn Schorr", "speech": [ "Thank you. Just want to follow up on this pricing power conversation because you've been consistent over time that you have a limited ability to sustain pricing power due to competitive landscape. But I guess my question is, if not now, when? Meaning, a lot has changed on the institutional side, the European bank side, the regional bank side. And I would think that there would be certain businesses that you have a greater ability and willingness to push price on.", "And then maybe you could tie that to your comments in the press release on what are the material -- what are the real world consequences for markets and end users that you're referring to when talking about material regulatory changes? Thanks a lot." ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. So, look, on pricing power, you're right. It really depends on the product and it depends on the competitive landscape across different banks. And so, it's very granular.", "It's very product-specific. And, you know, in some of the cases, we'll have more pricing power than in other cases. I think the overall point that we're trying to make in connection with Basel III end game is just that, you know, like we think the capital increases are excessive. It puts pressure on returns, all else equal.", "That obviously puts pressure on us to increase price where we can. That is generally a bad thing for the real economy. And how all of that plays out in detail across different products and services remains to be seen, importantly, since we don't actually have the proposal yet. So, we need those details.", "I'm sorry, Glenn, I forgot the second half of your question. What was it?" ] }, { "name": "Glenn Schorr", "speech": [ "Actually, I think you hit on it, so I'll just do a follow-up on a related. So, the notion of private credit doing large traditional investment-grade lending activity is maybe part of the competitive landscape that limits the ability to push price. In Jamie's letter, you talked about the downsides -- or my question is what's the downside if more of the mortgage credit asset-backed intermediation business is pushed out of the banking system?" ] }, { "name": "Jeremy Barnum", "speech": [ "I mean, I guess it depends on what you mean by downside, but I just think, you know, societally speaking, I think we've seen in recent history that, you know, when home lending is happening outside the regulated perimeter, you know, and things get bad, you know, when you have economic downturns, it produces bad outcomes for individuals and homeowners and society as a whole. So, I mean, Jamie has written about this extensively. Beyond that, you know, financially, we've talked about how mortgage lending -- I mean, the profitability swings obviously. It's reasonably cyclical.", "And in the recent past, it's actually been very profitable, then it was less so. Like the corresponding channel right now is actually picking up a little bit. But it's a thin-margin business. It's challenging.", "And when you increase the capital requirements, it makes it even harder. So, that just becomes one of the areas where you're in that tension between remixing versus pricing power that we talked about a second ago. And it might, in fact, mean that we do less credit available for homeowners and more regulatory risk as the activity moves outside the perimeter." ] }, { "name": "Glenn Schorr", "speech": [ "Appreciate that, Jeremy." ] }, { "name": "Operator", "speech": [ "Next we'll go to the line of Betsy Graseck from Morgan Stanley. You may proceed." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "I just wanted to unpack a little bit more the drivers of the change you outlined that's coming in the 10-Q, Jeremy, regarding the asset sensitivity going from liability-sensitive to asset-sensitive, at least that's the way I read it. I just wanted to understand what the drivers of that is." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Sure. No problem, Betsy. I mean, as you know, that's always been a challenging number.", "You know, it's meant as a risk management measure of sorts, although it's also somewhat limited in that respect. And it has been an uneven usefulness in terms of the potential to be able to predict our NII trajectory when rates change. But, you know, as we've looked at that and try to improve it and spoken to all of you through this latest rate hiking cycle, we've come to the conclusion that would improve the usefulness of the disclosure if we include it in the modeling the effect of deposit repricing lags. And so, we've done that, and that just has the effect that I talked about.", "It increases the EAR number by about 4 billion from minus 1.5, which is roughly what it was last quarter and what it would have been this quarter without the change, to something more like 2.5." ] }, { "name": "Betsy Graseck", "speech": [ "But then --" ] }, { "name": "Jeremy Barnum", "speech": [ "All the usual caveats apply, right? I mean, it's never -- the answer is going to always -- for any given change in rates, the change in our NII is always going to be, for one reason or another, different from what that disclosure shows. But we do our best to make it." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And so, is it fair for me to think about that change as a mark to market to where we are today? And when I think about your forward guide here, longer term, you're saying, look, deposit betas are accelerating. So, as I go through the 10-Qs over the next four or five quarters, I should expect that that 2.5 should come down because deposit betas you're anticipating are going to be accelerating from here. I'm just trying to put those two things together." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. It's a good question. It's quite a technical issue. So, I think, in the past, the way this number was constructed was to assume through-the-cycle betas and all the deposits.", "And so, your notion that like the number would include a deposit beta acceleration would not have been the case because it would have been using essentially terminal deposit betas for the scenario -- based on the forward curve and then based on a 100% shock to the forward curve. The nuance that we've introduced now is to recognize that given the shock, the reprice that the beta predicts will not be instantaneous. And so, you get sort of just the mathematical consequences of that. But I think translating that into a statement about our expectation for beta, you know, for the next 12 months relative to our NII guide might be a bridge too far.", "I'm not sure you can actually draw that conclusion." ] }, { "name": "Betsy Graseck", "speech": [ "Right. But the -- but you were saying earlier, deposit betas, you do anticipate are going to be accelerating from here and that's part of the outlook for NII longer term to normalize in the mid-70s. Is that right?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. But let me add precisely --" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah." ] }, { "name": "Jeremy Barnum", "speech": [ "Go ahead, Jamie." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. OK. Basically, yes, as you have -- if the next round is going to be -- the beta go from 30 to 40 to 50. I mean, whatever the product is, yeah, that's the lag, and the 2.5 will go down over time as that actually happens if rates actually go up.", "If the rates don't actually go up, the 2.5 may be exactly 2.5 again." ] }, { "name": "Betsy Graseck", "speech": [ "Got it." ] }, { "name": "Jeremy Barnum", "speech": [ "And what I was going to say, Betsy, is just that the projection of the 87 coming down to a significantly lower number contains both the element of internal migration, as well as the potential, which is by no means guaranteed, of product-level reprice. And furthermore, then obviously, the dynamics are a little bit different in the different business segments as you move from large corporate wholesale to consumer." ] }, { "name": "Betsy Graseck", "speech": [ "OK. All right. Thank you. I appreciate it." ] }, { "name": "Jeremy Barnum", "speech": [ "Yup." ] }, { "name": "Operator", "speech": [ "Next, we'll go to the line of Matt O'Connor from Deutsche Bank. You may proceed." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. So, I'm in your camp that eventually consumers will want more deposit rate sensitivity here. But I guess, what would make you change your rates meaningfully? So, the top two banks have about 50% consumer market share. Loan-to-deposit ratios are low.", "Your outlook for loan growth and I think others is fairly sluggish, at least outside of card. So, I get that it's common sense, and that's what we've seen historically. But there really is a kind of big divergence among big banks and everybody else where the big banks just don't need to pay that much for deposits for a slew of reasons. So, what would make you change that?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, In the end, Matt, it's just feedback from the field. It's competition and feedback from the field. You know, we project --" ] }, { "name": "Jamie Dimon", "speech": [ "I think every bank is in a different position about what they need. And so, you have a whole range of outcomes. But remember, we do this also by city. So, you have different competition in Arizona and Phoenix than you have in Chicago, Illinois, and we do have high-interest rate products.", "So, it's a combination of all those things. I wouldn't call it a big bank versus small banks. And you're going to see when everyone reports who kind of paid a little bit more for things and who didn't and things like that. So, I -- look, I would take it as a given.", "I think it's a mistake. There is very little pricing power in most of our business, and betas are going to go up. You take it as a given. There's no circumstance that we've ever seen in the history of banking where rates didn't get to a certain point that you had to have competing products.", "And rates go up through migration or direct rates or move into CDs or money market funds, and we're going to have to compete for that. You already see it in parts of our business and not in other parts." ] }, { "name": "Jeremy Barnum", "speech": [ "OK. And I'll add there --" ] }, { "name": "Matt O'Connor", "speech": [ "Well, I 100% --" ] }, { "name": "Jeremy Barnum", "speech": [ "Matt, is just that it's really just about primary bank relationships in the end. You know, that's the core of the strategy." ] }, { "name": "Matt O'Connor", "speech": [ "Yeah. I mean, again, I 100% agree, but we've never seen kind of loan-to-deposit ratios for banks like yours this low. So, you could just let deposits run off at a modest amount for quite some time to make the decision not to pay up. I mean, I assume that's the trade-off that eventually you'll --" ] }, { "name": "Jamie Dimon", "speech": [ "That's a little more complicated because that -- you know, a lot of that loan-to-value ratio is lower because of regulatory stuff, LCR, capital ratios, etc." ] }, { "name": "Matt O'Connor", "speech": [ "Got it. OK. All right. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "And for our final question, we'll go to Charles Peabody from Portales Partners. You may proceed." ] }, { "name": "Charles Peabody", "speech": [ "Good morning. Jeremy, on Page 4 of your presentation, you showed some liquidity metrics. And there's been a meaningful deterioration -- or I shouldn't say deterioration, depletion of some of that excess liquidity obviously for First Republic primarily. So, my question is how quickly do you want to rebuild that liquidity? Because as I look out toward '24, there's probably a half dozen variables that are going to make liquidity a premium event to have excess liquidity.", "So, that's my first question, is what's your plans for replenishing that liquidity?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, Charles. So, I know we talked about this a little bit at Investor Day, right? So, as I said in my prepared remarks, yeah, we think about half of the change in the bank LCR number is a consequence of First Republic. And the rest of it is just the expected, you know, decrease in systemwide deposits falling through into our HQLA balances in the bank LCR ratio. So, that's all entirely as expected.", "And therefore, I think that the replenishing notion is not correct. In fact, obviously, we still have ample liquidity. Now, if you want to project trends forward, that's a different story. But, you know, that's sort of the business of banking.", "We'll adjust accordingly in terms of our asset and liability mix across different products and to ensure compliance to the ratios and quarter's balance sheet principles as you would expect from us." ] }, { "name": "Jamie Dimon", "speech": [ "And I would just add that just look at the number at the top of the page in the press release, 1.4 trillion of cash and marketable securities. Even if we get down to no excess, we're going to have like, I've got the exact number, 1.2 trillion. I think we have excess liquidity, and the liquidity ratios are slightly -- have slightly some differences. I think there's plenty of liquidity in the system.", "And of course, we do multiple things to change this overnight if we wanted to." ] }, { "name": "Charles Peabody", "speech": [ "Right. So, sort of wrapped into that as a follow-up, if you take your 87 billion forecast for NII this year, and, you know, that implies at least a one quarter of maybe 22 billion of NII, and you take your eventual forecast of mid-70, you know, billion of NII at some point in the future, that would imply at least one quarter of 18 billion of NII. So, that's about an 18% drop. And if you hold the balance sheet steady, you're talking about, you know, a 30-basis-point drop in your margin, your NIM, to get to that from 22 billion to 18 billion.", "I mean, what is driving -- is it really the deposit or are you thinking in terms of interest reversals as credit deteriorates or is it rebuilding of liquidity? I'm just trying to get a better sense of what the big impact is." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Hey, Charlie. I would think of that as being really entirely a deposit story. It's just not that complicated, right? I think we did this, I think it was either in the fourth quarter or in the first quarter, but we put a little chart on a page.", "Just in very simple terms, this shows like what the dollar consequences are of whatever, like a 10-basis-point change in deposit rate paid in terms of NII run rate. So, whether it's as a consequence of migration from lower yielding to higher yielding, going from 0% to a 4% CD is obviously a big impact on margin, or whether it's because, you know, savings reprice is relatively small changes in rate there are kind of a lot of money when you've got, you know, a couple of trillion dollars of deposits. So, it's really not any more complicated than that, and that's why we're being so forceful about reminding people about what we expect that trajectory to be." ] }, { "name": "Charles Peabody", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you very much." ] }, { "name": "Jamie Dimon", "speech": [ "Thank you, guys." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2022-01-14	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Seaport Research -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steve Chubak", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to J.P. Morgan Chase's fourth quarter and full year 2021 earnings call. This call is being recorded [Operator instructions] We will now go live to the presentation.", "Please stand by. At this time, I'd like to turn the call over to J.P. Morgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jeremy Barnum. Mr.", "Barnum. Please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you, operator. Good morning, everyone. The presentation is available on our website, and please refer to the disclaimer in the back. It's slightly longer this quarter to cover both our fourth quarter and full year results, as well as spend some time talking about the outlook for next year.", "Starting with the fourth quarter on Page 1. The firm reported net income of $10.4 billion, EPS of $3.33 on revenue of $30.3 billion and delivered an ROTCE of 19%. These results included a $1.8 billion net credit reserve release, which I'll cover in more detail shortly. Adjusting for this, we delivered a 17% ROTCE this quarter.", "Touching on a few highlights. As we suggested last quarter, we have started to see a pickup in loan growth, 8% year on year and 3% quarter on quarter, ex-PPP, with a significant portion of this growth coming from AWM and markets. But we're also seeing positive indicators in card, as well as increasing revolver utilization in C&I. And it was an exceptionally strong quarter for investment banking, particularly M&A, as well as another good quarter in AWM.", "On Page 2, we have some more detail on the fourth quarter. Revenue of $30.3 billion was up 1% year on year. Net interest income was up 3%, primarily driven by balance sheet growth, partially offset by lower CIB markets NII. And NII was down 1%, largely driven by normalization in CIB markets and lower production revenue in home lending, mostly offset by higher IB fees on strong advisory.", "You'll notice that we've added some memo lines to this page this quarter to show NII and NIR, excluding markets, as well as the third line of stand-alone markets total revenue, which, as we said before, is more consistent with the way we run the company. We'll be keeping this format going forward, and you'll see later that this is how we will talk about the outlook. If you look at things on this basis, the drivers are the same, but the numbers are a little different. NII, excluding markets, is up 4%.", "NIR, excluding markets, is up 3%. And markets is down 11% on normalization. Expenses of $17.9 billion were up $1.8 billion or 11%, largely on higher compensation. And credit costs were a net benefit of $1.3 billion, reflecting reserve releases.", "Looking at the full year results on Page 3. The firm reported net income of $48.3 billion, EPS of $15.36 and record revenue of $125.3 billion. We delivered a return on tangible common equity of 23% or 18%, excluding the reserve releases. And then, on to reserves, Page 4.", "We released $1.8 billion this quarter, reflecting a more balanced outlook due to the continued resilience in the macroeconomic environment. Our outlook remains constructive, but our reserve balances still account for various sources of uncertainty and potential downside as a result of the remaining abnormal features of the economic environment. On to balance sheet and capital on Page 5. We ended the quarter with a CET1 ratio of 13%, up slightly, and reflecting nearly $5 billion of capital distributions to shareholders, including $1.9 billion of net repurchases.", "With that, let's go to our businesses, starting with consumer and community banking on Page 6. CCB reported net income of $4.2 billion, including reserve releases of $1.6 billion. Revenue of $12.3 billion was down 4% year on year and reflects lower production margins in home lending and higher acquisition costs in card, partially offset by higher asset management fees in consumer and business banking. Many of the key balance sheet drivers are in line with the prior quarter.", "Deposits were up 20% year on year and 4% sequentially. And client investment assets were up 22% year on year, about evenly split between market performance and flows. Combined, credit and debit spend was up 27% versus the fourth quarter of '19, with each quarter in 2021 showing sequential growth compared to 2019. Within that, travel and entertainment spend was up 13% versus 4Q '19, though we have seen some softening in recent weeks contemporaneously with the Omicron wave.", "Card outstandings were up 5% year on year but remained down 8% versus 4Q '19. However, it's promising to see that while revolving balances bottomed in May of 2021, since then, they've kept pace with 2019 growth rates. In home lending, loans were down 1% year on year, but up 1% quarter on quarter as prepayments have slowed. And it was another strong quarter for originations, totaling $42.2 billion, up 30% year on year.", "In fact, it was the highest fourth quarter since 2012, driven by increase in both purchase and refi volumes. In auto, average loans were up 7% year on year and up 1% quarter on quarter. After several strong quarters, the lack of vehicle supply resulted in a decline in originations to $8.5 billion, down 23% year on year. So overall, loans, ex-PPP, were up 2% year on year and sequentially, driven by card and auto.", "And expenses of $7.8 billion were up 10% year on year on higher compensation, as well as continued investments in technology and marketing. Next, the CIB on Page 7. CIB reported net income of $4.8 billion on revenue of $11.5 billion for the fourth quarter. And for the full year, net income was $21 billion on record revenue of $52 billion.", "Investment banking revenue of $3.2 billion was up 28% versus the prior year and up 6% sequentially. IB fees were up 37% year on year, primarily driven by a strong performance in advisory. And we maintained our No. 1 rank with a full year wallet share of 9.5%.", "In advisory, we were up 86%, and it was the third consecutive all-time record quarter benefiting from elevated M&A volumes that continued throughout 2021, specifically from mid-sized deals. Debt underwriting fees were up 14%, driven by an active leveraged loan market, primarily linked to acquisition financing. And in equity underwriting, fees were up 12%, primarily driven by our strong performance in IPOs. Moving to markets.", "Total revenue was $5.3 billion, down 11% against a record fourth quarter last year. Compared to 2019, we were up 7%, driven by a strong performance in equities. Fixed Income was down 16% year on year, reflecting a more difficult trading environment early in the quarter, especially in rates, as well as continued normalization from the favorable trading performance last year in currencies, emerging markets, credit and commodities. Equity markets were down 2% on $2 billion of revenue as continued strength in prime was more than offset by modest weakness in derivatives.", "For the full year, equities revenue was $10.5 billion, up 22% and an all-time record. It was a particularly strong year for both investment banking and markets. And looking ahead, we do expect some modest normalization of the wallet in 2022. However, for purposes of the first quarter in investment banking, the overall pipeline remains quite robust.", "Payments revenue was $1.8 billion, up 26% year on year or up 7%, excluding net gains on equity investments. And the year-on-year growth was from higher fees and deposits, largely offset by deposit margin compression. Securities services revenue of $1.1 billion was flat year on year. Expenses of $5.8 billion were up 18% year on year, predominantly due to higher compensation, as well as volume-related and legal expenses.", "And credit costs were a net benefit of $126 million, driven by the reserve release I mentioned upfront. Moving to commercial banking on Page 8. Commercial banking reported net income of $1.3 billion and an ROE of 20%. Revenue of $2.6 billion was up 6% year on year on record investment banking revenue, driven by continued strength in M&A and acquisition-related financing.", "Expenses of $1.1 billion were up 11% year on year, largely due to investments and higher volume and revenue-related expenses. Deposits were up 8% sequentially on seasonality. Loans were down 1% year on year and up 2% sequentially, excluding PPP. C&I loans were up 4%, ex-PPP, primarily driven by higher revolver utilization and originations in middle markets and increased short-term financing and corporate client banking.", "CRE loans were up 1%, with higher new loan originations, offset by net payoff activity. And credit costs were a net benefit of $89 million, driven by reserve releases, with net charge-offs of 2 basis points. And then, to complete our lines of business, AWM on Page 9. Asset and wealth management reported net income of $1.1 billion with a pre-tax margin of 34%.", "Revenue of $4.5 billion was up 16% year on year as higher management fees and growth in deposits and loans were partially offset by deposit margin compression. Expenses of $3 billion were up 9% year on year, predominantly driven by higher performance-related compensation and distribution fees. For the quarter, net long-term inflows were $34 billion and, for the full year, were positive across all channels, asset classes and regions, totaling a record $164 billion. AUM of $3.1 trillion and overall client assets of $4.3 trillion, up 15% and 18% year on year, respectively, were driven by strong net inflows and higher market levels.", "And finally, loans were up 4% quarter on quarter, with continued strength in custom lending, mortgages and securities-based lending, while deposits were up 15% sequentially. Turning to corporate on Page 10. Corporate reported a net loss of $1.1 billion. Revenue was a loss of $545 million, down $296 million year on year.", "NII was up $160 million, primarily on higher rates, mostly offset by continued deposit growth. And NIR was down $456 million, primarily due to lower net gains on legacy equity investments. Expenses of $251 million were down $110 million year on year. So with that, as we close the books on 2021, we think it's important to take a step back and look at the performance over the last few years through the volatility of the COVID period, and then pivot to discussing the 2022 and medium-term outlook.", "So turning to Page 11. What stands out is the stability of both revenues and returns through a very volatile period, especially when you strip out the reserve build and subsequent releases in 2020 and 2021. If you look at the revenue drivers on the bottom left-hand side of the page, you see overall revenue growth with some significant diversification benefits. NII, ex-markets, was down nearly 20% on the headwinds of lower rates and card revolve that we've discussed throughout the year.", "This was partially offset by significant NIR growth, ex-markets, largely from higher IB fees and AWM management and performance fees. And we also saw strength across products and regions in CIB markets as the extraordinary market environment in 2020 did not normalize as much as we expected in 2021. So when you look across the company, we saw consistent modest revenue growth, as well as good performance in the areas that we control, notably, staying in front of our clients to serve them well and managing our risks effectively resulting in quite stable returns, once again proving the power of the J.P. Morgan Chase platform.", "So turning to the next page. The strong revenue performance and consistent returns have further bolstered our confidence in forging ahead with an investment strategy designed to ensure that we're prepared for the long term. On the left-hand side of the page, you can see the expense drivers from 2019 to 2021. The first bar is structural.", "And while the growth of 2% is modest over the two-year period, that includes some COVID-related effects that we would see as temporary, including, for example, lower T&E spend and elevated employee attrition. And we do expect some catch-up in those effects as we look forward. Then the middle bar is $3.4 billion of growth in volume and revenue-related expenses. Some significant portion of that is driven by increases in incentive compensation, primarily from investment banking, markets and asset and wealth management, the major areas where we have seen exceptionally strong results and where changes in compensation are more closely linked to changes in performance.", "And remember, we've seen a lot of market appreciation and strong flows in AWM and CCB. So don't assume all of this is CIB as you look forward because there are some versions of the world where the markets and fee, well, it goes one way, and AUM goes the opposite way. And then, this bar also includes volume-related noncomp expenses such as brokerage and distribution fees, some of which are true expenses and some of which are bottom line neutral because they're offset with revenue gross-ups. Then the last bar of $1.7 billion, as previewed with you this time last year, is a result of our investment agenda, which we've been executing largely according to our plans and consistent with our long-standing priorities.", "You can see the breakdown of the total investment spend on the right-hand side of the page, $9.6 billion growing to $11.3 billion across the categories that we've often discussed. We're continuing to broaden our footprint and expand our distribution network. Then marketing, where the significant increase in spend as part of the reopening in the second half of last year resulted in a full year spend comparable to 2019. And tech, which we've broadened to include tech-adjacent spend, reflecting our recognition that tech means more than just software development.", "It encompasses data and analytics, AI, as well as the physical aspects of modernization, such as data centers. And what's really powerful to note here is our ability to make these investments, which are quite significant in dollar terms and are designed to secure our future, while still delivering excellent current returns. So over the next few pages, let's double-click into some of these investment areas to see what we're doing, starting with examples of marketing and distribution on Page 13. We've expanded our reach across the U.S.", "and are thrilled to be the first bank in all contiguous 48 states, an important milestone in our branch market expansion plans. We also continue to expand internationally, including 13 international markets as part of our commercial bank expansion, China in both our CIB and AWM businesses, and in the U.K. with Chase U.K., where we've seen exciting progress since we launched in September, although we expect this to be a multiyear journey before having a measurable impact on the firm overall. We continue to hire bankers and advisors in investment banking, private banking and wealth management, really across all of the wholesale and consumer footprint, where we believe we have opportunities to better penetrate geographies and sectors to continue to grow share.", "And as I just said, the point of our investment strategy is to secure the future of the company. So we're not making short-term claims about share outcome causality, but as you can see at the bottom of the page, our market shares are robust and growing broadly across the company. Turning to Page 14. In addition to all of our distribution-related investments, a critical foundational component of our strategy is technology, where we spend over $12 billion annually, with about half of that being investments or, as we sometimes call it, change the bank spend.", "It's important to understand what's in the investment category. About half of that is foundational and mandatory, which includes regulatory-related investments, modernization and the retirement of technical debt, in addition to other key strategic initiatives to help us face the future. On the left-hand side, you can see some more detail around this. Modernization, which includes migrations to the cloud, as well as upgrading legacy infrastructure and architecture; data strategy that enables us to extract the value that exists in our proprietary data set by cleaning it and staging it in the right ways and then deploying modern techniques against it; attracting and acquiring top talent with modern skills; and a product operating model, which is, obviously, a popular buzzword these days.", "But if you look through all that, it reflects the simple reality that the best products get delivered when developers and business owners are working together iteratively with end-to-end ownership. Underpinning all of this is our continued emphasis on cybersecurity to protect the firm and our clients and customers, as well as maintaining a sound control environment. Moving to the right-hand side. The other half of the investment spend is to drive innovation across our businesses and with our client-facing products.", "We believe it's critical to identify and resolve customer pain points and improve the user experience. And we're attacking the problem with a combination of building, partnering and buying. And so, a few examples of that. On the retail side, we've been able to digitalize existing product offerings with applications like Chase MyHome and launch a cloud native digital bank with our recent Chase U.K.", "launch. On the wholesale side, we've continued to innovate on our execute trading platform, commercialized blockchain through Onyx and are building out real-time payments capabilities. In addition, our modernization allows us to more efficiently partner with or acquire more digitally centered companies. And you can see several examples of this on the page.", "So taken together, our strategy and investments are critical to ensuring that we can compete with the most innovative players out there, whether we're the ones pushing the envelope of innovation or responding quickly to the creativity of our competitors but doing so at scale. With that, let's talk about the outlook and the year ahead, starting on Page 15. As you'll remember from Daniel's comments in December, the 17% that we have talked about as a medium-term ROTCE target is not realistic for 2022. We do expect to see some tailwinds to NII, including the benefit of the latest implieds and the expectation that card revolve rates will increase.", "But the headwinds likely exceed the tailwinds as capital markets normalize off an elevated wallet, and we continue to make additional investments, as well as the impact of inflationary pressures. However, despite these potential challenges for the near-term outlook, we do continue to believe in 17% ROTCE as our central case for the medium term as rates continue to move higher, and we realize business growth, driven by our investments. So let us try to give you more detail around forward-looking drivers that could be headwinds or tailwinds. So first, the rate curve.", "Our central case does not require a return to a 2.5% Fed funds target rate as the current forward curve only prices in 625-basis-point hikes over the next three years. Assuming we realize the forward curve, from there, we see the outcomes as being relatively symmetric, with plus or minus 175 basis points of ROTCE impact as a reasonable range relative to our central case. And of course, there are, obviously, any number of rate paths to get there, which could produce different outcomes over the near term. In this illustration, the downside assumes that rates stay relatively constant to current spot rates, whereas upside would be driven by a combination of a steeper yield curve and more hikes together with a more favorable deposit reprice experience.", "And of course, what we are evaluating here is the impact of rates in isolation on NII. But for the performance of the company as a whole, credit matters a lot. And the reason why rates are higher will have an impact on that. In markets and banking, we feel good about the share we've taken.", "And there are reasons why the beginning of a rate hiking cycle could be quite healthy for fixed income revenues in particular, at least in the sense that it might provide a partial offset to what we would otherwise expect in terms of post-COVID revenue normalization. In our central case, markets and banking normalized somewhat in 2022 relative to their respective record years in 2020 and 2021 and resume modest growth thereafter. The downside case assumes a return to 2019 trend line levels with sub-GDP growth rates, whereas the upside case assumes continued growth from current elevated levels. As we've been discussing in consumer, the big surprise as we emerge from the worst moments of the pandemic was the lower level of card revolve even as spend has started to return.", "In our central case, we assume healthy sales growth on the back of continued economic recovery and strong account acquisitions. And that, combined with relatively constant revolve rates, generates a strong recovery in revolving balances. But there are those who worry about a permanent structural shift in consumer behavior, which could be a source of downside. And in that scenario, revolving balances could stay depressed relative to the long-term pre-pandemic averages, resulting in approximately 50 basis points of downside relative to our central case.", "Of course, there could be an upside case where revolving balances recover much faster, but we believe the risks here are more likely to be skewed to the downside. And then, let's touch on inflation for a second, which is, obviously, increasingly relevant. On balance, modest inflation that leads to higher rates is good for us. But under some scenarios, elevated inflationary pressures on expenses could more than offset the rates benefit, which could represent around 75 basis points of downside.", "And while it's not on the page, another key driver is capital, where, even though we remain hopeful, our central case assumes no recalibration of the rules and that we will operate at a higher CET1, reflecting that we finished the year in the 4.5% G-SIB bucket, which equates to a 1% increase from G-SIB in the central case, although, as a reminder, that does not become binding until 2024. This is a good opportunity to point out that QE deposit growth and growth of the overall financial system proxied by GDP growth of the factors in the original 2015 rule release, combined, represent two full G-SIB buckets. So in the absence of those, we would still be in the 3.5% bucket. With that in mind, any recalibration could be a tailwind.", "And each 1% change in the CET1 level is worth about 150 basis points of ROTCE. And to be clear, for simplicity, we've assumed a normal credit environment in the analysis on the page. So when we take a step back, 17% remains our central case in the medium term. But over the next one to two years, we expect to earn modestly below that target.", "In light of all that, let's talk about near-term guidance on Page 16. We expect NII, excluding markets, to be roughly $50 billion in 2022, up approximately $5.5 billion from 2021. As I mentioned upfront, this is a change relative to how we've previously guided as we feel that the ups and downs of markets' NII can be a distraction when the vast majority of that variation is likely to be bottom line neutral. Looking at the key drivers of that for 2022, there are a few major factors.", "Rates. With the market implieds suggesting approximately three hikes later this year and the recent steepening of the yield curve, we would expect to see about $2.5 billion more NII from that effect. You can see at the bottom right, we've shown you the third quarter earnings at-risk and an estimate of what we would expect to disclose in the 10-K, reflecting the year-end rate curve and changes in the portfolio composition. And as we note in our quarterly filings, there are lots of reasons to be careful in trying to use EIR to predict NII changes under real-world conditions.", "But at a high level, if you look at the numbers on the bottom right and what's happening to the yield curve recently, you should find the $2.5 billion increase relatively intuitive. Then balance sheet growth and mix, where we are expecting higher spend and new originations to drive revolving balances back to 2019 levels, and also benefiting from securities deployment toward the end of 2021 and into 2022. And partially offsetting both of those factors is the roll-off of PPP. So while we do expect NII to increase year on year, depending on the path of rates, it may take a couple of years to return to the full NII-generating capacity of the company.", "Turning to Page 17. As we said at the outset of this section, we are in for a couple of years of sub-target returns. Despite this, we are going to continue to invest, and we're not going to let temporary headwinds distract us from critical strategic ambitions. And so, looking at adjusted expenses, we expect roughly $77 billion in 2022, an increase of about $6 billion year on year or 8%.", "And before we go into the breakdown, it's worth noting, while the year-on-year increase is eye-catching, a meaningful portion of it is actually the annualization of post-reopening trends from the second half of 2021 across various categories. So starting with the first bucket on the page, which is the structural expense increase. As I alluded to earlier, we are seeing some catch-up this year, both from the impact of inflation and our compensation expenses, as well as higher noncomp expense with the resumption of T&E, then volume and revenue-related expenses. Remember that this is both comp and noncomp.", "From a comp perspective, to the extent we are assuming some normalization of capital markets revenues, there should be a tailwind here. But keep in mind a couple of points. The normalization assumption for markets and IB fees at this point is pretty modest. And our assumption for AUM is for modest increases.", "At the same time, we have the impact of volume growth on noncomp, both in wholesale and in consumer, which is offset by lower auto lease depreciation. And most importantly, we are adding another $3.5 billion of investments, which, I would note, includes the run rate impact of our acquisitions, as well as some of the run rate effects that I just mentioned and reflects similar themes to the ones I discussed earlier. As I wrap up, it's another good moment to stop and note how privileged we are to have the financial strength and the earnings-generating capacity to absorb these inflationary pressures while also making critical investments to secure the future of the company. So in closing, on Page 18, we're happy with what we've been able to achieve over the last two years, not only the business results, some of which are highlighted here on the page, but also continuing to serve our customers, clients and communities, and importantly, executing on our strategic priorities.", "As we look ahead, we will continue to invest and innovate to build and strengthen this franchise for the long term. And while there may be headwinds in the near term as we continue to work through the consequences of the pandemic, we've never felt better about the company and our position in this very competitive dynamic landscape. So with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] And our first question is coming from the line of Erika Najarian from UBS. Please proceed." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning. Jeremy, my first question is for you, and it's on Page 16, and it's a two-part question on this guidance. The first is, could you help us size the timing and magnitude of deposit beta that you presume in this $50 billion number, as well as the size of securities deployment? And the second part to that question is, clearly, we're missing that white box, right, in terms of CIB markets' contribution. And if you could give us sort of rails to think about CIB markets in light of your comments about more modest normalization versus the idea that this business is naturally liability sensitive?" ] }, { "name": "Jeremy Barnum", "speech": [ "Right. OK. So three questions in there. Let me take them one at a time.", "So beta. At the end of the day, the reprice experience is going to be a function of the competitive environment. But for the purposes of working through the guidance, I can tell you that we're assuming that this hiking cycle is going to be generally similar to the prior hiking cycle, all else equal. The environment is a little bit different in some important respects.", "So I think, the system this time around is flushed with deposits, is flushed with liquidity in a way that it wasn't before. So that could, at the margin, make the reprice a little bit slower. On the other hand, the competitive environment is different, especially with some of the neo bank entrants, and that could go in the other direction. So it will be what it will be.", "But for the purposes of the guidance, we're assuming a reprice experience that's similar to what we experienced in the prior cycle. In terms of deployment, obviously, deployment is going to be a situational decision. But if you're looking at the $4 billion bar on Page 16, securities deployment is a modest contributor to that $4 billion number. The bulk of it is the loan growth narrative, particularly in card.", "And then, in terms of markets NII, the whole point of not guiding explicitly to markets NII is to avoid getting distracted by the noise there, which can come from a lot of really kind of irrelevant places, like interest rate hikes in Brazil and cash versus futures positions, which is the example I'd like to give. But big picture, if you need something for your model or whatever, there's a couple of things we could suggest. So if you look at the supplement, we've actually been disclosing the markets NII number for some time in the supplement. So you actually have a pretty decent time series of that number over time.", "If you regress that thing against the Fed funds rate, you'll actually see that there's a pretty clear negative correlation there. And so, you can draw some conclusions from that. But I just will point out that like in any given moment, relatively small changes to the mix of the markets balance sheet can really change the NII quite significantly, even in an environment of no policy rate changes. So it's sort of like a health warning against putting too much emphasis on that projection." ] }, { "name": "Erika Najarian", "speech": [ "Very clear. Thank you. My second compound question is on capital, if you could give us an update. I know that January 1 is the adoption for SA-CCR.", "If you could give us an estimate on the impact to CET1? And just to clarify, that 17% medium-term ROTCE does take into account that your G-SIB surcharge is 4.5%?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So let me do the second one first. So in short, yes. So as I said in the script, we are not assuming any recalibration in that 17% target.", "So that does mean 4.5% G-SIB in the equity component of that number. In terms of SA-CCR, the impact of SA-CCR adoption was about $40 million of standardized RWA. So I think, if you do the math, that's like 10 basis points of CET1." ] }, { "name": "Erika Najarian", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from John McDonald from Autonomous Research. Please proceed." ] }, { "name": "John McDonald", "speech": [ "Hey, Jeremy, I want to follow up on that. Maybe a broader discussion on how you're managing the capital constraints, these SLRs and the rising G-SIB. And what does it mean for balancing share buybacks, which, obviously, reduced this quarter, preferred issuance and other levers that you have?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So as you know, John, in terms of share buybacks, that's at the bottom of our capital stack. So to the extent that we're seeing robust loan growth, other opportunities to invest in the business, as well as potential M&A opportunities, those are all going to come ahead of buybacks. And so, I don't want to sort of guide on our buyback plans for next year, which, under SCB, as you know, are really quite flexible as a function of the earnings generation outcomes of the capital build.", "But you can kind of draw your own conclusions in terms of the growth and the minimums that we see in the future, as well as the loan growth, as well as some of the investments that we are making. And frankly, we're kind of happy about that. That's just -- we want the capital to be used that way rather than being used for buybacks." ] }, { "name": "John McDonald", "speech": [ "OK. And then, as the follow-up, maybe compound follow-up. The new CET1 target, or where you expect to kind of run this year, if you could clarify that. And also, any color on the modest normalization of the FICC and equities wallets that you could flush out?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So in terms of the target, I mean, I said previously that 12% was not off the table, and that remains true. Depending on the outcome of the rule side, depending on the Basel 3 end game, depending on all the various components, you can see a world where 12% remains the minimum. But as you can see, and as I said in response to Erika a second ago, the 17% target assumes something closer to 13% as a function of the expected increases in G-SIB and some other factors.", "So we're kind of going to operate in that type of range throughout the year with, obviously, the flexibility that we have. And then, sorry, you also asked about normalization of markets and IB fees. I mean, I would say, if you would asked in the middle of the year, we were talking a little bit about thinking that a reversion to 2019 run rate was a thing that like could happen in theory. The way we feel right now, our central case is, obviously, that we will see some normalization from exceptionally strong performance, both in IB fees and in markets.", "But I think, we're expecting that normalization to be a little bit less, like we are near all the way down to the 2019 levels, partially because the banking pipeline is really very robust. We feel good about the kind of organic growth in equities and some of the share gains there. And then, in fixed income, we've already seen a decent amount of normalization there actually. And as the monetary policy environment evolves next year, that could actually create some tailwinds for that business." ] }, { "name": "John McDonald", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next up, we have Glenn Schorr from Evercore ISI. Please go ahead." ] }, { "name": "Glenn Schorr", "speech": [ "Thank you very much. I wonder if I could ask a little follow-up on the expense side. Slide 17 breaks a lot out. First, I'm curious on -- if I overgeneralize and say, 40% used to call structural comp normalization and a 60% investment -- and thank you, I just saw a further breakout in the bottom of the slide.", "But the question I have is how much of that 60%, the higher volume, the investments, has investments made? In other words, you made 11 either M&A deals or investments over the last like 15 months. How much of that is related to that coming through the P&L? Or straight-up brand-new investments for '22 entering for all those items that you listed below?" ] }, { "name": "Jeremy Barnum", "speech": [ "Right. OK. I think, I get your question, Glenn. So number one, to the extent that we've done some M&A over the last 15 months, as you allude to, and that that has introduced some expenses into the run rate, the run rate impact of that is in the $3.5 billion.", "It's a relatively modest contribution. On the top of my head, I want to say it's probably like $300 million or something like that. So it could be a little bit more, depending on some factors. So that's one point.", "The other point is that there are different types of investments here. So if you look at, for example, the change in the marketing expense and the marketing investments that come through marketing expense in card, a lot of the decisioning of that actually happened as part of the reopening in the middle of the year. So that's actually already in the run rate. Whereas, other aspects of the investment agenda are, obviously, thinks that we're executing now, expanding in places, hiring people, hiring technologists to do things that we need to do.", "So hopefully, that answers your question." ] }, { "name": "Glenn Schorr", "speech": [ "Thanks. And maybe if I could just ask a very general question. I think, people get normalizing capital markets and a higher investment spend, then that adds up to falling short of the 17%, over time, target. The question -- the simple question I have is the fact that you've mentioned multiyear shortfall, is that a function of timing of NII going full run rate with the timing of capital markets, sort of, and the higher generator, as you just answered with John's question?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, your line is breaking up a tiny bit, but I think I basically hear your question. And I think, the simple answer is yes. So in other words, we're sort of saying that as we -- as the environment continues to normalize in a variety of ways, so that includes policy rate normalization, rate curve normalization, as well as run rate normalization and markets revenues, with the sort of some background expectation of growth in our markets and investment banking revenues. With the background expectation of growth, and when all of that plays out and is finished playing out, we believe we should be back to 17%, all else equal.", "So the -- you can kind of see -- it's not that long, if you know what I mean, in terms of like what the current forwards imply about when you get back to a sort of more normalized policy rate environment." ] }, { "name": "Jamie Dimon", "speech": [ "Glenn, I would just like to add, we don't really know about 2023. And I'd be very cautious in that, plus I expect more interest rates increases than is in the implied curve. And obviously, the world is very competitive. I also want to point out that a 17% return on tangible equity, if we can get that for the rest of our lives, would be exceptional.", "So reconfirming that that's kind of what we think we can do is pretty good. By the way, I would say 15% on tangible equity for the rest of my life, if I can guarantee that." ] }, { "name": "Operator", "speech": [ "Next up is a question from Ken Usdin from Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Thanks. Good morning. I wanted to ask you just a couple of more questions on loans. You mentioned that you're starting to see some better activity.", "I wanted to just ask if you can kind of just flesh out what you're seeing across corporate lending, commercial lending, noticing that the wholesale-related commitments were actually down 3% sequentially. So can you kind of just talk us through what clients are saying and doing? And just how strong can that rebound on the corporate and commercial side could we see as we go forward?" ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. Yes. So in terms of C&I loan growth, as I said in the script, we are seeing an uptick in revolver utilization rates, especially in the commercial bank. And it remains sort of skewed to the smaller clients.", "But we are starting to see an uptick in that, actually, even in the bigger clients. So that's, I guess, an encouraging sign. One of the things I've heard from the folks who run those businesses is that one driver of that is CEOs and management teams, who've been burned by low inventory levels as a result of the supply chain problems, wanting to run higher inventories. And that is maybe driving higher utilization there which, as a result, while it would, I guess, theoretically be a relatively permanent increase in utilization, it is not a thing that you can sort of project forward in terms of compounding the growth.", "But at the same time, we're also hearing really quite a bit of confidence in the C-suites and, all else equal, that should be positive for C&I loan growth. But clearly, the levels there are modest still in a world where capital markets have been exceptionally receptive to investment-grade issuance, in particular, and more recently, the high-yield issuance throughout the sort of pandemic period. And so, people are well funded from capital markets issuance." ] }, { "name": "Ken Usdin", "speech": [ "OK. Second question is just on fees. There are a couple of zigs and zags in mortgage banking, securities servicing, which were both down a little bit more than expected, and card did get a little bit better. Can you just kind of give us a little bit of color on the drivers of each of those, please? Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So there's a lot of stuff in there. So let me do mortgage and cards. So in mortgage, you'll see that if you sort of try to do a margin calculation by taking the production revenue and dividing it and so on, you do see an apparently significant drop in margin there.", "So there's a few drivers of that. One is the margins were actually slightly elevated in the prior quarter as a result of the timing of the flow-through of the loan-specific pricing adjustments. So that's one factor. In addition, you actually -- we did -- despite the fact that it was an exceptionally strong overall quarter of originations and for funded loans, as we started to see higher rates toward the end of the quarter, we did see the dynamic that you would expect in terms of drop in saleable new lock volume and so on.", "So that's a little bit of a factor. And then, there's the sort of the normal organic dynamics, where you tend to see margin compression in mortgage, with rates selling off a little bit. So you have a bunch of factors driving a slightly lower number there, but the overall mortgage environment is quite healthy. And though, obviously, with higher rates, we expect things to be weaker next year.", "We are still predicting a $3 trillion mortgage market next year, which, by historical standards, is very robust. So that's that part. And then, in card, I imagine that you're looking at the card income line, where we had a significant drop last quarter. And this quarter, the number is also sort of relatively depressed relative to what we had two quarters ago when it was quite high.", "So you'll remember that for card income, we had a sort of one-off item last quarter depressing the number. This quarter, we have another sort of one-off-ish type item, which is the impact of the Southwest co-brand renegotiation, which is public. So that's contributing to the card income line and to the revenue rate a little bit. But it's important to note that in the background of all this is the impact of the customer acquisition amortization account for revenue expense, which, as you know, amortizes over 12 months.", "And so, as I mentioned earlier, as part of the big sort of increase in customer engagement, as part of the reopening in the middle of the year, we ramped that up quite significantly to 100,000-point offers in the market and stuff like that. And so, that's coming through the numbers. So as a result, when you look at the sort of full year revenue rate for card of around 10%, we actually see that as a reasonable central case for next year with the sort of elevated marketing and customer acquisition amortization being offset, obviously, by expected growth in NII with the revolve narrative that we've laid out. Next question, yeah." ] }, { "name": "Operator", "speech": [ "Sir, that question is from Jim Mitchell coming from Seaport Research." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Just -- you guys are doubling the investment spend, so clearly seeing success in the prior efforts. So can you just give us a little bit big picture discussion on what you're seeing from a return on investment standpoint and what time frame? Because I think, you kind of alluded to 2023 still being a little bit subpar in return. So does that mean the payback is a little longer, and you still expect significant growth in investment spend in '23?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So I mean, at some level, the question that you're asking is this perennial question of how can we be sure that the investments that we're making are paying back and on what time line and how do we measure that? And it's interesting. We were just talking about card marketing. I think of that as a continuum.", "You have continuum of investments that start with card marketing, where every dollar that we put into a card marketing investment is part of a very sophisticated, extremely data-driven, highly measurable set of decisioning to ensure that all of those are accretive and when we have sort of measurable outcomes in the short term. So there's a lot of science there, and it's pretty precise, and you get feedback pretty quickly. At the other end of the continuum is tech modernization type stuff, which is a big part of the theme right now. And those things are things that are just we, obviously, need to do them.", "If we don't do them, we'll be clunky and inefficient and hamstrung in the future when we're trying to compete. And it's impossible to prove in some narrow financial sense that there is a tangible return payback from that, but we know that they're absolutely mandatory. So when we think a little bit about the revenue outlook in our kind of normalized run rate, we are certainly assuming that many of the investments that we're making now and that we've made over the last couple of years will produce the revenues that we expect in that time horizon. But a lot of what we are doing is not of that nature.", "And in some sense, those are actually the most important investments because they're the hardest decisions to make." ] }, { "name": "Jamie Dimon", "speech": [ "And some are very basic. Opening 400 branches, $800 million a year, obviously, the payback comes over time. Adding thousands of sales people kind of know pretty much what the payback is, but obviously, it comes over time. And so, it's a whole mix.", "And just think about it is, expenses, you should expect to go up a little bit in 2023." ] }, { "name": "Jim Mitchell", "speech": [ "All right. That's helpful. And then, just a follow-up on -- just on the NII. I think, futures markets are now pricing in the four hikes.", "I think, you have three in your assumptions. If we do get a four hikes starting in March, is that a material change to the NII outlook for this year in your models?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So if you look at the bottom left-hand side of Page 16, Footnote 3, an extremely small print, you will note that the implied curve that we use is from January 5. So you can take that curve and whatever the current curve is and use the table on the bottom right and add a long list of caveats that I won't give you and draw your own conclusions. But I mean, it should be a modest increase, modest additional tailwind.", "Very modest." ] }, { "name": "Jim Mitchell", "speech": [ "OK, thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "While we wait for the next question, I said something inaccurate before. I realized I wasn't that confident when I said it. The $40 billion standardized RWA increase in SA-CCR, if you do the math, is obviously, not 10 basis points of CET1. It's 30 basis points of CET1.", "So correction coming through there." ] }, { "name": "Operator", "speech": [ "Next, we have a question from Betsy Graseck from Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Good morning." ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "OK. So a couple of questions. First, on the NII outlook, could you give us a sense as to what's embedded in that with regard to your thoughts on how balance sheet shrinkage at the Fed, right, the QT is going to impact the liquidity pool? And then, how much of that liquidity pool you currently are assuming is going to get redeployed into the more duration in your forward look?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So I mean, I forgot exactly what the market is assuming about the start of QT at this point, QT2 as they're now calling it. But from us, and I looked closely, there was expected to be a pretty long lag between sort of the end of the hiking cycle and the beginning of QT2. Maybe people are now starting to accelerate that.", "But in any case, the important point is that as a result of the acceleration of tapering, the amount of balance sheet growth is ending pretty quickly. And therefore, the impact on systemwide deposit growth should be quite modest this year. And that is -- and our assumptions are consistent with that. In other words, we're not assuming lots of deposit growth next year because, ultimately, that's going to be primarily as a function of the Fed balance sheet size.", "But obviously, we are still assuming modest growth rather than reduction as a function of QT, if you know what I'm saying. And so then, in terms of deployment, you can see in the supplement that we already did some deployment this quarter. It was primarily in the front of the curve. So we're still being quite cautious about really buying duration.", "But -- and if you look at, again, Page 16, you notice that we call out securities deployment as a modest driver of that $4 billion increase that's tied as balance sheet growth and mix. So it's reasonable to assume that we might be -- we might do a little bit of duration buying if the rate curve develops as the forwards predict, but it shouldn't be too dramatic." ] }, { "name": "Betsy Graseck", "speech": [ "OK, thanks. And then, my second question is just on the investments, the $3.5 billion that you've got incremental here. And I assume that this is built up bottoms up from business unit leaders' requests to do everything that you mentioned in the call. And my question here is what percentage, roughly, like just got numbers, but what percentage are you giving them this year? In other words, if they ask for seven, you're giving them 3.5%, and we should expect another uptick materially in 2023? I know, Jamie, you mentioned 77% is a run rate that we should grow from next year.", "But I'm kind of asking a slightly different question, which is how much of what they need are you giving them this year? And a subset question is, at what point -- does this fully fund your ability to get into the cloud for U.S. consumer?" ] }, { "name": "Jamie Dimon", "speech": [ "OK. How do you answer that question? We do not sit at the table and tell people you can only do x. We sit at a table and ask people what do you want to do? So think of it, it's 100% within our capability because some things you just simply can't do. You can't attack 14 funds at the same time or something like that.", "And the -- that's number one. So we want to make those kind of investments. Each one goes through kind of rigorous process as is necessary. Some of them are table stakes.", "I do remember sitting around the table one day and people talking about digital account opening and do NPV. I was like just don't do an NPV. Just get it done. That's just serving your client properly and stuff like that.", "And so -- and like as I said, a lot of you -- I mean, Jeremy mentioned it's 400 branch in the United States. It's 13 sites overseas. It's more countries, more products. It's all the things we should be doing that you would want to do if you owned 100% of the company.", "So it may not be what you do if you have to meet NII next quarter of X, Y or Z or something like that. And the second part of your question, it wasn't that, it was the consumer digital and stuff like that. We're not going to start giving you real numbers and all that, but that is a march. That's a journey, and it's hard.", "And we want to get there as soon as possible. Pieces and pockets have already gotten there. So certain applications and certain datasets are already running on the private cloud, somewhere in the public cloud, some parts of the company ahead of other parts of the companies, that's a lot of work. And there is -- you guys have pointed a little bit call it bubbles expression there.", "We're not going to disclose that either, because then we just got a doctor closing 84 other bubble expenses. Those are our responsibility. And to the extent we have opportunities to do more, we will do more. We have extraordinary capability.", "And I think, I just also want to point out, Jeremy, you mentioned the assumptions around capital. I mean, SLR, G-SIFI, and most of the other -- should be recalibrated, OK? Even the regulars say these things should be recalibrated for the global side, the global economy. If you put capital against treasuries and capital Fed deposits and let's see what happens. So on that, we're kind of conservative.", "We're not going to be expecting a lot of relief. But even some of the folks yesterday we mentioned that were being questioned prospects were being questioned about SLR, acknowledge that there are issues around SLR that are not good for the markets." ] }, { "name": "Jeremy Barnum", "speech": [ "And Betsy, the only thing I want to add to that, which I was going to basically say the same thing, this whole like ask for 10 and hope to get five. I mean, we would -- we aim to manage the company much better than that. So I certainly don't have that type of authority. That's not the way it works.", "And I think, the important point is that what actually happens is a ton of scrutiny of the investment agenda two or three levels down in the organization with a lot of discipline there. So that's where the conversations happen about whether this makes sense to you now, whether it's through our priority now, whether we have the capacity to do it, whether -- in the case of where the returns are measurable, where it's producing the right returns. And that's really part of how we operate the company and part of the discipline of the day to day." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, I'd like to give you another example. If we can spend $2 billion more and get to the cloud tomorrow, I would do that in a second. All right." ] }, { "name": "Betsy Graseck", "speech": [ "But this step function that we see this year -- I mean, given the pace of competition and the impact of everything that's going on, it's possible we could see this type of step function again." ] }, { "name": "Jamie Dimon", "speech": [ "It's possible. But if it happens, it will be for a good reason. And I've read about the competition. There's global competition, there's nonbank competitions, direct fiber lending competition.", "There's change street competition, there's pseudo competition, there's fintech competition, there's PayPal competition. There's it's a lot of competition, and we intend to win. And sometimes you guys spend a few bucks." ] }, { "name": "Betsy Graseck", "speech": [ "OK. I got it. Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "And I want to emphasize, too, embedded upon that, as we've always said, we are going to -- we want to be very, very competitive and pay. There's a $1 billion in merit increase. There's a lot more compensation for our top bankers and traders and managers who actually say, by the way, did an extraordinary job in the last couple of years delivering this stuff. And we will be competitive and pay.", "And if that squeezes margin a little bit for shareholders, so be it." ] }, { "name": "Operator", "speech": [ "And next up, we have Steve Chubak from Wolfe Research." ] }, { "name": "Steve Chubak", "speech": [ "Hey, good morning. So I want to start off with a question on capital. Cause highlighted in his swan song speech, the potential for Basel 4 implementation, increasing capital requirements as much as 20% for select banks. While we haven't seen a formal proposal from the Fed, I was just hoping you could provide just some preliminary thoughts how you're handicapping the risk of higher RWA inflation ahead of Basel 4 adoption? And to what extent is that contemplated in the updated ROTCE guidance?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So Steve --" ] }, { "name": "Jamie Dimon", "speech": [ "Don't give too much. Is it --" ] }, { "name": "Jeremy Barnum", "speech": [ "No, no." ] }, { "name": "Jamie Dimon", "speech": [ "They were like 18 different things to it." ] }, { "name": "Jeremy Barnum", "speech": [ "No, it's fine. This is fine. It's a very reasonable question. So OK.", "So here you go. So when you look at the current state of the so-called Basel 3 endgame or Basel 4 proposals, and you look at the RWA components of them in isolation, you've got the change in the credit conversion factors, which, all else equal, is a tailwind. You've got the fundamental review of the trading book, which is quite complicated and it's going to depend on institution by institution, but it's potentially, for some folks, a headwind. And then, you've got the introduction of operational risk capital into standardized RWA.", "And if you look at sort of central case estimates of all those things in a simple way, you will conclude that there's a bunch of RWA inflation. But a couple of things. First, this all takes place in the context of the global regulatory community, or at least, in the U.S., saying that the system has enough capital. And it doesn't actually need more capital.", "And it's important to realize, which --" ] }, { "name": "Jamie Dimon", "speech": [ "By the way, anyone does any real analysis at all would come to that conclusion." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, so -- and so it is important to realize, Steve, that as you know, obviously, there are additional tools. So the most important one of which is how the standardized output floors interact with the introduction of operational risk capital into standardized RWA. And then, in turn, how that interacts potentially with the Collins floor, as well as more generally the fact that there are opportunities to tweak, potential double accounting and the stress capital buffer against FRTB and so on and so forth. So the point of all this is that there are more levers and tools here than just the overall RWA inflation.", "And the way we see the world, we don't expect the Basel 3 endgame, in and of itself, to increase the dollars of capital that we need to carry as a company." ] }, { "name": "Jamie Dimon", "speech": [ "And you were conservative in saying it's to 4.5% G-SIB." ] }, { "name": "Jeremy Barnum", "speech": [ "Exactly. And we are allowing the G-SIFI increases to flow through to the medium-term ROTCE assumptions." ] }, { "name": "Steve Chubak", "speech": [ "Thanks for clarifying that and for not punting on the topic of Basel 4. Just for my follow-up here, on payment --" ] }, { "name": "Jeremy Barnum", "speech": [ "It's expanded for now. We will very, very aggressively manage those things when we know the actual numbers, like very aggressively manage them." ] }, { "name": "Steve Chubak", "speech": [ "Fair enough, Jamie. You certainly have a track record that supports that. Just for my follow-up on card payment normalization. How are you thinking about the trajectory for card payment rates? And just maybe to speak to your confidence level that we see card payment rates return to pre-pandemic levels, just given the emerging threats from BNPL that you cited and still elevated personal savings rates?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So I still, to be honest, get a little bit confused between payment rates and revolve rates and all these various ratios. But I think, it's a little bit simpler. If you just take a step back, if you look at the revolve rate and you look at the overall level of revolving balances and what we sort of expect for that.", "So there's a few things to note. So the revolve rate, having dropped quite a bit, has more or less stabilized. There's a little bit of a blip in the fourth quarter as a function of holiday spend and maybe some Omicron stuff. But broadly, it's stabilized.", "In the meantime, the growth in overall card loans has now, for several quarters in a row, produced modest growth in revolving card balances. And our central case for next year basically assumes that that trend stays in place. So what's important about that is that we're not assuming some sort of aggressive return of the revolving rate to the pre-pandemic levels. We're simply assuming that it stabilizes and that overall card loan growth, therefore, contributes its fair share of revolving loan growth.", "And so, the kind of central case that we put on the page for the balance sheet contribution to NII growth in 2022 has, very roughly speaking, revolving balances getting back to the pre-pandemic levels by the end of 2022, roughly. And then, sorry, Steve, I think you had another -- was there another part of that question that I forgot?" ] }, { "name": "Steve Chubak", "speech": [ "No, no, that's sufficient. That's perfect." ] }, { "name": "Jeremy Barnum", "speech": [ "OK, great." ] }, { "name": "Steve Chubak", "speech": [ "Thanks so much, Jeremy." ] }, { "name": "Operator", "speech": [ "Next, we have Matt O'Connor from Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. As we think about the 17% medium-term target, can you help frame what you think or what's being assumed on the efficiency ratio? And then, maybe on credit costs as well, please?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So in terms of credit costs, as I said, we're assuming a roughly normal credit environment at that point. So that would mean card charge-off rates back into the sort of low to mid-threes type of thing, as we said, pre-pandemic, we were assuming we would get to, especially as we underwrite some slightly higher loss vintages over time." ] }, { "name": "Jamie Dimon", "speech": [ "And building reserves as the loan books grow." ] }, { "name": "Jeremy Barnum", "speech": [ "Importantly. Yes, exactly. So I mean, I would just broadly describe and consistently with the way we're describing it, which is kind of medium-term guidance in a normalized environment, that the charge-off environment should, in turn, be normal. So that's that.", "And then, you're kind of asking me, I guess, about the overhead ratio a little bit. So personally, I kind of don't love that measure. I think, it's more of an output than an input. And more often than not, it's driven by revenues, not expenses.", "And more often than not, in the short term, the revenue number that's swinging is a function of the rate curve. So essentially, the overhead ratio just becomes a proxy for the Fed funds rate, which makes it not a great management tool for the company. But having said that, in the assumptions that we're using to build up that 17% rate, we do get back to something like a 55% overhead ratio. But as Jamie said before, if that number has to go up to deliver the right returns, in the long term, it will.", "Like we don't consider it to be a constraint." ] }, { "name": "Matt O'Connor", "speech": [ "OK. Then, obviously, the math implies to get back to 55%. You have kind of outside operating leverage for a few years, right? I mean, because I think the efficiency ratio goes the wrong way again in '22 for the couple of years of pretty big operating leverage, right?" ] }, { "name": "Jamie Dimon", "speech": [ "You've got to do your own models, OK?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, I mean, for me, op rate, in a world where there are inflationary pressures, there's a lot of post-pandemic effects in the numbers, and we have some critical investments to make. The notion of operating leverage at the level of the company's overall numbers for me becomes just not terribly meaningful. I'm not criticizing your question. I understand what you're asking, but it's just kind of another way, when you think about it." ] }, { "name": "Matt O'Connor", "speech": [ "OK. And I was just curious, Jamie, you're mentioning -- I still think ready to go up more than expected. Obviously, expectations have moved up quite a bit, and I'm just wondering kind of what's basing that opinion. And it's -- on a high bar, do you think the long end will go up or if it hasn't gone up yet, why will it from here?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, first of all, we prepare for all eventualities here. We're not kind of guessing at one. But the consumer is very strong. And it's all with respect to the fact that people suffering still, on COVID and all that.", "The fact is, despite of Omicron, in spite of supply chains, 2021 was one of the best growth years ever. And 2022, it looks like it either be 3.5% or 4%, which is actually pretty good. The consumer is $2 trillion more in their balance sheet, their home prices are up, asset prices are up, jobs are plentiful, wages are going up, which is good for them. You know what, we are not against that.", "And sharing the wealth a little bit of America's recovery with everybody so the consumer is in really good shape. There's spending. I mean, Jeremy took you through the numbers. 25% more is mainly pre-COVID.", "25% more. And that number drives all the order books for everybody else, whether it's goods and services and, obviously, it's bouncing around between goods and service dollar kind of stuff like that. Businesses equally are in very good shape with care and capability and confidence levels high. What have they seen? They're seeing their order books go up, more cars, more motors, more patios, more home improvements, more homes, more demand.", "We have a shortage of homes in America. So you see the table is set pretty well with -- for the growth -- with obviously, the negative being inflation and how that gets navigated and stuff like that. And so, my view is a pretty good chance there'll be more than four, OK? it could be six or seven. I mean, I grew up in the world where you -- Paul Volcker raised up interest rates, 200 basis points, on a Saturday night.", "And this whole notion that somehow it's going to be sweet and gentle and no one's ever going to be surprised, I think, is a mistake. That does not mean we won't have growth. It does not mean unemployment but more to a good position and stuff like that. And the other fact is it may very well be possible that they're long rates, and I'm a little surprised how low they stayed.", "But the long rates may react more to the actual QE and then QT. And so, one point, the Fed is going to be letting run off $100 billion or whatever number a month they're going to come up with. And then, you may see loan rates react a little bit to that. And particularly, I just said about growth and demand for capital and stuff like that that also tends to drive 10-year bond rates and all that.", "So all things being equal, if you look at the company, and it's very important, we have huge firepower to grow, to expand, to make loans, to extend duration. And you look at capital liquidity, I just want to point out, it's $1.7 trillion -- these numbers I've never seen the bank with them. And you look at percentages, not just gross amounts, $1.7 trillion in cash and marketable securities and $1 trillion of loans, OK? There's $500 million or $600 billion of those cash markets here that could be deployed in higher-yielding assets or loans when -- and if the time comes depending on all these capital constraints and stuff like that, we have to deal with. And those are extraordinary numbers.", "It's $2.5 trillion deposits. And we don't like taking risky deposits. Those are -- they may go down a little bit in QT and all that. But look at how this balance sheet is funded.", "I've never seen a bank balance sheet like that. And that's -- think of that as kind of firepower over time as we navigate through the world. And so, we're in pretty good shape. And if I wish I could own 100% of the company be private." ] }, { "name": "Matt O'Connor", "speech": [ "Can I just sneak in? Based on all that, I was thinking like the expense pressure or increase that we're seeing at J.P. Morgan or expect to see in '22, do you think this is indicative of the broader market. As you talk to leaders outside of banks and they see the pipeline of volumes, do you think there's going to be material surprises on expenses for the broader market?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, I would expect that because it was every CEO was talking about wages and certain inflation and stuff like that. But I just -- I don't want to be, as CEO, don't -- please don't say I'm complaining about wages. I think, wages going up is a good thing for the people who have the wages going up. And businesses simply have to deal with changes in prices.", "So if you -- commodity prices go up and down, mozzarella goes up and down, wages go up and down, the CEOs shouldn't be crybabies about. They just deal with it. The job is to serve your client as best you can with all the other factors out there. And so, I'm not opposed to it.", "But I do think you'll see more people seeing wage pressure, etc., and some have more ability to offset it than others. It hasn't stopped us from doing anything. Zero. None.", "Nada. We're not cutting back in growth plans or bankers or markets or countries because there was some wage inflation." ] }, { "name": "Operator", "speech": [ "Next, we have a question from Ebrahim Poonawala from Bank of America." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Good morning. Just two very quick follow-ups. One, Jeremy, in terms of capital deployment, just talk to us about inorganic growth. And is there any likelihood that you'll look at any larger M&A transactions to use your currency at any point this year? And should we see a slowdown or a let-up in the pace of inorganic fintech investments that you've been on over the last year? If you could address those two." ] }, { "name": "Jeremy Barnum", "speech": [ "So the large transactions, like over billions, unlikely." ] }, { "name": "Jamie Dimon", "speech": [ "But we'll always look. We're always open-minded. We're looking all over the place for things that fit in and stuff like that. And then, the pace of fintech investors, stuff like that that won't change at all." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. For my version of that, which is consistent with Jamie's, is that we continue to be interested in looking at M&A, and we are doing that. Obviously, yeah, very large deals aren't realistic. And the fintech investment part is definitely part of the stuff that we're looking at when we look at deals." ] }, { "name": "Ebrahim Poonawala", "speech": [ "That's helpful. And just double-clicking on something, Jamie, that you mentioned. You've talked about when more square banks leaving the ground open for fintechs over the last few years. Just talk to us, to the extent you can, how are these investments? Clearly, the market is focused on near-term expenses, ROTCE pressures.", "But talk to us, two years or three years fast forward, how do you feel about JPM as the franchise competing with big tech, fintech head to head?" ] }, { "name": "Jamie Dimon", "speech": [ "Great. But it's battle-engaged. I mean, some of these people do a very good job. I think, there are some things we, your bank, should have done, so we should be a little self-critical.", "But we have the capability, the economies of scale and all these things. What we're not going to do is hamstring ourselves to meet an overhead target. That's just not even on the card. So -- and we have assets and strengths.", "Look, the competition is very bright. I mean, they're bobbing and weaving. They're not changing, and they're not static. And I think, sometimes people feel like they're static and they're not static.", "But if we do a good job, like today, on consumer, I'm sure some you saw your Chase customers, free trading, a lot of ATMs. You've got better and better services, more navigation bars, more offers, more travel, more rewards, more -- and you got more of that coming. And we've gotten friendlier on overdraft. We've gotten -- that's just one business.", "That's true for every single business. So if I look at the way they run and compete with J.P. Morgan, that's going be pretty tough competition. Like take Chase U.K., we've been very, very clear that costs us money.", "And a lot of you want payback tomorrow and stuff like that. We'll not disclose those numbers, but we are there for the long run. We're going to be adding products and services and countries for the rest of our lives, OK? So I doubt, over the long run, we'll fail. We may not do -- we may not become the best digital bank in the U.K.", "or somewhere in the short run." ] }, { "name": "Ebrahim Poonawala", "speech": [ "That's helpful. Thank you." ] }, { "name": "Operator", "speech": [ "Next, we have Mike Mayo from Wells Fargo Securities." ] }, { "name": "Mike Mayo", "speech": [ "Hi, Jamie, I hear that you're ready to do an LBO on J.P. Morgan, that you're so confident?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. I think, you would help me raise the equity capital." ] }, { "name": "Mike Mayo", "speech": [ "Well, that's what I'm trying to figure out here with -- your -- it's a little frustrating, this call, because the guidance you've given has given all the bad news without any targets. I mean, you're saying we have to wait two years for the 17% ROTCE despite the booming economy. You're guiding for the second year in a row of negative operating leverage. I get it.", "That's not how you run the company. But $15 billion of investments, that's up one and a half over the last three years. And that $15 billion is enough to capitalize the 11th largest U.S. bank.", "So you gave us that, but you didn't tell us what to expect from all those investments in terms of what specific market share gains are you targeting? What specific revenues do you expect? When do you expect that? Can you put some more meat on the bones here? Because this is -- that $5 billion of investment spend, look, it worked. You gained share. That $10 billion of investment spend, it worked, you gained share. But now, you're going to $15 billion.", "It might not always work so well. So can you, again, put more meat on the bones? The stock is down 5%. The feedback so far is like you're spending the rate hikes for investments over the next 10 years. That's great.", "You're in there for the long term, but a lot of the investors aren't planning to invest for a 10-year horizon." ] }, { "name": "Jamie Dimon", "speech": [ "Michael, I feel your pain and frustration. It is very possible in 2023, we'll have a 17% ROTCE. It depends on how we deploy our capital. It depends on fixed income markets.", "It depends on a bunch of stuff like that. But every -- so -- but the 400 branches that we're building, those things will get the contribution profitability just like we expect. The thousand bankers we're adding in private banking and Chase wealth management, we are pretty sure we'll get to breakeven but just we expect that takes a couple of years. And so yeah, we can't -- we're not going to tell you all of those things.", "And Jeremy mentioned some of the tech stuff is just kind of we have to do it, and there's a little bit of bubble expense in that. There's even a little bit of bubble expense on the new headquarters. And so, we're pretty comfortable we're doing the right things. And we're being a little conservative.", "Like Jeremy, you're talking about the card stuff, the return. Yeah, I told our folks that we're getting our card growth this year, but they were so skeptical. The American consumer is very strong. Our products and services are very good.", "Chase, we call now self-directed investing, has $55 billion. I think, Robinhood has, I think, $80 billion the last time I saw or something like that. We're not sitting here bragging about our product because, I would tell you, it's not good enough yet. But it's got $55 billion without us doing virtually anything and or no marketing and no real stuff like that.", "So there's a lot of stuff coming. The competition, we have to face. Some of these acquisitions we made will contribute to profit, maybe not exactly in 2022. But -- and I mentioned the deployment of the balance sheet.", "We're pretty conservative in deploying the balance sheet. That may not always be true." ] }, { "name": "Mike Mayo", "speech": [ "I'll follow up and then I'll requeue after my follow-up. But as it relates to technology, specifically, Jeremy, you talked about retiring technical debt. And so, that's kind of playing defense, but also on the offensive side. Where are you investing for tech, where you would expect some more revenues? You talked about digital banking in the U.K.", "Are you also going to Brazil? What other countries are you targeting for that?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, I mean, it's funny. I wouldn't actually describe retiring technical debt as playing defense. I mean, I think, that's actually a great example of the whole point of this conversation, which is that retiring technical debt is an easy thing to not do if you're applying defense focused on short-term targets. But if you're playing offense for the long term, it's exactly this type of decision that creates some of the frustration that you're articulating that's critical for the long-term success of the country -- the company.", "So that's -- I mean --" ] }, { "name": "Jamie Dimon", "speech": [ "And Mike, to tell you, so we spent $2 billion on brand-new data centers, OK, which have all the cloud capability you can have in private data centers and stuff like that. We're still running the old data centers. Now we are not going to get involved in every time we talk to you, I'll explain every part of the pancake buildup of expenses going in and expenses going out. But all this stuff going to these new data centers, which is now completely up and running, are on apps.", "Well, some are, but most of the applications that go in have to be cloud eligible. Most of the data that goes in has to be cloud eligible. We're running a whole bunch of major programs, which I don't think we disclosed, on AWS. And we're working with Google and Microsoft to run stuff -- some of the stuff in the cloud because we want to have multiple cloud capabilities.", "And this year, roughly 30%, 40%, 50% of all our apps and all data will be moving to cloud-related type of stuff. This stuff is absolutely totally valuable. I mean, I can't -- if you sat in this room and look at the power of the cloud and big data on risk, fraud, marketing, capabilities, offers, customer satisfaction, do with errors and complaints, prospecting, it's extraordinary. You actually see some of that already in how we manage stuff.", "Like, for example, with all the fraud and all the cyber and all the ransomware, are forced to close down this year. There's a reason for that. It's because we've deployed huge capabilities in those things. So we have to do those things.", "And that's a margin that will be hugely valuable for us. And you'll see some of that benefit, which is why we're comfortable that we'll continue to grow and expand and earn. Like I said, with 17% return on tangible capital. I would take that.", "If I could push a button and give you that for the next 20 years, I would take it. And also, if I did it for the next 20 years, that number would probably be like a big part of the GDP in the United States of America." ] }, { "name": "Mike Mayo", "speech": [ "OK. I'll requeue for my follow-up." ] }, { "name": "Jamie Dimon", "speech": [ "I just want to -- Michael asked a very -- another very good question on market shares. We expect to go up in retail deposit market share, investment market share, private banking market share, fixed income market share, equity market share, investment banking market share, global market share, payments market share and securities services and market share, commercial banking market share, and what did I miss? I'd be surprised if any of them go down. And we're not going to give you the number." ] }, { "name": "Operator", "speech": [ "As per now, we have one last question from Gerard Cassidy from RBC Capital Markets." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, Jeremy, Jamie. Jeremy, I'm trying to figure out what the discussion topic is going to be first quarter of 2023 when we talk about fourth quarter numbers. And I think, it might have more to do with credit than we're hearing about on the call today.", "Can you share with us the underwriting standards that you guys are using compared to what they were at the height of the crisis back in 2020? I'm assuming they're easier today because the economy is stronger. But also, can you compare them to 2019. How does it look today versus what you guys were doing in 2019?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So I think, broadly for the company, there's no really large change in our credit risk appetite, and therefore, in our underwriting standards. I think, I alluded to a little bit -- I alluded a little bit to this earlier, which is there's a subtlety in the card business, where, if you remember, pre-pandemic, we had talked about card charge-off rates being at 3.25% and maybe trending a little bit higher over time as a function of some underwriting of some slightly higher risk vintages, still well within our credit box, still within our overall credit risk appetite, but just a slight shift in the composition of the portfolio there. So that happened back then, and we just didn't see it flow through because of, obviously, the extraordinary dynamics that we've experienced through the pandemic.", "And now, we are exiting the fourth quarter of this year with a card net charge-off rate. And I forget the exact number, it was something like 1.2% or something, so." ] }, { "name": "Jamie Dimon", "speech": [ "Which you'll never see again in your life." ] }, { "name": "Jeremy Barnum", "speech": [ "Obviously, exceptionally low well. So the question then becomes like -- so -- and then I think somewhere in your question, there was also about like when we sort of leaned into the reopening, how did we modify the credit box and the standards? And the answer to that is that we returned it essentially to the pre-pandemic level. So we were, obviously, very confident in light of what we were seeing about what kind of credit condition for." ] }, { "name": "Jamie Dimon", "speech": [ "It got tied little bit, and now it's back to where it was it --" ] }, { "name": "Jeremy Barnum", "speech": [ "Exactly. Exactly." ] }, { "name": "Jamie Dimon", "speech": [ "And none of that was completely material to the results. But yeah, one of the things in Jeremy's will -- we've been over earning on credit for years. And we expect that eventually to normalize. You could argue how fast and what time, but credit card has been a number that you've never seen in our lives.", "Middle market has been lower than ever. Other sales have been lower than ever. Mortgages have been lower than ever. Cards, they're all low.", "Eventually, they're going to normalize. Eventually, they're -- and then we kind of build that in from months. And the other thing is the loan book. And this is very important.", "Your own modeling, just assume as the loan book grows, we will add reserves pretty much proportionate to the growth of loan book. All things being equal. We've got CECL and all this stuff like that. But -- so there's -- that's a flip to the negative, obviously, for next year." ] }, { "name": "Jeremy Barnum", "speech": [ "One item, yeah, and so Gerard, to your point about the fourth quarter of next year, right? I mean, one lens to look at that through is, what do we think the trajectory of normalization of card net charge-offs is through the course of 2022? And I don't want to get into too much specific guidance there, but the numbers that we're putting on the page roughly assume that we get back to that kind of like low threes around the end of 2022 or early '23 in terms of card net charge-offs. So yeah, on the one hand, maybe we'll be talking a lot about the fact that those numbers are going up but they will have actually gone up exactly in line with our expectations." ] }, { "name": "Gerard Cassidy", "speech": [ "Great. And just as a quick follow-up, Jamie, and Jeremy, you talked about the balance sheet, the way it is, today and all that liquidity. And I think, Jamie, you said $500 billion could be put to use. How long will you guys -- will it take you to get to a balance sheet and a mix of business that looks like you would have thought back in 2019 before this whole pandemic started and the balance sheet did what it did?" ] }, { "name": "Jamie Dimon", "speech": [ "I think, we're in a -- I mean, again, some of those outcomes of decisions you make based on client stuff. But the real fact is we got Basel 4, a lot of changes. And when all that happens, we'll give you a little bit better update how we're going to deploy capital and invest the balance sheet and stuff like that. But we're in no rush to reinvest part of that balance sheet.", "We'll be very patient." ] }, { "name": "Operator", "speech": [ "Mike Mayo have another question. Mike, your line is open. Please proceed." ] }, { "name": "Mike Mayo", "speech": [ "Yeah, thank you. Just more detail on the tech spend. And what I asked before was on digital banking, you're going to the U.K. What other countries are you going to? Again, just looking for some more specifics, at least, on digital banking and other tech areas, we expect revenue of pickup, not just -- you mentioned fraud and AML and ransomware and cyber, and that's all -- that's table stakes, as you would say.", "But as far as actually getting revenue growth from your tech investments, and starting off with digital banking, which new markets are you entering?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So on digital banking, we're not going to disclose specific countries that we're going into one." ] }, { "name": "Jamie Dimon", "speech": [ "There's one we're talking about for next year, I think, just one." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, well, I mean, I think, just to validate Mike's question. As you know, we have made this investment in C6 in Brazil. So Brazil, it's not exactly the same. It's not a de novo build by us, but we're there.", "We're engaged. It's a significant investment. And Brazil is like a very interesting country from a consumer banking perspective, and the digital play there is quite interesting. So that's one example.", "And obviously, we're thinking about additional places to go, and we'll let you know when we do it." ] }, { "name": "Mike Mayo", "speech": [ "OK. And the other tech investments where you could expect additional revenues, what would that include? I mean, for example, with your marketing and the degree you're using AI and big data for what kind of improved take rates do you have. Or just again, looking for more specifics where you can provide it." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, I mean, I don't know. I'm personally not a big fan of these types of like anecdotal individual like tech stories. I mean, there's cool stuff, like we're doing some AI-enabled lead optimization stuff in AWM, for example. So I could come up with a list of like 20 things like that.", "But in reality, it's really much more about the embedding of the modernization and the digitization of the whole ecosystem as part of customer engagement and competition and making the company more efficient and all that type of stuff. The examples where it's like, I spent $10 million on x that's technology as opposed to like branch build or banker hiring, as Jamie says, and you can then attach a tangible revenue outcome to that. I'm sure we have some of those examples somewhere. I don't have them with me.", "Maybe we can talk about them next quarter. But I generally think that that sort of gets into a lot of anecdotal stuff that distracts from the big picture." ] }, { "name": "Mike Mayo", "speech": [ "OK. Last one. What is your total tech spend again? I thought I saw it in the deck. How much of that is to run the bank versus change the bank? And then, as it relates to the cloud specifically, what do you expect -- as a bold move to move Chase, the core bank to the cloud, what do you expect that to save once that gets done?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So a couple of things. If you go back to my prepared remarks, so it's like $12-ish billion, a bit more 50-50 run the bank, change the bank. And within the change agenda, half again is kind of modernization-type stuff as opposed to features and products.", "So it gives you a little bit of a --" ] }, { "name": "Jamie Dimon", "speech": [ "And Mike, I'm going to give you one example, which may be a little helpful on this tech platform thing. I think, these numbers are accurate. We did this a while ago. Card runs a mainframe, which is quite good.", "We have one of the most efficient, most economic, 60 million accounts, etc. It's been updated a few years. But it's a mainframe system in the old data center. When it gets modernized, to the cloud, the cost savings by running that and marginalizing it will be $30 million or $40 million a year.", "That isn't the reason we're doing it. The reason we're doing it is once you get that to the cloud that the database is that it uses to feed its risk, marketing, fraud, real-time offers and stuff like that become accessible to enormous app and machine learning. So that you can -- when Mike Mayo is going home on a Friday night, we can offer you -- we know what you like to eat at steakhouse, so you can hear immediately offers, and fraud stuff is 10 times what it is today. And so, that's the real value.", "The value isn't the immediate cost save that you've gone from -- you're saving $30 million running this application a year. I want the $30 million. And the other thing that allows you to do is to augment that mainframe system -- you touch a mainframe system, you've got to be a little careful when you go into it to make some modifications. So like in the old days, you used to modify that mainframe system four times a year.", "Big releases and stuff like that, of course, multiple for multiple reasons. Now you can go in and modernize a little piece of it every week, every day. And so, that's why it's so important to do this. And it's also -- makes it why it's hard to quantify the benefits and the cost." ] }, { "name": "Jeremy Barnum", "speech": [ "But Mike, just a big one example, I guess, from a business that I know you know well. If you look at Teresa's securities services business, it's an interesting example of the way the investment relates to the strategy. So in that business, as you know, historically, winning new mandates, especially on services administration, tended to involve significant correlated large increases in expenses as you had to onboard a lot of fund accountants. And so, that was typically the dynamic there.", "And I think, a lot of the investment that we're making there is to make that business a little bit more scalable in that respect. So that when we win new business, it's a little bit more accretive. So that's kind of an interesting example of is that tech investment that produces more revenue? I mean, I guess. I would describe it as investment that means that when we win the revenue, it's more profitable, for example.", "At the same time, we're also building out some really great capabilities in there in terms of data and stuff like that, which maybe will help us win more mandates." ] }, { "name": "Jamie Dimon", "speech": [ "Like for example, we got to end this call because we've got so many stuff to do. Like just for example, it's an important one, and Teresa stole all the credit for this. We now are using J.P. Morgan's investment banking derivative capability to help clients who use derivatives for custody, to value them and stuff like that.", "A lot of people simply can't do that. And of course, believe it or not, a lot of portfolios now, they're using more and more what you and I called derivatives as part of the portfolio management. That cost us time. It costs money.", "It's on the cloud. It's hugely valuable to Teresa having a competitive advantage. Folks, thank you very much for taking some time with us. Good luck, everybody.", "Yes." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2022-10-14	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt OConnor", "position": "Analyst" }, { "description": "Portales Partners -- Analyst", "name": "Charles Peabody", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's third quarter 2022 earnings call. This call is being recorded. [Operator instructions] At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and Chief Financial Officer Jeremy Barnum.", "Mr. Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you very much. Good morning, everyone. As always, the presentation is available on our website, and please refer to the disclaimer in the back. Starting on Page 1.", "The firm reported net income of $9.7 billion, EPS of $3.12 on revenue of $33.5 billion, and delivered an ROTCE of 18%. The only significant item this quarter was discretionary net investment securities losses in corporate of $959 million as a result of repositioning the portfolio by selling U.S. treasuries and mortgages. Our strong results this quarter reflect the resilience of the franchise in a dynamic environment.", "Touching on a few highlights. We had a record third quarter -- we had record third-quarter revenue in Markets of $6.8 billion, we ranked No. 1 in retail deposit share based on FDIC data, and credit is still healthy with net charge-offs remaining low. On Page 2, we have more detail.", "Revenue of $33.5 billion was up $3.1 billion or 10% year on year. Excluding the net investment securities losses, it was up 13%. NII ex-markets was up $5.7 billion or 51%, driven by higher rates. NIR ex-markets was down $3.2 billion or 24%, largely driven by lower IB fees and the securities losses.", "And markets revenue was up $502 million or 8% year on year. Expenses of $19.2 billion were up $2.1 billion or 12% year on year, driven by higher structural costs and investments. And credit costs of $1.5 billion included net charge-offs of $727 million. The net reserve build of $808 million included a $937 million build in wholesale, reflecting loan growth and updates to the firm's macroeconomic scenarios, partially offset by $150 million release in home lending.", "On the balance sheet and capital on Page 3. We ended the quarter with a CET1 ratio of 12.5%, up 30 basis points versus the prior quarter, which was primarily driven by the benefit of net income less distributions, partially offset by the impact of AOCI. RWA was down approximately $23 billion quarter on quarter, with growth in lending more than offset by continued active balance sheet management and lower market risk RWA. Given our results this quarter, we are well-positioned to meet our CET1 targets of 12.5% in the fourth quarter and 13% in the first quarter of 2023.", "These current targets include a 50 basis point buffer over the growing regulatory requirements, which provides flexibility over the coming quarters. To conclude on capital, with the future increases in our risk-based requirements, SLR will no longer be our binding capital constraint. So we announced the call of $5.4 billion in press this quarter and issued $3.5 billion in sub-debt to rebalance our capital stack. Now let's go to our businesses, starting on Page 4.", "Before I review CCB's performance, let me provide you with an update on the health of U.S. consumers and small businesses based on our data. Nominal spend is still strong across both discretionary and nondiscretionary categories, with combined debit and credit spend up 13% year on year. Cash offers remain elevated across all income segments.", "However, with spending growing faster than income, we are seeing a continued decrease in median deposits year on year, particularly in the lower-income segment. And not surprisingly, small business owners are increasingly focused on the risks and the economic outlook. Now moving to financial results. This quarter, CCB reported net income of $4.3 billion on revenue of $14.3 billion, which was up 14% year on year.", "In consumer and business banking, revenue was up 30% year on year, driven by higher NII on higher rates. Deposits were up 10% year on year and down 1% quarter on quarter. We ranked No. 1 in retail deposit share based on FDIC data, up 60% year on year, making us the fastest-growing among the top 20 banks.", "And we are now No. 1 in L.A., in addition to New York and Chicago, making us top-ranked in the three largest markets. Client investment assets were down 10% year on year, driven by market performance, partially offset by flows, while lending revenue was down 34% year on year on lower production margins and volume. Moving to card and auto.", "Revenue was up 9% year on year, driven by higher card NII, partially offset by lower auto lease income. Card outstandings were up 18%. And while revolving balances were up 15%, driven by strong net new account originations and growth in revolving balances per account, they still remain slightly below pre-pandemic levels. And in auto, originations were $7.5 billion, down 35%, due to lack of vehicle supply and rising rates.", "Expenses of $8 billion were up 11% year on year driven by the investments we're making in technology, travel, marketing, and branches. In terms of actual credit performance this quarter, credit costs were $529 million, reflecting net charge-offs of $679 million, which were up $188 million year on year, largely driven by loan growth in card as well as a reserve release of $150 million in home lending. Card delinquencies remain well below pre-pandemic levels, though we continue to see gradual normalization. Next, to CIB on Page 5.", "CIB reported net income of $3.5 billion on revenue of $11.9 billion. Investment banking revenue of $1.7 billion was down 43% year on year. IB fees were down 47% versus a strong third quarter last year. We maintained our No.", "1 rank with a year-to-date wallet share of 8.1%. In advisory, fees were down 31%, reflecting lower announced activity this year. Underwriting businesses continued to be affected by market volatility, resulting in fees down 40% for debt and down 72% for equity. In terms of the fourth quarter outlook, we expect to be down versus a very strong prior year.", "And while our existing pipeline is healthy, conversion will, of course, depend on market conditions. Funding revenue of $323 million was up 32% versus the prior year, driven by higher NII on loan growth. Moving to Markets. Revenue was $6.8 billion, up 8% year on year.", "Fixed income was up 22%, as elevated volatility drove strong client activity in the macro franchise, partially offset by a less favorable environment in securitized products. Equity markets were down 11% against a record third quarter last year. This quarter saw relative strength in derivatives, lower balances in prime and lower cash revenues on lower block activity. Payments revenue was $2 billion, up 22% year on year.", "Excluding the net impact of equity investments, it was up 41%, and the year-on-year growth was driven by higher rates and growth in fees. Securities services revenue of $1.1 billion was relatively flat year on year. Expenses of $6.6 billion were up 13% year on year, largely driven by compensation. Credit costs were $513 million, driven by a net reserve build of $486 million.", "Moving to commercial banking on Page 6. Commercial banking reported net income of $946 million. Record revenue of $3 billion was up 21% year on year, driven by higher deposit margins, partially offset by lower Investment Banking revenue. Gross investment banking revenue of $761 million was down 43% year on year, driven by reduced capital markets activity.", "Expenses of $1.2 billion were up 14% year on year. Deposits were down 6% year on year and quarter on quarter, primarily driven by attrition of nonoperating balances, while our core operating balances have shown stability as payment volumes continue to be robust. Loans were up 13% year on year and 4% sequentially. C&I loans were up 7% sequentially, reflecting continued strength in originations and revolver utilization.", "CRE loans were up 2% sequentially, driven by lower prepayment activity in commercial-term lending and real estate banking. Finally, credit costs were $618 million, predominantly driven by a net reserve build of $587 million, while net charge-offs remained low. And then to complete our lines of business, AWM on Page 7. The asset and wealth management reported net income of $1.2 billion, with pre-tax margin of 36%.", "For the quarter, revenue of $4.5 billion was up 6% year on year, predominantly driven by deposits and loans on higher margins and balances, largely offset by reductions in management fees linked to this year's market declines. Expenses of $3 billion were up 10% year on year, driven by compensation, including investments in our private banking advisory teams, technology, and asset management initiatives. For the quarter, net long-term inflows were $12 billion across fixed income, equities, and alternatives. AUM of $2.6 trillion and overall client assets of $3.8 trillion were down 13% and 7% year on year, respectively, driven by lower market levels, partially offset by continued net inflows.", "And finally, loans were flat quarter on quarter, while deposits were down 6% sequentially, driven by migration to investments, partially offset by client flows. Turning to corporate on Page 8. Corporate reported a net loss of $294 million. Revenue was a net loss of $302 million compared to a net loss of $1.3 billion last year.", "NII was $792 million, up $1.8 billion year on year, driven by the impact of higher rates. NIR was a loss of $1.1 billion, down $852 million, primarily due to the securities losses I mentioned upfront. And expenses of $305 million were higher by $125 million year on year. Next, the outlook on Page 9.", "Going forward, we will also provide guidance for total firmwide NII. For the fourth quarter, we expect it to be approximately $19 billion, implying full year 2022 NII of approximately $66 billion. And we expect NII ex markets for the fourth quarter to also be about $19 billion, implying that we expect markets NII to be around zero, which brings the full year to about $61.5 billion. While we're not giving 2023 NII guidance today, you will recall that at Investor Day, we talked about a fourth quarter 2022 NII ex-markets run rate of $66 billion, with potential upside for the full year 2023.", "Today's guidance for the fourth quarter of this year implies an approximate run rate of $76 billion. And from this much higher level, we would now expect some modest decline for the full year 2023. In addition, there's quite a bit of uncertainty surrounding the trajectory of key drivers, including rates, deposit reprice and loan growth. So keep both of those things in mind as you update the 2023 estimates in your models.", "Moving to expenses. Our outlook remains unchanged. And as it relates to the card net charge-off rate, we now expect the full-year rate to be approximately 1.5%, below our previous expectations. So to wrap up, we are happy with the strong diversified performance of the quarter as we continue to navigate an environment of elevated uncertainty.", "With that, I will turn it over to Jamie for some additional remarks." ] }, { "name": "Jamie Dimon", "speech": [ "Jeremy, thank you very much. Hello, everybody. I just wanted to give you a little more insight into how we're looking at capital and interest rates a little bit. So capital planning, we're very comfortable with the earnings power of this company, which, you can see, is enormous and the margins and the returns.", "And more importantly than that is we're growing franchise value, I think, all around the firm. And in most areas, we're up in market share, in a few areas, we're not, and of course, that disappoints us. But the earnings power gives us a lot of confidence that we'll get over that 13% in the first quarter. But we always have to keep in mind the volatility and a bunch of other things.", "So we know we have to deal with Basel IV. We don't know when and how this is going to be, and any change in G-SIB such as an uncertainty in back of our mind. AOCI. AOCI was traditionally countercyclical, but this kind of environment is more pro-cyclical.", "So think of this ratio below 100 basis points, that's $4 billion, easily can handle it just in the back of our mind. CECL. CECL already incorporates a percent of what we think the adverse consequences might be. But obviously, if the environment gets worse, we'll have to add to reserves.", "And/or if we change our outlook, meaning that we think the chance of adverse events are higher, we'll change our reserves. Put in the back of your mind that if unemployment goes to 5% or 6%, you're probably talking about $5 billion or $6 billion over the course of a couple of quarters. Again, easy to handle, not a big deal. It just doesn't affect capital a little bit.", "And then RWA management, I mean, I think we're showing that we can easily manage RWA and drive it down in some areas and up in other areas and stuff like that. With that what I would say, a very limited financial effect. And the way you should look at this is we don't tell commercial bank or investment bank don't get new business, don't serve your clients. So we're serving clients that we always do, and you see the loan book growing in a lot of areas, but there are some discretionary things which barely affect us.", "So we're not putting -- conforming mortgage on the balance sheet, whether we originate them or whether correspondents originate the most part. Because it makes very low sense to do that in the balance sheet, and we make other choices. And so we've got a lot of tools to manage it. Obviously, with the capital requirements going up, we're going to find ways to reduce RWA.", "I'm talking about over years strategically, I think without affecting our basic franchises. Interest rates. I think the way to look at it is we're fairly neutral at this point. Interest rates going up or down.", "Jeremy said the $19 billion, please do not annualize that. There are a lot of uncertainties today. And I'm just going to mention a few. We're not worried about them.", "It's not going to change things dramatically, but does change things. What's going to be Q2's effect on deposits? How much deposit migration you're going to have in this new technological environment? And there are pluses and minus from that. And of course, there will lag. There are lags in consumer.", "There can be some lags in treasury services. There can be some lags and commercial banking. So it's just on the back of the mind, we're going to kind of actively manage that. And the other thing I want to point out is that taking investment securities losses for the most part, it could be want to sell our rich securities and replacement chief securities.", "We don't want to be locked into something we think will get worse and not take a chance to buy something that we think will get better. So you might expect to see that taking place now. There may be some securities loss in the future, we can do that. We're not doing -- we can do this to manage interest rate exposure.", "But for the most part, we can do that with swaps to or other things. We just do it the most efficient and effective way. I want the people that manage these portfolios to know that we can sell things we don't want to own and buy things that we do want to own. And other than that, we think it was a very, very good strong quarter across the board.", "And I guess, we'll open for questions now." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Thanks, Jamie. Let's go ahead and open up for questions." ] } ]	[ { "name": "Operator", "speech": [ "And the first question is coming from the line of Ken Usdin from Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "I just wanted to follow up on the NII and the deposit side to Jamie's comments there. Obviously, one of the toughest uncertainties is to understand think about flows and mix and beta. So just starting to see it, it looks like in terms of deposit costs starting to increase. So how do you think about it now in this new environment, where we might go to 4.5, maybe higher in terms of how betas might act over the course of this cycle as compared to any prior cycles and previous thoughts?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Thanks, Ken. So at Investor Day, you'll recall that Jamie said that we expected betas to be low this cycle as they were in the prior cycle, which was a low beta cycle by historical standards. And what we're now seeing, as we see the rate hikes come through and we see the deposit rate paid develop, is that we're seeing realized betas being even lower than the prior cycle, just through the actuals.", "And the question is why is that? And it's, of course, we don't really know, but plausible theories include the speed of the hikes, which probably means that some of this is lagged, but also the fact that the system is more better positioned from a liquidity perspective than in prior cycles. So as we look forward, we know that lags are significant right now. We know that at some point, that will start to come out. Obviously, in wholesale, they come out much faster.", "That's probably starting to happen now. The exact timing of how that develops is going to be very much a function of the competitive environment in the marketplace for deposits, and we'll see how that plays out." ] }, { "name": "Ken Usdin", "speech": [ "Got it. OK. And then just the second follow-up on Jamie's points about like, OK, if things do look worse ahead, looking ahead, you might have to build a little bit more understandable over the next couple of years. Can you just help us understand just where you are in your scenario scenarios built and just today still looks great, tomorrow, there's some more uncertainty.", "So how do we just get to start to understand how quickly and how you get your handle on that magnitude of ACL delta? And how do you think about it versus either, I don't know, pandemic peak or day one CECL? It's very hard for all of us to see this, of course." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. As you know, I think CECL has informed us the bad accounting policy. Honestly, I wouldn't spend too much time on it because it's not a real number. It's a hypothetical probability-based number.", "And the way I'm trying to make it very simple for you. So if you look at the pandemic, we put up $15 billion over two quarters, and then we took it down over three or four after that, OK? And all it did swing all these numbers, and it didn't change that much. I'm trying to give you a number, obviously, this number to be plus or minus several billion. But if unemployment goes to 60%, and that becomes the central kind of case, and then you have possibilities to get better and possibilities gets worse, we would probably add something like $5 billion or $6 billion.", "That probably would happen over two or three quarters. I mean that's as simple I can make it. Right now, what we have -- right now, we already have 8% in these adverse -- in severe adverse case. We can -- if we change that next quarter, that will be part of that $6 billion I'm talking about." ] }, { "name": "Ken Usdin", "speech": [ "Yes. Understood. OK." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Ebrahim Poonawala from Bank of America Merrill Lynch." ] }, { "name": "Ebrahim Poonawala", "speech": [ "I guess just following up, Jamie. So I appreciate CECL and the model-based approach. I think you were quoted in the press talking about the potential for a recession in the next six to nine months. Would appreciate any perspective in terms of are you beginning to see cracks, either be it commercial real estate, consumer where it feels like the economic pain from inflation, higher rates is beginning to filter through to your clients? I would appreciate any insights there." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. I'll take the over him. Thanks. The short answer to that question is just no.", "We just don't see anything that you could realistically describe as a crack in any of our actual credit performance. I made some comments about this in the prepared remarks on the consumer side. But we've done some fairly detailed analysis about different cohorts and early delinquency bucket entry rates and stuff like that. And we do see, in some cases, some tiny increases.", "But generally, in almost all cases, we think that's normalization, and it's even slower than we expect." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. I think I'd say we're in an environment where it's kind of odd, which is very strong consumer spend. You see it in our numbers. You see it in other people's numbers, up 10% prior to last year, up 35% pre-COVID.", "Balance sheets are very good for consumers. Credit card borrowing is normalizing, not getting worse. You might see -- and that's really good. So you go in a recession, you've got a very strong consumer.", "However, it's rather predictable if you look at how they're spending and inflation. So inflation is 10% reduces that by 10%. And that extra cap -- money they have in the checking accounts will deplete probably by sometime midyear next year. And then, of course, you have inflation, higher rates, higher mortgage rates, oil volatility war.", "So those things are out there, and that is not a crack in current numbers. It's quite predictable. It will strain future numbers." ] }, { "name": "Ebrahim Poonawala", "speech": [ "And just tied to that, I think the other thing that investors from the outside worry about is interconnectedness of the systems, be it the U.K. gilts market, LBOs. How much are you worried about that part of the business in terms of having a meaningful impact in terms of a capital shock at some point over the next year, just given all the QT happening around the world?" ] }, { "name": "Jamie Dimon", "speech": [ "I mentioned QT as being one of the uncertainties because it's a very large change in the flow of funds around the world, who are the buyers and sellers of sovereign debt. There's a lot of sovereign debt. But I think if you look at the building alone is a bump, it's not going to change what we do or how we do it. And you're going to see bumps like that because all of the things I already mentioned.", "It's inevitable that you're going to see them. Whether they create systemic risk, I don't know. I have pointed out, it's harder for banks to intermediate in that, and that creates a little bit more fragility in the system. That does not mean that you're going to see a crack of some sort.", "But again, it's almost impossible not to have real volatility based on the fact where I told you. Those are large uncertainties that we know about today and in the future." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Jim Mitchell from Seaport Global Securities." ] }, { "name": "Jim Mitchell", "speech": [ "Jeremy, at the Investor Day, you noted that expense growth in '23 would slow from this year's level and might be slightly higher than consensus expectations at the time. So is that -- now that you get closer to next year, does that still hold? And if the economy does get worse than expected, is there some levers to pull? Or is it just still investing heavily regardless?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Thanks, Jim. So broadly, yes, it still holds. No real change on the outlook.", "Just to remind everyone, at Investor Day, I think the consensus was 79.5 for 2023. We said you were a little low. I think it got revised up to sort of the 80.5 or something like that. And that's still -- that's not -- still roughly in the right ballpark.", "Obviously, we're going through our budget cycle. We're looking at the opportunity side and the environment set for next year. So it's not in stone. But broadly, on the question of investment, and I'm sure Jamie will agree here, that our investment decisions are very much through-the-cycle decisions.", "And so we're not going to tend to change those just because of a sort of difference in the short-term economic environment. Of course, the volume and revenue-related expense can fluctuate as a function of the environment, as you would expect." ] }, { "name": "Jamie Dimon", "speech": [ "Now I would just like to add. Obviously, compensation go up or down dramatically. So you'll have different estimates about investment pacing revenues and markets revenues, and we can't really adjust for your numbers for that. But I just want to point out the other side of this, we're making heavy investments and we have among the best margins in the business.", "I think that's a very good thing." ] }, { "name": "Jim Mitchell", "speech": [ "Right. And maybe on that front, leverage loan, right? Were there any leverage loan write-downs this quarter? And is that -- and how do you -- is that market beginning to clear? Or are there still overhangs?" ] }, { "name": "Jamie Dimon", "speech": [ "There are no real levels of loan write-down this quarter, and that market isn't yet clear. Our share of it is very small. So we're very comfortable." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of John McDonald from Autonomous." ] }, { "name": "John McDonald", "speech": [ "Jeremy, I wanted to ask about your EAR disclosures, what we call your rate sensitivity disclosures. They look a little different than peers. And when we look at the sensitivity to 100 basis points of higher rates beyond the forward curve, it looks like you're liability-sensitive. Can you give us some context of maybe the limitations of that disclosure and how we should put that in context of the assumptions behind it?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Thanks, John. And I'd love to have a very long conversation with you about this, but I'm going to keep it short here. It's really all about lags.", "So as our disclosure says, we do not include the impact of reprice lags in our EAR calculation. So as a result of that, the entire calculation is based on modeled rates paid in the terminal state. As you well know, right now, we're in the middle of some very significant lags, which are affecting the numbers quite a bit and which we expect to persist for some time. So as a result of that, what I would expect in the near term is something quite similar to what we've experienced this year.", "As you know, this year, as rates have gone up, we've revised our NII outlook from 50 at the beginning of the year to now 61.5. So as we look forward in the near term from here, I would expect similar type sensitivities or rate fluctuations given the lag environment that we're in." ] }, { "name": "John McDonald", "speech": [ "And just to follow up on Jamie's comments about not annualizing the fourth quarter, is that where the risks lie to annualize in the fourth quarter? What are some of the puts and takes that you said it might be down a little bit from that fourth quarter annualized?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. I've already mentioned, you have a rapidly changing yield curve deposit migration. Everyone does EAR differently. So one is lag.", "One is we assume deposit migration. Some people don't. We assume -- our ECR is included there, some people don't and all of that. I just think for your models, because of all that kind of stuff, just use a number less than annualized in the 19.", "So instead of 76, use a number like 74. Just keep it as simple as possible, and we don't know. We hope to beat that, but with all the stuff going on, I just -- you just got to be a little cautious and conservative." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Erika Najarian from UBS." ] }, { "name": "Erika Najarian", "speech": [ "I agree with Ebrahim that your presentation this morning was quite crisp and impactful. So I'm going to ask the question that I think has been sort of the key debate to the stock all year. So at Investor Day in May, you mentioned a ROTCE target of 17%, and that was before we found out that the SCB would be higher in June. As we think about your capital build is going faster than expected and you think about the revenue power that shows through in this firm, plus or minus what may happen with CECL, do you think you can achieve 17% ROTCE next year?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. That's obviously a good question. The answer is yes. And one of the things we always look at is normalized ROTCE.", "So we're very honest. We are -- we're not over earning in NII, maybe a little bit because the lags and stuff like that, but not a lot, but we are over earning on credit. Think of credit card. And the 1.5%, we've never seen a number of that low risk.", "We're quite conscious of that. So we don't drag about the 19% this quarter, figure that's going to continue [Inaudible] not. And obviously, we may adjust that 17 a little bit, but it's not a material adjustment. We're going to -- we've got a lot of great, bright people.", "We're going to find a lot of ways to squeeze some of these things down, including like call CCAR is and SCB and liquidate some assets and change business models just a little bit. If you look at our acquisition, for example, they were a non-G-SIFI acquisitions, noncapital, non-G-SIFI, all services and service related. So that's what we're going to do over time, and we're pretty comfortable that we'll get very good returns. So yes, we're quite -- and next year is totally dependent on what happens in [Inaudible].", "But the other thing I would look at, maybe both given this number of other time, is what would we earn in a recession? We would have pretty damn good returns in a recession. I mean, so I feel very good about that." ] }, { "name": "Erika Najarian", "speech": [ "And this is a super micro question as a follow-up for Jeremy. Why would Markets NII be zero next quarter? And should we expect that to be zero next year?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "We're advancing the Markets businesses at the yield curve. So you're earning this in your pain to finance the training book." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, Erika. I mean, basically, as rates go up, the funding cost goes up. And the offsets on the other side, in many cases, work through derivatives or derivatives like instruments, so it goes through NIR. Fundamentally, we believe the Markets business revenue is rate insensitive.", "You can see that history through our disclosures this year. So as you look out to next year with the forward curve implying a much less biased evolution of Fed funds, you shouldn't expect to see as many changes at least from rates. Of course, we can sometimes see somewhat more unpredictable changes from balances, but that should be unbiased one way or the other." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Mike Mayo from Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Jamie, once again, I'm trying to reconcile your actions with your words. You've said publicly, you mentioned the hurricane. You mentioned a recession. You mentioned look out, and there are all sorts of risks.", "I don't think anyone disagrees with that. On the other hand, your reserves to loans are still well below CECL day one. So your actions with the reserving don't seem to reflect your more pessimistic comments about the economy. So how do I reconcile the two?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. So the way to do that is in our CECL -- in our reserves today, there is a significant percentage probability that we put on adverse and severe adverse already. So it's in there already. A lot of people work in the CECL reserves.", "Our economist, Jeremy, a lot of other folks. It's not set by me because I have to think that the odds might be different than other people. And so -- but I conclude as Jeremy saying. But the numbers are very good.", "We have some of that. I'm trying to be very honest about if things get worse, here's what it might will mean for reserves. That may be different because, of course, these calculations change a lot of time. But that will be, Michael, which is another thing, which is CECL, the timing of when something happens is very important.", "So if it happens, if you said a recession is going to happen in the fourth quarter of next year, that would be very different. So it's going to happen in the first quarter of next year." ] }, { "name": "Mike Mayo", "speech": [ "Yes, I just understood it as the lifetime losses on the loans as opposed to that." ] }, { "name": "Jamie Dimon", "speech": [ "It is. But some loans -- yes, some loans have a short life and some loans have a long life." ] }, { "name": "Mike Mayo", "speech": [ "Let's just cut to the chase. So where are you versus three months ago? I mean, is it -- you certainly got headlines with the hurricane comment and all that. And it's -- look, like as you said, you have Fed tightening, QT, tighter capital rules for banks. You have like the trifecta of tightening by the Fed and then you have bars and everything else.", "So I don't think any in the stock market supports your view and about all the risks out there, but are things better or worse or the same as they were three months ago?" ] }, { "name": "Jamie Dimon", "speech": [ "They're roughly the same. We're just getting closer to what you and I might consider bad events. So -- in my hurricane, I've been very consistent, but looking at probabilities and possibilities. There is still, for example, a possibility of a soft land.", "We can debate what we think that percentage of yours might be different than mine, but there's a possibility of a mild recession. Consumers are in very good shape, coming in a very good shape. And there's possibility is something worse, mostly because of the war in Ukraine and oil price and all things like that. Those -- I would not change by possibilities and probabilities this quarter versus last quarter, for me.", "And then lastly is a different point." ] }, { "name": "Mike Mayo", "speech": [ "Yes. Last follow-up. I know your investor cycles. You've always done that.", "You're consistent. But I mean, your headcount increase is probably going to be the highest in the industry. I mean, headcount from 266,000 to 288,000, your CIB, you're adding headcount. I mean you did expect weakness in nine months from now, wouldn't you wait to hire people, maybe get them a little cheaper?" ] }, { "name": "Jamie Dimon", "speech": [ "No." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Betsy Graseck from Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "A couple of questions. One, just on the investment spend. Could you give us a sense as to the areas that you're leaning in the most as we should be thinking about into next year? Because you've obviously done a lot this year with regard to technology advancement, companies that you're buying to enhance your digital capabilities and international expansion, in particular on the consumer side. So just thinking through is this continuation on those themes? Or is there something else we should be looking for?" ] }, { "name": "Jamie Dimon", "speech": [ "Betsy, it's exactly what we showed you at Investor Day, almost no change. So take out that deck, we broke out by business kind of investment. Investment spend in tech is pretty much on track for that." ] }, { "name": "Betsy Graseck", "speech": [ "And the inflation that drives some of that cost structure, you can deal with through just efficiencies elsewhere. Is that fair?" ] }, { "name": "Jamie Dimon", "speech": [ "Believe it or not, that was in the numbers we gave you in May." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And then separately on the bond restructuring that you did this quarter and the comments around, look, we don't need to hold stuff we don't need to hold. We don't want to hold with that. That kind of suggests to me that there'll be more bond restructuring as we go through the next quarter.", "Is there a reason why you didn't clean the whole thing up this quarter?" ] }, { "name": "Jamie Dimon", "speech": [ "No, I think I said we sell rich securities and buy cheap. So if you look at -- if you looked what happened to mortgage spreads, they gapped out. They gapped in, we bought. They gapped out, we sold.", "And that kind of stuff getting to. So you can have different point of views. And I do expect future bond losses going forward. I just don't think that's real earnings.", "So I think if I want our people -- our experts in the investment areas to know, if they really want to sell something, we're going to sell it. We're not going to sit here and lock ourselves into somebody who's gotten very, very rich because we feel like we can't take a bond loss. And remember, it doesn't affect capital. And in fact, when you reinvest it, which we tend to do, we actually have higher earnings going forward." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Glenn Schorr from Evercore ISI." ] }, { "name": "Jamie Dimon", "speech": [ "And let me just add too, like you saw the CLOs gapped out in Europe. I want our people, when they gap out like 300 or 400 basis points, I want them to be willing to buy. They might sell something to do that, but that is a very smart thing to the pen." ] }, { "name": "Glenn Schorr", "speech": [ "OK. So it's Glenn. So look, from time to time, where things happen in the market, we get these losses like [Inaudible] and now this U.K. pension LDI issue.", "So my question for you is, besides that, do you have risk in the derivatives book? And is the situation done? It's more of when you meet with risk committee, are there pockets of leverage that you're considering on these big market moves, whether it be the dollar or rates where we are not thinking of like us? Or do you view the LDI issue as an isolated event?" ] }, { "name": "Jamie Dimon", "speech": [ "I'll mention, and Jeremy, you might have something to add. So the LDI thing is a bump in the road. And I think the Bank of England is also trying to get through this thing without changing the policy about monetary policy and QT. And I was surprised to see how much leverage there was in some of those pension plans.", "And my experience in life has been you have things like what we're going through today, there are going to be other surprises. Someone is going to be offsides. We don't see anything looks systemic, but there is leverage in certain credit portfolio, this leverage for certain companies is leverage. So you're probably going to see some of that.", "I do think you see volatile markets. You already see very low liquidity. So something like the LDI think could cause more issues down the road, if it happens constantly and stuff like that. But so far, it's a bump in the road.", "The banking system itself is extraordinarily strong." ] }, { "name": "Glenn Schorr", "speech": [ "Would the dollar qualify as one of those super strong moves that could put people offsides? And if so, how do you make sure you protect JPMorgan against that?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, we're -- because we're -- we generally -- we do not -- we're not taking them. We owe hedge when it comes to big currencies and stuff like that. But yes, dollar flows, QT, emerging markets hedge funds, yes, that would be a category that might -- something might happen there. It wouldn't be -- it shouldn't be something that's going to affect JPMorgan that much.", "In fact, it usually creates an opportunity for JPMorgan." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, I'm not going to [Inaudible] is traditionally the case that emerging markets struggle, sovereign struggle with the kind of dollar strength that we're experiencing right now, but our emerging market franchise folks have been through these cycles before. So we manage through it." ] }, { "name": "Jamie Dimon", "speech": [ "Just to add to the strength of the franchise, I remember looking back at our emerging markets results by quarter over a decade, it was shocking to me how few quarters and how few countries we ever lost money. We may have had low returns in some quarters, but it was shocking. We made money in Argentina every -- almost every year for the last 20 years. And I think there was one quarter we put up reserves for one of the oil companies and took them down, but it's kind of very -- the stability is striking." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Gerard Cassidy from RBC Capital Markets." ] }, { "name": "Gerard Cassidy", "speech": [ "You guys have been talking about the system liquidity with, Jamie, you referenced QT, also the fragility of the system. Can you share with us what are the metrics you guys are looking at to see if the system does have a problem on liquidity? Just this week, you probably saw that the Swiss National Bank upped its reserve, currency swapped lines to $6.3 billion. So what are some of the things you guys focus in on to see if there's going to be maybe more -- some liquidity issues that could lead to greater problems?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. I mean, Gerard, broadly, if you just look at standard regulatory reporting of LCR ratios in the U.S. banking system, everyone just has very significant surpluses. And of course, we can go into the question of as QT plays through and how that interacts with RPM loan growth, whether that puts some pressure on banking system deposits, but that's starting from a very, very strong position.", "So there's a lot of cushion there for that to come down before you start to have a real challenge from a liquidity perspective." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. We look at everything from the Fed repo, deposit tightening to net issuance of treasury, net issuance of mortgages and treasury volatility and treasury bid-ask spreads and treasury markets and all that. We're looking at all of that. The banking itself is extremely strong, extremely strong.", "It's not -- what you're going to see will not be in the banking. And there may be a bankers outside somewhere, but it will be somewhere else. It will be somewhere else. It might be in credit, it might be in emerging margins.", "It might be in FX, but you're likely to have something like that, you have events like the ones we're talking about." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then in terms of the investment banking and capital markets businesses, can you guys give us any color into pipelines, how they stood at the end of the third quarter? And as you're going into the fourth quarter, what you're seeing in terms of those business lines?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. And I've always pointed out to you all, the pipelines come and go, OK? You've seen that the size, there never had before. So pipeline is not necessarily to see. I would put in your model lower IB revenues next quarter than this quarter based on what we see today.", "Markets, we have no idea. Seasonally, it's generally a low quarter, the fourth quarter, but we don't know this quarter because there's so much activity taking place, and your guess is as good as ours." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Matt O'Connor from Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Can you guys talk about the outlook for loan growth the next few quarters? And besides some of the obvious areas like leverage lending and correspondent mortgage you already talked about, any areas that you're tightening around the edges?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, Matt, let me take your last question first. So in general, no, we underwrite through the cycle. We haven't -- we didn't really loosen our underwriting standards in the moment where everything looked great. And so we don't see any need to tighten now, really a lot of consistency there.", "In terms of the actual loan growth outlook, we have said for this year, obviously, only one quarter left, that we'd have high single digits. No meaningful change in that outlook there, probably a little bit of a headwind as a function of rates, as you mentioned, and some of the RWA optimization in mortgages. As we go into next year, we remain very positive and optimistic about the card story across a range of dimensions, in terms of both outstandings and revolve normalization. But for the rest of the loan growth environment, it's going to be, I think, very dependent, especially in wholesale on the macro situation.", "We know that in recession environments, we tend to see lower loan demand. At the same time, we've got a lot of great initiatives going and client engagement and new clients. So we'll just have to see how that plays out next year." ] }, { "name": "Matt O'Connor", "speech": [ "And I guess when we read headlines about home prices going down in some markets and car prices starting to roll, I mean, why doesn't that drive some tightening in those businesses?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, it has. I mean look at the volumes and mortgage have dropped and cars on the quota have dropped and stuff like that. And that's already in our numbers, and we would expect that to continue that way." ] }, { "name": "Operator", "speech": [ "The last question is coming from the line of Charles Peabody from Portales Partners." ] }, { "name": "Charles Peabody", "speech": [ "Yes. I'm just curious in your guidance on NII where you kind of implied fourth quarter would be peak run rate. Next year, do you factor in any impact from a possible treasury buyback program, which could direct liquidity out of the money market system into the banking system, and therefore, keep your deposit betas lower? Do you think about that at all as a possibility?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. I think -- I don't know if you were listening when I said it before, QT, net issuance in mortgages, net issuance in treasuries globally is going to reduce deposits and create certain forms of volatility and absolutely incorporated that our thinking, including lags, the change in the yield curve, change in spreads and all those things in the numbers we gave you. And that's why we're being trying to be conservative in NII, that while you can annualize the 19 to 76, you have a model, put in 74 and it incorporates all of that." ] }, { "name": "Operator", "speech": [ "At the moment, there are no further questions on the line." ] }, { "name": "Jamie Dimon", "speech": [ "Well, thank you very much, and we'll talk to you all next quarter." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2017-10-12	[ { "description": "Chairman and CEO", "name": "Jamie Dimon", "position": "Executive" }, { "description": "CFO", "name": "Marianne Lake", "position": "Executive" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Sanford Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "RBC -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Nomura Instinet -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Societe Generale -- -- Analyst", "name": "Andrew Lim", "position": "Analyst" }, { "description": "Buckingham Research -- -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Vining Sparks -- -- Analyst", "name": "Marty Mosby", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "-- KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Please stand by. We are about to begin. Good morning, ladies and gentlemen. Welcome to JP Morgan Chase's third-quarter 2017 earnings call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation. Please stand by. At this time, I would like to turn the call over the JP Morgan Chase's Chairman and CEO, Jamie Dimon, and Chief Financial Officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thank you, operator. Good morning, everyone. I'm going to take you through the presentation, which is available on our website. Please refer to the disclaimer at the back of the presentation.", "The third quarter was generally constructive across businesses and asset classes. Underlying business drivers grew broadly and we maintained or gained share in a competitive environment. The US and global economy continue to grow. Clients are active with demands on credit remaining solid, all in all resulting in 7% growth in net income driven by positive operating leverage as revenue rises and expense remains controlled. On an adjusted basis, this is a clear record for a third quarter.", "Of course, against the financial backdrop, I want to acknowledge the recent natural disasters. The impact on effected customers, communities, and employees has been devastating. Supporting them is our priority as they rebuild. I will note that any financial impact is not significant to our results.", "Starting on Page 1, the firm reported net income of $6.7 billion, EPS of $1.76, and return on tangible common equity of 13% on revenue of $26.2 billion. Highlights of the quarter include average core loan growth of 7.5% year-on-year and the FDIC recently released its survey showing that the firm has surpassed the competition and now ranks number one in total US deposits and in deposit growth, driven by strong consumer deposit growth up 9%.", "Client investment assets, credit card sales, and merchant volumes were all up 13% and we continue to rank number one in global ID fees. We had record revenue in the commercial bank and delivered record net income and assets under management in asset and wealth management.", "The credit environment continued to remain benign across products and portfolios. Card charge-offs were fully in line with our expectations and guidance. Outside of card, our charge-off rates remain at historically low levels.", "Turning to Page 2 and some more detail about the third quarter. Revenue of $26.2 billion was up approximately $700 million or 3% year-on-year. Driven by net interest income, up $1.2 billion, reflecting the impact of higher rates and continued loan growth, partially offset by lower markets revenue.", "Adjusted expense of $14.4 billion was flat to last quarter and to last year if you exclude $175 million of one-time items in CCB in the prior year period. Credit costs of $1.5 billion were up about $200 million year-on-year, driven by higher net charge-offs in card. In the quarter, we built card reserves of $300 million primarily due to seasoning of new ventures. And, we saw a wholesale release of over $100 million partly driven by select names in the energy sector and reflecting improvements in portfolio quality in commercial real estate.", "Switching to balance sheets and capital on Page 3. What is most notable on this page is that all of the numbers are basically flat quarter-on-quarter, with the exception of growth and tangible value per share. Our capital generation was fully offset by distributions, reflecting a payout of about 100% for the first time in a long time, in line with our previous capital plan. And, from here, we expect the direction of travel for our CET1 ratio to be lower over time.", "Moving on to Page 4 and consumer and community banking. CCB generated $2.6 billion of net income and an ROE of 19%. We continued to grow core loans up 8% year-on-year, driven by mortgage, up 12%, and business banking, cards, and auto loans and leases were up 7%. Year-on-year, we saw 13% growth in each of client investment assets, card sales, and merchant processing volumes. Nearly half of the growth in investment assets came from net inflows and our deposit margin continued to expand up six basis points this quarter.", "Revenue of $12 billion was up 6% year-on-year. Consumer and business banking revenue was up 15% on higher NII, approximately equally due to margin expansion as well as strong average deposit growth. Mortgage revenue was down 17% on loan spread and production margin compression, as well as lower net servicing revenue driven by the MSR. Underlying that decline, the mortgage business is performing well relative to the market. Our originations are down only 1%, versus the market down an estimated 15% as we gain share in purchase.", "Finishing up on revenue, card commerce solutions and auto revenue was up 7% as higher auto lease income and growth in card loan balances outpaced the continued impact of investments in new account acquisitions. Expect CCSA fourth-quarter revenue to be relatively flat sequentially as higher net interest income will be offset by the anniversary net impact of Sapphire Reserve last year.", "Expense of $6.5 billion was flat year-on-year, or up 3% excluding the one-time items I mentioned. Higher auto lease depreciation and continued underlying business growth were partially offset by lower marketing expense. The overhead ratio was 54% for the quarter as positive operating leverage despite significant investments in the businesses moves us closer to our medium-term target.", "Finally, on credit performance, in terms of net charge-offs, as I said, cards increased in line with expectations and guidance. And in auto, charge-offs included approximately $50 million of a catch-up, reflecting regulatory guidance on the treatment of customer bankruptcies. Excluding this, loss rates in auto was only 41 basis points. In general, it feels like the auto market has plateaued at current levels with inventory incentives, used car prices we saw, all having stabilized over the last few months.", "In terms of credit reserves, I've previously mentioned we built $300 million in card reserves in the quarter as we grow. Although there were no mortgage reserve actions, portfolio quality improvements allowed us to absorb the expected impact of the hurricanes into our current reserves.", "Now turning to Page 5 and the corporate investment bank. CIB reported net income of $2.5 billion on revenue of $8.6 billion and an ROE of 13%. The third quarter of 206 revenue, in both IBCs and markets, benefited from a number of large fee events and higher levels of volatility, creating tough comparisons across the board.", "This quarter in banking, IB revenue of $1.7 billion was strong and relatively flat from last year's record levels. Year to date, we've gained some share and maintained our number one ranking in globally IDBs. We also ranked number one in North America and India. We printed record advisory fees for a third quarter, up 14% on broad strengths across sectors and [inaudible] [00:11:16], particularly in Europe, making up for a smaller wallet in North America.", "Equity underwriting fees were down 21%, however, we ranked number one in wallets, number of deals, and volumes globally for the quarter and for the year to date. The market remains active and the pipeline healthy. In desk underwriting, there was a reasonably high run rate coming into the quarter, and we broadly maintained it. Landing fees slightly down year-on-year and quarter-on-quarter, driven by strong repricing and refinancing activity and high yield bond issuance. We ranked number one in fees year to date and gained share overall and across products.", "Treasury services revenue of $1.1 billion was up 15%, and while higher rates are a driver, we are also seeing positive momentum in organic growth in the business globally as our clients are responding favorably to the investments we've made in our platform and products. Moving on to markets, total revenue was $4.5 billion, down 21% year-on-year against an impressive third quarter of 2016 in a quieter and very competitive environment.", "Fixed income revenue was down 27%, a solid performance given a backdrop of low volatility and tight spreads. At the risk of laboring the point, you may recall that we gained 240 basis points a share in fixed in the third quarter of 2016, which will mean our year-on-year decline will look larger than most.", "Equities revenue was down 4%, but underneath that is a diversification story. Consistent with last quarter, lower flow and exotic derivatives activity were substantially offset by strength in cash and prime, which continues to be a bright spot for us this year.", "Before I move on, the fourth quarter environment so far feels consistent with the second and third, with no obvious catalysts on the horizon for that to change. But, of course, change it could. So, it's worth pointing out that the fourth quarter last year was also a record fourth quarter since the crisis. As such, we expect next quarter's markets revenues to be lower year-on-year.", "Security services of $1 billion was up 10% driven by rates and balances, with average deposits up 15% year-on-year as well as by higher asset-based fees on market levels globally. Finally, expense of $4.8 billion was down 3% year-on-year, driven by lower compensation expense of lower revenues, and the comp to revenue ratio for the quarter was 27%.", "Moving to commercial banking on Page 6. Another excellent quarter in this business, with net income of $881 million with record revenue and an ROE of 17%. Although we recognize that our results are flattened by a benign credit environment, the performance is very strong and broad-based, and is driven by the investments we've been making in the business, the differentiated platform capabilities we can offer our clients, and our commitment to business discipline.", "Revenue grew 15% year-on-year, driven by deposit NII and on higher loan balances, with overall spreads remaining steady. While IB revenue was down some year-on-year, we grew 9% sequentially with particular strengths in middle markets, which is starting to feel like a trend. Expense of $800 million was up 7% on continued investment in the business, focused on technology as well as banker coverage, having added over 200 bankers since the beginning of 2016.", "Since our investment agenda is ongoing, expect fourth quarter expenses to remain at about this level. Loan balances were up 10% year-on-year and 1% quarter-on-quarter. C&I loans were up 8% year-on-year, driven by strengths in expansion markets and specialized industries, but were flat sequentially in line with the industry on flat utilization despite decent flow and stable pipelines.", "Commercial real estate full growth is 13% year-on-year and 2% quarter-on-quarter. Although growth rates are decelerating, we continue to outpace the industry. However, we remain very disciplined in client selection, products, and pricing and are sticking to what we know well.", "Finally, credit costs were a benefit of $47 million, predominantly driven by commercial real estate. Credit performance remains strong with a net charge-off rate of four basis points.", "Leaving the commercial bank and moving on to asset and wealth management on Page 7. Asset and wealth management reported record net income of $674 million with pre-tax margin of 33% and ROE of 29%. Revenue of $3.2 billion was up 6% year-on-year, driven by higher market levels and by strong banking results on higher deposit NII.", "Expense of $2.2 billion was up 2% year-on-year, driven by a combination of higher compensation and higher external fees for which there is an offset in revenue. This quarter, we saw net long-term inflows of $21 billion with positive flows across fixed income, multi-asset, and alternatives, being partially offset by outflows in equity products.", "We also saw net liquidity inflows of $5 billion and continue to increase our global market share. Record AUM of $1.9 trillion and overall client assets of $2.7 trillion were up 10% and 9% respectively year-on-year on higher market levels globally as well as net inflows.", "Deposits were down 6% year-on-year and 4% sequentially, reflecting continued migration from deposit accounts into investment-related assets, and we are retaining the vast majority of these balances. Finally, we had record loan balances up 10% year-on-year, driven by mortgage up 19%.", "Moving to Page 8 and corporate. Corporate pulled in net income of $78 million. Treasury and CIO's results improved year-on-year, primarily due to the benefit of higher rates. You'll remember that last quarter, other corporate included a legal benefit, which is driving the quarter-on-quarter decline you see on the page.", "Finally, turning to Page 9 in the outlook, all of NII expense charge off and loan growth remain broadly in line with previous guidance. To wrap up, this quarter and this year, we continue to consistently deliver for our clients. Our businesses are performing strongly across the board, maintaining or gaining share. Our financial performance clearly demonstrates the power of the platform, the benefits of diversification and of scale, as well as an investment strategy focus on long-term growth and profitability. We remain very well positioned to continue to benefit in a growing global economy.", "Operator, we can open up the line for questions." ] } ]	[ { "name": "Operator", "speech": [ "And our first question comes from the line of Betsy Graseck." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning. Two questions -- one on the revenue list in the consumer and community bank. I know on Slide 4 you highlighted that the 6% up year-on-year is driven by the higher NII and deposit margin expansion. Could you describe a little bit if this is just the start of an improvement in transfer pricing that the consumer banking division is benefiting from? Is there a lag that we should expect would continue to drive up this revenue list over the next several quarters?" ] }, { "name": "Marianne Lake", "speech": [ "Betsy, there's no change in our transfer pricing methodology, or even the way we compute it. It's to do, as you appreciate, with higher rates and the fact that we are in a very disciplined environment at this point on deposit reprice. We would expect to continue to see the margin expand over the course of the next several quarters, but we would also expect to continue to drive higher NII as we're growing our deposits." ] }, { "name": "Betsy Graseck", "speech": [ "Right. But that FTP methodology should continue to drive up deposit margin over the next couple of quarters." ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "Betsy Graseck", "speech": [ "How are you dealing with the Equifax fallout? Does the breach that occurred drive any changes to how you are assessing credit requests that come in? How are you filtering for what you perceive as fraud risk? And, how are you managing the book of outbound credit requests that you're looking for from a proactive perspective on your loan book?" ] }, { "name": "Marianne Lake", "speech": [ "I think the way to think about it -- not to diminish the importance of any individual breach or situation -- is that we are honestly under constant attack in a more general side and from a fraud perspective. While we will always react and learn lessons from every individual situation, this is not the first breach, nor will it be the last breach. As a result, we have been constantly evolving and refining the way we think about fraud prevention, detection, and underwriting. We continue to move to a multi-factor protocol around customer identification. Looking to leverage all of our data to better inform our underwriting decisions.", "The reality is that, as important as it is and as much as each individual breach could impact the overall equation, we have had to evolve over an extended period to the position we're in now. As a direct result of this, there will be specific meaningful changes, but a continuous evolution. Whether we're looking at sending out preapprovals or marketing offers or receiving inbound applications, we are increasingly looking at a number of different data points and facts to be able to identify the customer and understand the application." ] }, { "name": "Jamie Dimon", "speech": [ "And let me -- as part of a breach. So, if your name was taken and we know that -- a Social Security or driver's license -- we can put in a lot of enhanced controls if we do your name specifically. We don't have to rely on those things. We can do some alliance. We can greatly, dramatically increase anti-fraud on your account. We do that and it dramatically diminishes any effect on our customers." ] }, { "name": "Marianne Lake", "speech": [ "The reality, Betsy, is that we've operated over an extended period now on the presumption that, while we happen to know about this breach, there will be others that we don't know about right now or over time. So, we have to be proactive and not reactive. We'll obviously look to learn anything we can, but we continue to evolve so we can use all of the information at our fingertips. As a practical matter, we are not seeing a specific increase in fraud." ] }, { "name": "Betsy Graseck", "speech": [ "As a result, expense impact, loan growth impact, are minimal from your perspective?" ] }, { "name": "Marianne Lake", "speech": [ "Correct. As a result, we're already spending the money we need to spend to keep hopefully ahead of the curve on all of these things. Our operating losses -- I will say, the combination of all of the information that has been compromised over the course of the last several years has put pressure on fraud costs, but nothing incremental from this. So, no -- no impact on expenses or loan growth that would be measurable." ] }, { "name": "Operator", "speech": [ "And our next question comes from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Good morning. I wanted to follow-up to your responses, Marianne, on no pressure on deposit pricing. Especially in light of your deposit growth strengths, especially in the consumer, give us a sense on how repricing trends are today in terms of the consumer wealth management versus wholesale deposits." ] }, { "name": "Marianne Lake", "speech": [ "Apart from the rate hike in June, nothing has really happened much since last quarter. So, the landscape is looking pretty similar. Not because that's surprising. There's been very little to no movement in the repricing of deposit accounts. There have been some incremental movements in certain savings and CDs, but nothing systematic in the consumer space.", "But, that's pretty much as we would have expected with rates at these absolute levels. At some point in time -- that may be a couple or three rate hikes from now -- the dynamics may start to change. We haven't changed our perspectives about what we think the ultimate reprice will look like.", "In asset wealth management, the story on deposit pricing is somewhat similar -- a little bit more movement, but nothing particularly meaningful or dramatic. The story there is very much as expected. At these levels or rates, you are seeing customers start to make choices to move certain deposit balances into investment assets. That's normal migration -- migration that we expected and modeled. We are retaining those balances. We are starting to see some of the dynamics we expected play out. That started happening at the beginning of the year and has continued to progress.", "And in the wholesale space, there is a spectrum as well. I would start with we're firmly on a reprice journey in wholesale no doubt. Depending on where you are in the spectrum, it ranges from the smaller and lower middle market companies where the reprice is modest but present to the higher end where it's reasonably high. Overall, if I step back and say, \"Have we learned something new in this cycle that we didn't know,\" the answer is no, not really. If you look at the first four rate hikes of the previous normalization cycle, the overall cumulative deposit reprice was pretty much the same as it is now.", "So, we continue to believe that the dynamics we've been talking about over the last several years and that we've expected will play out. They may not play out exactly as we have them modeled, but they will ultimately play out that way. We have appropriately conservative reprice assumptions." ] }, { "name": "Erika Najarian", "speech": [ "Got it. You're one of the few firms that have been really talking about anticipating the impact from a fed balance sheet reduction over the next several years. The question I often get from investors is -- obviously, in particular retail, is valuable and not just for the price of it today but on an LCR basis. How would you respond to the question, given the 6% growth in digital in the consumer bank and 12% growth in mobile, does technology help with the stickiness of the consumer deposits? Or, does it potentially aid in the velocity of switching?" ] }, { "name": "Marianne Lake", "speech": [ "At the risk of hedging, it's a bit of both. There have always been two different camps on the reprice theory for consumer. There's been the camp of acute market awareness, floats along, technology enhancements allow movement of money to be easier. Competition for retail deposits and good liquidity is high therefore reprice higher. The counter to that, which has merit and we're seeing to a degree, is customers feel that they're weighing a more balanced scorecard of things when they choose where to keep their deposits. Customer satisfaction, the suite of products and simplicity, the digital and online offerings, as well as the safety, security, and brand all matter. Price is a factor, but not the only one.", "I would say we certainly feel that having a leading digital capability is critical to overall customer franchise and it will, in all likelihood, have an impact on the stickiness of deposits. Customers value that kind of convenience very highly. I would also say one other thing about where we are right now. As you know, as much as you're right about the potential demand for these high liquidity value deposits, there's a lot of excess liquidity in the banking system. Although loan growth is solid, it's solid. So, we aren't seeing a friendly -- albeit, we're very proud of our deposit growth." ] }, { "name": "Operator", "speech": [ "And our next question comes from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Mike Mayo", "speech": [ "Hi. My question on the consumer and community bank is a three-part question. First, what percent of your customers have online bill pay? I'm trying to get back to that stickiness of the deposits." ] }, { "name": "Marianne Lake", "speech": [ "I don't have that off the top of my head, but we can get back to you." ] }, { "name": "Mike Mayo", "speech": [ "Okay, can you give a ballpark? I don't think you've disclosed that before. Is it to the nearest quarter or --" ] }, { "name": "Marianne Lake", "speech": [ "Here's what we'll do. I fear if I give you a ballpark, I'll get it wrong. While we're on the call, we'll get someone to send the details, and let you know." ] }, { "name": "Mike Mayo", "speech": [ "Okay. The second part is the deposit data's been lower. You gave your caveat. But, mobile bank customers are up 12% year-over-year. Why do you still need 5,200 branches? Isn't this a good time to close branches when deposit competition isn't as tough as it might be in the future?" ] }, { "name": "Marianne Lake", "speech": [ "We're doing a bit of all of the above. Branches still matter. 75% of our growth in deposits came from customers who have been using our branches. On average, a customer comes into our branches multiple times in a quarter. I know that all sounds like old news, but it's still current news. The branch distribution network matters. Customer preferences are changing and we not being complacent to that. Underneath the overall 5,000-plus branches, we're continuing to consolidate, close, move, grow, change all of our branches in line with the opportunity in the market that we're in.", "Net for the year will be down about 125 branches. We've closed more than that, consolidated some, and added some. So, we're not being complacent to the consumer preference story, but branches still matter a lot. We're building out all of the other omnichannel pieces, as you know, so that we have a complete offering. If the customer behaviors start changing in a more accelerated fashion, we will respond accordingly." ] }, { "name": "Operator", "speech": [ "And our next question comes from Ken Usdin of Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Hi. Good morning. First, on the loan side, on the yields -- the last quarter held flat and this quarter they're up 16 basis points. Can you help us understand? Was that more just a mechanics of timing of hikes moving through your variable rates? Is there an element of pricing or any other things you can help us understand why we saw that great, nice improvement there?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. Over the two quarters, it's normal. You may recall last quarter there were a couple of things we talked about. First, there was a $75 million one-time interest adjustment in mortgage, which artificially reduced loan yields for the quarter. Secondly, there's a mix in cards similarly. We would normally, in the law of extraordinarily big numbers, expect for a 25-base-point rate hike, that we see about 10-is basis points of improvement in loan yields across the whole portfolio. We didn't see that last quarter. What you'll see in this quarter is the reversal of those factors and the normal benefit of the June rate hike." ] }, { "name": "Ken Usdin", "speech": [ "Got it. With the card build, you took the reserve for card to around 3.3%. I know you had talked about staying below a 3% card wash rate for this year. As we get into next year, you had a medium-term idea of 3-3.25. How are you feeling about that in terms of the seasoning of the card book and loss rates?" ] }, { "name": "Marianne Lake", "speech": [ "As we look at the loss rates for this year, they're coming in as we expected at less than 3%. As we look out to next year, based on what we know today, it's still in that 3-3.25% range, albeit maybe at the higher end of that range. So, it's broadly in line with our expectations. In the consumer space, we move our reserves not in dollar increments. But, the reserve build is about a little less than one-third on the growth and a little more than two-thirds on normalization of rates." ] }, { "name": "Operator", "speech": [ "And our next question comes from Glenn Schorr of Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Maybe it's a little nitty gritty, but you're definitely the person for this. Point to point, the yield curve was about the same. However, throughout the quarter, the curve was much flatter. I'm just curious if that has any dampening effect in any given quarter? And, maybe the better way to ask it is could it have a little bit more of a positive run rate as we go forward?" ] }, { "name": "Marianne Lake", "speech": [ "A couple of things. First, to repeat -- as a macro matter, we're more sensitive to the frontend of rates than to the low end of rates, particularly over any short period of time. Intra-quarter volatility in the 10-year -- while it's not nothing, it's not likely to have a material impact on our run rate. We're clearly, overall, generally flatter on the long end of the curve on average through the year. All other things being equal, we'll have had a dampening pressure on our expectations. It's part of the reason why it went from 4.5 to 4 -- not the only ones -- as we progress through the year.", "But, generally speaking, intra-quarter volatility is not something that would have a meaningful impact on our run rates." ] }, { "name": "Glenn Schorr", "speech": [ "Cool. In terms of the loan growth, I think it's completely normal to see some moderation and you're still doing reasonably better than the industry. I'm curious on the main source of maybe the moderation ticking down a little bit, and then more importantly, is it too soon to ask if any of this talk on tax reform and decent economic data is having a pick-up in the conversations on the loan growth side?" ] }, { "name": "Marianne Lake", "speech": [ "On the first, it is quite important to not look at the average and to decompose it into constituent parts. We talked before about the fact that we use our balance sheet strategically in the CIB, but loan growth is not really a sting there. So, this quarter, we saw no loan growth in CIB, so no big deal. But, it means that that 7.5% core growth for the whole portfolio would have been outside of CIB, closer to 9%. So, we'll start with that.", "Consumer has been pretty consistent. Across the consumer space, where it's jumbo mortgages, the business banking, card, also loans and leases -- they've been growing at reasonably solid and consistent high single-digit territory, or even low double-digit for mortgage, over the last several quarters. At this point, we don't really see anything that is suggesting that that will moderate meaningfully.", "So, the way you're seeing -- and similarly, in asset wealth management on the banking side. Where you're seeing the growth moderate is in commercial and it's in both the C&I loans and the commercial real estate loans. They each have a story. With the C&I loans, for us, the story is about moving from meaningfully outperforming the industry to being more in line with the industry. So, over the course of the last couple of years, as we've added expansion markets, opened new offices, added a couple hundred bankers, developed industry coverage models -- we've been growing meaningfully better than the industry.", "So, you see that even in this quarter in our year-on-year growth at 8%, as compared to the quarter-on-quarter growth although it's flatter. That, to me, is a factor of the fact that in this phase of the cycle our clients have strong balance sheets, a lot of liquidity, have had access to the capital markets, and so CDC top growth is not unlikely to be a level for the foreseeable future.", "With commercial real estate, it's slightly different. We're still outpacing the industry, but we've gone from very strong to strong and we would continue to expect that to slowly moderate. That's a number of things. It's some higher rates. It's actually a lot of competition. It's also about client selectivity, given where we are in the cycle. We are being very cautious about new deals we add to the pipeline and the client selection we have. So, all of those factors weigh into the commercial real estate space.", "Tax reform, fiscal stimulus -- the reality right now, we're all hopeful that tax reform is done for the right reasons and the economy responds accordingly. At this point, it's not front and center in the dialogue we're having with our clients about whether they should or shouldn't do a strategic deal or take an action. It's neither holding up business nor spurring business, but that could change. At this point, I would say it's a factor but not a driving factor. And that could change." ] }, { "name": "Operator", "speech": [ "And our next question comes from Jim Mitchell of Buckingham Research." ] }, { "name": "Jim Mitchell", "speech": [ "Good morning. Just a quick question on the outlook of the net interest margin. Should we still expect some grinding of higher asset yields even without rate hikes? How do we think about that trajectory, assuming we don't get any more rate hikes from here?" ] }, { "name": "Marianne Lake", "speech": [ "We'll just deal with the fourth quarter. The landscape of rate hikes for 2018 is an open question. We would expect loan yields to hold relatively flat, all other things being equal. It's a very competitive environment. We're seeing some pressure in commercial real estate spread. We're seeing generally spread holding up, but I would expect competitive pressures to keep loan yields relatively flat." ] }, { "name": "Jim Mitchell", "speech": [ "This may be on the reserve build outlook. Should we still expect it to track with its growth and keep the reserve ratio similar in cards where we are now? Do you still anticipate some additional building? How do we think about that? If you could size the hurricane impact, that would be great this quarter." ] }, { "name": "Marianne Lake", "speech": [ "At this point, we are at that 3% charge-off rate, rising to 3-3.25 next year and growing. So, you should continue to expect that we'll be adding to reserves. Our outlook for reserve add to next quarter is below this quarter, but we will continue to observe that. With respect to the hurricanes, right now in quarter's results, in the credit lines in mortgage particularly -- and to a much lesser degree in wholesale -- we respectively built $55 million of reserves.", "To contextualize that, we have used our unfortunate experiences of Sandy and Andrew and other natural disasters to calibrate the assumptions we're using. At this point, it's early to be able to say how the losses will actually manifest themselves. It could be that it's lower than that, but that's the central case right now. $50 million in mortgage and just a handful of million in the wholesale space." ] }, { "name": "Operator", "speech": [ "And our next question comes from John McDonald of Berstein." ] }, { "name": "John McDonald", "speech": [ "Good morning. Marianne, could you discuss how you're balancing all of the investments you're doing in IT and business growth with the efficiency mindset that you guys always have? One of the frameworks is, if I look at the three-year simulation you provided in February, a lot of the expense growth needs to happen this year. We have a $2 billion increase in adjusted expense and post 2017 the expense growth looks very modest. Maybe just talk a little bit about the leverage you're using to keep expenses in check as you're doing all of the investments." ] }, { "name": "Marianne Lake", "speech": [ "I'll start with a bit of a philosophical discussion, which is it is our opinion that now -- as much, if not more so than ever -- the investments we're making in technology will effectively breed and deliver the efficiency. To the degree that we are able to find incremental investments or accelerate them, we'll be willing to do that. Our expense numbers, our outlook, have never been targets. That's the mental, philosophical point of view that we would deliver any technology innovation or investment that we could execute well that we think would increase our returns through revenues or efficiency.", "Specifically, when you look at the simulation, this is a point of technicality. In 2018, probably middle of the third quarter, we are expecting that the FDIC fund will reach its level at which the surcharge will be able to be reduced. That's a meaningful positive for us. If you look at the implied growth and expenses from '17 through the medium term, they are larger than implied. But, if we found the opportunity to do more or accelerate more, we would do it and explain it to you. So, we'll come back to that and investigate." ] }, { "name": "John McDonald", "speech": [ "Thanks. You mentioned the card revenue run rate has moved up again and I'd say this quarter you might be able to get to your target by the early half of next year. Is there an upside to that revenue run rate target? Are things coming in better than expected in terms of the moderation of promo rates and things like that? Maybe you could just give a little color there?" ] }, { "name": "Marianne Lake", "speech": [ "When we did some conferences at the end of last year, I think we said we'd expect the revenue rates for the full year this year to be 10.5%, and it will be a little better than that. The revenue rate increase in the quarter speaks to a little bit of spread and a little bit of lower premium. It will go down next quarter because of the fourth quarter effects of the Sapphire's travel credit for an overall -- call it 10.6% for the year.", "But, yeah, we do expect to hit the 11.25% in the first half of next year. We've reached the inception point at the end of the second quarter and into the third quarter where growth is offsetting the impacts of the significant upfront investments in Sapphire Reserves. They will see revenues grow from here." ] }, { "name": "Operator", "speech": [ "And our next question is from Jim Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Good morning. Following up on the commercial banking business, you've obviously had very good momentum there over the last couple of years. You did talk about credit dynamics and moderation in credit growth and a normalization back toward industry trend. Can you just comment a little bit more broadly about some of the initiatives you've had there from a revenue standpoint, whether it be the middle markets initiative, growth in IB, international, and whatnot. Your earnings growth has obviously been very, very strong in this business. It's starting to move the needle a little bit. Can you just give us a bit of color on the opportunity set you see there?" ] }, { "name": "Marianne Lake", "speech": [ "Although we absolutely expect at some point we're going to see normalization of credit, we haven't seen that yet. I want to make that clear. We are appropriately cautious considering everything but we're not seeing any deterioration or any thematic fragility in our portfolio that we're concerned about at this point.", "With respect to the revenue side of the story and the efficiency side, it really is a story of all of the things you've mentioned all coming together at the same time. We have been adding -- we have our expansion markets from the position. We've been adding new markets and opening offices. We've been adding bankers. As you know --" ] }, { "name": "Jamie Dimon", "speech": [ "We're in all 50 --" ] }, { "name": "Marianne Lake", "speech": [ "Yeah, we are in all 50 of our [inaudible] [00:45:40] now. We've been adding bankers. As you know, when you add all of these investments, for a period of time, when they are still in the buildup mode, we don't see that drop to the bottom line. Now, we're starting to see our bankers hit their stride. They've become very productive. The balances are building. And then, I would also say that this is the epicenter of delivering the whole platform to our clients. If you think about what we're able to offer our clients in terms of international capability, banking coverage across industries, core cash, global payments -- we have a platform that is certainly complete and somewhat differentiated.", "And then, I would say it's a buttoned-up business. We have been looking at efficiency, expenses, and really working on making sure that, through the simplification processes we went through in 2013-2015, we are focusing all of our efforts on our core strategic plan. And, it's paying off." ] }, { "name": "Saul Martinez", "speech": [ "That's great. Obviously, the administration and Congress released a blueprint so congress can now start to flesh out a tax plan. Obviously, there's a lot of uncertainty as to the content, timing, or whether it even happens or not. But, if we do see something that is sensible, how quickly do you think we could start to see that feeding through into better sentiment and into increased demand for credit." ] }, { "name": "Marianne Lake", "speech": [ "There are so many uncertainties that it's almost talking about a hypothetical at this point, as encouraged as we are with the ongoing dialogue. My view is sentiment is relatively high. In fact, it's ticked up slightly over the course of the last short while. So, from that vantage point, we're in a position of strength. There will necessarily be some lag, so whether that is a couple of quarters or longer, it's certainly in the foreseeable future that you would hope to be able to see increased demand and confidence leading to action." ] }, { "name": "Operator", "speech": [ "And our next question comes from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. Can you talk a bit about how you're managing the excess liquidity? You've continued to build cash. The securities book as shrunk. It makes sense given the flatter yield curve, but you combine that with the still good deposit trends and the slowing loan growth and a challenge as you think about protecting them going forward. So, maybe talk about the dynamics there and how you think about the yield curve and how to manage it." ] }, { "name": "Marianne Lake", "speech": [ "I thought we'd answered the liquidity question because, while we feel very, very good about our liquidity position and you will have seen in the recent disclosures where everyone is positioned unnecessarily -- even if LCR was the only consideration, people would want to be running a buffer to LCR. But, LCR is not the only consideration. The other most noticeable one I would point out to you would be resolution planning.", "Know that when we have our overall liquidity position, we take into consideration a combination of constraints. What may look excess on one lever may not as excess on another. I would also say that, when we look at the deployment of our H2H, we look at in the context of our target for what we want the duration of the equity for the company to be over the course of the normalization in rates. It's not just about liquidity all throughout that duration, so we're comfortable with our liquidity position. We have a framework for deploying it and thinking about the forward-looking duration of the company.", "That's not to say that we are not opportunistic in taking advantage of moves that are technical in the long end of rates, to either deploy or to un-deploy and we still have some. It's more than just liquidity. It's also duration and we've taken the overall balance sheet and our expectations and targets into consideration, albeit that we still have some dry powder." ] }, { "name": "Jamie Dimon", "speech": [ "And we maximize between loans, securities --" ] }, { "name": "Marianne Lake", "speech": [ "Yeah." ] }, { "name": "Matt O'Connor", "speech": [ "To follow-up on the rate sensitivity, you mentioned before you're more leveraged through the short end of the curve. If we get continued increases on the short end of the curve, but the 10-year doesn't go anywhere, is that still indicative as it's been thus far?" ] }, { "name": "Marianne Lake", "speech": [ "It will be over the short while, and our full expectation, outside of any other stimulation, is that as the front end of rates goes up and gradual unwind happens, you'll be able to see the long end of rates go up, albeit more slowly. It's pretty typical at this point in normalization cycle to have a curve flatten. That's what we're seeing. That's what we would expect. I would expect to continue to see the long end unwind and it should be indicative." ] }, { "name": "Operator", "speech": [ "And our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning. You touched on this a little bit, but maybe you can give us a little bit more color. You mentioned in your opening remarks you increase your market share in investment banking. Are you getting a bigger wallet share or are you winning more customers? Also, some of your competitors are still struggling. Is that also a factor?" ] }, { "name": "Marianne Lake", "speech": [ "I would say it's wallet share. It's blocking and tackling. We did pretty well in Europe. But, there is still a lot of competition. I would say it's less about the specifics of any one competitor because the environment is pretty competitive and about reasonably broad strengths.", "Two things I would point out is that in equity underwriting, similar to in fixed, we gained a couple hundred basis points a share in the third quarter of last year. On an apples to apples basis to where we would normally expect our share to be, we're still doing very well." ] }, { "name": "Jamie Dimon", "speech": [ "I would say the competition is fundamentally fully there. Most of the players roll out there -- some specialize in certain areas, but it's fully competitive. You have new and consumer -- the shiniest banks, etc." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. What's your read on the new Treasury report on changes coming in the capital markets that was released in early October? Any specific items in there that you guys looked at that would be specifically beneficial that you'd like to see changed? What's the probability of it happening? Could it happen sometime next year?" ] }, { "name": "Marianne Lake", "speech": [ "Okay, that was a lot. First of all, we welcome the report and it's a long report -- a couple of hundred pages. There are a lot of recommendations. It's very comprehensive, so kudos to the treasury for delivering it. We are supportive of all those recommendations at large. I think the most important thing to remind you is that this is not about materially changing the legislative landscape. It's about sensibly recalibrating the specifics of individual rules over time.", "We're still digesting the report, but we are supportive. It is very comprehensive and it could be very beneficial to the liquidity index of the capital market, which is what we should all hope for, and not contrast to safety and fairness. In that sense, very supportive and all good. It's going to be complicated and it will take time. But, the will is there. Whether it's the administration or the regulators, there's a general recognition that there's the ability and appetite to want to make rational change. If that helps grow the economy and all of the things that come with that, we're working as constructively as we can on that." ] }, { "name": "Operator", "speech": [ "And our next question comes from Steven Chubak of Nomura Instinet." ] }, { "name": "Steven Chubak", "speech": [ "Jamie, I was hoping you could update us on your efforts to launch your online brokerage offering. It's something you had mentioned in your last letter. It comes up with investors quite often, so how do you view the opportunities in that business for JP -- whether it's an effort to just build a moat around your current client cash balances and maybe fill a void, or is your intention to become a bit more disruptive in the space and actually attract many more customers and potentially even offer more aggressive pricing and terms?" ] }, { "name": "Jamie Dimon", "speech": [ "We're building, and are in beta, platforms. We're creating and investing in things like that. Also, the P2P are doing quite well. We look at all of those things that, from the clients' standpoint, you want to offer the client. At one point, we'll be talking about more testing and what we think might or might not work. Then, we'll give you a more strategic view of that, probably around investor data." ] }, { "name": "Steven Chubak", "speech": [ "Got it. Marianne, I wanted to follow up on some of the discussion around access liquidity management. I appreciate the fact that you guys certainly want to be conservative in thinking about duration and maybe taking a more holistic view of the asset side of the balance sheet. But, looking at the LCR disclosures and given the stark contrast in terms of how much you have parked in the way of excess reserves, and relatively low levels of NBS compared with your peers, how you're thinking about duration management and whether you do have additional capacity to remix some of that cash of the fed into higher yielding NBS, especially as we think about the Fed balance sheet on dynamics." ] }, { "name": "Marianne Lake", "speech": [ "We have a fairly large mortgage loan portfolio in addition to having a large portfolio in our investment securities in NBS. So, we are already reasonably equivalently mixed in terms of our percentage of mortgage exposure to our total accessible loans to the competitive landscape. Trust me when I tell you that you talk about excess liquidity because of LCR and we are thinking about more than just LCR. As I said, while we do maintain a sure position and the cost of being sure is relatively cheap, we don't have the kind of capacity to invest $100 million-plus in NBS right now, or anything that's meaningful like that, to generate higher returns without blowing our duration target." ] }, { "name": "Operator", "speech": [ "And our next question comes from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Good morning. Just a quick question on loan growth. You've had another decent quarter of good growth in residential mortgage. Looking at cross consumer, is there anywhere where you've had to open up the credit box in order to get growth there? I know you mentioned that loan yields are expected to be tight on competition and not increase as much. But, have you had to go down market at all for loan growth?" ] }, { "name": "Marianne Lake", "speech": [ "No, we haven't. As we talked about before, a while ago we made some surgical changes to our credit box in the car space, but that's -- if anything, I would say incredibly granular and incredibly surgically tightening, not the reverse. Whether that's in card, certain microcells, or in auto, I would say we've been pretty conservative and we're probably doing at the very margin a little bit of tightening." ] }, { "name": "Operator", "speech": [ "And our next question comes from Andrew Lim ofSociete Generale." ] }, { "name": "Andrew Lim", "speech": [ "Good morning. Could you talk a bit more about the timing of return of excess capital? Of course, one of your national competitors has given a very detailed strategy of how to do this by the end of 2019. Are you in a situation to adopt a similar strategy?" ] }, { "name": "Marianne Lake", "speech": [ "Congratulations to them if they have a high degree of confidence of what 2018 cards are going to look like. I will tell you this, we said very clearly that we feel that the company should operate with the range of 11-12.5%. We feel like it should be lower in that range. Having a capital plan approved of $19.4 billion of share buybacks over the next four quarters and over 100% payout based on analyst estimates is a thought. Nothing has changed about that objective, but we would want to be measured about the pace at which we do it until we have a bit more final clarity on what the new generation of capital rules will look like. We hopefully will know more as we go into the next cycle of capital planning. We haven't changed our point of view that we should be able to continue that journey down into the range. That would be our objective.", "To tell you that we could give you the roadmap for that today is not accurate. You can and have done your own math. You can look at our earnings outlook in your models and payouts of over 100% and you can see that we can move down in that same timeframe to something much lower than we are now, if not toward the bottom. But, that's not to say that we will be able to do that. We need to go through the cut." ] }, { "name": "Andrew Lim", "speech": [ "Fair enough. Thanks. [Inaudible -- crackling connection] [00:59:55] is high on everybody's minds. I think they once focused on the impact on research, but there are more implications on how that might impact the trading -- not just from your point of view, but also from the point of view of clients who might not be compliant by the end of the year. How does that weigh on your mind and what impacts could we expect there?" ] }, { "name": "Marianne Lake", "speech": [ "I think I got that. The compliance burden and work to be ready is a significant heaviness, not just for us, but all market participants. There is the possibility that, effective at the beginning of the year, there will be ongoing work that needs to get done. We feel like we're really well positioned to defend our position. But, there's no doubt that, over the course of the year and beyond, as people get clearer and clearer on transparency and costs to execute versus advice versus content, that there may be competitive dynamics that change. We feel like we've been building for the last several years to be ready for those dynamics. There could be some bumps. I don't think it's anything that we're concerned about at this point. We'll all learn a little more as we go through 2018." ] }, { "name": "Operator", "speech": [ "And our next question comes from Marty Mosby of Vining Sparks." ] }, { "name": "Marty Mosby", "speech": [ "Thanks. Good morning. About the credit -- you pulled out and highlighted auto after we went through an episode of possible deterioration. You put that together with energy and what we experienced last year. Those are our first two pressure points on the credit cycle. We've come through without any real heartburn from either. Does that tell us something about the de-risking and underwriting discipline that the banks, in particular, have adopted since the financial crisis?" ] }, { "name": "Marianne Lake", "speech": [ "I would say that for sure has to be part of it. Even with the auto situation, you're seeing a marketplace that is much more responsive. While we felt like we got ahead of the issues and tightened early, you see the industry generally moving in that direction. I think there's no doubt that the environment, in totality -- the capital liquidity controls regulation has led to higher quality loan books. We have been pressure tested. Energy was a one-in-a-hundred-year flood. I think the industry, and specifically our portfolio, performed quite well. That's not to say there isn't a point of pain out there somewhere that we don't see. We just feel like we're in a good position to get through that." ] }, { "name": "Marty Mosby", "speech": [ "Flipping over to deposit growth, what we saw is layered deposits and institutional deposits, corporate deposits, and retail deposits. We're starting to see a little bit of a pressure in the sense that institutional deposits and wealth management began to decline. Corporate and retail still show a lot of strength. Just think about that dynamic because that's where you really begin to see pressure on betas -- typically when you pressure on volumes. We just haven't seen it in the core deposit base yet. A premium for liquidity that's been kind of pushed into those core customers from corporate and retail seems to be pretty persistent, which will mean the duration and the length and the growth of deposits will be much longer than we probably anticipated before?" ] }, { "name": "Marianne Lake", "speech": [ "Yes. I will tell you are seeing that rotation start. If you go back even three years ago, we gave you an outline of what we thought would happen. We said we were going to see rotations from the higher wealth segment into investments assets, followed ultimately by the consumer space. We'll see retail deposits move into money funds. We'll see outflows of wholesale loan op deposits as the fed shrinks its balance sheet. But those things are going to pay out over the course of the next -- depending on the rate cut -- two to four years. We've begun to see it. It should be expected. I don't think it tells us anything new or different necessarily at this point." ] }, { "name": "Operator", "speech": [ "And our next question is from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Mike Mayo", "speech": [ "Hi, a follow-up question. Card revenues are tracking well per your other comments, but year-over-year card spend growth has moderated some. Can you talk about the trend with the Sapphire Reserve card?" ] }, { "name": "Marianne Lake", "speech": [ "Our card spend growth at 13% up year-on-year is still very strong. When we say moderated, it's from very strong to very strong. It is in part due to the number of new products we've had. The Sapphire Reserve card spend engagement is very strong. We're very pleased with it. I wouldn't say it's a moderation necessarily. It's just that at these very high levels -- from a slightly higher to very strong is still a great story." ] }, { "name": "Mike Mayo", "speech": [ "And it was such a great deal a year ago. What's the attrition like with the customers?" ] }, { "name": "Marianne Lake", "speech": [ "If you think about our first acquisitions were in August and September, so we're kind of at the early stages. So far, very encouraging. So far, better than our expectations. But, a little early to draw firm conclusions on it, but very encouraging." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Marianne Lake", "speech": [ "Okay. Thank you, everyone.", "..." ] }, { "name": "Operator", "speech": [ "This concludes today's conference call. You may now disconnect." ] } ]
JPM	2021-07-13	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Portales Partners -- Analyst", "name": "Charles Peabody", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's second-quarter 2021 earnings call. [Operator instructions] We will now go live to the presentation. Please stand by.", "At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jeremy Barnum. Mr. Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, operator and good morning, everyone. Before we get going, I'd just like to say how honored I am to be on my first earnings call following the footsteps of Marianne and Jen, both of whom taught me so much during my time working for them, and whose shoes will be very difficult to fill but I'm going to try. So with that, this presentation is available on our website, and please refer to the disclaimer in the back. Starting on Page 1.", "The firm reported net income of $11.9 billion, EPS of $3.78 on revenue of $31.4 billion, and delivered a return on tangible common equity of 23%. These results include $3 billion of credit reserve releases, which I'll cover in more detail shortly. Touching on a few highlights. Combined debit and credit spend was up 45% year on year and more importantly, up 22% versus the more normal pre-COVID second quarter of 2019.", "It was an all-time record for IB fees, up 25% year on year, driven by advisory and debt underwriting. We saw particularly strong growth in AWM, with record long-term flows as well as record revenue. And finally, credit continues to be quite healthy, as evidenced by our exceptionally low net charge-offs across the board. Regarding our balance sheet, the trends from recent quarters have largely continued.", "Deposits are up 23% year on year and 4% sequentially, and loan growth remains low, flat year on year and up 1% quarter on quarter, although we have bright spots in certain pockets and the consumer spend trends are encouraging. So now turning to Page 2 for more detail. As I go through this page, I'm going to provide you some context about the prior-year quarter because the year on year comparisons are a bit noisy. So with respect to revenue, the second quarter of 2020 was an all-time record for markets, with revenue of over $9.7 billion, and we recorded approximately $700 million of gains in our bridge book.", "With that in mind, revenue of $31.4 billion was down $2.4 billion or 7% year on year. Non-interest revenue was down $1.3 billion or 7% due to the prior-year items I just mentioned, partially offset by strong fee generation in investment banking and AWM as well as from card-related fees on higher spend. And net interest income was down $1.1 billion or 8%, driven by lower markets NII and lower balances in card. Expenses of $17.7 billion were up 4% year on year, largely on continued investments.", "And then on credit costs, going back to last year again, you will recall, in last year's second quarter, we built $8.9 billion in credit reserves during the height of the pandemic, whereas this year, we released $3 billion. So in this quarter, credit costs were a net benefit of $2.3 billion. And setting aside the reserve release, it's also worth noting that net charge-offs of just over $700 million were half of last year's second-quarter number and continue to trend near historical lows. On the next page, let's go over the reserves.", "We released $3 billion this quarter as we grow increasingly confident about the economy in light of continued improvement in COVID, especially in the U.S. In consumer, we released $2.6 billion, including $1.8 billion in card and $600 million in home lending. And in Wholesale, we released nearly $450 million. So this leaves us with reserves of $22.6 billion, which, as a result of elevated remaining uncertainty about COVID and the shape of the economic recovery, are higher than would otherwise be implied by our central economic forecasts.", "Now, moving to balance sheet and capital on Page 4. We ended the quarter with a CET1 ratio of 13%, down slightly versus the prior quarter, as net growth in retained earnings was more than offset by higher RWA across both retail and wholesale lending. This quarter also reflects the expiration of the temporary SLR exclusions and, as we anticipated, leverage is now a binding constraint. As you know, we finished CCAR a couple of weeks ago, and our SCB will be 3.2%, which reflects the board's intention to increase the dividend to $1 per share in the third quarter.", "OK. Now, let's go to our businesses, starting with consumer and community banking on Page 5. CCB reported net income of $5.6 billion, including reserve releases of $2.6 billion on revenue of $12.8 billion, up 3% year on year. Of particular note this quarter is the acceleration of card spend.", "And so while card outstandings remain lower than pre-pandemic levels, this quarter's trends make us optimistic. Total debit and credit spend was up 45% year on year, and more importantly, up 22% versus the second quarter of '19. And within that, compared to 2019, June total spend was up 24%, indicating some healthy acceleration throughout the quarter. And travel and entertainment has really turned the corner, with spend flat versus the second quarter of '19, accelerating from down 11% in April to actually up 13% in June.", "The rest of the CCB story remains consistent with prior quarters. consumer and Small Business cash balances remain elevated, resulting in depressed loan growth. Overall loans were down 3% year on year from continued elevated prepayments in mortgage and on lower card outstandings, partially offset by strong growth in auto and the impact of PPP. Home lending and auto continued to have strong originations, with home lending up 64% to $40 billion, the highest quarterly figure since the third quarter of 2013 and auto up 61% to a record $12.4 billion.", "Deposits were up 25% year on year or approximately $200 billion, and client investment assets were up 36% driven by market appreciation and positive net flows across our advisor and digital channels. And our omnichannel strategy continues to deliver. We are more than halfway through our initial market expansion commitment as we have opened more than 200 new branches out of our goal of 400, which have exceeded our expectations by generating $7 billion in deposits and investments. And we are planning to be in all 48 contiguous states by the end of the summer.", "Digital trends continue to be strong as retail mobility recovers at a faster pace than branch transactions, which are still down more than 20% versus 2019. Active mobile users grew 10% year on year to over 42 million, and total digital transactions per engaged customer were up 12%. Expenses of $7.1 billion were up 4% year on year, driven by continued investments and higher volume and revenue-related expenses. Looking forward, the obvious question is the outlook for loan growth, especially in card.", "And we are quite optimistic that the current spend trends will convert into resumption of loan growth through the end of this year and into next. And while we wait, the exceptionally low level of net charge-offs provides a substantial offset to the NII headwind. Next, the corporate and investment bank on Page 6. CIB reported net income of $5 billion and an ROE of 23% on revenue of $13.2 billion.", "IB fees of $3.6 billion were up 25% year on year and up 20% quarter on quarter an all-time record driven by advisory and debt underwriting, leading to a year-to-date global IB wallet share of 9.4% and a No. 1 ranking. In advisory, we were up 52% year on year, benefiting from the surge in announcement activity that has continued into the second quarter. Debt underwriting fees were up 26%, driven by an active acquisition finance market, offset by lower investment-grade issuance.", "And in equity underwriting, fees were up 9%, primarily driven by a strong performance in IPOs. The resulting investment banking revenue of $3.4 billion was roughly flat year on year due to the headwinds of the prior-year's markup in the bridge book. Looking ahead to the third quarter, the pipeline remains very strong. We expect M&A activity and the IPO markets to remain active.", "And while IBCs are likely to be down sequentially, we still expect them to be up year on year. Moving to markets. Total revenue was $6.8 billion, down 30% compared to an all-time record quarter last year. While normalization has been more prevalent in macro, overall, we ran above 2019 levels throughout the quarter on the back of strong client activity, outperforming our own expectations from earlier in the year.", "Fixed income was down 44% compared to last year's exceptional results, but up 11% compared to the second quarter of '19. Equity markets was up 13%, driven by record balances in prime as well as strong performance in cash and equity derivatives, where we matched last year's great results. Looking forward, while we expect normalization to continue across both investment banking and markets, and most notably in Fixed Income, the timing and the extent of the normalization is obviously hard to predict. Wholesale payments revenue was $1.5 billion, up 5%, driven by higher deposits and fees, largely offset by deposit margin compression.", "And Securities Services revenue was $1.1 billion, down 1%, as deposit margin compression was predominantly offset by growth in deposits and fees. Expenses of $6.5 billion were down 4% year on year, driven by lower performance-related compensation, partially offset by higher volume-related expense. Moving to commercial banking on Page 7. Commercial banking reported net income of $1.4 billion and an ROE of 23%.", "Revenue of $2.5 billion was up 3% year on year, with higher investment banking, lending and wholesale payments revenue, largely offset by lower deposit revenue and the absence of a prior-year equity investment gain. Record gross investment banking revenue of $1.2 billion was up 37% on increased M&A and acquisition-related financing activity compared to prior-year lows. Expenses of $981 million were up 10% year on year, driven by higher volume and revenue-related expenses and investments. Deposits of $290 billion were up 22% year on year as client balances remain elevated.", "Loans of $2.5 billion were down 12% year on year, driven by lower revolver utilization compared to the prior-year quarter, and down 1% sequentially. C&I loans were down 1% quarter on quarter, with lower utilization partially offset by new loan activity in Middle Market. And CRE loans were down 1%, but we saw pockets of growth in affordable housing activity. Finally, credit costs were a net benefit of $377 million, driven by reserve releases with net charge-offs of only 1 basis point.", "And to complete our lines of business, on to asset and wealth management on Page 8. Asset and wealth management's reported net income of $1.2 billion, with pre-tax margin of 37% and an ROE of 32%. Record revenue of $4.1 billion was up 20% year on year as higher management fees and growth in deposit and loan balances were partially offset by deposit 1margin compression. Expenses of $2.6 billion were up 11% year on year, driven by higher performance-related compensation and distribution expenses.", "For the quarter, net long-term inflows of $49 billion continued to be positive across all channels, with notable strength in equities, fixed income and alternatives. AUM was $3 trillion. And for the first time, overall client assets were over $4 trillion, up 21% and 25% year on year, respectively, driven by higher market levels and strong net inflows. And finally, loans were up 21% year on year with continued strength in securities-based lending, custom lending and mortgages, while deposits were up 37%.", "Turning to corporate on Page 9. Corporate reported a net loss of $1.2 billion. Revenue was a loss of $1.2 billion, down $415 million year on year. NII was down $274 million, primarily unlimited deployment opportunities as deposit growth continued, and we realized $155 million of net investment securities losses in the quarter.", "Expenses of $515 million were up $368 million year on year. So with that, on Page 10, the outlook. Our 2021 NII outlook of around $52.5 billion remains in line with the updated guidance we provided last month. But as you'll note, we've also lowered our outlook for the card net charge-off rate to less than 250 basis points, which, as I mentioned in CCB, provides a meaningful offset to the NII headwind.", "And it's worth mentioning that the current environment makes forecasting NII even in the near term unusually challenging. So while $52.5 billion remains our current central case, you should expect some elevated uncertainty around that number, not only because of the ongoing impact of stimulus on consumer balance sheets, but also due to volatility coming from markets, among other things. And as a reminder, most of any fluctuation in markets NII, whether up or down, is likely to be offset in NIR. On expenses, we've increased our guidance to approximately $71 billion, driven by higher volume and revenue-related expenses.", "So to wrap up, we are encouraged by the continued progress against the virus and the economic recovery that is underway, especially in the United States, although we want to acknowledge the challenges that much of the rest of the world is facing, and we're hopeful that a global recovery will follow closely behind. Our performance this quarter once again showcases the power of our diversified business model as headwinds in NII from consumer delevering are offset by strong fee generation across AWM and CIB and exceptionally low net charge-offs across the board. While we're proud of the performance of the company and of our people through the crisis, the competition in every business from banks, fintechs and others is as intense as ever. So as we look forward to an increasingly normal environment, we are enthusiastically focused on competing for every piece of share in every market, product and business where we operate and making the necessary investments to win.", "With that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "And our first question is coming from the line of Glenn Schorr from Evercore ISI. Please go ahead. Your line is open now." ] }, { "name": "Jeremy Barnum", "speech": [ "Hi, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hi, there. Hi, Jeremy, welcome. Welcome to the party." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you very much." ] }, { "name": "Glenn Schorr", "speech": [ "Question on NII, if I could and apologize if it's a little multifaceted. But so even though we're getting some inflationary data, and you're possibly inclined on economy, as it might, rates fell. I'm not sure you want to opine on why, but let's talk about you kept the NII guide I'm assuming because deposit growth is strong. Curious, your thoughts on consumer payment rates staying at this elevated level, deposit growth staying at this elevated level? And then, most importantly, if you're managing the balance sheet any differently, meaning you had been slow playing, putting money to work, rates are even lower now, but are you still slow playing putting money to work? I appreciate it.", "Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks, Glenn. All right. So let's sort of take that in parts.", "So in terms of our NII guidance, so yeah, so we're reiterating $52.5 billion for the full year. So just to take your deployment point first, obviously, rates are a little bit lower, long end rates are a bit lower. The curve has flattened a little bit since we provided that guidance. But when we provided that guidance, we were reasonably conservative in our deployment assumptions through the rest of the year.", "So as a result of that, it's not really a meaningful factor, sort of at the level of precision that we're talking about here. In terms of the consumer side, as you say, obviously, it's really -- card is really going to be the big driver. So you heard us talking about payment rates, and you see the sequential growth in card loans. So we do believe that the sort of acceleration and the pickup in spend is going to translate to, as I say, a resumption of loan growth in card.", "But we do think that pay rates are going to remain quite elevated at a minimum through the end of this year. So as a result, we don't really see revolving interest-bearing balances increasing meaningfully this year. And so as a result, that remains a headwind for the overall NII for this year, which is incorporated in the outlook." ] }, { "name": "Glenn Schorr", "speech": [ "OK. And then in terms of managing balance sheet any differently in terms of putting money to work, are you still conservative on that front?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Look, I mean, I think you've heard us talk about this before, right? So our central case, from an economic perspective, is for a very robust recovery. And that's pretty much a consensus view between us, our research team, the Fed, etc. And that view is associated with higher inflation, along the lines of the Fed's own targets for higher inflation.", "All those things together, it's an outlook that's associated with higher rates, all else equal. And so in light of all that, we do remain happy to stay patient here. And if you look at our EIR disclosure, which you obviously won't see until you get the Q, but some of you guys have written about this recently, our overall sensitivities here are kind of in line with the industry. So when you consider kind of the tail-type things that Jamie also talks about, the complexity of the balance sheet and various other factors, we do still feel that being patient here makes sense." ] }, { "name": "Glenn Schorr", "speech": [ "OK. And just one quickie on the recent both acquisitions and investments, and you or Jamie could feel free to take it, I'm curious on, a, big picture, is it just coincidence that there's been five things within a very short period of time? And maybe if you want to expand on maybe net mix, specifically, and why the change in terms of shying away from international expansion in the past and now making a little bit better move in? I appreciate it. Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Sure, Glenn. So let me start with the international expansion point on the consumer side because that's interesting. You've heard Jamie over the years talk about why it wouldn't really make sense to do international expansion in consumer when you think about that through the lens of a branch-based strategy. So if you imagine, going outside of the U.S.", "and opening branches in other countries and competing with the incumbents, just from a branding perspective, from an operating leverage perspective, we've never felt that, that was likely to be a successful strategy for us, and that hasn't really changed. The difference right now is the ability to do that digital. So what's really particularly exciting about the international expansion narrative, both in the U.K. and now with our recent investment in C6 in Brazil, is the ability to kind of experiment a little bit.", "Obviously, it's a strategically compelling opportunity. Brazil, as you probably know, is like the third biggest consumer Banking market in the world. But it's kind of fun to be the disruptor. And so I think, for us, given our position in consumer Banking in the United States, being in a place where we are actually the outsider disrupting through these kind of digital channels, we see it, among other things, in addition to being compelling financially, as a really good opportunity to learn and to challenge ourselves a little bit from the inside.", "So we're quite excited about that stuff." ] }, { "name": "Glenn Schorr", "speech": [ "All right. Thanks very much." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, Glenn." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of John McDonald from Autonomous Research. Please go ahead. Your line is open now." ] }, { "name": "John McDonald", "speech": [ "Hi. Good morning, Jeremy. I want to ask you about capital. You mentioned leverage is now the binding constraint.", "And Jen has previously talked about a 12% CET1 target. I guess, could you talk about the multiple variables that you're balancing as you guys decide what capital levels to run at? You've got a rising GSIB score, an SLR cushion that's shrinking, but maybe the rules get revised. And obviously, an SCB, that came down a little bit, but maybe you're hoping for more. How are you wrapping that all together into what kind of capital levels to target?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. It's a good question, John and yeah, there are a lot of variables. So let me start by saying that, in terms of a 12% target, it's not off the table, is what I'll say about that, meaning 12% -- it's not necessarily -- doesn't necessarily need to be higher. So for now, it's not off the table.", "But the element of time, i.e., when are we bound by what, matters quite a bit as you think about this. So just to go through some of the pieces. You've noted the GSIB point. So we're in the 4% bucket now as of the end of last year.", "That comes into play in 2023. We're currently operating in four and a half. As you know, that's quite a seasonal number. So it's still possible to get under four and a half for the end of this year.", "But we have to acknowledge an elevated probability, I would say, of landing in the four and a half bucket this year. But the four and a half bucket would be binding in 2024. And as you noted, in the meantime, we're bound by SLR. And we've been quite public about our views about these things, about the extent to which, increasingly, our capital requirements are driven by nonrisk-sensitive, size-based measures which were really designed, especially in the case of SLR, as backstops, which the Fed has acknowledged.", "So our priority, right -- and the Fed has talked about potentially addressing some of these things. We know we're waiting for an NPR on SLR, but also, they have said that a potential GSIB fix could come as part of the holistic implementation of the Basel III end game. So there's a lot of things that are going to play out between now and some of those minimums becoming binding. And realistically, right now, we're going to be operating above 12% anyway in light of the leverage bound in all likelihood.", "So we're managing a variety of different factors, near term, short term, prefs, common, etc. And we're just going to try to be nimble about it as more information comes out over the next few quarters." ] }, { "name": "Jamie Dimon", "speech": [ "And John, if I could just make a further point. We have tons of capital, $200 billion of CET1, $35 billion of preferred, $300 million of long-term debt, only $1 trillion of loans, which is the riskiest asset we have, and $1.5 trillion of cash and marketable securities. So the underlying thing is there's just tons of capital in the system. And I think, one day, if you have a look at it and say, why so much to the liquid side." ] }, { "name": "John McDonald", "speech": [ "Yeah. And then a quick follow-up, Jeremy, on expenses. You revised the fiscal year '21 outlook upward a few times now. Could you give a little more detail on the business volumes and revenues that are driving this? And also, we hear a lot about inflation across the economy.", "Are we seeing broader inflation play a role in your company's expenses and outlook?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So a couple of things there. So yeah, as you note, we have revised up from $70 billion to $71 billion, and the biggest single driver there is volume and revenue-related expense where if -- which is comp. Well, it's comp, but it's about to." ] }, { "name": "Jamie Dimon", "speech": [ "The comp, we're going to be competitive in comp, no matter what it takes. Let's just keep that in the back of your mind." ] }, { "name": "Jeremy Barnum", "speech": [ "It is a little bit of comp. It's also transaction-related volumes. It's also marketing expense in certain pockets. So it's all the stuff that fits in the category of volume and revenue-related.", "And I think the point is, obviously, we're all a little bit focused on the NII headwinds right now. But from an AR perspective, across markets, AWM, IB, CIB in general, and even pockets, wealth management and CCB, we're actually outperforming the revenue expectations that were built into our prior expense guidance. So that's kind of the dynamic there. In terms of inflation, I would say that we're not seeing inflation in our actuals.", "But obviously, your guess is as good as mine in terms of the future, but it would be reasonable to assume that, that's going to be a little bit of a challenge, to a greater or lesser degree, if the economy as a whole is in a slightly higher inflationary environment. And we did probably include a little bit of that expectation in the $71 billion for this year." ] }, { "name": "John McDonald", "speech": [ "Got it. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Ken Usdin from Jefferies. Please go ahead. Your line is open now." ] }, { "name": "Ken Usdin", "speech": [ "Thanks. Good morning. Jeremy, if I could just follow-up on your points about capital and just how we should be thinking about -- you gave us clarity on the dividend, and we know there's the $30 billion open authorization on the buyback. Again, just kind of fitting for the middle there, how do you balance just the magnitude of buyback you do from here versus the ongoing growth that we have in the balance sheet vis-à-vis what you just talked about as far as the limitations? Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I mean the answer to how we balance it is we talk about it a lot. We have a lot of smart people looking at it, trying to balance all the different constraints that we're managing. And I think Jen talked before, especially when it comes to the balance between our risk-based minimums and the SLR constraint, which, as you know, we can address with prefs, so about kind of the mixture of prefs and common.", "So we're looking at that. I think RRP is helping a little bit on the deposit growth side, which helps a little bit with the management of SLR. But as I said previously, we're going to stay nimble there and use the tools at our disposal to try to strike the right balance between buybacks and pref issuance, recognizing that overissuing prefs potentially locks us in to high-cost prefs with low flexibility because of the five-year lockout. So there's a lot of balancing there and we're just staying nimble as information potentially trickles out on the evolution of the rules." ] }, { "name": "Ken Usdin", "speech": [ "OK. And then just so -- then, as far as how you guys will communicate, we'll just find out about the buyback on a quarterly basis as opposed to you giving a more broad outlook of your expectations around buybacks as it happened more in the past. Is that fair?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I think that's right, especially in the new environment that we're operating in from a buyback perspective, now that it's not sort of an approved plan through CCAR, but is rather just the overall $30 billion board authorization. Given what I just talked about in terms of the need to stay nimble across multiple constraints, we wouldn't want to box ourselves in by speaking publicly ahead of time in terms of what we're going to do. So -- and you know obviously our normal capital higher, so at the end of the day, we're always going to invest first and look at interesting acquisitions and pay a sustainable dividend.", "And at the end of that, we'll look at buybacks in the context of all the other factors." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. We could probably give you a more definitive thing after they finish Basel III, which is now 10 years in the making, and SLR and all the updates, and then you'll have more certainty about how this thing operates going forward." ] }, { "name": "Ken Usdin", "speech": [ "OK. Thanks a lot guys. Appreciate it." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, John. I mean, Ken, sorry." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Jim Mitchell from Seaport Global Securities. Please go ahead. Your line is open now." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Maybe just a follow-up on the card business. You had 7% quarter-over-quarter growth in balances, but I think your guidance was still a little cautious. Is that just being conservative? You're still not sure about the relationship between spend and balance growth? Or how do we think about the good quarter and sort of that cautious outlook?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I wouldn't use the word conservative. We've tried very hard in our outlook to give you central case numbers. So we're going to be wrong, but hopefully, it will be wrong symmetrically.", "So we really want to try hard to give you central case numbers that don't have baseless optimism or unnecessary conservatism in them. What -- so the point that you highlight, the sort of apparent disconnect between the sequential increase in card loans and the relatively muted NII outlook is really just about pay rates. So we continue to see very elevated pay rates by historical standards really highly unusual as a result of some of the themes that we've called out in terms of the strength of the consumer balance sheet. So as long as that's true, and we're seeing sort of unusually low conversion of spend into revolving balances, that's going to be a little bit of an NII headwind until the consumer starts to relever which we do think will happen.", "We just don't think it's likely to be a meaningful effect this year." ] }, { "name": "Jim Mitchell", "speech": [ "That's fair. And then on the charge-offs, that's obviously been a big benefit. I think if we look at delinquencies, both early stage and later stage, they kept falling throughout the quarter. Is there anything unusual this quarter where we saw a pretty big drop? Should we expect further declines in NCOs as the year progresses, given delinquency trends?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I think on charge-offs, I would just stick to the updated card guidance that we gave, which is lower, just saying that's going to be below two and a half. But again, it's the same themes, right? Like elevated cash buffers in consumers are resulting in exceptionally strong NCO performance and sort of upside surprises in terms of people paying. So there's sort of two sides of the same coin right now, lower revolving balances, better NCOs.", "And then as we continue returning to normal, presumably in 2022, we should see both of those come back slightly to historical trends." ] }, { "name": "Jim Mitchell", "speech": [ "All right. Fair enough. Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Mike Mayo from Wells Fargo Securities. Please go ahead. Your line is open now." ] }, { "name": "Mike Mayo", "speech": [ "Hey. Jeremy, welcome. My question, I want to follow-up. I think Glenn asked Jamie for the answer to this question, so I'm going to try again.", "Are these acquisitions that you've done, and I count eight since December, and the question is, Jamie, what is the strategy? Is the strategy, I guess, in some cases, it's to disrupt to new markets, as Jeremy said? Maybe it's to avoid costs, maybe it's to scale across tens of millions of customers or -- and this is the real question, are you looking to connect some of these acquisitions like Nutmeg with -- I can't remember, these Kraft Analytics, Max Techs, C6 Bank, OpenInvest, 55ip. Is the goal to somehow one plus one plus one to equal more than three as you introduce these acquisitions, these companies, these people to each other to create kind of like a 21st century digital banking storefront? Or is that too much of a reach? What's the grand plan here?" ] }, { "name": "Jamie Dimon", "speech": [ "A little bit too much of a read, but there's very smart analysts who said it's a string of pearls, and I put in that category. So asset management, Campbell is just managing lumber assets. Timber assets is going to be a great thing for Asset Management. 55ip, it's a tax-efficient management to it there.", "Obviously, Nutmeg, and we're already doing it in the U.K., will be linked together, offering consumer digital product, both in deposits, small business, eventually lending and investments, global investing, etc., makes sense. C6 is another one. Jeremy said it's a huge market. So we're looking at anything which has adjacencies, it could be data, it could be management.", "A lot of these are going to fill in, and some are a little bit more of a response for us. So how we look at retail, digital overseas, we've got patience and time. And we're going to spend a lot of time to see if we can build something very different than we have in the United States. And so it's a little bit of everything.", "The cxLoyalty or the travel company, again, if you look at that, we are already so large in the travel business. So think of this as enhanced services and our products and capabilities to work with our clients, travel packages, etc., which we already -- I've got to remember, the seventh largest travel company in the United States. And that doesn't include all the travel that goes across our credit card and debit card that's traveled, but we are going to travel -- effectively the travel agent. And so it's a little bit of all that.", "I'm thrilled we're doing it. We're looking all the time. We're not going to end up with a lot of wasted assets. But some of these things may not work well, but that will be OK." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Mike, the only thing I would add is, there's a couple of themes that you need to come through, some of the things that we've done recently, one of them is ESG. You see that especially in the AWM deals. And the other is just improving the customer experience, whether it's through various fintech deals or cxLoyalty, customer experience is a key priority for us.", "And we want to have all the tools necessary to deliver that." ] }, { "name": "Jamie Dimon", "speech": [ "And equally important, we're putting a lot of money into building. And we have, like every quarter, through the next two years, you're going to have new products and new services being rolled out across the company. They just -- I think they're just exciting and very good, more and more integrated, more and more simple to use, more and more customer friendly, etc. And so -- but we're doing a little bit of all of that.", "And we want -- yeah, sorry?" ] }, { "name": "Jeremy Barnum", "speech": [ "Go ahead, Mike." ] }, { "name": "Mike Mayo", "speech": [ "And I just got -- my follow-up, as you talked about disrupting, I thought that was interesting, disrupting in the U.K. But since you wrote your CEO letter, Jamie, I mean, it's only gotten more competitive from the fintechs and big tech and big retail and everybody else. And that's a question that comes up probably to everyone on this call. Are you going to be disintermediated over the next five years, whether it's -- you know all the companies, but it just seems like they're ramping up that much more.", "You have an executive order from the White House, maybe you have to share data. What's your current mark-to-market of the threat from outside of banking to your business?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. I don't feel any different thing when I wrote the Chairman's letter. I think we have huge competition in banking and shadow banking, fintech and big tech and Walmart. And obviously, there's always a changing landscape, but we also have a huge -- we've got brands and capability and products and services and market share and profitability.", "I think some of these competitors are going to do quite well. I think a lot of them will succeed over time. But that's called good old American capitalism. I'm quite comfortable we'll do fine.", "I do think there's going to be a lot of people still in the banking business. I'm talking in about five or 10 or 15 years. I think one day you're going to recall which one who took a shadow bank or, I mean, the banks who will shadow -- will be shadows themselves." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thanks, Jeremy." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. We're working hard to make sure that we're offering services that are not disruptible because they're good. So if our clients are happy, and we're providing them a great experience, then there's nothing to disrupt." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thanks, Jeremy. Thanks, Jamie." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Ebrahim Poonawala from Bank of America Merrill Lynch. Please go ahead. Your line is open now." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Good morning and thanks for taking my question. I guess just sticking with the digital strategy. We heard Jamie talk about multiple times around the lack of imagination that cost the banking industry in terms of either payments or buy now pay later, and you talked about your international expansion. But again, going back to Mike's point, as shareholders of banks in the U.S., should the expectation be that banks will be fast followers of what fintech comes up with and replicating that, given the risk of cannibalizing your own sort of revenue set? Or do we expect, or do you think we should expect, more disruptive innovation coming from banks in the United States on consumer banking?" ] }, { "name": "Jamie Dimon", "speech": [ "I think it's both. I mean, it's not an either/or question. And remember, a lot of these banks have done quite well. Clearly, Bank of America has done quite well in digital products and stuff like that.", "So when I said the lack of imagination with the whole company, I mean, when you look at some of these things, it was -- we could have imagined more why they've become the competitor down the road. So some of these competitors are quite good at I call it buying and weaving. They start with one little thing. They had product.", "They have services. They had eyeballs. They had customers, and they find ways to monetize it. So we've got to be a little more forward-looking in how they're looking at the active guys and stuff like that.", "But in our case, there'll be a little bit of everything." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. And I would just say the whole like cannibalization and fast following thing, I think we've moved a little bit beyond that. Like there will be times where we have the first idea, and we're eager to lean in and innovate that way. There will be times when someone else has the first idea, and we're eagerly copying it.", "But the whole -- we don't want to do this thing that makes sense with the customer because we might be cannibalizing our own revenues, that's a recipe to become a shadow of your former self." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. There is no fun cannibalizing your revenue, just keep that in mind. We will do the right thing when the time comes. And sometimes, we're a day late, a dollar short, but we'll do the right thing.", "And just if you look at the company, I mean, if you look at -- we talked about SLR, and I mean, I always get you talk about CECL and SLR, but look at the flows across this company. Look at the debit card, the credit card, the trading flows, the market share, the -- that's why I look at much more than what are the ups and downs to the earnings this quarter because of CECL. I don't think that means anything for the future of the company. I mean, our bankers, our traders, our credit card, our debit card, our merchant services, our auto business, our digital, it's -- they're all doing pretty good.", "I read -- I look at these reports, and my God, the company is doing quite fine. And yes, and we'd like to be a little critical of ourselves. I think when companies aren't, that's part of their failure. They should look at what they didn't do well, I mean, what others may have done well, and so I'd be prepared.", "And we have a really fair assessment of the competition. It is very large, and it's going to be very tough. It does not mean that JPMorgan will win, it just means our eyes are open." ] }, { "name": "Ebrahim Poonawala", "speech": [ "No and I agree. And I think banks don't do -- talk enough about client acquisitions and market share. So I agree with you there. Just as a follow-up, Jamie, very quickly.", "There's some questions around like peak inflation, peak growth. I know you guys are very bullish. Compare and contrast how the world looks to you today versus back in 2011 when we came out of the financial crisis and the risk of GDP growth disappointing over the next few years?" ] }, { "name": "Jamie Dimon", "speech": [ "I think they're completely different fundamentally. Coming out of the '09 crisis, OK, the world was massively overleveraged. We had investment banks at 40 times leverage, not JPMorgan. We did not need PARP and didn't need help.", "The Lehman, Baird, Goldman, Morgan, you had banks overseas, Dexia, the Landon Banks, but I can't remember half of them, all went bankrupt. You had hedge funds deleveraging, you had companies deleveraging, you had $0.5 trillion to $1 trillion in mortgage losses that were going to be recognized, actual losses spread around balance sheets and derivatives and stuff like that. So the world was in a massive deleveraging mode. The consumers overleveraged, companies overleveraged.", "The bridge book of Wall Street was $400 billion. Today, it's, I think, $60 billion. So that -- if you look at today, today, everything we talk about loans being down, if the consumer is -- the pump is primed. The consumer, their house value is up, their stocks rise up, their incomes are up, their savings are up, their confidence are up.", "The pandemic is kind of in the rearview mirror. Hopefully, nothing gets worse with it. And they're raring to go. And you see it in home prices, you see it in auto purchases.", "You see it -- I mean, they'd be much higher, but for supply constraints right now. And so -- and businesses equally are in good shape. They're not overleveraged today. They do have a lot of charts show that corporate debt is like higher than it was, but so is corporate cash.", "And if you look at middle market losses, it's almost 0, almost 0, a huge unutilized revolving stuff like that. So the second the economy starts to grow, which -- and I mean, as you're going to see loans go up because of inventory receivables and capital expenditures and stuff like that. So it is completely different. And you've got fiscal policy on autopilot.", "I mean there's a lot that hasn't been spent yet. There's a lot more that's going to be passed. And you have QE, so far, it's a little bit around positive to around $20 million a month. And I just think you're going to see -- hopefully, see a very strong economy.", "We don't know how long. Obviously, if you listened to what I just said, that -- there's a little inflationary effect on that. And we don't know in the future -- I talked about Goldilocks. Goldilocks means -- it's I'm hopeful, not predicting.", "Like Goldilocks is that inflation goes up, the 10-year bond goes up, the growth is still quite strong. You may have growth in the second half this year as stronger than it's ever been in the United States of America, OK? And Europe is probably six months behind America. And so growth can go into next year, and then the 10-year bond goes to 3% and a lot of growth, the short base grew, too. It won't make any difference because we always had strong growth in consumer there.", "Jobs are plentiful, wages are going up. These are all good things. And so, yes, obviously, it's the inflation could be worse than people think. I think it will be a little bit worse with the bad things.", "I don't think it's all going to be temporary, but that doesn't matter if we have very strong growth." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. There are always risks in any environment, but the risks in this one, I think, are quite different from the ones that we had coming out of the global financial crisis." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Steven Chubak from Wolfe Research. Please go ahead. Your line is open now." ] }, { "name": "Steven Chubak", "speech": [ "Hey, good morning." ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Steven." ] }, { "name": "Steven Chubak", "speech": [ "So I wanted to just start off with just a follow-up question on card NII. Jeremy, you did strike an optimistic tone on the higher spend trends and the potential for future NII tailwind as payment rates start to normalize. And just looking at the card revenue rate, given there are another of inputs in that metric, I was hoping you could just help us isolate the potential NII benefit versus the current baseline from a normalization in payment rate. So just the payment rate normalizing, what would be the incremental step-up in the quarterly NII run rate?" ] }, { "name": "Jeremy Barnum", "speech": [ "OK. So there's a lot of pieces in that question, Steven. So first, let's talk about the revenue rate. So a couple of things.", "So in terms of the NII, we don't really see a meaningful uptick in card NII happening this year. Like you might maybe see a tiny bit of it sequentially fourth quarter versus third quarter, but I think it's going to be pretty hard to see. So I think you want to be thinking about that as a 2022 effect. I'm not going to get into guiding on revenue rate for 2022.", "And I will actually point out that we're in the market right now competing aggressively with some great offers. And I'm happy to say, actually, the client acquisition in card is going great, and we're seeing great uptake on the offers. But that comes with a bit of elevated marketing expense. So as I look out to next quarter, you might actually see a bit of a dip in the revenue rate just because of the way the accounting works there." ] }, { "name": "Steven Chubak", "speech": [ "OK. And for my follow-up Jeremy, I just wanted to ask or at least hone in on one comment you made, where you said you could potentially still manage to a 12% capital target. I was just trying to better understand how much capital cushion you are looking to manage to under the SEB? And if the GSIB surcharge is not recalibrated, where do you think you'll have to run on a steady-state basis just because it feels like waiting for Godot, where you haven't seen any changes on the recalibration front, specifically with the GSIB surcharge?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. OK. So basically, that's a question about the management buffer and a question about what we would do in a world where GSIB doesn't get recalibrated. And a world where GSIB doesn't get recalibrated is a world where our capital minimums are quite a bit higher starting in 2023.", "We obviously disagree with that. We don't think it makes any sense at all, given that a big part of the driver of that increase in the amount of capital that we would have, and as Jamie pointed out earlier, both we and the system are really flushed with capital. And the regulators have been pretty clear that there's enough capital in the system right now, and that growth would increase that amount quite a bit for us and for everyone else. So that's a big part of the reason why we've been so vocal for so long about the need to recalibrate that.", "And I think we see some of our competitors making those points, too, as they start to creep up into higher buckets. And to be fair, the Fed has acknowledged that this is a thing that used to get fixed. It's just that they're kind of busy trying to get the Basel III end game put in place in the U.S. rules, which brings particular complexities in light of the Collins floor." ] }, { "name": "Jamie Dimon", "speech": [ "I just -- Can I just add to this? So I've always -- like the GSIB calculation is one of the steepest I've ever seen in my whole life. And then we doubled it here. So the European banks have a lot of disadvantages in terms of -- they don't -- they can't calm the regulators, they can't expand across Europe. But one of the advantages, they have pretty much half the GSIB.", "But I just don't think that, in the long run, that's good -- right for America to be doubling in -- what I could consider basing all the potential numbers. So let's just wait to see what all the new rules are, and then we'll answer that question. You don't have to sit there and guess what the what's going to happen." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. And I think you see the important point is that, in the near term, we're actually bound by leverage. So that's what we're focused on right now. That's our biggest single thing that we'd like to see fixed because that is affecting the management of the balance sheet right now in ways that we think really don't make sense and eventually result in higher costs that will get passed on into the real economy.", "Just to touch on your buffer point briefly. When all is said and done and the framework is fully settled, hopefully, we're back to being bound by risk-based constraints. We have a bit more experience with a couple of years of SCB and there's a little bit less rule uncertainty. It would be -- there's an interesting conversation to have about what the right management buffers are for people in a world where we do think it's important.", "And we've made these points to destigmatize the use of buffers. We've made this point in the context, for example, of the money market complex too. We have all these kind of guidelines. And the rules have them as buffers that you're supposedly free to use, but that's not the way everyone treats them.", "So buffers become minimums, and that adds a brittleness to the system that makes it more procyclical than anyone wants it to be. So down the road, when things are stable, the buffer discussion could become interesting. But right now, it's a somewhat simpler story, and that's really the SLR." ] }, { "name": "Jamie Dimon", "speech": [ "And remember, there's one buffer that you guys -- we don't really talk about, which is $40 billion of pre-tax earnings a year, OK? That's a huge buffer. It's huge. It allows you to change your forward-looking capital if you buy back stock and don't buy back stock. And so we have a lot of levers.", "And whatever happens, we're going to figure out a way to do a great job for shareholders." ] }, { "name": "Steven Chubak", "speech": [ "Fair point. Thanks so much for taking my questions." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, Steve." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line from Matt O'Connor from Deutsche Bank. Please go ahead. Your line is open now." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning." ] }, { "name": "Jeremy Barnum", "speech": [ "Hi, Matt." ] }, { "name": "Matt O'Connor", "speech": [ "I want to circle back on costs. Obviously, this year, some of it is driven by the stronger-than-expected fees. Some of it is the inflationary pressures you mentioned. Some is, I think, discretionary, as you've pointed out in the past, accelerating some investment spend.", "But the question is, as we exit this year, when we look back on costs from 2021 and say they're a little bloated because of all those factors? Or is this going to be a good base year to grow off of going forward?" ] }, { "name": "Jeremy Barnum", "speech": [ "OK. So there's a couple of points in there. There's -- the word -- let's talk about bloated. I mean you've heard Jamie talk about cost before, right? So we go after everything all the time.", "We go after waste. We try very hard to never be loaded and to not waste. That is a constant discipline. It's hard work.", "We look for it everywhere. So I would like to say that bloated is not a word we would ever use to describe ourselves. And we spent a bunch of time in the bell of this organization, I really don't think that, that's true. And I don't think anything about what we're doing in terms of how money is being spent this year is wasteful.", "And in fact, as you know, the really big driver of the kind of impact on run rate spend is the investments that we're making, especially investments in technology and customer experience. And then transforming the core efficiency of the company in terms of things like technology, modernization and data centers and so on. So in terms of projecting forward into 2022, I don't want to get into giving 2022 expense guidance here. And I think that you really have to unpack that cost number between the parts of it that are volume and revenue-related and the kind of more run rate, structural and investment costs as we've talked about before.", "So I think this year is -- it's a little bit tricky to unpack the components from their perspective to project them to mind." ] }, { "name": "Jamie Dimon", "speech": [ "And if we can find more good money to spend, we're going to spend it. And I told you guys that there's good expense. When we have credit card to spend, we have so much money in marketing, the returns are very good, and they spend it. If we can open hire great bankers, or stuff like that, we're going to spend it.", "If we can -- where we spend $200 million in new data centers, which have a huge benefit for us down the road, we're going to spend it. We do not manage the company so we could tell analysts what the expense number is going to be. That is just a bad way to run a company. And conversely, a lot of revenue stuff, too.", "Revenues aren't always good. And we all know how much risk we take in these businesses and stuff like that. So we spend a lot of time in good revenue, bad revenue and good expense and debt expense. And that's what's going to drive the franchise in the next five or 10 years." ] }, { "name": "Matt O'Connor", "speech": [ "Understood. And then separately, as we think about capital allocation kind of longer term, is there a thought to more meaningfully increase the dividend payout? I mean, as you saw at the beginning of the COVID crisis, buybacks were suspended after stocks dropped sharply, banks couldn't repurchase until they roughly doubled. But dividends were maintained. And obviously, your pre-tax earnings power that you alluded to is very strong.", "It seems like that soft 30% cap is gone, obviously. So just thoughts, it's not going to happen all in maybe one CCAR cycle, but if we do get a multiyear economic recovery, is your thoughts of pushing the dividend higher maybe closer to like a 50% payout?" ] }, { "name": "Jamie Dimon", "speech": [ "Probably not. I mean, I think, firstly, we wanted the dividend which is sustainable through a bad downturn, and so we really want to do that. And I think this time kind of proves that. It was a very minor thing relative to capital retention.", "But yes, we want to invest in our future and invest in growing and stuff like that. And if we can't -- and we don't want to raise the dividend so high that it cripples your ability to do other things." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. And the way that flows into just capital buffer sort of makes that point clear, right? So every -- part of the reason that we're at 3.2 instead of 3.1 is the $0.10 increase that the board announced its intention to do. So..." ] }, { "name": "Jamie Dimon", "speech": [ "And if I owned 100% of the company, there would be no dividend." ] }, { "name": "Matt O'Connor", "speech": [ "OK, thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Gerard Cassidy from RBC Capital Markets. Please go ahead. Your line is open now." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, Jeremy. Can you guys share with us -- if you take a look at your net interest margin in the quarter, obviously, it came under pressure. And if we assume -- and I know this is a big assumption, but if we assume that rates don't really change from here over the next six to 12 months, the long end stays anchored where it is, at what point does the average yield in your average interest-earning assets start to stabilize or maybe go up because the new business that you're putting on equals or exceeds what's running off in terms of interest rates on the products that are coming off the balance sheet?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Good question, Gerard. So I mean, I guess, one way to think about your question is whether we basically think that NIM has hit the bottom in this quarter. And I think we've all learned the lesson that calling the bottom is a very dangerous thing.", "And I would also point out, and I would direct you to like the last page of our supplement, I'm not going to give you a big speech on Market NII, which is my favorite topic and why that is really a sort of a distraction that we shouldn't look at. Maybe I'll be able to do that next quarter. But we do have that disclosure where we split out total NII and markets NII as well as NIM excluding markets. And the reason I raised that is that, yes, if your overall mental model is not wrong, it's reasonable to think that NIM might stabilize around these levels.", "But it's noisy, and the market numbers in there, and that's going to add noise. And also, I would say right now, there's an unusual amount of numerator, denominator-type effects. So whatever winds up being proved up the numerator, you also have quite a bit of volatility in the denominator there, which is one of the reasons that we obviously don't manage to that number as you've heard us say before. But your overall frame, it sounds reasonable to me." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then as a follow-up, and I may have misheard you, so correct me if I'm wrong, but I think you said that the higher level of noninterest expense, the outlook that is, was really driven by the improved outlook for non-interest income. Can you give us any color on that part of it, the outlook for non-interest income improvement?" ] }, { "name": "Jeremy Barnum", "speech": [ "Well, it's -- I mean some of it's in naturals, and some of it's in the outlook. But at a high level, the point is simply that, if you look at the mix of revenue across this company, we have some offsetting dynamics right now. We've got NII headwinds from the consumer delevering, as we've discussed. But as you saw in this quarter's CIB and AWM results, we had exceptional performance in banking even though -- and in wealth management.", "And even though markets is down year on year, it's actually up significantly from what we expect from higher expense guidance. So that's kind of how it all comes together." ] }, { "name": "Gerard Cassidy", "speech": [ "I appreciate it. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "You want some of these expenses to go up because that means that good revenues are going up." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Betsy Graseck from Morgan Stanley. Please go ahead. Your line is open now." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Thanks, good morning.", "Hi, Betsy. I had a couple of questions. One was just on thinking through the outlook for NII, like you indicated, $52.5 billion subject to market conditions. Can you just give us a sense as to how you're thinking about market conditions? What's the trigger point for being maybe better than expected versus coming down? And I ask in context of -- I noticed your securities book, you shifted a bunch from AFS to HTM.", "So it feels like, from that, you're waiting more for rates to move up materially before you would lean into that yield curve trade. But maybe you can give us a sense as to what that market conditions comment was referring to and how you're thinking about that?" ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. So let's go through that for a second. So I said I wasn't going to give my big markets NII speech until next quarter, but I can't resist. So if you talk about market conditions, the markets NII component of that NII outlook includes things like the extent to which we have spec pools versus TBA is the extent to which we have futures versus cash and high rate companies like Brazil, the growth in prime brokerage balances.", "The common theme across all of these is there are situations where you're deploying balance sheet in your markets business to serve clients, and that's profitable a deployment on a spread basis. But there's quite a bit of gross up between the kind of non-derivative piece of it and a derivative or derivative, I'd like a piece of it. Where are the of derivative piece of it doesn't have any NII, and the non-derivative piece of it does. So every unit of that sort of activity that you do creates a significant swing in the NII number, either up or down, with very little impact to the bottom line.", "Now that's not the entirety of the markets story. There are parts of the markets business where we're actually doing more..." ] }, { "name": "Jamie Dimon", "speech": [ "The market, not the markets." ] }, { "name": "Jeremy Barnum", "speech": [ "No, I know. But part of the markets spending comment is the market-dependent -- I don't have markets with me, so I'll go to the other point in a second, and I'm almost done with the speech. Anyway, you get the point. So that's one point of fluctuation.", "But going to your other piece, so the AFS, HTM, and I think your implied question, which is basically what would make us want to deploy more into a higher rate environment. So I will say that the AFS, HTM changes that you've seen are really just primarily about managing capital across the various constraints while preserving the right level of flexibility to do deployment. But given the level of cash balances right now, the AFS, HTM, those have really remain constrained in terms of duration buys. And I think we have enough flexibility in there to do kind of short-end cash deployment tactically as we always do.", "So to get to the punchline, it's kind of what we said before, which is we're bullish on the economy. We believe that, that comes with higher inflation and, therefore, higher rates. And in light of that, we're happy to be patient right now. When that actually changes, and we decided to deploy more, you'll see it in the future." ] }, { "name": "Jamie Dimon", "speech": [ "And giving a simple answer to that, the $52.5 billion, other than the markets business, which goes up or down, if rates go up, you can see our earnings and risk disclosure, we will earn more NII, all things being equal, which, of course, they never are, but all the deal. And in addition to that, we can make decisions to deploy more money for more NII." ] }, { "name": "Betsy Graseck", "speech": [ "It's interesting versus when you were at our conference, Jamie, it seems like the $52.5 billion is more a function of the curve, given the fact that card did, it looks like better than you had thought at that time in the middle of June based on your comments about spend being up so much. But the..." ] }, { "name": "Jamie Dimon", "speech": [ "Betsy, let me just -- sorry to interrupt you, but let me just pick up on that point for a second because I think someone else has a similar question. But I would just remind you that we do see that very healthy sequential growth in card loans on the back of spending. But the key issue is the revolve behavior. And so our view on that really hasn't changed, and we do see elevated pay rates as a result of the cash buffers, which remains kind of the consistent reason in why we have a muted outlook for card NII this year." ] }, { "name": "Betsy Graseck", "speech": [ "Yeah. Yeah. No, I totally get that." ] }, { "name": "Jamie Dimon", "speech": [ "And I don't want to correct anyone here, but I personally think you'll see it go up by the end of the year, OK? I think we'll be a little conservative on that because of all the spend and stuff like that. But we hate guessing. What I look at much more is how many cars you have? How much spend do you have? How many happy customers do you have? NII will take care of itself." ] }, { "name": "Betsy Graseck", "speech": [ "And on that front, your card fees were quite good, right? You mentioned that in your press release. Maybe you can give us a sense as to the drivers? Is that new openings? Is that basically what it is? How sustainable is that? Because that was a bit of an upside surprise in this result the card fees?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. I mean I think it's just spend, Betsy. I mean looking at -- you can get more color than that. Reggie can follow-up if you want.", "But at a high level, I think the card spend number is really all about -- I mean, sorry, the card fee number is really all about the spend trends." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And then just one last, if I can squeeze it in. Your VAR came down significantly. Can you give us a sense as to what's going on there?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean that's just the volatility of last year's prior quarter coming out of the time series, right, if you think about it." ] }, { "name": "Betsy Graseck", "speech": [ "Fair enough. OK, thanks." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Charles Peabody from Portales Partners. Please go ahead. Your line is open now." ] }, { "name": "Charles Peabody", "speech": [ "I want to ask that NII question a little bit differently. In reiterating your $52.5 billion guidance, you said there was potential for some variation or variability around that number. And I'm trying to understand where the greatest variation could come from. Is it in your loan growth expectations? Because I'm hearing that you really are not expecting much in the way of loan growth.", "Or is it in the shape of the yield curve because of the Fed's QE actions or words around taper? And talking about the yield curve, could you also talk a little bit about what's more important, the short end of the yield curve between Fed funds in the two year or the long end? And in that conversation, I'd love to talk about the significant amount of liquidity that's about to hit the short end." ] }, { "name": "Jamie Dimon", "speech": [ "There is a disclosure in the March 31 10-Q, it shows earning risk. If rates go up 100 basis points, U.S. dollar and non-U.S. dollar of $7 billion, if the whole curve goes up 100 basis points.", "So the $7 billion, some number like 4.5 or 5 is short rates versus long rates. The long rate number is cumulative. I would add every year until you roll over these things at slightly higher rates. That is the number, OK? They are -- obviously, loan growth is loan growth, that's in the plus or minus, but the biggest thing is the interest rates.", "Jeremy?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah." ] }, { "name": "Jamie Dimon", "speech": [ "And other variables." ] }, { "name": "Jeremy Barnum", "speech": [ "Well, let me give you the variables, Charles, because it's kind of a reasonable question. So I'll spare you my markets NII speech. You heard it already, but that's obviously a big factor. Within card, we are somewhat optimistic about loan growth, but just remember that, that loan growth has to translate into revolve to drive NII.", "And so if pay rates remain, as I said earlier, it's the central case forecast that reflects the recent experience. So we are forecasting elevated pay rates. But of course, we could be wrong. They could be even more elevated than we are currently forecasting.", "So that would be downside. And the opposite of that, if we see the consumer relevering, starting a little bit sooner, would create upside there. And then there's the impact of deployment. So we're staying patient right now, that means that we're not earning the steepness of the yield curve.", "And if that changes, that could create a little bit of upside. And then there's always the tactical actions that we can take in the front end of the curve. Right now, those aren't very interesting because IOER is above money market rates, which is a big part of the reason that you see RRP having so much uptake. But it's not going to change, and there were opportunities and repo and so on, then that could help a little bit as part of our constant tactical deployment there.", "But that's not, again, our simple case." ] }, { "name": "Charles Peabody", "speech": [ "Just to follow-up on that. I mean the liquidity that's going to hit in July and August is substantial. And that's going to have some impact on the shape of the yield curve at the short end. We saw a rise in the overnight repo rate, reverse repo rate in June.", "Is it possible that we have to have another one to keep rates from falling too far?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. I mean, I think that's a question for kind of short-term fixed income market strategists and my old research team. But right now, it seems like the Fed is pretty committed to making sure that repo rates don't trade negative. That's part of the reason they made the technical correction.", "That's part of the reason RRP is paying what it pays. So we'll see what happens there. But to me, the front end of the yield curve, from a deployment opportunity perspective, looks not very interesting right now. And that is kind of our central case for the rest of this year." ] }, { "name": "Charles Peabody", "speech": [ "And did the rise in the RRP rate have any -- your comments about market-driven NII, did it have any impact on market-driven NII?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, that's not really the way that works." ] }, { "name": "Jamie Dimon", "speech": [ "I think that's 5 basis points." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, I think, you may be -- I mean, I don't know if it's part of your question or not, but there's, of course, the increase in IOER, and there's some pretty simple math you can view there about 5 basis points on -- or 10 basis points on $0.5 trillion for half a year. So -- but those are pretty small numbers in the scheme of global precision we're dealing with here." ] }, { "name": "Charles Peabody", "speech": [ "OK, thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "A follow-up question is coming from the line from Gerard Cassidy from RBC Capital Markets. Please go ahead. Your line is open now." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Jeremy, I just wanted to follow-up. Can you give us some color about the residential mortgage lending business? How was the gain-on-sale margins this quarter? Any outlook on margins or any outlook on volumes, I should say? But also, did you say also that you guys sustained a small loss or a loss in the servicing area? If so, what drove that? Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So let's talk a little bit about mortgage, which is a business I'm still learning. But we've had very robust originations, $40 billion this quarter. I think the most significant -- one of the significant things that's going on is we've really finished unwinding all of our credit pullbacks from the crisis.", "So we're fully back in the corresponding channel, which is obviously helping the volumes. There's obviously been a huge refi boom over the last year with lower rates. That's starting to slow down a little bit. The purchase market has been quite robust, although now we've seen so much home price appreciation that maybe affordability starts to be a little bit of a headwind.", "So as we sit here today from a margin perspective, you have your kind of typical dynamics. As rates go up a little bit, refi slows down a little bit that the industry has built capacity. You have probably a little bit of a margin headwind looking forward. And obviously, there's a mix effect.", "So as corresponding becomes a much bigger part of the originations, you have mix-based margin compression. So -- and obviously..." ] }, { "name": "Jamie Dimon", "speech": [ "I think Gerard said that was the all-time highs. And now it's not even normal. It's just getting low on all-time-highs." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, exactly. So it's a headwind relative to a super elevated prior-year quarter, but it's still run perfectly healthy. In terms of the servicing business, I think, really, as you all understand, in the current environment, the prepayment rates, prepayment speeds have been running significantly above our model forecast. And so as we continue to really update those as part of our risk management, that can prevent some small risk management losses.", "But in general, the risk management of the parts of the MSR that can be managed has actually been very good and very stable. So I think that's everything you had, Gerard, right?" ] }, { "name": "Gerard Cassidy", "speech": [ "Yes. Thank you very much." ] }, { "name": "Jeremy Barnum", "speech": [ "Yup." ] }, { "name": "Operator", "speech": [ "There are no incoming questions in the queue." ] }, { "name": "Jamie Dimon", "speech": [ "OK. Just want to end, I just want to thank Jen Piepszak, for a great job. She's our new CFO. You'll also know she's happy with these guys in their new job.", "And Jeremy, I know a lot of you know Jeremy, but he's been the CFO of the IB for seven or eight or eight years or so, so a complete professional. And so Jeremy, welcome to your first call, and congratulations. So..." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you, Jamie." ] }, { "name": "Jamie Dimon", "speech": [ "Talk to you all soon. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Well, they survived it." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2021-01-15	[ { "description": "Chief Financial Officer", "name": "Jennifer Piepszak", "position": "Executive" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt OConnor", "position": "Analyst" }, { "description": "Portales Partners LLC -- Analyst", "name": "Charles Peabody", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Please stand by. We are about to begin. Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's fourth-quarter 2020 earnings call.", "This call is being recorded. Your lines will be muted for the duration of the call. We will now go live to the presentation. Please stand by.", "At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jennifer Piepszak. Ms. Piepszak, please go ahead." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you, operator. Good morning, everyone. The presentation, as always, is available on our website and we ask that you please refer to the disclaimer at the back. It's slightly longer this quarter, given we're not having Investor Day.", "And so, after I review our results I'll spend some time on our outlook for 2021 as well as touch on a few important balance sheet topics that are top of mind for us. So, starting on Page 1 for the fourth quarter, the firm reported net income of $12.1 billion, EPS of $3.79 on revenue of $13.2 billion, and delivered a return on tangible common equity of 24%. Included in these results are approximately $3 billion of credit reserve releases. Before we get into more detail on our performance, I'll just touch on a few highlights.", "First off, our customers and clients continue to demonstrate strong financial resilience in the face of an unprecedented pandemic as evidenced in our credit metrics thus far. We saw continued momentum in investment banking and grew our share to 9.2%. In CIB markets, revenue was up 20% year on year, driven by strong client activity and elevated volatility in the quarter. And in AWM, we had record revenue of 10% year on year.", "On deposits, we saw another quarter of strong growth up 35% year on year, and 6% sequentially. And Fed balance sheet expansion continued to increase the overall amount of cash in the system while loan growth remains muted at 1% growth year on year and quarter on quarter. On to Page 2 for more on our fourth-quarter results. Revenue of $30.2 billion was up $1 billion, or 3% year on year.", "Net interest income was down approximately $900 million, or 7%, primarily driven by lower rates and mix, partly offset by balance sheet growth and higher markets NII. Noninterest revenue was up $1.9 billion, or 13% on higher IB fees, legacy investment gains in corporate, and higher production revenue in home lending. Expenses of $16 million were down 2% year on year on lower volume and revenue-related expenses, partially offset by continued investments. Credit costs were a net benefit of $1.9 billion down $3.3 billion year on year, primarily driven by reserve releases of $2.9 billion that I'll cover in more detail shortly.", "Turning to the full-year results on Page 3. The firm reported net income of $29.1 billion, EPS of $8.88 on record revenue of nearly $123 billion, and delivered a return on tangible common equity of 14%. Revenue was up $4.5 billion, or 4% year on year as net interest income was down $2.8 billion, or 5% on lower rates partly offset by higher markets NII and balance sheet growth. And noninterest revenue was up $7.3 billion, or 12% on higher markets and IB fees as well as higher production revenue in home lending.", "Expenses of $56.7 billion were up 2% year on year, driven by volume and revenue-related expenses, higher legal and continued investments, partially offset by lower structural expenses. And credit costs were $17.5 billion, reflecting a net reserve build of $12.2 billion due to the impacts of COVID-19 and net charge-offs that were down year on year. Now turning to reserves on Page 4. We released approximately $3 billion of reserves this quarter across wholesale and home lending.", "Starting with wholesale, we released $2 billion due to improving macroeconomic scenarios and the continued ability of our clients to access capital markets and liquidity. In home lending, we released $900 million, primarily on improvement in HPI expectations, and to a lesser extent, portfolio run-off. And in card, we held reserves flat as we remained cautious about the near term, especially with the number of unemployed still nearly two times pre-pandemic levels and potential payment shock coming to consumers from expiring benefits. And so with the near-term outlook still quite uncertain, we remain heavily weighted to our downside scenarios.", "And at nearly $31 billion, we are reserved at approximately $9 billion above the current base case. And to touch on net charge-offs for the quarter, they were down about $450 million year on year and remained relatively low across our portfolios. Looking forward, we still don't expect any meaningful increases in charge-offs until the second half of 2021. And with the recent stimulus, it could be even later.", "Turning to Page 5. We've included here an update on our customer assistance programs, and you can see the trends are largely similar to last quarter and further evidence of the resilience of our customers. The vast majority of what's left in deferral is in mortgage with $10 billion of own loans and $13 billion in our service portfolio. And in terms of what we're seeing from our customers that have exited relief, more than 90% of accounts remained current.", "Turning to balance sheet and capital on Page 6. We ended the quarter with the CET1 ratio of 13.1%, flat versus the prior quarter on strong earnings generation, largely offset by dividends of $2.8 billion and higher RWA. As we stated in our press release last month, the board has authorized share repurchases and we plan to resume buybacks in the first quarter up to our Fed authorized capacity of $4.5 billion after paying our $0.90 dividend. You can see here on the page, we've included the liquidity coverage ratio for both the firm and the bank, which we believe is important to look at together in order to better understand the liquidity profile of our balance sheet.", "The firm is at a healthy LCR of 110%. However, the bank LCR is 160%, reflecting the extraordinary deposit growth that has meaningfully outpaced loan demand. Now, let's go to our businesses, starting with consumer and community banking on Page 7. In the fourth quarter, CCB reported net income of $4.3 billion and an ROE of 32%.", "Revenue of $12.7 billion was down 8% year on year, reflecting deposit margin compression and lower card NII on lower balances, largely offset by strong deposit growth and higher home lending production revenue. Deposit growth was 30% year on year, up over $200 billion as balances remain elevated and as we continue to acquire new customers and deepening primary relationships. Loans were down 6% year on year with home lending down due to portfolio run-off and card down on lower spend, offset by business banking, which was up due to PPP loans. Client investment assets were up 17% year on year, driven by both net inflows and market performance.", "On spend, combined debit and credit card sales volume in the quarter was up 1% year on year, which reflected debit sales of 12%, largely driven by retail and everyday spend and credit sales down 4%, largely driven by T&E. In home lending, overall production margins remained strong. Total originations were down 2% year on year but were up 12% quarter on quarter, both driven by correspondent and we lean into the minister channel after pulling back earlier in the year. For the year, total originations were $114 billion, including nearly $73 billion of consumer originations, both the highest since 2013.", "In auto, loan and lease origination volume was $11 billion, up 29% year on year. And across the franchise, digital engagement continues to accelerate. Our customers use quick deposit for more than 40% of all check deposits, which is nearly 10 percentage points higher than a year ago. And in home lending, nearly two-thirds of our consumer applications were completed digitally using Chase My Home, and that has tripled since the first quarter.", "Over 69% -- overall, 69% of our customers are digitally active with business banking at 86%, both higher than a year ago. Expenses of $7 billion were down 1% year on year and credit costs were a net benefit of $83 million, driven by $900 million of reserve releases in home lending, largely offset by net charge-offs in card of $767 million. Now turning to the corporate and investment bank on Page 8. CIB reported net income of $5.3 billion and an ROE of 26% on revenue of $11.4 billion for the fourth quarter and an ROE of 20% on revenue of $49 billion for the full year.", "The extraordinary nature of this year has meant that we had records in almost every category for both the quarter and the full year. In investment banking, IB fees were up 25% for the year and we grew share to its highest level in a decade. In the quarter, investment banking revenue of $2.5 billion was up 37% year on year, and up 20% sequentially. The quarter's performance was driven by the continued momentum in the equity issuance market as well as strong performances in DCM and M&A.", "In advisory, we were up 19% year on year, driven by the closing of several large transactions. The M&A market continued to strengthen this quarter, and in fact, announced volumes exceeded pre-COVID levels. Debt underwriting fees were up 23% year on year, driven by leverage finance activity and we maintained our number one rank overall. In equity underwriting, fees were up 88% year on year, primarily driven by a strong performance in follow-ons and IPOs.", "Looking forward, we expect IB fees to be up modestly for the first quarter and the overall pipeline remains robust. We expect M&A to remain active on improved overall CEO confidence and the momentum in equity capital markets is expected to continue, of course dependent on a successful containment of COVID. Moving to markets. Total revenue was $5.9 billion, up 20% year on year against the record fourth quarter last year.", "Fixed income was up 15% year on year, driven by good client activity across businesses, particularly in spread products as well as the favorable trading environment in currencies and emerging markets, credit, and commodities. Equities was up 32% year on year, driven by strong client activity and equity derivative and cash throughout the quarter across both flow trading and large episodic transactions. Looking forward, we expect markets to remain active in the first quarter and we have seen strong performance since the start of January, but it's obviously too early to predict the full quarter. And for the remaining quarters of this year and the full year, the comparison will be particularly challenging given the extraordinary performance of markets in 2020.", "Wholesale payments revenue of $1.4 billion was down 4% year on year, primarily reflecting the reporting reclass in merchant services. And securities services revenue of $1.1 billion was down 1% year on year. On a full-year basis, a headwind from lower rates were almost entirely offset by robust deposit growth. Expenses of $4.9 billion were down 9% compared to the prior year, driven by lower compensation and legal expenses.", "Now let's go to commercial banking on Page 9. Commercial banking reported net income of $2 billion and an ROE of 36%. Revenue of $2.5 billion was up 7% year on year with higher lending and investment banking revenue, partially offset by lower deposit revenue. Record growth investment banking revenue of $971 million was up 53% year on year.", "And the full year was also a record, finishing at $3.3 billion, surpassing our previously established $3 billion long-term target. And given our investments in bank coverage, we believe there is continued upside from here. Expenses of $950 million were flat year on year. Deposits of $277 billion were up 52% year on year, and 11% quarter on quarter as client balances remain elevated.", "Average loans were up 1% year on year, but down 3% sequentially. C&I loans were down 4% on our revolver balances with utilization rates nearing record lows as clients continue to access capital markets for liquidity. And CRE loans were down 1% on higher prepayment activity in both CTL and real estate banking. Finally, credit cards were a net benefit of $1.2 billion, driven by reserve releases.", "Now on to asset and wealth management on Page 10. Asset and wealth management reported net income of $786 million with a pre-tax margin and ROE of 29%. And for the year, AWM generated record net income of $3 billion with pre-tax margin and ROE of 28%. For the quarter, revenue of $3.9 billion was up 10% year on year as higher performance and management fees, as well as growth in deposit and low balances, were partially offset by deposit margin compression.", "Expenses of $2.8 billion were up 13% year on year, primarily due to higher legal expenses related to the resolution of matters previously announced. But excluding this, expenses would have been up 4% year on year on volume and revenue-related expenses. For the quarter, net long-term inflows were $33 billion, positive across all channels, asset classes and regions. And this was true of the $92 billion for the full year as well.", "In liquidity, we saw net outflows of $36 billion for the quarter and net inflows of $104 billion for the full year. AUM of $2.7 trillion and overall client assets of $3.7 trillion, up 17% and 18% year on year respectively were driven by net inflows into both liquidity and long-term products as well as higher market levels. And finally, deposits were up 31% year on year and loans were up 15% as clients continue to increase our liquidity and look for investment opportunities. Now on to corporate on Page 11.", "Corporate reported net loss of $358 million. Revenue was the loss of approximately $250 million, relatively flat year on year. Net interest income was down $730 million on lower rates, including the impact of faster prepays on mortgage securities as well as limited deployment opportunity on the back of continued deposit growth. The declines in net interest income were largely offset by net gains this quarter of approximately $540 million on several legacy equity investments.", "And expenses of $361 million were roughly flat year on year as well. Now shifting gears, I'll turn to our outlook for 2021, which I'll cover over the next few pages, starting with NII on Page 12. As you can see on the page, we expect NII to be around $55.5 billion in 2021, and this is based on the latest implies, which reflects this deepening yield curve we've seen over the past few weeks. As you can see that we do expect to be able to more than offset the impact of low rates in 2021 from continued deposit growth and higher markets NII.", "But it's important to note that it takes the loan growth to truly realize the benefits of a steeper yield curve.I'll also just remind you that the increase in CIB markets NII is largely offset in NIR, and this component is highly market dependent. And so as it relates to loan growth, while there should be some opportunities in AWM in wholesale, we expect headwinds, at least in the near term as corporate cash balances are at all-time high, card payment rates are elevated and there continues to be significant prepayments in home lending. But we do expect these to normalize and see loan growth pick up in the second half of the year, particularly in cards. Therefore, our fourth quarter 2021 NII estimate of $14 billion or more is a reasonable exit rate.", "And notably, that's in the zipcode of our 4Q '19 NII when rates were significantly higher than they are today. We've also included on the right side of page some risks and opportunities, and obviously, this isn't an exhaustive list, but are the drivers that could be most impactful to this year's NII outlook. Now turning to expenses on Page 13. As Jamie mentioned last month, we do expect our expenses to increase in 2021.", "And based on our latest work, we expect that number to be around $68 billion, up versus the prior guidance of $67 billion, largely due to higher volume and revenue-related expenses and the impact of FX, both of which have offsets in the revenue line as well as the impact of expenses from our recent acquisition of cxLoyalty. Then taking a look at the year-over-year expense growth, you can see it's primarily due to investments, which I'll cover in more detail on the next page. Our volume and revenue-related expenses are up slightly with some puts and takes there. That's obviously market dependent, but remember, any changes there do come with corresponding changes to our top-line.", "And in structural, we expect a net reduction of approximately $200 million. Notably, this includes a decrease of $500 million, reflecting the realization of continued cost efficiencies and what largely our fixed cost base. And you can see that it is partially offset by the impact of FX on our non-U.S. dollar expenses.", "It's important to note that while structural is coming down, it doesn't represent the full extent of our productivity, we're realizing efficiencies in each category here. For example, our software engineers are becoming more productive and we are reducing our cost to serve as we're seeing more customers use our digital tools to self-serve. Moving to Page 14 to take a closer look at our investment spend. Over the past few years, our investment spend has been around $10 billion and we expect that to increase to nearly $12.5 billion in 2021.", "You can see that we've highlighted on the page the major areas of focus that we've been consistently investing in for years, which should continue to strengthen our franchise and drive revenue growth. Starting on the bottom with technology, this represents roughly half of the overall investment spend. And these tech investments are across the board as we look to better meet our customer and client needs, improve our customers' digital experience, strengthen our fraud detection capabilities as well as modernize and improve our technology infrastructure cloud and data capabilities. Moving to nontech investments.", "We expect marketing spend, largely CCB, to return to pre-COVID levels this year after being down in 2020. We continue to invest in our distribution capabilities across all of our businesses. This includes hiring bankers and advisors, not only in U.S., but also internationally as well as expanding our physical footprint. We've been continuing to execute against our branch expansion plans in new markets, having opened 170 branches so far out of our planned 400, and expect to be in all contiguous 48 states by new 2021.", "Jamie is laughing. And the other bucket on the page is a catchall for everything else, including real estate and other various investments across our businesses. These expenses were very stable the past few years and the increase in 2021 is largely related to our $30 billion commitment to the path forward, which includes promoting affordable housing, expanding homeownership for underserved communities and supporting minority-owned businesses, and then as well as expenses related to our acquisition of cxLoyalty. So in summary, you can see that we continue to invest through the cycle.", "And it's these investments that we believe position us well to outperform on a relative basis regardless of the environment. Now I will turn to a few balance sheet and capital-related topics, starting on Page 15. Over the next few slides, I'd like to provide you some insight on how recent monetary expansion and corresponding growth in the financial system is creating new challenges for bank balance sheet. More specifically, this expansion is putting significant pressure on size-based capital requirements, which is likely to impact business decisions, including capital targets.We'll start with what has happened this year.", "In response to the COVID crisis, the Fed's balance sheet has significantly expanded, which has resulted in $3 trillion of domestic deposit growth across the U.S. commercial banks. What's important to note is that this QE is unlike anything we've seen before. In the current QE, we have experienced a much bigger and faster expansion.", "And that expansion has come without meaningful loan demand beyond PPP, as you can see in the loan-to-deposit ratio on the page. This has resulted in bank balance sheets, which are larger, but more liquid and less risky.From a bank capital perspective, the key question to ask is, how long will this persist. On the chart, you can see that the QE3 online kept the Fed on pause for several years before a modest pace of reductions. So even if the Fed immediately signals tapering, which of course is not the base case and follows the pace of the last online, it will take many years to return to pre-COVID levels.", "Of course, the online speed [Inaudible], but I think we can all agree that bank balance sheets will remain elevated for some time. Now let's go to Page 16 and see how this will impact capital going forward. Few factors that are top of mind for us are GSIB, which we've been talking about for a long time, and also SLR which is not something we typically talk about, but given the overall system expansion is now on focus. On the graph, what you can see here are the historical trends of GSIB and SLR base requirements, overlaid with the path of the Fed securities holdings.", "You can see that during the original calibration of these rules, which included significant gold plating, the Fed balance sheet was notably lower. With the recent growth in the Fed balance sheet, we are seeing upward pressure in increases to GSIB requirements as well as the SLR shifting from a backstop to a binding measure, which will impact the pace of capital return, and these dynamics will likely persist for an extended period. The Fed temporary relief of SLR expires after March 31. This adjustment for cash and treasuries should either be made permanent or at a minimum be extended.", "With these exclusions, you can see how this remains a backstop measure, not a binding one. And on GSIB, there has been public dialog about the need to index the score to GDP as a proxy to account for ordinary economic expansion over time. And this was also cited by the Fed as a possible shortcoming of their framework. For 2020, GDP was clearly not the best proxy for system expansion but the principle still applies.", "GSIB was designed as a relative measure between large and medium-sized banks. And therefore, it certainly reflects an overall system expansion, which impacted small, medium and large banks alike. By future-proofing GSIB at inception with the adjustments outlined on the page, you can see the resulting GSIB score profile, lowered over time, but more importantly, flatter over the course of the most recent system expansion. While we recognize that prudent bank capital requirements do promote safety and soundness, satisfying these heightened requirements is certainly not costless which is why these two areas, GSIB and leverage are top of mind for us in 2021.", "Now let's look at the impact of this on marginal deposits on Page 17. In addition to what we've already discussed, there are two more building blocks required to see the full picture of marginal deposit economics, and they are interest rates and loan demand. We've experienced a combination of both lower interest rates and lower loan demand, which have reduced the NIM of marginal deposits to practically zero, which you can see here on the chart. And this is an issue for all banks, not just GSIBs or JPMorgan.", "However, what is specific to the larger banks is that when the SLR becomes binding, we may be required to issue new debt and retain higher equity, which ultimately makes the marginal deposit a negative ROE proposition in today's ultra-low rate environment. The key test and question is, what could happen next? We could simply shy away from taking new deposits, redirecting them elsewhere in the system or we can issue or retain additional capital and pass on some of their costs, which is certainly something we wouldn't want to do in this environment. And therefore, we strongly encourage a serious look to these sized-based capital calibrations with an appropriate sense of urgency as we will soon be facing this critical business decision. All of this can be addressed through a few simple adjustments, namely, an extension of the SLR exclusion and GSIB fixed as we've spoken about overtime.", "But to be clear, we believe the framework as a whole has made the banking system safer as we experienced in 2020. But we're also seeing evidence where the lack of coherence and recalibration is risking unintended consequences going forward. With all that said, before I close things out on capital, here is how we're thinking about target CET1 levels. While GSIB pressure remains and the need for recalibration is high, our SCB optimization can provide some offset, allowing us to manage to a 12% CET1 target.", "The recent stress test showed an implied 20 basis point reduction to SCB, and we have continued our optimization efforts since the resubmission. So we're hopeful for a lower SCB later this year, of course, that's scenario dependents. At this point, it's too early to provide specific color on the impact of SLR, so it's just important to know that in the absence of any adjustments to the measure, we may have to issue preferreds or carry additional fee if you want over the 12% target I just mentioned. We obviously can't emphasize these key messages enough and these factors are clearly front and center as we think about managing our balance sheet and capital targets in the near and medium term.", "Now before we conclude, note that we've included a few additional slides on our businesses and the intent is to give you an update on their strategic highlights our performance as well as provide the latest financial outlook. The themes and initiatives we talked about at last year's Investor Day still remain our focus and we continue to execute and make progress against them.So to wrap up, 2020 was an incredibly challenging year, but it also showcased the benefits of our diversification and scale and the resulting earnings power of our company, while our employees relentlessly focused on supporting our customers, clients, and communities. While downside risk do remain in the near term and it could be significant, several recent factors help us feel more optimistic as we look ahead to the recovery in the medium and longer term. So with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Certainly. [Operator instructions] Your first question comes from the line of Steven Chubak with Wolfe Research." ] }, { "name": "Steven Chubak", "speech": [ "Hi. Good morning, Jamie. Good morning, Jen. And happy New Year." ] }, { "name": "Jennifer Piepszak", "speech": [ "Happy New Year, Steve." ] }, { "name": "Jamie Dimon", "speech": [ "Thank you." ] }, { "name": "Steven Chubak", "speech": [ "So, I want to start off with a question on the NII outlook. The 2021 guide implies rather a healthy step up versus the $54 billion. Jamie, you had reiterated just last month in your updated NII guide for '21. What are you assuming regarding the deployment of excess liquidity given some of the recent curves deepening? And separately, what are your assumptions around the trajectory for card balances and overall growth in '21, especially in light of the expectations for additional stimulus which we saw at least this past year could drive further consumer deleveraging?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So, I'll start with excess liquidity. So, I think their -- the theme is we're being opportunistic or patient. So, as you think about the recent moves that we've seen in the yield curve, in the grand scheme of things, those could be small moves and, you know, as we think about managing the balance sheet it's not just about an eye, of course, it's about capital.", "And so there is risk in adding duration at these levels in a further sell-off. So, we're -- we're being very patient but we have been and will continue to be optimistic and you will have seen that we did add $60 billion to the portfolio in the fourth quarter. So, that's what we're assuming and the outlook is -- is, you know, a very balanced view on deploying the excess liquidity. And then --" ] }, { "name": "Jamie Dimon", "speech": [ "In the implied terms." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. In the implied terms, yeah. And then on current balances, it is quite extraordinary what we're seeing in terms of payment rates in the current portfolio which of course is very healthy as consumers use this opportunity to be leveraged. So, there is an offset in the credit line but we are expecting that to normalize in the back half of 2021 as I spend recovers but that it is certainly a risk for us if they remain elevated.", "So, that's why everything listed on that page is a plus/minus because everything could be an opportunity and a risk." ] }, { "name": "Steven Chubak", "speech": [ "OK. Fair enough. And just for my follow up, I wanted to ask on capital. Both the slides are really interesting highlighting the impact of QE on the leverage ratio and GSIB scores.", "You've been critical of GSIB surcharges and the need to recalibrate these coefficients for some time. We haven't really seen much progress there. It kind of feels like waiting for Godot as if the Fed is slow to recalibrate the minimum leverage ratios to account for this QE-driven deposit growth. What mitigating actions can you take to ensure you're not capital-constrained as balance sheet growth continues and maybe any revenue attrition we need to contemplate as part of those mitigating actions?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So -- so, I'll -- I'll start with GSIB if we take that in turn. So, starting with GSIB, as I said, we do think that we have opportunity in the SCB. Of course, that's scenario dependent and based on the Fed models.", "But we do think we have opportunity there based on the work that we've been doing. So, it will be very difficult for us to get back to 3.5% with the current expansion. So, we are expecting to remain in the 4% bucket but as you know that's not effective until early 2023. So that gives us time to manage SCB as I mentioned as an offset.", "On -- on the leverage issues, we have, you know, we can cure this through issuing preferred but we haven't made that decision yet, as I said, because it is -- it is a -- it is a critical decision for us to think about. And as you think about capital return, it would depend on where our stock prices as we think about the economic value of issuing preferred to buy back stocks. So, there is a lot for us to think about over the next couple of months." ] }, { "name": "Jamie Dimon", "speech": [ "Because you said the G-SIFI because it's very important. If we were on the international standard, our G-SIFI would be 2%, not 4%. And we have been talking about they were supposed to adjust GSIB before the growth of the economy and effectively the shrinking size of the banking system. Because the banking system itself is getting smaller as mortgages go to the nonbanks and private credit goes elsewhere, and the rest of the international, Chinese banks are growing, etc.", "So, these adjustments should be made. We pointed out as $1.3 trillion of liquid assets and marketable securities on a balance sheet, which shockingly reached G-SIFI 2. G-SIFI has no risk weighted measurements to it, no diversification to it, no profitability to it. It just kind of these very gross measures and it needs to be recalibrated and same with SLR.", "I mean, so do we expect it to happen? Probably not in our lifetimes, because we have politicized bank -- detailed bank numbers and so on, and we can live with it for now. But in the long run, it's not good for Americans, that much of a disadvantage to our competitors overseas." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Jim Mitchell with Seaport Global Securities." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Jim." ] }, { "name": "Jim Mitchell", "speech": [ "Sorry. Sorry. Hi. Sorry, let me mute for a second there.", "Maybe just talking about loan growth. You saw a pretty nice improvement in the wholesale side. You talked about some opportunities in '21. It seems to be mostly coming out of the CIB.", "Is that sort of acquisition finance? What's -- what's driving some of the improvement on the wholesale side?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah, I would say acquisition financing is the -- is the opportunity on the wholesale side. You know, when we -- when we, you know, there may be some opportunity in the back half of 2021 in C&I that -- that I feel like it's returning to BAU but I think that's going to take some time. But as I said, we are at historic levels of cash on corporate balance sheet then so, outside of acquisition financing and -- and C&I. It -- it will be challenging.", "C&I in the back half of 2021." ] }, { "name": "Jim Mitchell", "speech": [ "OK. Fair enough. And then maybe on your expense assumptions for the $68 billion, you don't really mention at all any of the CIB. You would think that if -- if we are, as everyone assumes, you know, we had a record year in 2020, 2021 maybe markets and IB fees are lower.", "Is there any kind of -- are you building in some lower comp -- you know, revenue-based compensation expense in -- in that $68 billion or is that potential a positive?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So, we capture that in the volume and revenue related, Jim. It just happens to be more than offset by volume and revenue-related growth elsewhere." ] }, { "name": "Jamie Dimon", "speech": [ "I just point out the $68 billion. We don't make commitments or promises, so that $68 billion, I would love to find $2 billion more of investments, literally. I mean, we are seeking every year find more to do to help clients around the world and stuff like that. So that's kind of our current forecast.", "And fortunately, we found some more to do, including cxLoyalty and opening more branches and some of the technology we are building, et cetera. But I'd like to find more. It would be the best and possible highest use of our capital." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of John McDonald with Autonomous Research." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, John." ] }, { "name": "John McDonald", "speech": [ "Hi, Jen. Given the outlook for net interest income and expenses, it seems like the efficiency ratio is going to tick up a few 100 basis points this year '21 versus '20. And I know you don't manage it necessarily year to year but just kind of overtime you seem to have a mid 50s efficiency target. Just kind of wondering how you put guardrails up for yourselves in terms of expense discipline and managing overtime to have positive operating leverage and an efficiency quarter." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So, I'll -- I'll start by saying you're absolutely right that we don't manage the efficiency ratio in any quarter or even any year, and the operating leverage is very important to us. And then we -- we gave a share in Investor Day at about a 55% efficiency ratio. I'll say, in a normalized environment, we haven't had anything that structurally has changed.", "And so, that should still be achievable for us in a normalized-rate environment and otherwise normalized environment. And then, as it relates to expense discipline you know it -- it is a bottoms-up process. And so, everywhere around this company, we are looking to get more efficient and holding people accountable to do just that which is why I call out on the slide that structural is basically everything that is in investments or volume and revenue related it isn't necessarily a representation of all of our expense efficiencies.So the discipline is everywhere and it's -- it's the way we run the company and we do believe in -- in the importance of operating leverage through time, no doubt." ] }, { "name": "John McDonald", "speech": [ "OK. And then as a follow up on the NII walk, you've got a billion-dollar incremental NII expected in '21 versus '20 for markets -- CIB markets. Can that be true if market's revenues are down year over year? You know, can they both be true and just maybe explain that?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes, it can be -- it can absolutely be true. So the market is -- I mean, in most of our businesses, we don't run them NII versus noninterest revenue it -- it is an accounting construct about markets. It's particularly true. So yes, that is -- that is possible.", "In NII, the market business you can think about is -- is liability sensitive. So you know, you're going to see the benefit of lower rates in NII. That doesn't necessarily imply anything about the overall performance." ] }, { "name": "Jamie Dimon", "speech": [ "We have a positive carry. In trading, profit goes down and the carry goes up. But not -- the absolute numbers are the same." ] }, { "name": "Operator", "speech": [ "Your next question comes from Erika Najarian with Bank of America." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Erika." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Hi, good morning. My first question is on the outlook for card losses. The 2.17% net charge-off rate was certainly eye-opening relative to, you know, what happened in 2020 and the discussions actually that I've been having with investors on the trajectory of card is, you know, do -- do you think that the bridge that the government built is strong enough that we may not see, you know, a spike in losses in card like we're all expecting? And Jen, given your comments earlier, what would you need to see to feel more comfortable about releasing reserves from your card portfolio?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So, it's interesting that you -- you brought up the bridge being strong enough. It does feel like at this point in this crisis, the -- the bridge has been strong enough. The question that still remains is is the bridge long enough.", "And so, while we just had a recent stimulus pass, that makes us feel better about the bridge being long enough. But we have to get through the next three months to six months. So, it feels like we have been saying that since this crisis started but I think it is particularly true at this point, obviously, given the vaccine rollout. So, you know, consumer confidence is still low relative to pre-COVID levels.", "You can converse that with -- compare that to the wholesale side, we are seeing confidence is up. That's not true on the consumer side. And so the next three months to six months is going to be critically important for us to assess whether or not only is it strong enough, but is it long enough, and do you see consumer sentiment pick up a bit.There's also possibility for payment shops as some, you know, relief programs, whether it be a student loan, forbearance or tax -- taxes owed on benefits received. There are things that could hit the consumer in the next three months to six months that we need to think about." ] }, { "name": "Jamie Dimon", "speech": [ "Right. I would just add, very different for subprime and prime. And if you look at our portfolio, it's mostly prime. And the -- the folks in the prime category have a lot more income, a lot more savings, housing prices are up.", "They did not lose their jobs but the news there is actually rather good. On the lower quartiles, it's the opposite. Even now when we just did all the stimulus checks and we did about $12 million of them which have already been processed --" ] }, { "name": "Jennifer Piepszak", "speech": [ "$12 billion." ] }, { "name": "Jamie Dimon", "speech": [ "$12 million. $12 billion, $12 million for $12 billion approximately. And there's the bottom but the -- the folks who had $1,000 in their accounts, where the accounts are coming down and they just got $1,000, they obviously needed. The folks in the higher end, they obviously don't need quite as much.", "So, it's positive -- we expected to go up but it's possible somehow that doesn't happen in some dramatic way." ] }, { "name": "Erika Najarian", "speech": [ "Got it. And -- and Jamie, my second question is for you." ] }, { "name": "Jamie Dimon", "speech": [ "I'd say, we are making this point very important." ] }, { "name": "Erika Najarian", "speech": [ "Yes." ] }, { "name": "Jamie Dimon", "speech": [ "We do not consider taking down reserves recurring or low income. We don't do show across. We don't consider a profit. It's -- it's ink on paper.", "It's based upon lots of different calculations. Obviously, we want real loss to be lower over time. But I would just -- if you -- if our card reserves like $17 billion, we took it down next quarter because we have more optimistic outlooks, we are not going to be sitting here cheering about that, we are cheering that market is doing better. But we don't want to consider those earnings.", "And I think you all should look at a little bit differently now, particularly with the change in accounting rules." ] }, { "name": "Erika Najarian", "speech": [ "Yeah. I think -- I think your investors appreciate that. And the second question I had for you, Jamie is, you know, in last -- on last year's Investor Day, it was clear to your investor base that you were looking to inorganically enhance your scale in AWM. And what interesting is that the discussion that I have been having with your investors more recently is them wondering whether or not you would consider a larger deal maybe in payments, you know, given that a lot of investors and banks are thinking that that's the, you know, the part that seems to be potentially more vulnerable to technology competitors.", "What are your thoughts there? And I guess, my -- my own thought process has been tempered by Jennifer's presentation on capital, but we wanted to get your thoughts there." ] }, { "name": "Jamie Dimon", "speech": [ "Again, we have -- I mean, our capital cup runneth over, OK. We have so much capital we cannot use it. If you look at what happened this year, our capital went from 12.4% to 13.3%. And by -- I think advanced is more representative of real risks so it will be 13.8%.", "That's after doing $2 trillion of loans, $12 trillion of reserves, $12 trillion -- $12 billion of reserved, $12 billion of dividend. I mean, we are earning -- if you look at pre-tax -- pre-provision $45 billion or $50 billion a year. So we're -- we're in very good shape to invest.The most important thing we said to management, we say that we grow that every business organically, every single one opening branches and accounts, doing payments, and we put a lot of time and effort in payments. We are quite good at it between credit card, debit card, Chase merchant services.", "But I agree with you and -- but we are open for inorganic too. Inorganic shouldn't be an excuse not for growing organically and -- and it's not just Chase, it's not just asset management, it will be an area where we could do that. I don't think cxLoyalty was neat thing, is [Inaudible] neat thing, we bought 55 IP, which is a special way to manage money, tax efficiently. And so we are going to build it ourselves or buy it.", "We are open-minded. Anyone you have good ideas for us, let us know. We have the wherewithal, but we thought we will also look at buying it. Like I said, we are always looking for a way to invest more of our money intelligently.", "We have got a tremendous set of assets. We also have a tremendous debt of competitors, particularly in payments, consumer land now, and a bunch of other areas. So you saw Google Pay. You saw Wal-mart is going to try to spend a bit more time is expanding.", "And we -- we like competition, we believe in it. But we have to be really prepared for that and that is deeply on our mind and how we run our business." ] }, { "name": "Operator", "speech": [ "Your next question is from Betsy Graseck with Morgan Stanley." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning. Jamie, a question on cxLoyalty, because I thought your loyalty program and -- and capability set there in your payment space and your consumer-facing space was quite good. So, I am just wondering what the rationale was? And is there an expectation that you are going to be leveraging that into non, you know, card portions of your business, was that part of the -- so what was this deal?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So, Betsy, I will take that one. So this -- this -- we are really excited about this one. And really with any tech platform, scale matters. So, combining our scale with cxLoyalty's innovative technology will be a win not only for our Chase customers but for cxLoyalty's existing clients and suppliers.", "And then -- and then you're right to point out our existing UR platform, but that today is predominantly used as a point production portal. So there's a huge opportunity to capture a greater share of our customer spend on travel which is $140 billion both on and off us. So in addition to capturing the full economic value of the existing redemptions on the platform, we also have an opportunity to really turn it into a great place for our customers to book travel." ] }, { "name": "Betsy Graseck", "speech": [ "OK. But still focused on the card space as opposed to moving into, you know, other parts of your relationship with consumers?" ] }, { "name": "Jamie Dimon", "speech": [ "It's -- it's -- it's con -- it's consumer, this thing it was consumer." ] }, { "name": "Betsy Graseck", "speech": [ "[Inaudible]" ] }, { "name": "Jennifer Piepszak", "speech": [ "That's not what you said, it has to be card only." ] }, { "name": "Jamie Dimon", "speech": [ "Jen, mentioned the number, like more than 30% of travel expense goes through our cards, something like that. And -- and so, we want to give a far better experience to our own customers when it comes to what we offer them to travel. You are right, ultimate reward always does a good job but why would you try to double that overtime or triple it?" ] }, { "name": "Jennifer Piepszak", "speech": [ "And we think we can -- we can -- we can do a better job for their existing clients and suppliers. So, it won't just be about Chase customers." ] }, { "name": "Jamie Dimon", "speech": [ "Exactly." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And then the follow-up question just on the technology budget increasing, I mean, I know this comes after a year of being somewhat stable year on year. And just wanted to dig into the comment you made on the -- on the page around data analytics, cybersecurity, and artificial intelligence capabilities. Again, you have been a leader in this for a while.", "So you know, the question is what -- where's the whitespace that you are moving into? And can you give us a sense as to how important this is for some of the expansion that you are doing geographically in, you know, U.K. digital and some of the European footprint that you are expanding into?" ] }, { "name": "Jamie Dimon", "speech": [ "So -- so first of all, cyber we are going to do -- we have to do whatever it takes and we are going to do that in -- in everything we do. But you mentioned, we built a brand new data centers pretty much around the world, which are a lot more efficient. They are going to be effectively -- they're not cloud base but they have all the cloud technology, etc, for our own private cloud. When we move other stuff to the public cloud, we are refactoring applications to get there, where we are doing all the data, you all know the issue with data, not that banks were bad, but data was held in all these different accounts, you are trying to build these data links, you can use AI and machine learning better and it all do haste.The cloud is real.", "The cost is real. The speed is real. The security is real. The AI is real.", "The machine learning is real. So every single business and with every single meeting we go through is talking about what are we moving to the cloud, whether it's internal or external? What are we adding AI machinery on? Are we getting the data analytics right and it is global. It's -- and we don't spend that much time on it. But every single business is doing it.", "You have a tremendous amount of AI being used in -- in asset wealth management, CIB, in trading, in commercial banking prospecting, and it's literally the tip of the iceberg. Whatever we say today, 10 years from now, it will be probably 50 times more than we are doing today. And I would spend anything to get it done faster." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Ken Usdin with Jefferies." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Ken." ] }, { "name": "Ken Usdin", "speech": [ "Hi. Thanks. Good morning. A question on -- on capital return and capital usage.", "In the deck and in your press release, you mentioned that you are looking to get back into more return of capital, you mentioned $4.5 billion net and there's still the net income test. And I just wanted to ask you to kind of walk us through how you think about, you know, full -- you know, how do you think about full usage of that $4.5 billion and then how do you think forward vis-à-vis the comments we just talked about with regards to potential external opportunities and what's the best use of that incremental capital, given that you still have, you know, a healthy amount sitting there?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So -- so, we always start in the same place, which is we would much prefer to do the things that Jamie's been talking about when to buy back our stocks. So, we would much prefer to deploy it to organic growth or -- or acquisitions. Having said that, we do as you point out have significant excess capital at this point.", "When we look at the first quarter, the -- the Fed capacity was defined by the trailing four quarters of profits and so when you back out our dividend, that's where you get to the $4.5 billion. So that is the, you know, capacity that we have for this quarter and we will do up to that amount, obviously. I don't know that we will do the full amount, but we'll -- we'll certainly do, obviously, can't do more than $4.5 billion. And then we -- we, you know, we are certainly hopeful that we can go back to the EU under the SCB framework beyond the first quarter as we think about buybacks.", "But -- but we will wait to see what the Fed says at the end of the first quarter." ] }, { "name": "Ken Usdin", "speech": [ "OK. Great. Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "If you can manage your capital down to the 12% or whatever we said, with that regards have been getting permission from the Fed. They have already implied that's what they can do. That's the way it should be done eventually one day." ] }, { "name": "Ken Usdin", "speech": [ "Yep. Understood." ] }, { "name": "Jamie Dimon", "speech": [ "I want to point out is that, we have been consistent in 2 times tangible book, but our earnings power and dividend and all stuff like that, it still makes sense to buy back stock. But that diminishes, you know, every point, 2.1 or 2.2, or 2.3, we would much rather use our capital to grow organically or inorganically." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. I mean, we will always look at the effective return of us buying back our stock for our remaining shareholders and if we think it makes sense relative to the alternative we are going to keep doing it." ] }, { "name": "Ken Usdin", "speech": [ "Yep. Consistent with what you have said in the past. Thanks. And just a question on the card business, you mentioned how much of that spend goes through Chase, and just you are -- given that we still have some uncertainties with regards to a true return to open.", "Yeah, your card segment revenue yield actually did improve a little bit. I am just wondering if you can kind of help us, just think through, just the pushes and pulls you see on the card business with regards to your expectations of -- of spend improving, balances improving, and -- and competition underneath? Thanks." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. So, the competition remains very, very strong. As it relates to the revenue yield, it's a little bit of noise there, because balances are down so much and that's what that's derived from. So there's a little bit of noise there.", "Importantly, you know, we -- we -- we do -- if GDP is back to 2019 levels by the middle of the year, we expect them to continue to recover, and perhaps, significantly, so in the second half. As it relates to travel, whether it's the second half of '21 or '22, we -- we are confident that our -- our customers will continue to travel and there's pent-up demand onshore for travel and so we are excited about those opportunities, whether they come, you know, in '21 or '22 or beyond." ] }, { "name": "Jamie Dimon", "speech": [ "And we take very seriously the new entrance like the Goldman Sachs card and there are a bunch of other folks who are doing similar things that we expect to see more of that." ] }, { "name": "Operator", "speech": [ "Your next question comes from Glenn Schorr with Evercore ISI." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hello, there. Thank you. So, I think it's good time of the year to get your mark-to-market on, your thoughts on the competitive landscape and I know every business is competitive. But I'm -- I'm more curious on the new side of competitive and maybe I am talking more about the consumer and commercial banking right now.", "But between all the neo banks that either want to pay much more than you guys on deposits or charge no fees, or the pay -- buy now pay later models, or things where you also even play in banking as a service in trying to provide banking products to big technology companies with big client footprints. I am most curious to see, is this just normal evolution and not changing things or -- or is there something bigger going on here that you -- you want to comment on? Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So I am going to -- in the commercial bank, it is probably less than you think. I do think there are alternative credit providers. But we will just do a lot of things for our clients, they can quit investment banking, FX swaps, cash management custody, asset management, etc.", "So it's slightly different. I got a consumer saw me and we wrote in the chairman's letter years ago that Silicon Valley is coming. And I think it's just more and faster and better and quicker. And we have to just be very conscious that includes pay now, pay later and we have some of the products ourselves, but our job is to make sure we use our unbelievable strength and client base and capability and Gordon always points out, when you have that kind of products that goes to keep it simple, clear, basic, what the customer wants, to just to deliver more and better and so we are quite conscious.And I would also add, by the way, it's not just that, you know, we've -- the team looks at and financial and early pay and -- and all these other competitors.", "I expect one day, you can see other big foreign banks back here again, including the big Chinese banks, the biggest ones were bigger than us. And you know, I'm -- that may be five years or 10 years out, but we better be thinking five years or 10 years out. And so they are all coming, we were comfortable, but you know, we're -- we're still exercising and taking our -- taking out vitamins, OK?" ] }, { "name": "Jennifer Piepszak", "speech": [ "And it's another reason our -- our investments are going up as much, yeah, because we are very well aware of it." ] }, { "name": "Glenn Schorr", "speech": [ "Fair enough. Keep taking those vitamins. Maybe along the same lines, I think, you -- you spoke -- spoken about the power that the data of your own client footprints and -- and -- and franchises have. I am just curious, we haven't heard that much lately about what you are collecting, how you can use it, how you can use it to enhance the customer experience accelerate growth.", "You -- you have all this at your fingertips and people talk about data as being the new gold. I'm -- I'm curious on how you are thinking about it right now?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes, yes, and yes. That's all we are going to tell you. I mean, I have talked about how important AI is, obviously, the data in that. The AI and data are directly related and some of it gets used very well.", "But if you shut down, some of it doesn't get used well. We have restrictions, you know, far more restrictions than some of our Silicon Valley competitors. But still, there are ways to use our data to do a better job for our clients. And we do a tremendous amount already in marketing, risk, fraud, cyber, you name it.", "And we use a lot of that -- like a lot of that stuff also protects our clients in cyber." ] }, { "name": "Operator", "speech": [ "Your next question comes from Mike Mayo with Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Hi. I will ask my question -- I'll ask my question and go back in the queue. Just -- I guess I -- I miss your Investor Day. We have four slides to -- to talk about that.", "I guess, if your capital cup runneth us over, maybe your expense budget could run us over too. I mean, spending is certain, returns are uncertain. So, seems like there's more questions this year than in the past. You did get positive off the leverage last year during the pandemic.", "So, yes, you have earned the right to go ahead and spend more. I think most people would agree. But there's still just so many questions, so I will just ask on CCB. It looks like Slide 16.", "You mentioned going to all 48 states by mid-2021. I didn't really get all of that. So, what -- how many states have you been in and by the time you get to 48, how much spending is that? What's the game plan? What's your plan with branches? Others are shutting branches after the pandemic, you are expanding. If you could just give some color on that or if Gordon's on the call, we can hear from him too?" ] }, { "name": "Jamie Dimon", "speech": [ "Gordon -- Gordon's not but -- so you know, we've -- we started this a while back to expand the branches and stuff like that. We are still -- we are closing plenty of branches. So if you look at what we are doing, we got the number of leads, we have closed like 1,000 the last four years or five years and we have opened like 1,000 or something like that. But -- and I think we did the Bank One JPMorgan deal, we were in 21 states, 23 states.", "And when we started the expansion originally, you know, the -- we -- we're very conscious that the world needs less branches and the shape of the branches differently and you made hub and spoke and we are always testing new things and stuff like that. But we still have almost a million people today who visit branches and it's down, but it's a million people a day, I forgot the number, it's 60% or 70% accounts still open in branches, small businesses still need branches. And the new branches that we opened in Boston, Philadelphia, D.C., they -- they have been doing quite well. And the shocking thing is doing quite well in card, consumer, investments, small business.", "So as we go to all the other states, we just want to be and we know we have to have certain size, not going in each state with one just to plant the flag. That would be a kind of waste of time. We look at the major markets, number of people already know us through Chase, and stuff like that. And so we are optimistic that the strategy will pay off and it will enhance our businesses and our capabilities and -- and other things, I am not going to tell you because it's very competitive.", "I think we have shared too much with our competitors in the past. So I am going to kind of shut myself up a little bit." ] }, { "name": "Jennifer Piepszak", "speech": [ "No. But, Mike, I can just add a -- a little bit of color on the numbers. So we -- we had said that we were going to open up 400 new branches in market expansion. So we have done 170 So far.", "Importantly, in 2020, we did fewer than 90, and in 2021 we are going to do 150. And so, of course, we, you know, by 2022 or 2023, that's going to start to sunset. So there are in the numbers multiyear investments that, you know, will -- they are ramping maybe in '21, but they will ramp down now that obviously gives us the capacity to reinvest those dollars. But you know, we -- we have a lot of capacity within the numbers you see on the page to continue to increase investments without necessarily the absolute number going up.", "In tech as an example, 10% or 20% of that number in any given year is completed. So that gives us more dollars to reinvest. And then the only thing I'd add on branches is this like the franchise value that comes with opening up these branches in new states is extraordinary and I think underestimated because it gives us the ability to do state and municipal business that we wouldn't have otherwise been able to do. So it's not -- it's not just about consumer banking." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. And it gives me a chance to North Dakota, which is the only state I have never been in. But believe it or not, we already do a lot of middle market, credit card more in North Dakota. We just didn't do consumer banking.", "So, I do the second where I am allowed, I am on my way to like Bismarck or Fargo or something like -- [Inaudible]. The new head -- the new head of investor relations who is sitting in this room right now, Reggie Chambers, who I am sure you will get to know. This was part of what he did for the Sun Belt, which is the all branch expansion, though we don't really restrict them how much you can tell you. But -- but -- and including looking at different formats.", "We are not blind to the nature that you have the world changing and digital all that. So -- and we can very quickly, just so you know, I forgot the number, change the fleet, like if you said, you have got the world changing more rapidly, we are completely comfortable that in a five-year period, you can dramatically reduce the size of the fleet or the cost of the fleet, etc, while serving clients." ] }, { "name": "Mike Mayo", "speech": [ "OK. So this is kind of like what you did with commercial bank few years back going to every state, I guess. But -- so 48 states, where were you, say, a year ago or three years ago, just to give final context to that?" ] }, { "name": "Jamie Dimon", "speech": [ "48 states three years ago. I mean, by the way, commercial bank, same thing. We talked about expansion. So we bought WaMu, you know, it took years, but we said we are going to do $1 billion in the WaMu states, which is mostly California, Florida, Atlanta.", "So we got -- what we are very close to hitting that. I thought governor was like $908 million this year or something like that. I told the teams we reviewed it yesterday that when we hit $1 billion, I want to send a case of really expensive wine to a guy called, Steve Walker, who did it for us and have great -- and we told him, right, like great bankers, great capabilities, stuff like that. We were doing $400 million of investment banking business when we did the Bank One deal JPMorgan through the commercial bank.", "We set a target of $1 billion and $2 billion and $3 billion, we exceeded $3 billion. I think we did $3.5 billion. The new target is $4 billion. It's now 25% to 30% of domestic U.S.", "investment banking, which DCM, ECM, M&A through that network and the investment bank -- the commercial bank expanded into healthcare, technology and we have a couple of other areas we are going to be rolling out soon. So these expansions really make sense. They pay for themselves. They are relentless.", "They are hard to do. They are obviously right?" ] }, { "name": "Mike Mayo", "speech": [ "OK. I'll -- I'll requeue." ] }, { "name": "Jamie Dimon", "speech": [ "And remember the commercial -- the commercial bank generally these branches. It's very hard to judge -- and we have done it. But it's very hard to build a quality business without retail branches when you are a commercial bank. But you will see very few commercial banks that don't have retail branches." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Brian Kleinhanzl with KBW." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Brian." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hey. Good morning. Just a quick question on the expense outlook. I noticed there was a small piece in there related to the workforce optimization, but I guess thinking in the broader context, as we get through COVID-19 and move to the post-COVID-19 world, the general thought process was that there would be this big expense save opportunity coming from that, work-from-home environment.", "But it doesn't really show in your expense outlook. Is it something that, you know, expect to see beyond 2021? Is this a, you know --" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Step down expenses?" ] }, { "name": "Jamie Dimon", "speech": [ "But-but in the big picture there are people expenses $33 billion, for real estate expenses, I am going to say $3 billion." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah." ] }, { "name": "Jamie Dimon", "speech": [ "So, yeah, even -- and I do think it can be much more efficient than that, but I don't think it's like a -- a -- a game changer." ] }, { "name": "Jennifer Piepszak", "speech": [ "And we can't move our footprint that quickly, anyway. So, we do -- we do have time here to make sure that we do it really thoughtfully." ] }, { "name": "Jamie Dimon", "speech": [ "But Jen is thinking about moving the finance function to Florida." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hawaii. Yes." ] }, { "name": "Jamie Dimon", "speech": [ "Hawaii." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hawaii, that's right." ] }, { "name": "Brian Kleinhanzl", "speech": [ "And then just a follow up, but maybe on the international, I saw still the billion hopes of additional revenue on the international. Just give an update on how that's tracking so far?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sorry, sorry, I didn't catch that." ] }, { "name": "Jamie Dimon", "speech": [ "The billion what?" ] }, { "name": "Brian Kleinhanzl", "speech": [ "On the international revenue expansion that you were looking for?" ] }, { "name": "Jamie Dimon", "speech": [ "Oh. The -- firstly, that's some banking expanding globally everywhere as best we can and so as asset management. And because we already spoke about China and stuff like that, the commercial banks started an international expansion effort to cover companies overseas that we do business with here that we are not covering and it's doing fine. It's mostly expense right now.", "You know, we added bankers and products and services and legal and compliance and we didn't add -- we have been adding clients as we were quite happy with it. I should point out that we just had the best year ever in Asia. I mean, I think, it was up like 20% or something like that. So -- and you know, Asia is still will be one of the fastest-growing markets in the world.", "So our -- you know -- and that's kind of country by country to make sure we get that right." ] }, { "name": "Operator", "speech": [ "Your next question comes from Gerard Cassidy with RBC Capital Markets." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Hi, Jennifer. Hi, Jamie. Can you guys share with us, obviously, there's been a change in the administration in the Senate and a number of our regulatory body heads are going to be replaced this year, including the FCC and the Consumer Protection Bureau. Can you guys give us some color what you are thinking about what may change from a regulatory standpoint with the different political party controlling Washington now?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. You know, our focus is always the same. We have got -- we have got 60 million U.S. clients.", "We have got 6,000 investment clients around the world. We have got -- we run this company to serve clients, communities, hospitals. We financed $100 billion in states, cities, schools, hospitals each year. That's what we do.", "And obviously, we want to satisfy all of our regulators. So I do expect that there will be a new set of regulators. We will have a new set of demands. Some we agree with.", "We want to do a better job in climate for the world. We want to be more green. We want to help the disadvantaged. We rolled out an enormous amount of progress in racial equality and things like that.", "So, yeah, but they will be tougher. That's -- that's life. It's life around the world. We are going to -- we have to do a whole bunch of new regulators, which we are trying to satisfy in the ECB, etc.", "And so, it's -- I don't need to change our life that much and competitively, everyone's in the same kind of boat and, you know, so it -- it will be fine. And we -- we want the new president to be successful." ] }, { "name": "Gerard Cassidy", "speech": [ "And then following up, Jennifer, you talked about on Page 17 of your slide deck, the -- the issue with deposits and the marginal benefit of these deposits and you guys are, you know, wrestling with this issue? Can you share with us, yeah, and you already have talked about the, you know, the branch expansion in all 48 states could save U.S. states? How is this going to be managed as best you can over the next 12 months to 24 months, because obviously, long term, you want that branch expansion, but simultaneously, as you have pointed out, you -- you may be getting a negative ROI, if you don't get relief on the SLR? And is there a chance that you will get that extension on the SLR from the regulators?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So, I will start with -- we -- we certainly remain hopeful that we will get the extension. Importantly, as we think about branch expansion near-term rate headwinds, we certainly consider that, but at the margin there, not a factor given the long-term franchise value associated with the branch expansion and -- and the fact that it's not just about deposits for any one consumer anyway, because we have the opportunity to have a much broader relationship with them and all of that is factored into the branch expansion. But we do consider in -- in the analytics there the near-term headwinds from -- from rates. But -- but there is a steady-state number which is more of a normalized level of rates.", "So it doesn't -- it doesn't -- at a margin it might change some decisions around marketing, but it -- it doesn't have a big impact on us." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. The bigger decisions on that which we have a lot of leeway on is out of the investment bank. It's repo, deposits, corporate clients, trade finance, all those other things. So the -- this is managed very, very closely.", "Remember GSIB uses one of, say, 20 constraints we managed by business, by product, by area, by region, by --" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. And we -- and bring it up, obviously, it is an issue for us in the near to medium term, should we not get the extension and it's one that's important for people to understand. But we bring it up more so because it should, another example of, you know, where lack of coherence around these rules can have an impact, not just on JPMorgan. So we don't bring it up just because of the impact on JPMorgan.", "We bring it up because it is perhaps one of the better examples of the need for recalibration. You have to have the right incentives in the system for it to work through time and we are just seeing that's not the case." ] }, { "name": "Jamie Dimon", "speech": [ "Remember, we were able to reduce deposits $200 billion within like months last time." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah." ] }, { "name": "Jamie Dimon", "speech": [ "So we don't want to do it, it is very customer friendly and say, could you take your deposits elsewhere, but --" ] }, { "name": "Jennifer Piepszak", "speech": [ "Right." ] }, { "name": "Jamie Dimon", "speech": [ "They do have -- a lot of this larger corporate client who have other options and bunch of deposits, but money market funds or something like that. So, we are mad. It is not -- none of this is going to be an issue for 2021, folks. I mean, fundamentally, it is just how we were a company.", "And even -- even if that temporary relief goes away. And I am always against temporary relief, because for this exact reason, it creates another cliff, even if it goes away we are fine, we just have to manage it much tighter." ] }, { "name": "Operator", "speech": [ "The next question comes from the line of Matt O'Connor with Deutsche Bank." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Matt." ] }, { "name": "Matt O'Connor", "speech": [ "Hi. Maybe a bit of a basic question, but why is markets revenue are trading so good still, not just for you, but the overall wallet? You know, I get it to be investment banking business, the feeder businesses still very good, there's lots of liquidity, banks have lots of capital, but of course, rates are near zero, budget tight, volatility is low. I will take away some of the answers. But you know, just conceptually it's been very strong.", "It sounds like the hope is it will remain strong. What's really driving it?" ] }, { "name": "Jamie Dimon", "speech": [ "There is $350 billion of global financial assets, $50 trillion -- $350 trillion, and probably, in 10 years or 20 years that number is going to be $700 trillion. People have to buy and sell to hedge, finance, with money around the world, FX, currencies, our pension plans. You know, obviously, volumes go up and down. You know, spreads generally over time has been coming down, what you would expect in a competitive market.", "So -- but -- but the expansion of the balance sheets of the central banks around the world that Jen showed you, the $3 trillion or $4 trillion in the Fed, but globally it is $12 trillion. And you know, companies have a lot of financing to do. And -- and of course, when you have higher DCM and higher ECM and higher M&A that also drives a lot of trading and so you got to kind of put that all in the mix." ] }, { "name": "Matt O'Connor", "speech": [ "And obviously, the question is how sustainable is this, and I guess, one argument could be that technology has allowed banks to increase the velocity. You can talk about this for some time. Do you think that is a structural change that will benefit the businesses and specifically for you guys over a long-term time period?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. The way we look is we kept our share of what things we are trying to find digitized and the business has done a kind of the way we expected them to do it. So, yeah, we think scale matters, technology matters, and hopefully, we think we can even grow our share. This is just trench warfare.", "So we expect to grow it, but we, you know, I don't -- it's a very hard to say what the base level is and we thought that the base level kind of revise down sometime last year, but will stay as high as it stayed in 2020 then I doubt. It may not go back to what it was. It may be higher than that." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Charles Peabody with Portales." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Charles." ] }, { "name": "Charles Peabody", "speech": [ "Good morning. I have a couple of questions related to fintech and unfortunately, I was born in a wrong generation, so I need a lot of help. How dependent is the fintech world on the banking system, as I understand they lay on top of the pipes in the plumbing of the banking system. Do you have any leverage in a competitive world against the fintech world? And -- and then, secondly, I noticed that the OCC gave banks the green light to use public blockchain networks and stable points.", "Can you explain how -- what important that has to JPMorgan?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. You go ahead with blockchain there." ] }, { "name": "Jennifer Piepszak", "speech": [ "Oh, OK, sure. So -- so that -- that guidance enables an offering of stable going on a public blockchain. So that doesn't impact JPM coin. JPM coin, you should think about as the tokenization of our customer deposits.", "So, it's obviously very early. We will assess use cases and -- and customers demand. But -- but it's still too early to see where this goes for us." ] }, { "name": "Jamie Dimon", "speech": [ "And we are using blockchain for sharing data with banks already and so we are at the forefront of that which is good. The other question was about fintech. You know, look, first of all, they are very good competitors. And I pointed out to a lot of people, you know, PayPal were $250 million, Squares were done in $20 million, Stripe is worth $80 billion, Ant Financial is down quite a bit now.", "But they are there. They are strong. They are smart, some effectively ride the rails. So we bank a lot of them.", "You know, we help them accomplish what they want to accomplish and you have -- so my view is we are going to compete, we will need to and we have to look at our -- look inside about what we could do better or could have done better and things like that. So I am confident we will be able to compete. But I think we now are facing old generation of newer, tougher, faster competitors who -- and if they don't buy the rails of JPMorgan, they can buy rails of someone else. So you see, I have told you before, everyone is going to be involved in payments.", "Some banks going to white label, which makes -- which makes fintech competitors white label the bank and build every sort of thing on top of it and we have to be prepared for that. I expect it to be very, very tough competition in the next 10 years. I expect to win. So help me God." ] }, { "name": "Charles Peabody", "speech": [ "Thanks. So did they need the banking system to complete their loop of -- of service or can they work completely outside the bank?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, the most will do for now, but I think it's a mistake because it's going to be forever. The game of bank licenses, Utah is giving industrial licenses. Like I said, banks are white labeling. So it's effectively the same thing.", "If you know, if fintech companies uses a white label bank just to process their business, they're -- they're basically a bank. You know, when -- what the regulator will do, I don't know, but we have to assume that they are going to do it. And that some don't need, we'll -- we'll find ways, not to use their banking system, which they have done. I mean, if you look at a whole bunch of the things they have used stuff around the banking system, which is fine, I am not against that.", "The regulators may have a point of view about that one day, but I am less worried about that. I am going to worry about us." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Andrew Lim with Societe Generale." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi Andrew." ] }, { "name": "Andrew Lim", "speech": [ "Hi. Hi. Good morning. And so..." ] }, { "name": "Jamie Dimon", "speech": [ "Look, Charles, one other point, if our examples unfair competition, which we will do something about eventually. People who we will make a lot more on debit, because they activate under certain things, the only reason they compete is because of that. People you know, basically, don't do KYC AML and create risk for the system. And I can go on and on, but that part we will be a little bit more aggressive on, people who improperly use data has been given to them by client, OK? So you can expect that there will be other battle to take place here." ] }, { "name": "Andrew Lim", "speech": [ "Hi. Sorry. It's Andrew Lim here. So I just wanted to pick your brains on inflation and hopefully, inflation metrics are picking up.", "If we look at rates, if you look at the inflation indicators and that's like a lot of people are jumping on this replacement bandwagon. But I just wanted to see what you are seeing on the ground in the real world as to how this might be manifesting itself even in commercial banking or in investment banking in terms of like the month, products, or volatility. Is that something that you -- you see as a scene developing?" ] }, { "name": "Jamie Dimon", "speech": [ "I mean, look, we don't have that much more insight than you do. You do see signs witnessing in commodities and certain products and consumer goods and stuff like that. It's hard to tell that, you know, supply lines that can't keep up with demand or you have long-term trends, China is no longer ending the world. That -- that can change inflation.", "I think and we looked at when Jen gave those numbers, she always using implied curve. I think the best way to think about it is, I think this should be a much bigger conversation next year because we have good growth. I think it's a good thing that we have good growth and part inflation, but that will become part of the conversation, how bad, what I am going to do and things like that. Just so the risk management thing, you got to build into your mindset that, you know, you have got to look at there has been a possibility.", "So you know, I think a year ago, people have said, not possible before COVID and now because the world has done $12 trillion of QE and something like $10 trillion to $12 trillion of fiscal stimulus, you have got to put on that thing a scenario where you have higher inflation and not 2%. That would be great. It is like Goldilocks. But like 3%, 4%.", "Just so you understand what the risk is and how we manage through that. It is not the worst thing in the world by the way. The worst in the world is no growth." ] }, { "name": "Andrew Lim", "speech": [ "Great. OK. And -- and for my follow-up question, you -- you talked about how you resolved the issue of excess deposits by pricing way about $200 billion of those. So I am just wondering why you don't do that now or is the quantum of the problem that much bigger?" ] }, { "name": "Jamie Dimon", "speech": [ "We don't have that all, Jen." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. We don't have to. It's also -- it is slightly different in the sense that there was capacity in the system then to absorb it. This is an issue for everyone.", "So you know, that -- that could be a challenge. We can't make them go away." ] }, { "name": "Operator", "speech": [ "Your next question comes from Betsy Graseck with Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Just a couple of quick follow-ups. One, Jamie, on the topic of payments and competition, you know, Libra's -- Facebook's Libra is back out there getting rebranded as Diem and their goal is basically to be global payment network or at least to create one. I am wondering does the OCC stable coin approval do anything for you? You already have JPM coin obviously that's internal to your own footprint? But I am wondering is there any benefit of the OCC stable coin approval, is there anything with regard to Libra competition that's coming that, you know, would -- would drive changes that you are making in your own platforms?" ] }, { "name": "Jamie Dimon", "speech": [ "I don't think so. But -- I don't think so. We expect stable --" ] }, { "name": "Betsy Graseck", "speech": [ "OK." ] }, { "name": "Jamie Dimon", "speech": [ "And you know, obviously, there is this talk about several banks having digital currencies and stuff like that, right? Their currency is digital when we move around the world. It's in central banks where it will move by electrons and stuff like that both. So I -- I do expect that stuff is coming and it may not change our world that much. But some of the competitors what they want to do, they want to be in payments.", "They want the payments data. They want to move the money. Again, it's going to be a regulatory issue about what that means and --" ] }, { "name": "Betsy Graseck", "speech": [ "And then can I mention --" ] }, { "name": "Jamie Dimon", "speech": [ "[Inaudible] is not unfair. That's the only thing I can point. So as long as the competition -- as always we can do it safely and competition can do then it's hard to argue this -- that's unfair." ] }, { "name": "Jennifer Piepszak", "speech": [ "And -- and Betsy, I mentioned earlier, you might have missed it, but it does not impact JPM coin, JPM coin is -- is different. You should think about that as tokenizing deposits to make payments easier for client." ] }, { "name": "Betsy Graseck", "speech": [ "Right. Yeah. No." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah." ] }, { "name": "Betsy Graseck", "speech": [ "Yeah. No. I totally get that. I was just thinking hey, if OCC is allowing stable coin maybe they are trying to, you know, help move the center of this back, you know, into the banking system.", "That was, you know, kind of a question. The follow-up was just on back to Slide 14 and the other purple, you know, area, where the nontechnology expenses are moving up year on year and part of that is the $30 billion commitment to the path forward initiative. And -- and Jamie, I wanted to understand, like, how you are thinking about that $30 billion? What kind of time frame is that over, you know, and where that money is going? I mean, we put a note out as you know, this past quarter on housing and on housing inequality and wondering how you are thinking about how you are going to be investing that $30 billion in kind of output that you want from it?" ] }, { "name": "Jamie Dimon", "speech": [ "Right. So, we believe that inequality is a real problem. And -- and people don't always know, but like, 40% of Americans make $15 an hour or less, which is $32,000 a year something like that. 50 million don't have employment and people at the lower end are dying quicker than they did before.", "So first time in our lifetimes, our grandparents lifetimes, American's mortality is getting worse, not better and society have to fix these problems. Now we need healthy growth, healthy growth I mean like, but you also need education, infrastructure, healthcare, and affordability. The racial problem has been around for 100 years and with all the things that took place after even -- after the civil rights, we haven't made the progress we should have made. So we -- and fortunately, lot of other people and companies take this really seriously.", "How can we help all of the American citizen in particular the black community who has been left behind for so long. So our effort is five years, the $30 billion includes, I've got -- I've got the exact numbers we published $8 billion of mortgages to in lower, middle-income neighborhoods, black neighborhoods, primarily black neighborhoods. It includes affordable housing, building -- affordable housing includes billions of dollars for entrepreneurs of color, it includes defense education. We recently went over a million secure card which is what we expected to do because these are cards that have all the benefits of banking ATMs, online bill pay for $4.95 a month, you know, for lower-paid individuals who are doing more, more education.", "Of those 400 branches we are opening, 25% or more will be in LMI neighborhoods. We are financing MBI's and CBFI's. So it's a serious effort, it costs $100 million a year. There are hundreds of people involved here.", "So we have a debt how many loan we are going to put in this neighborhood and how many loans we are going to put in that neighborhood. And we are going to report it that to you, we are not going to -- and we are doing work, we don't mind things not working, but it will change courses and stuff like that. And so -- and obviously, it includes hiring more open black community training here and stuff like that. So I think, these efforts, in my own view, is that the corporate world has to do this if you want to fix it.", "It's not going to happen. We need good government. It is not going to happen just with good government. The jobs at the local level.", "Unemployment sell branches 20% or 20 is still high. The kids didn't have computer to go home and do their Zooming and schools didn't have them. And unfortunately, a lot of planned appeasing, including my wife, send lot of computers to people there, but we have to do something about this. We are always so forth.", "And in my view, we should do it for more purposes of loan that would be sufficient, but for commercial purposes do it. If all the parts American doing better, outcomes and more jobs and healthier people, less crying, less prisons, less drugs, and so it's time to get our act together. And again, I think, businesses have to work in collaboration with the government to do it. I just don't think it is going to happen alone.", "It is not going to happen just by yelling at people. You know, the successful companies do not create the slums, but they can help fix them." ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Mike Mayo with Wells Fargo Securities." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Just following up more on the market expansion. In commercial banking, could you just drill down deeper on the international part of that expansion and what's left to be done in U.S.?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, I think -- I'll answer the U.S. but -- are you in U.S.? Again, we are not going to share so much information from now on. But it's the same thing we looked at all the major SMSAs with the middle-market companies, we are doing deep dive in how many there are. And I think, we are now in 75 of the top 75 roughly.", "So, that expansion is now just going deeper not maybe more at this point. There will be helped little bit by the retail expansion. I think, overseas -- I just -- I just don't have the number on my left hand." ] }, { "name": "Jennifer Piepszak", "speech": [ "I don't know either." ] }, { "name": "Jamie Dimon", "speech": [ "OK. But if you are talking about -- that will eventually cover and I could be dead wrong in this, 1,000 more clients overseas. These are headquarters or subsidiaries of foreign companies that we probably do business with headquarters subsidiaries in the U.S. and we could share more of this with you later down the road." ] }, { "name": "Jennifer Piepszak", "speech": [ "And I would just --" ] }, { "name": "Jamie Dimon", "speech": [ "I will tell Charlie, he can't imitate me on this one." ] }, { "name": "Jennifer Piepszak", "speech": [ "Mike, I -- I would just add just from an expense perspective. It is important to remember on the international front that we are riding existing rails that are already there in the CIB. So we can -- this is -- this is an extraordinary opportunity to hire bankers and we already have the infrastructure." ] }, { "name": "Jamie Dimon", "speech": [ "We already -- and we used to generally bank the U.S. subsidiary." ] }, { "name": "Jennifer Piepszak", "speech": [ "That's right." ] }, { "name": "Jamie Dimon", "speech": [ "Our U.S. headquarters." ] }, { "name": "Jennifer Piepszak", "speech": [ "So, it's not the list you might think from an expense perspective." ] }, { "name": "Mike Mayo", "speech": [ "OK. And then, just a follow up on the other questions that have been asked related to fintech. Jamie, you said, you are going to win, right. But based on evaluations of the PayPal, Stripes, and Visa, Mastercard anything that fintech related.", "I mean, they -- they trounce valuation of your stock. I think, the market saying that others are going to win. So how is JPMorgan is going to -- I mean you said, Silicon Valley is coming what, that was like six years ago or something and then -- and then each year we say, yeah, we missed it, we missed it, we missed it, well, it's still --" ] }, { "name": "Jamie Dimon", "speech": [ "No. No. No. We never said we -- Mike, we never said we missed it.", "We have been doing fine over these five years. I started to like -- but -- but I do agree with you, you know, I gave that to the management team. My whole operating committee a little deck that show Visa, $500 billion; Mastercard, $350 billion; PayPal, $220 billion; Ant Financial, $600 billion; Tencent, $800 billion; you know, Alibaba, trillion; Facebook; Google; Apple; Amazon; you can go on and on. But absolutely, we should be scared shitless about that." ] }, { "name": "Mike Mayo", "speech": [ "So how are you going to win? I mean, just what -- like what --" ] }, { "name": "Jamie Dimon", "speech": [ "I am not going to tell you. But we have -- but we have plenty of resources, a lot of very smart people. We just got to get quicker, better, faster, and that's the -- which we do. We have got -- we have done an exceptional.", "If you look at what we have done, you would say, we have done a great job. But other people have done a good job too. Some have monopolies, virtually, it is a whole different issue, but --" ] }, { "name": "Operator", "speech": [ "Your next question comes from the line of Gerard Cassidy with RBC Capital Markets." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Hi, hi. Just one follow up. Obviously, Jennifer, you pointed out that your mortgage production revenue was quite healthy in the quarter and you have penetrated the correspondent champ.", "Can you guys share with us on the servicing side, with the new, you know, with the forbearance programs that the government has put into place, is that a positive or negative for servicing revenue as we go forward?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Oh, gosh." ] }, { "name": "Jamie Dimon", "speech": [ "Jen will answer that one." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. Yeah. I don't even know exactly how to answer it, Gerard. All I can say is that, when we give -- when -- when we give customers the help that they need -- if that's what the bridge them to the other side of this thing, for sure it is good.", "So, I -- I don't know precisely what the math is, but there's no doubt it's good if it helps get our customers to the other side. We do service their mortgage." ] }, { "name": "Gerard Cassidy", "speech": [ "In the -- in the past when loans go into delinquency, obviously, and there is -- in a mortgage-backed security, obviously, you guys have to advance the funds and stuff. But the deferral loans are not in that -- I am assuming they are not in that category, is that correct?" ] }, { "name": "Jamie Dimon", "speech": [ "Not yet. But you are absolutely right." ] }, { "name": "Gerard Cassidy", "speech": [ "OK." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah." ] }, { "name": "Jamie Dimon", "speech": [ "The cost of servicing, the default of loan is like 10 times the cost of servicing and nondeposit loans. So Jen is right. Although we don't prudently default, there is probably a small benefit." ] }, { "name": "Gerard Cassidy", "speech": [ "OK. Great." ] }, { "name": "Jennifer Piepszak", "speech": [ "I -- I -- I got you. We are talking about advancing the -- the servicing cost. Got it." ] }, { "name": "Jamie Dimon", "speech": [ "That's not an issue either." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. No." ] }, { "name": "Gerard Cassidy", "speech": [ "OK. Thank you. Appreciate it." ] }, { "name": "Jennifer Piepszak", "speech": [ "[Inaudible] at this level." ] }, { "name": "Jamie Dimon", "speech": [ "Folks, thank you very much for spending time with us. We will speak to you all soon." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2019-07-16	[ { "description": "Chief Financial Officer", "name": "Jen Piepszak", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Buckingham Research -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt OConnor", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Morningstar -- Analyst", "name": "Eric Compton", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's second-quarter 2019 earnings call. This call is being recorded. [Operator instructions] At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO Jamie Dimon; and Chief Financial Officer Jennifer Piepszak.", "Ms. Piepszak, please go ahead." ] }, { "name": "Jen Piepszak", "speech": [ "Thank you, operator, and good morning, everyone. Before I get started, I'd like to thank Marianne for nearly seven years as CFO and for her support of me over many years, but particularly for support during my transition into this role. So a huge thanks to Marianne." ] }, { "name": "Jamie Dimon", "speech": [ "And I just want to add my thanks, too. I think Marianne, as you all know, did a great job. Smart, honest, thoughtful, helped make the company a better company. So all the thanks goes to Marianne, and we also all know that Jenny will do a great job, too." ] }, { "name": "Jen Piepszak", "speech": [ "Thank you, James. OK. So now onto the presentation, which, as always, is available on our website and we ask that you please refer to the disclaimer at the back of the presentation. Starting on Page 1, the firm reported record net income of $9.7 billion and EPS of $2.82 on revenue of 29.6 billion with a return on tangible common equity of 20%. Included in these results are tax benefits of $768 million related to the resolution of a number of tax audits. Adjusting for this as well as a few other notable items that largely offset, we delivered an 18% ROTCE this quarter. Underlying performance for the quarter was strong with highlights including client investment assets in consumer banking up 16%, largely driven by net new money flows; in card, 11% growth in sales and 8% growth in outstanding; No.", "1 in global IBCs year to date, gaining share across all products and regions; steady results in the commercial bank with net income of $1 billion, while continuing to invest in the business; and in asset and wealth management, record long-term inflows, AUM and client assets. Overall, for the firm, total loan growth was 2% year on year, but down 1% sequentially. Important to note here that these variances include the impact of loan sales in home lending as we continue to optimize our usage of capital and liquidity across the firm. Credit performance remained strong across businesses and we delivered another quarter of positive operating leverage. Now on to Page 2 and some more detail about our second-quarter results. Revenue of $29.6 billion was up 1.2 billion or 4% year on year as net interest income was up approximately 900 million or 7% on balance sheet growth and mix as well as higher rates.", "And noninterest revenue was up approximately 300 million year on year, largely driven by the absence of the card rewards liability adjustment results in the prior year. Excluding that variance and the other offsetting notable items I mentioned, noninterest revenue was about flat with strong performance in consumer across auto lease, home lending production and consumer and business banking, offset by lower markets revenue and IB fees as previously guided. Expenses of 16.3 billion were up 2% related to continued investments in our businesses, partially offset by a reduction in FDIC charges of approximately 250 million. Credit remains favorable with credit costs of 1.1 billion, down 5% year on year. In consumer, credit costs of 1.1 billion were flat, but higher net charge-offs were offset by net reserve releases. And in wholesale, credit performance remained favorable with a net charge-off rate of 8 basis points, which was fully reserved for in prior quarters. Once again, we do not see any signs of broad-based deterioration across our portfolios, both consumer and wholesale. Now on to balance sheet and capital on Page 3.", "We ended the second quarter with a CET1 ratio of 12.2%, up more than 10 basis points versus last quarter. In the quarter, the firm distributed 7.5 billion of capital to shareholders, and as you know, the Fed did not adjust to our 2019 CCAR capital plan. We are pleased to have significant flexibility with gross repurchase capacity of up to 29.4 billion over the next four quarters and the board announced its intention to increase the common dividend to $0.90 per share, effective in the third quarter. Now on to Page 4 in consumer and community banking. CCB generated net income of $4.2 billion and an ROE of 31%.", "Loans were down slightly year on year driven by home lending down 7% reflecting the loan sale I just mentioned. However, card loan growth was healthy, up 8%. Business banking loans were up 2% and auto loans and leases were flat. We saw strong deposit and investment growth year on year, with deposits up 3% and client investment assets up 16%, growing across both cyclical and digital channel. Card sales were up 11% as growth remained strong across key products.", "And across the franchise, active mobile users were up 12% year on year given continued engagement and our new features. For example, customers had opened over 2 million checking and savings accounts digitally, activated over 60 million Chase offers and our enrollment in credit journey now exceeds 18 million. Revenue of 13.8 billion was up 11%. This increase included two notable items that largely offset. First, the current quarter includes a negative MSR adjustment in home lending, driven by updates to our model inputs and in the prior year, as I mentioned, we had a rewards liability adjustment in cards of approximately 330 million. Consumer and business banking was up 11% on higher deposit NII, driven by margin expansion.", "Home lending was down 17%, although excluding the MSR adjustment I just mentioned, revenues would have been up 4% driven by higher net production revenue on better margins and higher volumes, largely offset by lower NII on spread compression and lower balances. In cards, merchant services and auto was up 18%. Excluding the previously noted rewards liability adjustment, revenue was up 11%, driven by higher card NII on loan growth and margin expansion and the impact of higher auto lease volumes. Expenses of 7.2 billion were up 4%, driven by continued investments in the business and higher auto lease depreciation, largely offset by efficiencies and lower FDIC charges. Of note, the overhead ratio was 52% and we delivered significant positive operating leverage. On credit, this quarter included a reserve release in the home lending purchase credit-impaired portfolio of $400 million, reflecting improvements in delinquencies and home prices, which was partially offset by a reserve build in cards of 200 million. This is primarily driven by growth, and to a lesser extent mix as the newer vintages naturally seasoning and become a larger part of the portfolio.", "Net charge-offs were up 212 million. Excluding the recovery on a loan sale in home lending in the prior year, net charge-offs were up 80 million driven by card as we continue to grow the portfolio. Now turning to the corporate and investment bank on Page 5. CIB reported net income of 2.9 billion and an ROE of 14% on revenue of 9.6 billion. As a reminder, our performance was particularly strong last year, which featured record or near-record revenues in overall IB fees and equity markets.", "With that in mind, for the quarter IB revenue of 1.8 billion was down 9% year on year in a market that was also down. Advisory, debt underwritings and equity underwriting fees were down 15%, 13% and 11%, respectively, reflecting lower levels of deal activity as well as a 10-year record share in equity underwriting in the prior year. It's worth noting on a year-to-date basis, we continue to rank No. 1 overall and have gained share across all products and regions, benefiting from our continued investments in bankers. In advisory, we grew share in announced deal volumes and announced more deals than any other bank. In debt underwriting, we also ranked No.", "1, benefiting from our strong lead-left position in leveraged finance, and in equity underwriting, we have seen significant pickup in activity since the first quarter and we continue to benefit from our leadership positions in tech and healthcare where there has been some robust activity. Looking forward, the overall IB pipeline is healthy, though lower compared to the elevated activity we saw last year and with fewer acquisition financing and refinancing opportunity with our underwriting. Dialogue with clients remains active and we expect strong deal flow to continue. Moving to markets. Total revenue was 5.4 billion, which was flat year on year. Our results include a notable gain in fixed income from the IPO of Tradeweb.", "Excluding this gain, markets' revenue would have been down 6% year on year against a strong second-quarter performance last year. Fixed income markets was down 3% on an adjusted basis, with relative weakness in EMEA, partially offset by increased client activity in North America rates and agency mortgage trading due to the changing rate environment. Equity markets was down 12% against a record second quarter last year, but due to client activity and a tough compare contributed to a year-on-year decline in equities derivatives. That said, cash and primes remained stable with client balances in prime reaching an all-time high. Treasury services and securities services revenues were 1.1 billion and 1 billion, down 4% and 5% year on year, respectively, with organic growth being more than offset by deposit margin compression. As a reminder, similar to last quarter, deposit margin was primarily impacted by the funding basis compression rather than client betas, and at the firmwide level, there is an offset. Sequentially, treasury services was flat and securities services was up 3% on higher balances and fees. Finally, expenses of 5 and a half billion were up 2% compared to the prior year with higher legal expenses partially offset by lower performance-based compensation expense. And the comp-to-revenue ratio for the quarter was 28%. Now moving on to commercial banking on Page 6.", "Commercial banking reported net income of $1 billion and an ROE of 17%. Revenue of 2.2 billion was down 5% year on year, predominantly driven by lower investment banking activity due to our outperformance last year and lower NII on slightly lower deposit balances. Also worth noting here, Gross IB revenue of 1.4 billion was up 8% year to date on strong syndicated lending and M&A advisory activity and we continue to address slowly toward our long-term $3 billion target. Deposit balances was down 1% year on year, and importantly, up 1% sequentially as balances have largely stabilized in total, although we continue to see migration from noninterest to interest-bearing deposits. Expenses of 864 million were up 2% year on year, driven by ongoing investments in banker coverage and technology. Loans were up 1% and C&I loans being flat or up 3% adjusted for the continued runoff in our tax-exempt portfolio.", "The story here remains unchanged. We saw solid growth in areas where we've been investing, including expansion market with specialized industries, offset by lower acquisition-related and short-term financing activity. CRE loans were up 2% with modestly higher activity in commercial term lending where clients are taking advantage of lower long-term rates, offset by declines in real estate banking where we continue to be selective given where we are in the cycle. Finally, credit costs were 29 million with a net charge-off rate of 3 basis points. Now onto asset and wealth management on Page 7. Asset and wealth management reported net income of $719 million, with pre-tax margin and ROE of 27%. Revenue of 3.6 billion for the quarter was flat year on year as the impact of higher average market levels was offset by lower investment valuation gains. Expenses of 2.6 billion were up 1% year on year as continued investments in advisors and technology were partially offset by lower distribution fees.", "For the quarter, we saw record net long-term inflows of 36 billion driven by fixed income and we had net liquidity inflows of 4 billion. AUM of 2.2 trillion and overall client assets of 3 trillion, both records, were up 7%, driven by cumulative net inflows into long term and liquidity products as well as higher market levels globally. Deposits were up 2% sequentially and up 1% year on year and similar to the commercial bank, balances in total have largely stabilized. Finally, we had record loan balances, up 7% with strength in both Wholesale and mortgage lending. Now onto corporate on Page 8. Corporate reported net income of 828 million, including the vast majority of the tax benefits that I mentioned earlier. Revenue was 322 million, up 242 million year on year due to higher net interest income, driven by higher rates and balance sheet mix, partially offset by net losses on legacy private equity investments versus net gains in the prior year.", "And expenses of 232 million were down 47 million year on year. Finally, turning to Page 9 and the outlook. On this page, I'll just comment on NII, which should not be surprising given the changes to the rate environment. As you can see, we're updating our 2019 full-year NII outlook to about 57 and a half billion.", "The reduction is based on multiple scenarios, which assumes, among other things, lower long-end rates and up to three rate cuts this year, which is consistent with current market sentiment. And as a reminder, this compares to a rate scenario that has seen zero cuts at the time of first-quarter earnings. So to wrap up, the U.S. consumer remains healthy. Overall, credit is in great shape, and the earning power of the company is evident.", "We delivered strong returns this quarter and the diversification and scale of our business model positions us well to outperform in any environment. Understanding there is some macro uncertainty and potential headwinds from the rate outlook, we still expect to grow the franchise and we'll continue to strategically invest in our businesses in technology, bankers and beyond. And with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question comes from Jim Mitchell of Buckingham Research." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. I noticed that card loan growth was particularly strong this quarter. I just wanted to get a sense as to what you feel is driving that uptick. And do you think how sustainable is it, 8% year-over-year growth?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So on current loan growth, we feel very good about what we're seeing there. As we talked about at investor day, we have a real opportunity with our existing customers. And we talked about how our existing customers have about 250 billion of borrowing off us, about 100 billion of that is squarely within our existing buyback.", "So you can think of this as highly targeted to high-quality existing customers, and for the first time, we're actually seeing loan growth in cards as the majority of it coming from existing customers versus new customers. And so we're really shifting the paradigm there and we feel great about being able to harvest the opportunity that we talked to you about at investor day." ] }, { "name": "Jim Mitchell", "speech": [ "All right. Should we expect just sort of you to continue to reduce the mortgage footprint in this rate environment?" ] }, { "name": "Jen Piepszak", "speech": [ "So on the mortgage business, I would say, it was a good quarter on the back of the rally, and so we did see volumes increase and we saw some margin expansion as well, and so obviously highly rate dependent. But I would say the structural challenges in that business remain unchanged. And so we continue to focus on optimizing the balance sheet across capital and liquidity. And so looking at loan sales and thinking about derisking the portfolio from a servicing perspective.", "So good quarter on the back of the rally, but it doesn't change the overall structural challenges." ] }, { "name": "Jim Mitchell", "speech": [ "OK, thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning. Hi, so I just wanted to go back to what you were saying earlier in that your guide or your guide lower is including up to three rate cuts this year, which would suggest to me that your net interest income is quite defensive in the face of rate cuts. I guess my first question is, could you give us your primary assumption for that $500 million swing, particularly on deposit pricing?" ] }, { "name": "Jen Piepszak", "speech": [ "OK, sure. So first of all, I'll take you back to the first quarter where our guidance was 58 billion-plus and we talked about some pressure on the long end at that point. That pressure has persisted and in fact increased, and so we pulled the impact of the long end through in terms of our outlook. And then on the short end, the range of outcomes are obviously quite broad, and so we thought about a range of outcomes of one to three rate cuts.", "And so you can think about if it's one cut, 57 and a half billion-plus, and if it's more, 57 and a half billion-minus. And then based on current advice, you can think about the third quarter being 100 to 150 million below the second quarter and then a bit more than that in the fourth quarter given we would have a full quarter at that point. Oh, and then in terms of betas, I mean largely speaking, you can think of betas as being symmetric, and so on the consumer side, we saw little reprice on the way up, and so there is not a lot of opportunity on the way down. On the wholesale side, if you look at large institutional businesses, like treasury services and securities services, we are largely at full reprice there, and so there should be opportunity there. And then in places like the commercial bank and asset and wealth management, we are still ahead of what the model would have assumed, but we have started to see reprice tick up there.", "But importantly, I would say, we're not going to lose any valuable customer relationships over a few ticks of beta, and so we'll see how it goes." ] }, { "name": "Jamie Dimon", "speech": [ "It's all embedded with your assumption." ] }, { "name": "Jen Piepszak", "speech": [ "And it's all embedded in --" ] }, { "name": "Erika Najarian", "speech": [ "Got it. And just going back to Jim's question, I noticed that investment securities balances continue to go up and mortgage loans were down another 5%. Should we think about this as part of the overall, you're saying optimizing capital and liquidity, and therefore, as we think about it going forward, we could also expect to see perhaps some release in RWA growth and some release in the continued reserve release as part of the optimization?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So on the RWA side, yes, that is precisely why we are doing it, and so when you see the loan sales in home lending, yes they are offset in securities purchases, which are more efficient from a capital perspective as well as a liquidity perspective. So, yes. Having said that, on reserves, I mean reserves are not necessarily going to be impacted directly by that because of course that will depend on the environment and the mix of the portfolio that remains." ] }, { "name": "Jamie Dimon", "speech": [ "And I would just say that our standardized capital ratio is a 12.2%, advanced is 13%. Advanced is obviously a far more important relevant economic number. It simply does not make sense to own all mortgages when you can frame by standardizing and can't securitize." ] }, { "name": "Erika Najarian", "speech": [ "Got It. Thank You." ] }, { "name": "Operator", "speech": [ "Our next question comes from Mike Mayo of Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Hi. So the efficiency ratio went from 56 to 55% year over year, and I guess that's with some accelerated tech spending. So do you plan to keep this pace of tech spending going? And what's the current update on that tech spending? Where is it connecting? Where is it not connecting because I think you said it accelerated for a couple of years and maybe we'd see more results in 2020, 2021?" ] }, { "name": "Jamie Dimon", "speech": [ "Can I just take that one? So it's about 11 and half billion dollars today. I think it was a little bit lower last year. If we had to say where it is today, for next year it would be something like 11 and a half, and I think it's becoming more efficient. When you're having tech, it's something that's becoming cheaper all the time, and then you're also investing money all the time, which we're going to do regardless of the environment.", "So we're not going to cut things we're trying to build like my rewards programs and change my loan and the credit journey because there is a resumption to something like this. So Daniel and Gordon will tell you right now that they think they get more efficient spend and that we shouldn't -- but we will -- you have to spend to win in this business. And we're very efficient which is very core to how we spend in technology. We're going to do it regardless of the environment, and we'll try to get more efficient in tech spend, too." ] }, { "name": "Jen Piepszak", "speech": [ "That's right, and our investments in technology create capacity in terms of productivity to continue to invest and we've talked a lot about AI, machine learning. It's early innings there and there is a lot that we're going to be able to do assuming that's there and become more productive and then cloud -- developers can become more productive using the cloud." ] }, { "name": "Jamie Dimon", "speech": [ "Look, it's amazing, our forward costs with all the things around the world today are down because of techniques with AI and big data and stuff like that. And so it's hardly about you invest. You look at our client investment asset grew 16%, portion of it is you invest, and obviously, You Invest requires hundreds of millions of dollars to build. So you've got to put all these things in perspective about how you try and make the decisions going forward." ] }, { "name": "Mike Mayo", "speech": [ "And then follow-up, Jamie, you mentioned the environment, all the things taking place in the world, how is the environment now? I mean on the one hand, you have trade war, you have lower interest rates, your capital markets which are down for the big banks, you have a lot of pessimism. On the other hand, you highlighted your results. What's -- when you take the temperature of the environment, what's the temperature?" ] }, { "name": "Jamie Dimon", "speech": [ "It's not that bad. Uncertainty is a constant, but one thing in life, as you know, is going to be uncertain going forward. And geopolitical tension is kind of a constant. Those things may be a little bit higher now than normal.", "But we -- I think what we see is global growth is north of 3%. You're kind of expecting, I think, it would be 2 and a half percent this year. The consumer in the United States is doing fine. Business sentiment is a little bit worse, mostly probably driven by the trade war.", "And if you travel around the world, you know that Japan is growing and Europe is growing a little bit and Brazil has got to negative four and zero. A lot of countries have opportunity to expand. They are doing great, but they should be doing better over the next 20, 30. So I wouldn't get too pessimistic.", "Obviously, the Fed will react to -- with the database, they always say it's more important at this point on than just what the Fed does. If the Fed is cutting rates and we're going into recession, that's not a good rate cut. If the Fed actually raises rates one day because we're booming, that's not so bad." ] }, { "name": "Mike Mayo", "speech": [ "All Right. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question comes from Glenn Schorr of Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi, thanks. I'm not sure if I missed it, but I think total average loans were up 2% year on year, but that was impacted by the loan sales. Can you tell us either size of loan sales or what average loan growth was up year on year without that?" ] }, { "name": "Jen Piepszak", "speech": [ "So yes, there's a few things going on in loan growth, as you say it, Glenn. So we have the loan sales, we also have the runoff of the tax-exempt portfolio. So you can think about loan growth probably closer to 4% if you adjust for those items, and importantly, as we always say, loan growth is an outcome, not an input, and we feel good about the loan growth that we're seeing in terms of the areas where we're investing. And then -- and for the full year, you can think about a number if you adjust for the loan sales and ex CIB of 2 to 3% full year." ] }, { "name": "Glenn Schorr", "speech": [ "OK, appreciate that. And then just curious on the noninterest-bearing deposits only being down 2% year on year, we've seen a lot bigger numbers of some peers. Is that just strength of JPMorgan franchise? Or are you doing anything actively to manage that lack of mix shift?" ] }, { "name": "Jen Piepszak", "speech": [ "So as I said, we are seeing balances stabilize in the commercial bank and AWM. We are still seeing some migration from noninterest-bearing to interest-bearing, but largely we're seeing those balances stabilize. And then we do, of course, have continued growth in the consumer bank. And the second quarter is typically seasonally high in the consumer bank.", "So we have some growth in noninterest-bearing there. And even in the consumer bank, where we've seen growth decelerate, that's largely as a result of consumer spending. So that feels healthy as well." ] }, { "name": "Glenn Schorr", "speech": [ "OK. Maybe last one on -- appreciate the guide on 2019. Because it's a half, if you look forward into 2020 with no incremental rate cuts, is it remotely linear? In other words, if we think about if the ongoing rate in current environment persists into next year after the two or three cuts this year, are we looking at a billion, or is it way too complex to oversimplify like that?" ] }, { "name": "Jen Piepszak", "speech": [ "Yeah, it's probably more complicated, Glenn. And so just given the range of outcomes are as broad as they are and, importantly, if we're looking at cuts that are insurance cuts that sustain the expansion versus cuts that may be in response to a broader economic slowdown, there are other things that we would be talking about. So we're not going to give further guidance on the 2020 until we know more." ] }, { "name": "Glenn Schorr", "speech": [ "OK, thank you. Appreciate it." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning. When you take a look at your merchant services business, you had some really strong growth year over year. I think it was up 12%.", "And then your card volumes, excluding the commercial card, were also up very strong. Can you share with us what's driven that strong growth, that double-digit rate of growth?" ] }, { "name": "Jamie Dimon", "speech": [ "Thanks for noticing." ] }, { "name": "Jen Piepszak", "speech": [ "I would say that is firing on all cylinders. So it's brand, it's people, it's products. It does certainly help to have the backdrop of a healthy U.S. consumer as well and, in fact, retail sales this morning looked strong.", "So we can expect that to continue." ] }, { "name": "Gerard Cassidy", "speech": [ "Is it more the market -- as you just referenced the retail sales, they were strong, is it more that or are you guys also seeing gains in market share that gives you an added boost?" ] }, { "name": "Jen Piepszak", "speech": [ "Yes, we have taken share in -- a little bit of share in card. As you know, we're No. 1 in sales there. I think, importantly, what's helpful in card is that we don't even need to take share to grow just given the secular tailwind that we have in the card business on the electronification of cash. And we're taking share in merchant environment." ] }, { "name": "Jamie Dimon", "speech": [ "We expect to do -- take more share in the future." ] }, { "name": "Gerard Cassidy", "speech": [ "Speaking of the future, can you guys give us some color on what your first read of Libra is, that the Facebook announcement about the process of -- payments system that they're going to initiate?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So just to put it in perspective, Gerard, we've been talking about blockchain for seven years and very little has happened and we then turned to Libra three years ago. So I wouldn't spend too much time on it. We don't mind competition, and the request has always been the same.", "The governments are -- we want level-playing field, and governments further insist that people who hold money or move money, all the liquidity in the world where they have right amount of controls in place, no one wants to aid, in fact, terrorism or criminal activities and that can be true for everybody involved in this, not only basically doing either KYC, BSA for a long period of time and those fears I think would just become for everybody at one point, and they should." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from John McDonald of Autonomous." ] }, { "name": "John McDonald", "speech": [ "Hi. I wanted to ask about the CCAR and you've got a big authorization this year. How did you approach the CCAR plan this year in relation to your long-term CET1 target of 11 and 12 that you talked about?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So as we think about capital distribution first, we would start by always saying that we prefer to use our capital to invest and grow our businesses and then to have a competitive and sustainable dividend and only then to return excess capital to our shareholders. And so we are pleased with the approval and the additional capacity to return that 29.4 billion to shareholders. Having said that, we are still targeting the upper end of the 11 to 12% range.", "We're always going to want to have a management buffer because, as I had said, our first priority will always be to invest and grow our businesses and then, of course, there remains a lot of uncertainty in terms of the regulatory capital framework. And then importantly, we wouldn't actually need to make that decision for a few more quarters, given the way the capital distribution plan is laid out over four quarters. But as of now, we are still targeting the upper ends of 11 to 12%." ] }, { "name": "John McDonald", "speech": [ "OK. Thanks, Jen. And any updated thoughts on CECL? Or could you remind us what your thoughts on initial impact there?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So it hasn't changed from investor day. Our range continues to be 4 to 6 billion. And we're prepared for the January 1 implementation." ] }, { "name": "Jamie Dimon", "speech": [ "This is Jim. So CCAR is one test a year on stress. We do 120 a week, and so we are always prepared for stress. CCAR has us losing 20 or 30 billion over nine consecutive quarters.", "I just want to remind you all that the nine quarters after Lehman, the real stress event, we made 20 to $30 billion. And CCAR assumes you're going to grow your balance sheet, it assumes you're going to continue with dividends and stuff like that. We have plenty of capital. I mean our capital cup run it over, and we deployed that capital.", "And remember, the thing in every branch is for every branch, you tend to use $10 million of capital. So 400 branches of that should be $4 billion in capital. So it restrains on growth, also restrains on capital usage and ability to finance the U.S. economy.", "So we're really optimistic about our ability to somehow use our capital, including our InstaMed acquisition we just did, which I think closes sometime soon." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hey, good morning. Jamie, you mentioned about blockchain. We've been hearing about it for seven years and not much has happened. But I think you at JPM have built a blockchain solution for at least your correspondent banks.", "And I guess I wanted to understand where you think you're planning on taking that right now, just AML and KYC use case. But is that something that you think you could deliver more functionality over time?" ] }, { "name": "Jamie Dimon", "speech": [ "No, we think the blockchain is real, but the reason it takes so long is that people have to agree with protocol, people write a lot of codes to get into it. But the one you're referring to IAN, which is information network of banks. So right now banks transfer a lot of information among each other, think of trade finance and correspondent bank and stuff like that. So I think we have like 120 banks signed up.", "We're going to have -- so right now, it's for bank wholesale use needing information. You'll all have the same information. You can move things. But eventually, you're going to move money quicker with data.", "So yes, we're optimistic about that, and we're going to roll it out as soon as we can and constantly test it to make sure it's secured and all that. I remind people, when it comes to moving money, JPMorgan Chase moves $6 trillion a day quite securely and quite cheaply. You want to look at the problem you're trying to solve, but people would generally say, well, we didn't have real-time payments that were true. And now we do effectively sell for P2P, and now we do effectively [Inaudible] real-time payments in TCH.", "So we are building the things that the future is going to want, APIs, blockchain ledgers that have much more data, a real-time movement of money that also goes through floor checks, etc. So we're quite optimistic about it. It will just take a while to get everyone using it. One day it will have to be opened up to a broader customer set possibly." ] }, { "name": "Betsy Graseck", "speech": [ "So one of the things that's coming out in these senate and house financial services banking committee meetings is this desire for real-time payments, desire for a cheaper solution for payments. And that's supposedly what Libra was going to offer, but to your point, it seems like you're already doing that. The question is, how do we think about the outlook for interchange? And is there -- what's your strategy toward interchange pricing here as we go over this period?" ] }, { "name": "Jamie Dimon", "speech": [ "This is a race. There is real-time P2P free, safe and secure sell. So when people say, really, that's not cross-border. So there are people who might want to do that cross-border.", "Remember, cross-border meant much, much more than actual use of debit card, credit card payment systems here. And we've obviously built a real-time payment solution. It's actually already in use. And to me, the issue there is to diminish fraud.", "You have to make sure that real-time payments is also put through effectively real-time code checks and stuff like that. So in the United States, credit cards, debit cards, these are people who love these cards. The beneficiaries are consumer. You guys remember that's why we're here to serve.", "And someone is going to pay eventually for services provided, but people like their credit cards. They use their credit cards more than they use their debit cards. Maybe I don't remember that's why you mentioned debit cards." ] }, { "name": "Betsy Graseck", "speech": [ "Yeah, when you get rewarded, that's great." ] }, { "name": "Jamie Dimon", "speech": [ "And JPMorgan, now you're getting more free stuff. You get free -- you can buy and sell stock for free. We just gave you a very good -- we just got rolled out here in a few accounts, but global investing, very cheap, very clear. So we're going to take and give our clients more and better advancement cheaper all the time, and now we package that with Sapphire Banking or Sapphire card or discounts and mortgages that are not always made to be seen, but the future is very bright because if we can do more for our customers, that's a very good thing." ] }, { "name": "Jen Piepszak", "speech": [ "And don't forget, on credit cards, you get charge-back rights and you get flows." ] }, { "name": "Jamie Dimon", "speech": [ "Right. And you get -- if you go online and you're a Chase customer, you get your FICO score for free. You're going to be able to -- you got to tell customers the great potential how they can improve their FICO score. You get offers like the Chase [Inaudible].", "I mean, you don't really market, but it's really taken off." ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So the Chase offers, we talked about that at investor day. It's like a really powerful flywheel where we can -- we can deliver value to our large merchant clients in terms of being able to bring a very large customer base to them and then we can deliver that value to our customers at zero cost to us. And so as I said in the presentation, we've had over 60 million Chase offers activated and so this is really powerful and benefits not just our consumers, but our large merchant clients at zero cost to us." ] }, { "name": "Betsy Graseck", "speech": [ "So a message of more efficient, less cost maybe needs to get heard on the hill as well." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, and we talked about it a lot of time and a lot of people understand that, and of course we always want to do a better job for our consumers, which we have been referring." ] }, { "name": "Betsy Graseck", "speech": [ "Yeah. I guess the final question here is just on the under-banked. Is there something or is there an offer that you have for them or are you considering that because that I'm just thinking about where fintech is trying to exploit you and I know it's a catchphrase under-banked that is being used by Libra, it doesn't necessarily to me seem like it's solving anything for them, but maybe you've got a better solution that we just don't focus on." ] }, { "name": "Jamie Dimon", "speech": [ "Yes, so we have -- some of the stream in Chase we have 25% of branches around my neighborhoods. When we go to those neighborhoods, we do some plans. We're doing more and more financial education, I think this is really important. I just mentioned the FICO score, but maybe there might be other things we can do, we do Chase chats to get people into the branch, educate them about saving, FICO scores.", "We think we can do this to get a mortgage or buy a house and stuff like that. And then we have a product, which really is great called secure banking and think of it as a card where it's the full thing. You can overdraft, I think it's 4.95 a month. You can use ATM, you can have direct deposit, you can do online mobile payments and stuff like that.", "So we think it's a great product for the under-banked and I think that's going to have 25% and we'll kind of push that a little bit more. So we always [Inaudible]. And then we also have special, I call it venture banking, the entrepreneur color fund. We're making loans to entrepreneurs of color which are not traditional bank loans but help you grow your businesses.", "So we find a lot of ways to do it and really a lot of [Inaudible], I wish they were at the forefront of that. Fintech, of course, all these firms are trying to eat your lunch. And I think that's good. It's called American capitalism. And we have to stay on our toes to compete.", "But we are, like Jim had said cards which we rolled out last year -- announced last year, change my plan and change my loan so that people can view their credit balance immediately to do what they want to do and do it well. We rolled out Zelle P2P that's good for everybody. So if you have a bank account, you can move money to your friends and relatives rather than pay the $10 money changer fees and stuff like that. So we're already trying to do a better job for American consumers.", "We think we'll do a great job for them and when they do have complaints, we'll fix it." ] }, { "name": "Jen Piepszak", "speech": [ "That's right. And you mentioned the 25% in [Inaudible] In terms of our branch footprint. In our expansion market, that's 30%." ] }, { "name": "Betsy Graseck", "speech": [ "Thanks ." ] }, { "name": "Operator", "speech": [ "Our next question is from Ken Usdin of Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Thanks a lot. Good morning. Just wanted to ask on the balance sheet, last year so you've seen a huge jump in the trading-related assets and I know you had the accounting changed, as you mentioned in the supplement, but could you talk about, is that related to market share gains, is it related to just specific strategies with regard to managing liquidity and it doesn't seem to be equally growing on the asset side in the trading liability. So just can you explain the dynamics behind that and how that adds to your net interest income story?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So in terms of the balance sheet growth that you saw quarter over quarter, that was primarily related to our balance sheet and tens of businesses in markets businesses. And then we were down on a spot basis quarter-over-quarter. But we start with deposit growth, and so we have had strong deposit growth, and so you see that reflected on the balance sheet side as well as you would have seen securities balances as well and some of that is adding duration and some of that is short-duration securities that are higher yielding than IOER, and yes." ] }, { "name": "Ken Usdin", "speech": [ "OK. So it is part of the liquidity management strategy. OK. And Jen, did you say what the amount of the gains that you had on the loan sales this quarter?" ] }, { "name": "Jamie Dimon", "speech": [ "Just if you get a higher return on REIT body, you get IOER, you're going to do that. If you get a higher return using standardized capital on securities or on home loans, you're going to do that, and that's what we're seeing in some of these banks." ] }, { "name": "Jen Piepszak", "speech": [ "That's right. The Street, I should have mentioned, do the home sales and home lending." ] }, { "name": "Ken Usdin", "speech": [ "Right. OK, got it. That makes sense. And did you say -- can you tell us what the amount of the gains on the loan sales this quarter were if they were above trend?" ] }, { "name": "Jen Piepszak", "speech": [ "We haven't disclosed the amounts of the gains, and we had some loan sales in the fourth quarter, the first quarter and the second quarter. The first and second quarter in terms of the notional amount, the first quarter was about 7 billion and the second quarter was about 9 billion, so just a little bit more." ] }, { "name": "Jamie Dimon", "speech": [ "Beginning of the second quarter is that net. It showed up in different places, but not material." ] }, { "name": "Jen Piepszak", "speech": [ "Yeah, yeah." ] }, { "name": "Ken Usdin", "speech": [ "Got it. And lastly, just any thoughts on the investment banking pipeline and just continuation of the outlook across the buckets there of banks?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So in terms of the investment banking pipeline, I'll just remind you that the third quarter is typically a seasonally lower quarter, and so sequentially you should think about IB fees being down a bit. That said, the pipeline is healthy, although off a record performance last year, which is assumption of a resurgent to more normal levels of activity as well as some overhang from macro uncertainty. In M&A, still feels very healthy and it's still a stage where company are looking for synergistic opportunities for growth, especially in North America and perhaps Europe a bit more muted.", "ECM, we had a very strong second quarter. So that will taper off in the second half a bit. But I would say deals are getting done well in the current environment. And then DCM, DCM will be more subdued reflecting a slowdown in acquisition financing activity as well as refinancing opportunities, but albeit with a good backdrop for new issuance given the rate environment." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. So I realize rate expectations can change quickly, but how do you think about managing the company in a rate environment that follows the curve that's out there for three to four cuts. And you said earlier, you would have cut back on technology, but are other areas in expenses, you think about managing the balance sheet and liquidity a little bit different?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So in terms of balance sheet management, we manage the balance sheet in both directions. It's a negatively convexed balance sheet, and so all else being equal, as rates are declining, we would naturally drift shorter driven both by assets and liabilities. So you would expect us to add duration, which we did this quarter.", "But we're not going to change the way we run the company because of the rate environment. We're going to continue serving our clients, investing with discipline and managing the balance sheet across all dimensions, that being capital, liquidity and duration. And then in terms of expenses, again, we're not going to change the way we run the company because of interest rate environment. And I'll just say again that the range of outcomes are very broad here, and so if we end up with insurance cuts, it's a temporary headwind, and if we end up with cuts in response to a broader economic slowdown, there will be a lot more to talk about, but as Jamie always says, we're not going to change the way we run the company because of the macro environment.", "That said, in a broader slowdown, obviously there are natural levers on our volume-related expenses and we redecision a large part of our investment portfolio on an annual basis. We will always continue to invest in the things that we think are important, but we would have that opportunity depending upon the opportunity to take a look at that." ] }, { "name": "Jamie Dimon", "speech": [ "Remember, in a real recession, there are always opportunities to reduce your costs and vendors pull all those themselves, they will give you better deals and stuff like that. There are also huge opportunities to spending money wisely. Our Sapphire card was birthed in '09, and you could imagine that this healthy growth might be a great opportunity, but we're not going to take it. And so I think you got to be very careful.", "Related to marketing money, you need better spends in a downturn, the returns on it immediately double." ] }, { "name": "Matt O'Connor", "speech": [ "And you talked about the capital and your thought process there. Obviously, the authorization of the buybacks is a very big number. Is it your expectations that you will use it all or is that still to be determined based on balance sheet growth, stock price and the environment?" ] }, { "name": "Jen Piepszak", "speech": [ "I would say still to be determined. Our first choice will always be to use our excess capital to invest and grow our business, so it's still to be determined. And as you know it's over four quarters, and so we have time to think about it, but obviously, we have the flexibility." ] }, { "name": "Matt O'Connor", "speech": [ "Is the timing of that even, or is there a flexibility there, too?" ] }, { "name": "Jamie Dimon", "speech": [ "It has been in the past, but we can change that every day." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hey, good morning. A couple of questions. First on the NII outlook beyond this year and I fully appreciate you're not giving guidance beyond this year. But you do have the guidance from investor day out there of a sustainable NII of 58 to 60 billion that was set in a very, very different rate environment.", "If we were to see multiple rate cuts, how do we think about that guidance and how -- I mean what are some of the moving parts that might get you perhaps to the lower end of that 58 to 60 billion? Is it simply dependent on how the economy responds, deposit pricing, if you can just kind of outline what you think some of those moving parts are?" ] }, { "name": "Jen Piepszak", "speech": [ "Sure. So the guidance we gave at investor day steady-state 58 to 60, I would say, largely still stands. Importantly, because when we talked about that at investor day, we weren't assuming any further benefit from rate. So we were assuming that any incremental increases in rates would be offset and repriced, and so the majority of that growth was going to come from balance sheet growth and mix.", "And if you remember the slides, there were a number of arrows on the slide. Even at that time, which was obviously a different rate environment, we were implying that there were a number of different paths to get there. And so that obviously continues to be true. And so there may be a different path to get there and may take a little bit longer, but we still believe in that steady-state number because we still believe in the growth of the franchise." ] }, { "name": "Saul Martinez", "speech": [ "OK. OK. That's helpful. If I can change gears a little bit, you recently announced that you're closing Finn or you closed Finn, and I think the stated logic is you learned that millennials don't need a separate brand or experience, but can you just elaborate on the logic there? And what you learned from that experience because it does seem to maybe fly in the face of what some other entities or what financial institutions are doing with their digital banking strategy?" ] }, { "name": "Jamie Dimon", "speech": [ "Go ahead, Jen." ] }, { "name": "Jen Piepszak", "speech": [ "I was just going to say we learned a lot in Finn, that we learned the importance of power to change brands. It certainly means that we don't need a separate brand. We also learned about a number of features that our customers love and we were able to reuse those features and port them over to the Chase mobile app. And so I think we always need to be testing and learning and doing things like this and not afraid to shut them down when we've learned what we needed to learn and can serve our customers through the primary Chase mobile app." ] }, { "name": "Jamie Dimon", "speech": [ "We've learned a lot how to do digital account openings only digital because we do have a retail banking center, the line that you already have, so a lot of other things there. We're always going to be learning some kind of skunkworks and learning from things like that. And so we don't look at those kind of things like failures at all. That is how you learn.", "And Jeff Bezos will tell you, mistakes are good. Mistakes are what make you smarter and better. And so I hope we make some really good mistakes that can teach us all of our businesses at one point. The people doing Finn did a great job, they're embedded.", "And by the way, you can open a Chase account now and never go into a branch, and you could open an account or take up an account, it takes minutes to open an account. So we've got much better at digital only, but we got it separated from the physical branch system." ] }, { "name": "Jen Piepszak", "speech": [ "Yes, the digital account opening is now about 25% of our new account activity." ] }, { "name": "Jamie Dimon", "speech": [ "And we'll be doing in small business and merchant processing and all these various things." ] }, { "name": "Saul Martinez", "speech": [ "Got It. Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question is from Eric Compton of Morningstar." ] }, { "name": "Eric Compton", "speech": [ "Good morning. Thanks for taking my question. So this question kind of ties into some of the items already mentioned, longer-term kind of tech-focused and also related to Finn. So there has been some press recently about reasons for closing down the Finn app and one of the items I was mentioned was some of the difficulties banks can potentially run into with their legacy platforms, which, for the most part, are built on COBOL, which has been around since the 60s and depending on who you talk up to, these legacy platforms can either be like huge problems for banks or not really a big deal.", "So I guess from the outside, at least for me, it can be kind of hard to tell what really is going on there. So my question is, as you compete with fintech firms who are building new platforms from scratch, how do you strategically view dealing with your own legacy platforms? Is there a need to kind of redo these things eventually in order to actually compete with newer tech over time? Do these legacy platforms really hamstring you in any way? Or is the hype around those issues really overdone? And if so, why? Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "The hype has been around now for the better part of the decade, right? And we seem to be doing fine, but it is true -- and some of these legacy platforms is also the reason why we have 50 million customers. But it is true that over time, these platforms would be reformulated and refactored to be cloud eligible and things like that. And those things are more efficient. So your costs will go down, your error rates will go down.", "So the way I look at it a little bit is we run like 6,000 or 7,000 applications. Over time, those will be modularized and being refactored to be cloud eligible, either by private cloud or a public cloud. And yes, they will be more efficient. We also have tons of new digital platforms, AI built around these things that do the customer service outside that they see.", "They go over accounts in minutes. It is a frequent journey that we can modify so many things in days and weeks as opposed to years because you're not muddled with the old legacy system. And so it's a little bit of both. But those numbers are embedded in our tech spend.", "The refact rate, embedded data centers are getting better in AI, all these things are in those numbers." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Jamie Dimon", "speech": [ "Well, thank you very much. Jen you did a great job. Look forward to all of you in a quarter. Thank you." ] }, { "name": "Jen Piepszak", "speech": [ "Thanks, James." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2018-07-13	[ { "description": "Chief Financial Officer", "name": "Marianne Lake", "position": "Executive" }, { "description": "Chairperson and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Jefferies and Company -- Managing Director", "name": "Ken Usdin", "position": "Executive" }, { "description": "Sanford C. Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Buckingham Research -- Analyst", "name": "James Mitchell", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Managing Director", "name": "Erika Najarian", "position": "Executive" }, { "description": "Wells Fargo Securities -- Managing Director", "name": "Mike Mayo", "position": "Executive" }, { "description": "Evercore ISI -- Managing Director", "name": "Glenn Schorr", "position": "Executive" }, { "description": "UBS Financial Services -- Managing Director", "name": "Saul Martinez", "position": "Executive" }, { "description": "Morgan Stanley -- Managing Director", "name": "Betsy Graseck", "position": "Executive" }, { "description": "RBC Capital Markets -- Managing Director", "name": "Gerard Cassidy", "position": "Executive" }, { "description": "-- HSBC -- Director", "name": "Al Alevizakos", "position": "Executive" }, { "description": "Deutsche Bank -- Managing Director", "name": "Matt O'Connor", "position": "Executive" } ]	[ { "name": "Operator", "speech": [ "Please stand by. We are about to begin. Good morning, ladies and gentlemen. Welcome to J.P. Morgan Chase's Second Quarter 2018 Earnings Call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation. Please stand by. At this time, I would like to turn the call over to J.P. Morgan Chase's Chairman and CEO, Jamie Dimon, and Chief Financial Officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thanks, operator. Good morning, everyone. I'm going to take you through the earnings presentation, which is available on our website. Please refer to the disclaimer at the back of the presentation. Starting on Page 1, the firm reported net income of $8.3 billion and EPS of $2.29 on revenue of $28.4 billion. All were records for a second quarter, even excluding the benefit of tax reform. Our return on tangible common equity was 17%, and also included in the results were two notable items, which I will call out in a moment, excluding which EPS would have been about $0.10 higher.", "The strength this quarter was broad-based across businesses, and highlights included average core loan growth excluding CIB of 7% year on year, consumer deposit growth of 5%, which we believe continues to outpace the industry, FOB sales up 11%, and client investment assets and merchant processing volumes each up 12%. We maintained our No. 1 rank in global IBCs and CIB delivered double-digit revenue growth across the board. Commercial Bank revenue was up 11% year on year with IB revenues being a bright spot this quarter. And, in Assets and Wealth Management, AUM and client assets were both up 8%.", "Turning to Page 2, some more details about the second quarter. The firm delivered strong core positive operating leverage this quarter. Revenue of $28.4 billion was up $1.7 billion or 6% year on year. Net interest income was up $1.1 billion or 9%, reflecting the impact of higher rates and loan growth, partially offset by lower markets and II. Non-interest revenue was up over $600 million, driven by strong performance in markets and IBCs, and also, higher auto lease income. NIR this quarter was negatively impacted by a Rewards liability adjustment in Card, and remember, that last year included a significant legal benefit. Excluding these two items, NIR would have been up $1.6 billion and total revenue up 10%.", "Expense of $16 billion was up 8% year on year, with half of the increase directly related to incremental revenues, principally compensation in the CIB, transaction expenses, and auto lease growth, about a third related to continued investments in technology as well as headcount across the businesses, and the remainder was largely a loss on the liquidation of a legacy legal entity as part of our simplification efforts. And, if you exclude this item, expense was up only 7%. The legal entity loss together with the Rewards liability adjustment in Card are the two notable items I mentioned in the beginning for a total reduction of over $500 million pre-tax. Credit costs of $1.2 billion were flat year on year and credit trends remain favorable across both Consumer and Wholesale.", "Shifting to balance sheet and capital on Page 3, we ended the second quarter with CET1 of 11.9%, up about 10 basis points versus the last quarter, and most of the capital generated was returned to shareholders. Risk-weighted assets were relatively flat despite solid growth in loans and commitments, being offset from further categories. In the quarter, the firm distributed $6.6 billion of capital to shareholders, and last month, the Fed informed us that they did not object to our 2018 capital plan. We were pleased to announce gross repurpose capacity of nearly $21 billion over the next four quarters and the board announced its intentions to increase our common dividend to $0.80 per share effective in the third quarter.", "Moving on to Page 4 and Consumer and Community Banking, CCB generated $3.4 billion of net income and an ROE of 26%. Core loans were up 7% year on year driven by home lending up 12%, business banking up 6%, cards up 4%, and auto loans and leases also up 4%. Deposits grew 5%, and although growth is slower than a year ago, we are seeing record high retention rates and customer satisfaction scores. Clients' investment assets were up 12%, with more than half of the growth from net new money flows, and we are capturing an outsize share as our customers shift from deposit to investments. Card sales volume was up 11% and we announced several new cards as we continue to update our product offerings.", "Revenue of $12.5 billion was up 10% year on year. Consumer and business banking revenue was up 17% on higher NII, driven by continued margin expansion as well as deposit growth. Home lending revenue was down 6% on production margin compressions and lower net servicing revenue despite higher purchase volume in retail. And, card merchant services and auto revenue was up 6%, driven by lower card acquisition costs, higher card NII on margin expansion as well as loan growth, as well as higher auto lease volumes. This was largely offset by a lower net interchange driven by a Rewards liability adjustment of about $330 million, reflecting strong customer engagement across our Ultimate Rewards offerings. As a result, the card revenue rate was 10.4% for the quarter, but our full-year guidance of approximately 11.25% holds.", "Expense of $6.9 billion was up 6% year on year, driven by higher auto lease depreciation and investments in technology. Finally, on Credit, charge-offs were down $36 million year on year, including a recovery of about $130 million from a loan sale in home lending. This was largely offset by higher net cost charge-offs in Card. The Card charge-off rate was 3.27%, reflecting seasonality, and is in line with expectations and in line with our guidance. There were no reserve actions taken this quarter.", "Turning to Page 5 and the Corporate and Investment Bank, CIB reported net income of $3.2 billion on revenue of $9.9 billion, up 11%, and an ROE of 17%. In Banking, we maintained our No. 1 ranking for the quarter and year to date in global IBCs with a record first-half performance and we grew share across all regions. IB revenue of $1.9 billion was up 13% year on year, outperforming a market that was down slightly as we saw robust activity, particularly in M&A and ECM. It was a record second quarter for advisory fees, which were up 24%. Benefiting from a number of large deals closing this quarter, we gained share and ranked No. 2 globally.", "Equity underwriting fees were up 49%. We ranked No.1 globally, as well as in North America and EMEA, and gained share in a contested environment, driven by ITOs and convertibles in the two most active sectors, healthcare and technology, which are areas of strength for us. Additionally, we saw good momentum in private capital markets as clients are exploring alternative sources of capital. Debt underwriting fees were relatively flat versus a very strong prior quarter, supported by healthy acquisition-related activity, and we ranked No. 1 in VCMs globally and across all sub-products. Looking forward, the overall pipeline remains strong.", "Moving on to Markets, total revenue was $5.4 billion, up 13% year on year or up 16% adjusting for the impact of tax reform, and was driven by strong results in equities, solid performance in FIT across categories, and with performance picking up in the second half of the quarter. Fixed income markets revenue was up 12% adjusted on the backs of good client flow and decent volatility, and with commodities making a notable recovery from a challenging prior year.", "It was a record second quarter for Equities, with revenue up 24%, driven by strong client activity and favorable trading results, and with particular strength in cash, prime, and flow derivatives. Treasury Services and Security Services revenue were each up 12%, driven by higher rates and deposit balances, and security services also benefited from higher asset-based fees on new client activity and higher market levels. Finally, expense of $5.4 billion was up 11%, driven by higher performance-related compensation, volume-related transaction costs, and investments in technology. The comp-to-revenue ratio for the quarter was 27%, consistent with the prior-year quarter.", "Moving to Commercial Banking on Page 6, another strong quarter for this business with net income of $1.1 billion and an ROE of 21%. Revenue was a record for the second quarter, up 11% year on year driven by higher deposit NII and strong investment banking activity. Gross IB revenue of $739 million was up 39%, driven by several large transactions, a strong underlying services NIS, and the overall pipeline is robust and active. Expense of $844 million was up 7% as we continue to invest in the business, both in bankers and in technology.", "Loan balances were up 4% year on year and 2% sequentially. C&I loans were up 3% year on year and sequentially due to increased M&A-related financing, with strengths in our expansion markets as well as in specialized industries, and despite lower tax-exempt activity. CRE loans were up 4% year on year and flat versus last quarter as there continues to be a lot of competition for high-quality assets, and we are flectic given where we are in the cycle. Finally, credit performance remains strong with a net charge-off rate of 7 basis points.", "Moving on to Asset and Wealth Management on Page 7, Asset and Wealth Management reported net income of $755 million with a pre-tax margin of 28% and an ROE of 33%. Revenue of $3.6 billion was up 4% year on year, driven by higher management fees on growth in long-term products as well as strong banking results. Expense of $2.6 billion was up 6%, driven by continued investment in advisors and technology as well as higher external fees on revenue growth.", "For the quarter, we saw net long-term inflows of $4 billion with positive flows across multi-asset equities and alternatives, partially offset by outflows in fixed income. Additionally, we saw net liquidity inflows of $17 billion. AUM of $2 trillion and overall client assets of $2.8 trillion were both up 8%, with the increase being split about equally between flows and higher market levels globally. Deposits were down 7% year on year, reflecting continued migration into investments, where we are also capturing the vast majority, and down 3% sequentially on seasonal tax payments. Finally, we had record loan balances up 12% with strength in global wholesale and mortgage lending.", "Moving to Page 8 and Corporate, Corporate reported a net loss of $136 billion. The result included a pre-tax $174 million loss on the liquidation of a legacy legal entity previously mentioned, but it is of note that while this loss drew expense that affects earnings this quarter, it is offset from a capital perspective, so it's capital-neutral. Before I wrap up, you may note we have no outlook page here. Although both revenue and expense are trending higher market-related, given we're only halfway through the year, we're not updating our outlook at this point.", "So, to close, the macroeconomic backdrop continues to be supportive. Consumer and business confidence and sentiment remains high, client activity levels are robust, and the markets are open and active. We are pleased with the firm's results this quarter. Our broad-based financial performance clearly demonstrates the power of the platform. Revenue grew strongly -- double digits year over year in many cases. We realized positive core operating leverage despite significant investments and credit trends remain favorable across both Consumer and Wholesale. This was a clear record for second quarter whichever way you slice it. We remain focused on consistently delivering for our customers and communities and investing for the long term. With that, operator, can you open up the line for Q&A?" ] } ]	[ { "name": "Operator", "speech": [ "At this time, I would like to remind everyone in order to ask a question, press 1 on your telephone keypad. We kindly request that you ask one question and only one related follow-up. If you would like to ask additional questions, please press 1 to be reentered into the queue. Our first question comes from Ken Usdin of Jefferies." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Ken." ] }, { "name": "Ken Usdin", "speech": [ "Hey, good morning, Marianne. Can I ask you to talk a little bit about the Card business and the -- you mentioned the strong customer engagement with regards to the Rewards markdown. Can you just walk us through what's the drivers of that, and is this a one-time event, and does it affect the Card revenue rate outlook?" ] }, { "name": "Marianne Lake", "speech": [ "So, I'll start at the end because that's pretty simple. It obviously affected the Card revenue rate in the quarter. You can see that that was 10.4%, and you can see on the page we've adjusted for the impact, but the 11.25% for the year remains true, which is to say that while this may be slightly larger than normal, it's not exactly a one-time item. We regularly review our liability as we observe the mix of our portfolio and the behaviors of our customers.", "On face value, I know Rewards is often talked about as a competitive matter. This is less about competition per se. In fact, we have record low sales attrition, which in a competitive environment is really very good, and it's more about a customer's awareness of the value proposition of Rewards and them being engaged in redeeming them, which for us is a net positive thing because engaged customers spend more, and we're seeing that, they attrite less, and we're seeing that, and they will bring up more of their share of deposits and investments as we deepen relationships. So, I would say it's a little larger than normal. We do it pretty regularly, so it's not one-time, but it's not completely typical." ] }, { "name": "Ken Usdin", "speech": [ "Got it. And, in the press release, Jamie mentioned in the first paragraph about increasing competition. Is that a global, across-all-businesses comment, or are you seeing it narrowly in specific areas?" ] }, { "name": "Marianne Lake", "speech": [ "I think it's pretty global across all businesses as a general matter. There are some obvious areas where it's pretty acute, and in the retail auto space, for example, we talked about commercial real estate, for example, mortgage clearly with capacity in the system, for example -- all of those areas are pretty competitive for a variety of reasons given where we are in the cycle and the economy and the like. But, I would say it's broad-based. It's everywhere. That said, we are holding our own, and in many cases, gaining share, so we're doing pretty well." ] }, { "name": "Operator", "speech": [ "Our next question is from John McDonald of Bernstein." ] }, { "name": "John McDonald", "speech": [ "Hi, Marianne. I wanted to ask you what you're seeing this quarter in terms of consumer deposit trends with a little more color on both the pricing data and volume balances. I'm wondering if you're seeing a lot of competition from the online competitors like Marcus, and whether those are affecting your deposit balances with consumers being attracted to those high yields, and are they affecting your pricing decisions?" ] }, { "name": "Marianne Lake", "speech": [ "I would say you talked of consumer deposit, so I'm talking retail now, not those high-net-worth data -- I'll come back to that. Consumer deposit is up 5% year on year, slowing down, as we would have expected. While you have seen online competitors and even some regional competitors make some moves in the large bank space, we haven't really seen that yet. When we look at the deposit slowdown and we unpack it, it feels to us like the vast majority of the root cause is customers moving into investments, and in the case of retail customers, actually into managed accounts, so it doesn't appear to be rate-seeking. Spending more would be the second driver, and to a much less extent are we seeing behaviors that look like they're rate-seeking at this point.", "So, we're not seeing that kind of migration out of the company to online or other competitors at this point, and so, at this point, reprice is still not happening. That said, we are on a journey, clearly. In the higher-net-worth space, we continue to see the migration into investment assets we've been seeing, and again, we continue to recapture the vast majority of those. So, at this point, things are playing out as we would have expected, and we're not actually losing deposits en masse to any third parties." ] }, { "name": "John McDonald", "speech": [ "Okay. And, just to follow up on that, can you remind us what's the opportunity you see with the rollout of FIN and what advantages you expect to have in that arena?" ] }, { "name": "Marianne Lake", "speech": [ "I would look at FIN as one of many digital innovations that we're doing, and I would look at it also in conjunction with broader digital account openings, and although we've now launched FIN nationwide, I think it's fair to say it's still very nascent and we're still learning. So, we're going to continue to observe. It's got very high net promoter scores, by the way, so customer experience is good, but it's still quite young." ] }, { "name": "Jamie Dimon", "speech": [ "We haven't even marketed it, either." ] }, { "name": "Marianne Lake", "speech": [ "No, we just started. I would say digital account opening, on the other hand, is a pretty good success story, and we are seeing a lot more accounts opened digitally across the channels, and we're seeing also a decent chunk of net new to the bank, and where we're seeing existing customers opening new accounts, we're getting incremental money. So, we are seeing our digital effort pay off, and even more broadly than that, we could go into QuickPay and Zelle and the like, but I wouldn't focus overly on FIN as isolated thing, but think digital more broadly." ] }, { "name": "Operator", "speech": [ "Our next question is from Jim Mitchell of Buckingham Research." ] }, { "name": "James Mitchell", "speech": [ "Hey, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Morning, Jim." ] }, { "name": "James Mitchell", "speech": [ "Maybe just talk a little bit about loan growth. It obviously seems to have picked up in the Fed data over the last month or two. What are you guys seeing on the ground, and do you think what we've seen so far is a good indicator for a more sustained pickup in growth?" ] }, { "name": "Marianne Lake", "speech": [ "I would say that we would -- if you use the Commercial Bank C&I loans as a kind of bellwether, there has been decent demand, and I mentioned it in my remarks, but decent demand -- not exclusively, but partially on the back of a very robust and active M&A environment. And so, the demand is there, I would say growth is solid and in line with our expectations, so we continue to hope to see that growth as we go through the year. There may be other tailwinds. We've yet to see the full effect of tax reform flow through into profitability and free cash flow, so I would characterize loan growth as solid, and our expectations for the outlook to remain solid, benefiting from a very active capital markets environment." ] }, { "name": "James Mitchell", "speech": [ "Okay. As a follow-up, when we think about NIM going forward, I think it was a couple years ago that you talked about normalized being somewhere in the 2.65 to 2.75 range, or 2.46 now. Is there a certain loan-to-deposit ratio you think you need to have, or level of rates? How do we -- I'm just trying to think through how we think about NIM going forward." ] }, { "name": "Marianne Lake", "speech": [ "We're at ted funds of 175 to 200 right now, so we're not anywhere yet close to normal rates, so when we think about what we've talked about in normalizing NIM, we were thinking it more through the cycle adjusted for new liquidity rules and everything else. So, we have a number of further rate hikes to go before we would reach that point, but we are, on a core basis -- and remember, we have a fairly sizable market balance sheet, but on a core basis, we are continuing to see NIM expansion in line with expectations and moving up toward that. So, we would expect to see expansion year over year moving toward that level, but not getting there yet." ] }, { "name": "Operator", "speech": [ "Our next question is from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Erika." ] }, { "name": "Erika Najarian", "speech": [ "My question is on the regulatory process this year under the new leadership. I'm wondering if there's anything that you could share with us in terms of change, whether or not it was -- how receptive or not the regulators were during the comment period for the SCB, and also, during the CCAR process. Was there any marked or observable change in the processes this year versus previous years?" ] }, { "name": "Marianne Lake", "speech": [ "I would say on the comment period for the SCB, obviously, during the comment period, the regulators are quiet, so it wasn't a two-way dialogue during that period. We would expect the two-way dialogue to start now that the comment period is over and the industry and bilateral letters have been submitted.", "I will say -- going back to comments I think I've made previously -- that I remain constructive about the willingness for the current leadership to pay attention and take on board those comments. If you look at the proposal that was sent out for comment, not only did it have a large number of questions that they were asking for feedback on, but the actual proposal was very similar to what we had been understanding was the intention and speeches that go back a fair way, which is to say that it feels like we're still making the sausage rather than this is a done deal, and so, we're very optimistic that the comments will be taken onboard, and you know what they are -- volatility was evident in spades in this test. Opaqueness, GSIB -- we can go through them; I'm sure we will.", "So, we remain optimistic that the comments -- the bilateral discussions will start now -- or, the industrywide discussions will start now. I would say on CCAR, it felt status quo to prior years. That's not to say that it's not constructive, it's just that it felt like status quo to prior years." ] }, { "name": "Erika Najarian", "speech": [ "And, my follow-up question -- the pushback that I'm getting from a lot of investors on bank stocks is that we're long in the tooth in the economic cycle. Clearly, the strong activity levels that you posted this quarter and the credit metrics that you posted would suggest otherwise. I'm wondering -- both Jamie and Marianne -- how you would respond to that pushback that now is not the time to invest in banks because we are late in the game from an economic standpoint." ] }, { "name": "Marianne Lake", "speech": [ "I would say two things, which is while this cycle is older than potentially typical cycles have been, growth over the last decade has been lower through the recovery, so there is plenty potential room to play in. As we look at all the economic data -- not just here in the U.S., but also globally -- there are no real signs of fragility, and I know people are staring at a flat yield curve, and we would say that that flat yield is a bare flattening, good flattening from bank profitability perspective, and not some looming risk of a recession embedded in it. Term premium is still negative, real policy rate is still at zero, credit very benign. That said, we are in cyclical businesses, no doubt, so we are preparing, and we'll be ready when the cycle turns, and no doubt there will be impacts from that. But, through the cycle, I think that we've proven that our business model will produce strong shareholder returns and among best-in-class performance." ] }, { "name": "Operator", "speech": [ "Our next question comes from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Mike. You might be on mute." ] }, { "name": "Mike Mayo", "speech": [ "Hi, can you hear me?" ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "Mike Mayo", "speech": [ "I wanted to follow up on that last question -- if Jamie could respond, too. Marianne, you said the macro is very supportive, you sound very positive. On the other hand, the 10-year Treasury yield has flashed warning signs to a variety of parties. So, Jamie, we had the tax cut, we've been waiting for the extra boost to the economy, whether it's capital expenditures or whatever. Do you think the economy is accelerating, it's still on steady footing, it's the same, or maybe it's slowing down, and how should we think about the 10-year -- or, how do you think about the 10-year and how do you manage to a flatter yield curve?" ] }, { "name": "Jamie Dimon", "speech": [ "Real quickly, Mari said it's almost nine or ten years of growth at 2%, averaging 20% over the ten years, it really should be closer to 40%. There's a lot of evidence that the slack in the system is being finally -- people are going back to the workforce. The consumer balance sheet is in good space, capital expenditures are going up, household formation is going up, homebuilding is in short supply, the banking system is very healthy compared to the past. Consumer confidence and business confidence are very high, albeit off their highs, probably because of some of our trade.", "So, if you're looking for potholes out there, there are not a lot of things out there, and growth is accelerating. Of course, things are always a little bit different. My own personal view about the 10-year is that I wouldn't say it has to happen the way it's happened every time, last time. I just think that's a mistake. The Fed is reversing the balance sheet. I think it's very easy that rates can go up, the 10-year rates can go up, in a healthy environment. In history, we've had rates going up where you had a healthy environment. It's not always true that the 10-year going up is bad." ] }, { "name": "Marianne Lake", "speech": [ "I would also say that the shape of the curve is correlated to Fed funds in a tightening cycle, and that is what we're seeing. So, while there are other factors weighing potentially on the 10-year in terms of still very accommodative central bank policy, particularly in the banks of Japan and the ECB, where obviously, trade is not necessarily constructive just in terms of the narrative, short-term underfunded pensions going into bumps -- there are some technicals, but fundamentally, what you're seeing in terms of the flattening is pretty typical of a tightening cycle, and as long as it's accompanied with solid to strong economic growth, it doesn't concern us at this point, and in fact, as we've been pointing out, we are still levered toward fund rates from a profitability perspective, and we do expect the curve to steepen over time." ] }, { "name": "Mike Mayo", "speech": [ "All right, thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Glenn Schorr of Evercore ISI." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thanks very much. Just one follow-up on the competition conversation. I just want to see... Your loan growth decelerated, but it was in line with your 7% to 8% goal. Your loan beta capture -- what you're getting on the pricing side -- is actually a little bit better than what you've given up on the deposit sign. So, that all seems fine, but that's the first time I remember you putting in the comment about the competition. Are you still OK with the 7% to 8% goal? And, just an add-on to that -- I'm just curious if part of the competition has anything to do with the private credit market that seems to be growing pretty strongly." ] }, { "name": "Marianne Lake", "speech": [ "I would say just a tiny little correction -- our outlook was 6% to 7% core loan growth excluding the CIB. We're at 7% now. Things are still moving ahead in line with that. I would also just point out that it is an outlook, not a target, so while we still feel like that is our outlook at this point, we obviously are going to make the right decisions based upon the environment that we're in. Competitively, the private credit market for commercial real estate, for leveraged lending -- it's competitive, but so are our mainstream competitors. It's just that the environment is pretty constructive and everybody is trying to get access to the high-quality assets, so margins are under pressure, and we will make sure we're getting the right return for the risk we're taking." ] }, { "name": "Glenn Schorr", "speech": [ "Okay. And then, the follow-up on the expense side, $16 billion times 4 would be $64 billion. Your outlook is $62 billion, but a lot of those were good expenses on better volumes. Are you still on track in your mind for the overhead ratio? I don't want to overly focus on a dollar amount." ] }, { "name": "Marianne Lake", "speech": [ "It's a couple things. Remember, the 62 was before the impact of expense growth up, so the actual full-year outlook was about $63 billion including them. This quarter included a one-time item of $174 million on the legal entity liquidation -- we knew about that, obviously, so it was in our number, but you can't annualize it, you can't times it by 4. So, you're absolutely right. As we look out for the full year, to the degree that we would be above -- our outlook is $63 billion -- it would be largely driven, if not exclusively driven, by higher performance-related compensation on higher revenues, with the only other caveat that as you probably know, we are waiting -- as I'm sure you are -- for when the FDIC surcharge is taken away. The FDIC anticipated that would be in the middle of the year this year, but that is now potentially at some risk of moving out into the third or fourth quarter. So, while that could have an impact on this year, to answer your broader question -- are we still on track for our expense overhead ratios? Yes." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi. Good morning." ] }, { "name": "Marianne Lake", "speech": [ "Hi." ] }, { "name": "Saul Martinez", "speech": [ "So, just following on the theme of economics and policy, to what extent do you see trade friction, geopolitical concerns, those things starting to impact client sentiment, whether it's institutional or corporate clients? And, ultimately, do you see that -- or, how do you gauge that as being a risk to global growth and U.S. growth?" ] }, { "name": "Marianne Lake", "speech": [ "I would say so far, where we are is that trade is firmly part of the risk narrative, so it's definitely, as Jamie has said, on the psyche of people, but at this point, it's not causing them to change the strategic actions and decisions that they're making, but clearly part of the conversation. And, as currently outlined, it's more of that than it is a real impact to the global macroeconomic outlook. But, that isn't to say that uncertainty can't ultimately lead to more challenges or slower growth, but because confidence is a really important part of not just the business investment cycle, but also the financial market stability. So, at this point, it's more of a risk narrative than it is an actual driver, but it is important that that uncertainty is taken off the table." ] }, { "name": "Saul Martinez", "speech": [ "Okay. And, if I could just ask a quick follow-up -- I apologize if you addressed it earlier; a lot of multitasking this morning -- but, on the market side, you did much better than what Daniel suggested in his update in terms of year-on-year being flattish overall. Can you just give us a sense of what changed in the last month of the quarter?" ] }, { "name": "Jamie Dimon", "speech": [ "It got better." ] }, { "name": "Operator", "speech": [ "Our next question is --" ] }, { "name": "Marianne Lake", "speech": [ "Sorry, to finish that to make sure that no one is confused, it was pretty broad-based, it was pretty consistent throughout the second half of the quarter, and it wasn't a lot of one-off large trades." ] }, { "name": "Operator", "speech": [ "And, our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Good morning." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Jamie, I wanted to ask about the China investment. I know that you put in the press release that you announced this quarter plans for a more significant investment in China. I just want to understand the timing. Is this something that's over the next year or something that's a longer-term three- to five- year? And, if you can just give us a sense as to how much is in your control versus needing regulatory approval from folks over there, et cetera." ] }, { "name": "Jamie Dimon", "speech": [ "I'll just make a broader business comment for a second. I think we easily answered Mike Mayo's question. We don't run the business guessing about when there might be a recession because we know there's going to be one. We already priced the recession -- we like to play in clients, bankers, cards, accounts, products, services -- that's how we run the business. Some of the decisions you make are portfolio decisions. You can add to your mortgage portfolio or you can sell it. You can reduce your growth or the loans if you think the credit is bad, and of course, we will do that when the time comes, but we'll still be adding accounts. To me, I don't worry as much about the 10-year bond or all these various things. We can manage those risks. We want more clients in almost every business we're in and want to do a very good job for them in products or services.", "China -- it's a long-term story. We're not looking for any immediate thing. In the next 12 years or so, China will -- internal markets, bond markets, stock markets probably will be very close -- equal in size to the United States of America. Therefore, we want to do everything we do here in China. We can do a lot of that in Hong Kong today, but we can't do it in Shanghai, so we've applied for licenses, and obviously, we need permission ultimately from our regulators and from their regulators, so it's totally in their control. EMEA may not be affected by trade, but I look at this as a point in time. It is what it is.", "Eventually, we'll get these licenses. Eventually, hopefully, we'll be a large competitor in Shanghai. Remember, we already do a lot of that business with Chinese companies around the world, with Chinese companies in Hong Kong. We get a lot of people going into China. So, we're looking for the full set of licenses to do what we need to do for Chinese companies. Ultimately, I think it'll be good for China to have a company like J.P. Morgan equity, debt, credit, transparency, governance issues, inside China." ] }, { "name": "Betsy Graseck", "speech": [ "But right now, today, the ability to operate in Shanghai...?" ] }, { "name": "Jamie Dimon", "speech": [ "Look, we already do deposits and certain banking. What we can't do is equity, debt, and trading of equity and debt. If we get this license one day, at 51%, we'll be able to make -- and, with these licenses, we'll be able to basic equity underwriting, equity sales and trading, research, debt underwriting, debt sales and trading. We can do all of that today in Hong Kong, but remember, Chinese companies -- they can do it in Shanghai, they can do it in Hong Kong, they can do it in London, or they can do it in New York. We just want the full capability." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Gerard Cassidy", "speech": [ "Marianne, can you share with us -- and, correct me if I'm wrong -- I think you guys have given us some color in the past about the impact of the Fed taking down their balance sheet over the next three to five years by a couple trillion dollars, that it will impact your deposit side of the balance sheet. Can you give us an update of where that stands today?" ] }, { "name": "Marianne Lake", "speech": [ "The Fed has been on a pretty well-telegraphed path here, reducing their balance sheet by about $50 billion a quarter. We talked about the fact that if you take $1.5 trillion out of the system, if you look at -- as the Fed was growing its balance sheet, about half of that will ultimately impact deposits, and our share of it would be 10%. So, we talked about potentially -- that kind of $50 billion to $75 billion of deposit outflows over the several years it would take to reduce that, but primarily they would be -- not exclusively, but primarily not operating, and therefore, limited impact on liquidity or basis. And so, it's playing out textbook right now." ] }, { "name": "Gerard Cassidy", "speech": [ "Okay. And then, as a follow-up, I know you've touched on this increased competition. Can you give us some more details in the commercial real estate and the residential mortgage area what you're actually seeing? Is it just pricing, or is it now loan covenants, is it loan-to-values? Any further color there?" ] }, { "name": "Marianne Lake", "speech": [ "So, residential mortgage correspondence, in particular, is pricing -- pricing, pricing, pricing -- and so, we will cede share if the pricing goes to what we consider to be not sufficient to return shareholder value. In the commercial real estate space, I would say it is primarily pricing -- so, spreads are under a lot of pressure, and the competition, as I said, it's GFEs, it's insurance companies, it's non-bank commercial institutions. It's a little bit less credit terms, but still pretty robust, albeit we are seeing a tiny shift to the right in LCVs. We're not going there, by the way, but I would call it pretty modest. So, I'd say generally, terms are holding up quite well." ] }, { "name": "Jamie Dimon", "speech": [ "On the competition issue, I think it's good for the country -- the United States -- if we have a fully competitive card, mortgage, retail, asset management, commercial banking, investment banking, sales and train -- there are strong competitors everywhere. It's just recognizing that. That's all it is. It's a good thing. It's called capitalism." ] }, { "name": "Operator", "speech": [ "Our next question is from Al Alevizakos of HSBC." ] }, { "name": "Marianne Lake", "speech": [ "Hi." ] }, { "name": "Marianne Lake", "speech": [ "Al, I'm sorry --" ] }, { "name": "Jamie Dimon", "speech": [ "It'd be really helpful if you guys weren't on your cellphones." ] }, { "name": "Marianne Lake", "speech": [ "Al, I'm sorry, but you were breaking up, so I didn't catch most of that question." ] }, { "name": "Jamie Dimon", "speech": [ "Where's the IB doing well internationally, USA...?" ] }, { "name": "Marianne Lake", "speech": [ "Okay. I would say across regions. Equity has strong performance across regions. While there were more catalysts this quarter -- so, you mentioned Italy, I think -- none of those were particular drivers, so we did fine on all of those, as I mentioned. So, I would say broad-based, gaining share, we think, in some areas -- in equity, cash and prime in particular, and holding our own elsewhere, and I would say solid performance across the SIC spectrum, and gaining share in investment banking, but obviously, you can't look at any one quarter." ] }, { "name": "Al Alevizakos", "speech": [ "Thanks for that. The second part -- I'm sorry that you couldn't listen before -- is do you feel that you've started picking market share from the European competitors in the U.S., especially the ones that are deleveraging?" ] }, { "name": "Marianne Lake", "speech": [ "I would say that if you just go back over the course of the last couple of years, you have seen some share shift from European banks to U.S. banks broadly. In the prime space, I would say U.S. prime incumbents are gaining some share, but it's not a particularly new trend, and it's not the dominant trend." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Matt." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. To follow up on the net interest margin, you mentioned ex the market's business, it was still increasing, and I was wondering if you could size the magnitude of the NIM increase linked-quarter on a core basis ex markets." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, linked-quarter reported down 2 basis points because of lower markets NII and higher market assets -- $20 billion -- core up 8 basis points." ] }, { "name": "Matt O'Connor", "speech": [ "Okay, that's helpful. And then, separately, within CIB, the net charge-offs went up. Is that just some of the cleanup in energy? I know you mentioned that there was a reserve release related to energy, but you had a little blip in the charge-offs there. Just wanted to get some color on that." ] }, { "name": "Jamie Dimon", "speech": [ "That was actually credit." ] }, { "name": "Marianne Lake", "speech": [ "Charge-offs -- so, in CIB, the charge-offs were driven by two names, and the principal one was the remaining piece of the Steinhoff loan that we sold this quarter. We had a reserve release against it that was larger." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Just a follow-up, Marianne -- on the capital return that you guys were approved for in terms of the share repurchase, is that going to be spread out evenly over the next four quarters, or will it be more front-end-loaded?" ] }, { "name": "Marianne Lake", "speech": [ "We haven't disclosed that, but if you look at our historical pattern, it's pretty even." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Hey. Just a question on CECL. I think Jamie mentioned in the past that CECL is not a big deal for you guys, and maybe you could explain why, what kind of prep work, and what you're thinking about as you work to adopt that over the next couple of years?" ] }, { "name": "Marianne Lake", "speech": [ "Sure. Look, CECL is not a big deal insofar as we're getting ready for it. I will tell you that we haven't disclosed an adjustment number on the basis that we're still working through the modeling and the data, and it is more complicated operationally to get everything lined up than you might think. We're going to intend to be running some stuff in parallel next year, so we'll be able to give you much more color next year.", "Generally speaking, as we move to life-of-loan losses, it won't shock you to know that we will have an adjustment to our reserves through equity. It will be driven most likely by any of the portfolios that have longer weighted-average life-Cert Ed incurred-loss models. Card would be the most notable-to a lesser extent, unfunded wholesale commitments -- but it'll be manageable in the context of the firm. It goes through equity. And then, if you think about the economics, the cash flows, the NPV of these loans doesn't change --" ] }, { "name": "Jamie Dimon", "speech": [ "Which is what my comment relates to." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, it doesn't change the economics of the loans. You upfront a little bit of reserves you get paid for over time. We don't think it's going to fundamentally shift the dynamics, but that will play out." ] }, { "name": "Jamie Dimon", "speech": [ "We don't make economic decisions based upon accounting." ] }, { "name": "Betsy Graseck", "speech": [ "Are there any asset classes where it's shorter under CECL than under the incurred-loss model?" ] }, { "name": "Marianne Lake", "speech": [ "It's hard because it's life-of-loan, so it's hard to have a shorter -- it's difficult to imagine that a life-of-loan could be shorter than an incurred loss, so, no, not really. But, for us, the reason why it's pretty limited -- not to say there's no other impact, but the reason why it'll be mostly driven by the areas I mentioned is because in most of our wholesale space and so many of our other products, we are covered for multiple years, if not close to life-of-loan, at this point." ] }, { "name": "Operator", "speech": [ "Our next question is from Erika Najarian of Bank of America." ] }, { "name": "Marianne Lake", "speech": [ "Wow, we're popular today." ] }, { "name": "Erika Najarian", "speech": [ "Yeah, I thought I'd join the party too. I was feeling a little left out. A quick question -- follow-up on card retention. You mentioned that Rewards redemption is a sign of engagement. I wondered if you could share with us -- once redemption hits a certain level in terms of the number of points -- so, the number of points remaining may not be enough to redeem a trip or whatever -- what is the retention level then?" ] }, { "name": "Marianne Lake", "speech": [ "I'm not sure that I totally follow the question. I just --" ] }, { "name": "Jamie Dimon", "speech": [ "They're already -- they're constantly creating Rewards points and they're constantly using them for things. When they use Rewards points, some points cost us more than other points, and the pace that they use them changes economics a little bit, but basically, it's still what we expect over time." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, and remember that in a very oversimplified model of these, we would want an extraordinarily high level of redemption. We are giving these rewards to customers because we think they are -- and, they indeed are -- perceiving great value in them, and so, we're just continuing to observe that as the mix changes." ] }, { "name": "Erika Najarian", "speech": [ "Very helpful. Thank you." ] }, { "name": "Operator", "speech": [ "And, we have no further questions at this time." ] }, { "name": "Marianne Lake", "speech": [ "Thank you very much, you guys." ] }, { "name": "Jamie Dimon", "speech": [ "Thanks for joining. We'll talk real soon." ] }, { "name": "Operator", "speech": [ "This concludes today's conference call. You may now disconnect." ] }, { "name": "Matt O'Connor", "speech": [ "More JPM analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
JPM	2023-01-13	[ { "description": "Chief Executive Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's fourth-quarter 2022 earnings call. This call is being recorded. Your line will be muted for the duration of the call.", "We will now go live to the presentation. Please stand by. At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon, and Chief Financial Officer Jeremy Barnum. Mr.", "Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thank you very much. Good morning, everyone. The presentation is available on our website, and please refer to the disclaimer on the back. Starting on Page 1.", "The firm reported net income of $11 billion, EPS of $3.57, and revenue of 35.6 billion, and delivered an ROTCE of 20%. This quarter, we had two significant items in corporate: a $914 million gain on the sale of Visa B shares, offset by 874 million of net investment securities loss. Touching on a few highlights. Combined credit and debit spend is up 9% year on year, with growth in both discretionary and nondiscretionary spending.", "We ended the year ranked No. 1 for global IB fees, with wallet share of 8%. And credit continues to normalize, but actual performance remains strong across the company. On Page 2, we have more on our fourth-quarter results.", "Revenue of 35.6 billion was up 5.2 billion, or 17%, year on year. NII ex markets was up 8.4 billion, or 72%, driven by higher rates. NII ex markets was down 3.5 billion, or 26%, predominantly driven by lower IB fees, as well as management and performance fees in AWM, lower auto lease income and home lending production revenue. And market revenue was up 382 million, or 7%, year on year.", "Expenses of 19 billion were up 1.1 billion, or 6%, year on year, primarily driven by higher structural expense and investments. And credit costs of 2.3 billion included net charge-offs of 887 million. The net reserve build of 1.4 billion was driven by updates to the firm's macroeconomic outlook, which now reflects a mild recession in the central case, as well as loan growth in card services, partially offset by a reduction in pandemic-related uncertainty. Looking at the full-year results on Page 3.", "The firm reported net income of 37.7 billion, EPS of $12.09, and record revenue of 132.3 billion. And we delivered an ROTCE of 18%. On the balance sheet and capital on Page 4. End of the quarter, the CET1 ratio of 13.2%, up 70 basis points, primarily driven by the benefit of net income, including the sale of Visa B shares, less distributions, AOCI gains, and lower RWA.", "RWA declined approximately 20 billion quarter on quarter, reflecting lower RWA in the markets business, which was partially offset by an increase in lending, primarily in card services. Recall that we had a 13% CET1 target for the first quarter of 2023, which we have now reached one quarter early. So, given that, we expect to resume share repurchases this quarter. Now, let's go to our businesses starting on Page 5.", "Starting with a quick update on the health of U.S. consumers and small businesses. Based on our data, they are generally on solid footing although sentiment for both reflects recessionary concerns not yet fully reflected in our data. Combined debtor and credit -- debit and credit spend is up 9% year on year.", "Both discretionary and nondiscretionary spend are up year on year, the strongest growth in discretionary being travel. Retail spend is up 4% on the back of a particularly strong fourth quarter last year. E-commerce spend was up 7%, while in-person spend was roughly flat. Cash buffers for both consumers and small businesses continue to slowly normalize, with lower income segments and small businesses normalizing faster.", "Consumer cash buffers for the lower-income segments are expected to be back to pre-pandemic levels by the third quarter of this year. Now, moving to financial results. This quarter, CCB reported net income of 4.5 billion on revenue of 15.8 billion, which was up 29% year on year. You'll notice in our presentation that we renamed consumer and business banking to banking and wealth management.", "Starting there, revenue was up 56% year on year, driven by higher NII on higher rates. Deposits were down 3% quarter on quarter as spend remained strong and the rate cycle plays out, with outflows being partially offset by new relationships. Client investment assets were down 10% year on year, driven by market performance, partially offset by net inflows where we are seeing good momentum, including from our deposit customer. Home lending revenue was down 46% year on year, largely driven by lower production revenue.", "Moving to car services and auto. Revenue was up 12% year on year, predominantly driven by higher card services NII on higher revolving balances, partially offset by lower auto lease income. Card outstandings were up 19%. Total revolving balances were up 20%, and we are now back to pre-pandemic levels. However, revolving balances per account are still below pre-pandemic levels, which should be a tailwind in 2023.", "And in auto, originations were 7.5 billion, down 12%. Expenses of 8 billion were up 3% year on year, primarily driven by investments as well as higher compensation, largely offset by auto lease depreciation from lower volumes. In terms of credit performance this quarter, product costs were 1.8 billion, reflecting reserve builds of 800 million in card and 200 million home lending. And net charge-offs of 845 million, up 330 million year on year.", "Next, the CIB on Page 6. CIB reported net income of 3.3 billion on revenue of 10.5 billion for the fourth quarter. Investment banking revenue of 1.4 billion was down 57% year on year. IB fees were down 58%, in line with the market.", "In advisory, fees were down 53%, reflecting lower announced activity earlier in the year. Our underwriting businesses were affected by market conditions, resulting in fees down 58% for debt and down 69% for equity. In terms of the outlook, the dynamics remain the same. Pipeline is relatively robust, but conversion is very sensitive to market conditions and sentiment about the economic outlook.", "Also, note that it will be a difficult compare against last year's first quarter. Moving to markets. Revenue was 5.7 billion, up 7% year on year, driven by the strength in our macro franchise. Fixed income was up 12% as elevated volatility drove strong client activity, particularly in rates and currencies in emerging markets, while securitized products continued to be challenged by the market environment.", "Equity markets was relatively flat against a strong fourth quarter last year. Payments revenue was 2.1 billion, up 15% year on year. Excluding the net impact of equity investments, it was up 56%. And the year-on-year growth was driven by higher rates.", "Security services revenue of 1.2 billion was up 9% year on year, predominantly driven by higher rates, largely offset by lower deposits and market levels. Expenses of 6.4 billion were up 10% year on year, predominantly driven by the timing of revenue-related compensation. On a full-year basis, expenses of 27.1 billion were up 7% year on year, primarily driven by higher structural expense and investments, partially offset by lower revenue-related compensation. Moving to the commercial banking on Page 7.", "Commercial banking reported net income of 1.4 billion. Record revenue of $3.4 billion was up 30% year on year, driven by higher deposit margins, partially offset by lower investment banking revenue and deposit-related fees. Gross investment banking revenue of 700 million was down 52% year on year, driven by reduced capital markets activity. Expenses of 1.3 billion were up 18% year on year.", "Deposits were down 14% year on year, up 1% quarter on quarter, primarily reflecting attrition on nonoperating deposits. Loans were up 14% year on year and 3% sequentially. C&I loans were up 4% quarter on quarter, reflecting continued strength in originations and revolver utilization. CRE loans were up 2% quarter on quarter, reflecting a slower pace of growth from earlier in the year due to higher rates, which impacts both originations and prepayment activity.", "Then to complete our lines of business, AWM on Page 8. Asset and wealth management reported net income of 1.1 billion, with pre-tax margin of 33%. Revenue, 4.6 billion, was up 3% year on year, driven by higher deposit margins on lower balances, predominantly offset by reductions in management, performance and placement fees linked to this year's market declines. Expenses of 3 billion were up 1% year on year, predominantly driven by growth in our private banking advisory teams, largely offset by lower performance-related compensation.", "For the quarter, net long-term inflows were 10 billion, positive across equities and fixed income, and 47 billion for the full year. And in liquidity, we saw net inflows of 33 billion for the quarter and net outflows of 55 billion for the year. AUM of 2.8 trillion and overall client assets of 4 trillion were down 11% and 6% year on year, respectively, driven by lower market levels. Finally, loans were down 1% quarter on quarter, driven by lower securities-based lending, while deposits were down 6% sequentially, driven by the rising rate environment, resulting in migration to investments and other cash alternatives.", "Turning to corporate on Page 9. Corporate reported a net gain of 581 million. Revenue of 1.2 billion was up 1.7 billion year on year. NII was 1.3 billion, up 2 billion year on year due to the impact of higher rates.", "NIR was a loss of 115 million and reflects the two significant items I mentioned earlier. And expenses of 339 million were up 88 million year on year. With that, let's pivot to the outlook for 2023, which I will cover over the next few pages, starting with NII on Page 10. I take a sip of water.", "OK. We expect total NII to be approximately 73 billion and NII ex markets to be approximately 74 billion. On the page, we show how the significant increases in quarterly NIIs throughout 2022 culminated in the $81 billion run rate for the fourth quarter and how we expect that to evolve for 2023. Going through the drivers, the outlook assumes that rates follow the forward curve, a combination of the annualization of the hike in late December.", "The hikes expected early in the year and the cuts expected later in the year should be a net tailwind. Offsetting that tailwind is the impact of deposit repricing, which includes our best guess of rate paid in both wholesale and consumer. In addition, looking at balance sheet growth and mix, we expect solid overall card spend growth, as well as further normalization of revolving balances per account and modest loan growth across the rest of the company. We expect that this tailwind will be offset by lower deposit balances, even modest attrition in both consumer and wholesale.", "But it's very important to note that this NII outlook is particularly uncertain. Specifically, Fed funds could deviate from forwards, balance attrition and migration assumptions could be meaningfully different, and deposit product and pricing decisions will be determined by customer behavior and competitive dynamics as we focus on maintaining and growing primary bank relationships and may be quite different from what this outlook assumes. And further, the timing of all these factors could significantly affect the sequential trajectory of NII throughout the year. That said, as we continue executing our strategy of investing to acquire new customers, as well as deepen relationships with existing ones, and as we see the impact of loan growth, we would expect sequential NII growth to return, all else being equal.", "And just to finish up on NII, as the guidance indicates, we expect markets NII for the year to be slightly negative as a result of higher rates. But remember, this is offset in markets NIR. Now, turning to expenses on Page 11. We expect 2023 adjusted expense to be about 81 billion, which includes approximately 500 million from the higher FDIC assessment.", "Going through some of the other drivers. We expect increases from labor inflation, which, while it seems to be abating on a forward-looking basis, is effectively in the run rate for 2023. An additional labor-related driver is the annualization of 2022 headcount growth, as well as our plans for a more modest headcount increase for the year, all of which are primarily in connection with executing our investments. And on investments, while we are continuing to invest consistent with what we told you at Investor Day, it's a more modest increase than last yea.", "But themes remain consistent, and we will continue to give you more detail throughout the year, including at Investor Day in May. Of course, as is always true, this outlook includes continuing to generate efficiencies across the company. And finally, while volume and revenue-related expense was ultimately a tailwind for 2022, we are expecting it to be close to flat in 2023, which will be completely market dependent as always. Moving to credit on Page 12.", "On the page, you can see how exceptionally benign the credit environment was in 2022 for the company across wholesale, card, and the rest of consumer. Turning to the 2023 outlook for card net charge-offs, specifically, Marianne gave quite a bit of detail about this on a recent conference, and our outlook hasn't really changed. But to recap that story, the entry to delinquency rate is the leading indicator of future charge-offs, and it is currently around 80% of pre-pandemic levels. We expect that to normalize around the middle of the year with the associated charge-offs falling about six months later.", "As a result, loss rates in 2023 will still be normalizing. While we anticipate exiting the year around normalized levels, we expect the 2023 card net charge-off rate to be approximately 2.6%, up from the historically low rate of 147 basis points of 2022 but still well below fully normalized levels. Well, let's turn to Page 13 for a brief wrap-up before going to Q&A. We're very proud of the 2022 results, producing an 18% ROTCE and record revenue in what was a quite dynamic environment.", "Throughout my discussion of the outlook, I've emphasized the uncertainty and many of the key drivers of 2023 results. And while we are ready for a range of scenarios, our expectation is for another strong performance. So, as we look forward, we expect to continue to produce strong returns in the near term, and we remain confident in our ability to deliver on our through-the-cycle target of 17% ROTCE. And with that, operator, let's open up the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Please stand by. [Audio gap] coming from the line of John McDonald from Autonomous Research. You may proceed." ] }, { "name": "John McDonald", "speech": [ "Hi. Good morning, Jeremy. I wanted to ask about the NII outlook, Slide 10. The range of outcomes on deposit costs is quite wide.", "As you mentioned, it looks like 1.5% to 2% demonstrated there. Does the 74 billion NII line up with kind of the midpoint of that? Maybe you could give some color about kind of the drivers of the 74 and where that lines up on this range of deposit cost outcomes." ] }, { "name": "Jeremy Barnum", "speech": [ "Sure, John. I mean, I wouldn't take the chart on the bottom left too literally. That's just supposed to give us stylized indication and of the fact that, you know, relatively small changes in deposit rate paid for the company on average, as you well know, can produce quite significant impacts on the NII and also that there's, you know, as we've already talked about, a meaningful [Audio gap] The outlook is our best guess, as Jamie says, you know, and the drivers within that are the usual drivers. In wholesale, we would expect to see a little bit of continued attrition, you know, especially of the nonoperating-type balances.", "And you're going to see some internal migration there out of noninterest-bearing into interest-bearing over time. In consumer, you know, CDs are flowing right now and we're seeing good CD production. We've got a 4% sitting in the market as of this morning. And so, continue to see new production.", "And internal migration there will be a driver. And, you know, the rest of it is -- well -- and of course, you know, as I said in the prepared remarks, we do expect, across the company, modest deposit attrition as we look forward as a function of QT and the rate cycle and so on. So, you know, we've got best guesses for all of those in the outlook. And of course, the actual outcome will be different in one way or another.", "And we'll just, you know, run the business this year." ] }, { "name": "John McDonald", "speech": [ "OK, thanks. On buybacks, how will you think about approaching buybacks and putting it in that mix of capital decisions that you have? And any thoughts on kind of the size or quantifying the potential buybacks?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So, sort of in the mode of, like, helping you guys out to put a number on the model, if you sort of look at the way we're seeing things, obviously, we've got another [Inaudible] stuff coming next year. So, say, 13.5 percent of target. And the -- sort of using your estimates, organic capital generation minus dividends, etc., and all of the elements of uncertainty there, I think a good number to use is something like $12 billion of buybacks for, you know, this year, for 2023.", "But you know, of course, the buybacks are always at the end of our capital hierarchy. So, if we have better uses for the money, those will come first. And the timing and the conditions of how much we do when is entirely at our discretion, and also noting that we are potentially going to see a Title III NPR sometime in the first quarter or maybe in the second quarter. And while that will be an NPR and only cover part of the surface area and it won't be final, so it's unlikely that it meaningfully shapes short-term decision-making.", "There will be some information content about that release that could shape our decisions as well." ] }, { "name": "John McDonald", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Erika Najarian from UBS. You may proceed." ] }, { "name": "Erika Najarian", "speech": [ "Hi, Good morning. Jeremy, my first question is just, as you can imagine, following up on the NII line of questioning. You know, I appreciate that there is a significant amount of, you know, uncertainty in this year's NII forecast in particular. But, you know, to follow up with, you know, John's question, I'm wondering if you could give us sort of more specific guardrails with regards to what you're expecting for deposit attrition and deposit data -- in terms of the terminal deposit data.", "I think, you know, the feedback I'm getting very early from investors is that, you know, they appreciate the headwinds that's occurring for NII this year. At the same time, you know, you have been consistently beating what seemed like conservative NII expectations for 2022, including printing a giant 20.3 billion number in the fourth quarter. So, you know, that's why I think the more specific guardrails could be, you know, very helpful as investors try to figure out what their own expectations are versus that." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, Erika. So, look, I totally appreciate the desire for more specific guardrails. I would want that, too, if I were you. I do think that, you know, we're trying to be quite helpful by giving you a full-year number, which, if we're honest, involves a lot of guessing about how things will evolve throughout the year.", "I think once you start giving guardrails, you implicitly assume that outcomes outside of the guardrails are, you know, very unlikely. And that's just a level of precision that we're just not prepared to get into, especially because, in the end, as I said, you know, a lot of the repricing decisions that will be faced with us as a company are, you know, respond to data in the moment at a granular level in connection with a strategy which is about, you know, growing and maintaining primary bank relationships rather than chasing, you know, every dollar of balances at any cost. So, in that context, we do expect modest balance attrition across the company for the process, as I said. Jamie, you want to supplement?" ] }, { "name": "Jamie Dimon", "speech": [ "Thank you. I just want to give a big picture about why I do not consider 74 conservative. So, the Federal Reserve reduced its balance sheet by $400 billion. 1.5 trillion came out of bank deposits.", "And, you know, so investors can invest in T-bills, money market funds. And of course, banks are competing for the capital money now. And banks are all in different plays, or some banks started competing heavily. Some have a lot of excess cash and maybe compete less.", "But if you look at prior -- and forget what happened in 2016. I think you make a huge mistake looking at that. We've never had Q -- this zero rates. We've never had rates go up this fast.", "So, I expect there will be more migration to CD, more migration to money market funds. You know, a lot of people out there competing for it. And we're going to have this change savings rates. Now, we can do it our own pace and look what other people are doing.", "We don't know the timing, but it will happen. And I just want to point out that even at 74, we're already quite good returns. And that's not -- you know, we've always pointed out to you or sometimes we're over-earning and sometimes under-earning. I would say, OK, this time we're over-earning on NII this quarter.", "We're, you know, maybe over-earning on credit or maybe under-earning on something else. So, these are still very good numbers, and, you know, we're going to wait and see and we'll report to you. But I don't want to give you false notions how secure it is." ] }, { "name": "Erika Najarian", "speech": [ "And my follow-up is, is exactly in that line of questioning. You know, let's zoom out for a second here. To your point, Jamie, the returns are still good. You know, you mentioned that your outlook already captures a mild recession.", "And I'm going to reask the question I asked in the third quarter. You know, as you think about 2023, do you think JPMorgan can hit that 17% ROTCE that you laid out in Investor Day even with the headwind NII and headwind in the provision?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. Yes, we can. You know, but a lot of factors determine that, but yes, we can. I think when we do Investor Day in May, we may give you a more interesting number, which is what do we think our ROTCE will be if we have a real recession, which I think, even in a real recession, it would probably equal the average industrial company, which is good.", "So, we're going to give you some detail around that. And those are still good returns and we can still grow. And, you know, 17 -- and remember, 17 is very good. If you compound, you know, some growth of 17%, those are extraordinary numbers.", "And, you know -- and I also want to point out, we don't know exactly capital needs to be at this point. And so, we have to modify that at one point." ] }, { "name": "Jeremy Barnum", "speech": [ "And, Erika, let me just add a very minor clarifying point. I just want to be crystal clear about this. So, as you know and as we discussed a lot went through the pandemic in terms of the way we construct and build the allowance, well, it's anchored around our economists' central case forecast, which, as you correctly say, is a mild recession. Through the way we weighed the different scenarios and a range of other factors, the de facto scenario that's better than the forecast is actually more conservative than that from an allowance perspective.", "So, we just want to be clear about that." ] }, { "name": "Erika Najarian", "speech": [ "Perfect. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Ebrahim Poonawala from Bank of America Merrill Lynch. You may proceed." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Good morning. I guess maybe, Jeremy, just following up on the credit assumptions underlying. If you could, give us a sense of what's assumed in that reserve ratio at the end of the year, be it in terms of the unemployment rate, and your outlook around just a lot of chatter around commercial real estate, the struggles to reprice in the current rate backdrop. Are you concerned about that? Are you seeing pain points in CRE customers given what's happening with cap rates? And then just the overall backdrop today." ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. Let me just do CRE quickly, Ebrahim. As you know, our sort of multifamily commercial term lending business is really quite different from the classic office-type business. Our office portfolio is very small Class A, you know, best developers, best location.", "So, the vast majority of the loan balances in commercial real estate are that sort of affordable multifamily housing, commercial term lending stuff, which is really quite secure from a credit perspective for a variety of reasons. So, we feel quite comfortable with it with the loss profile of that business. And so, yeah, so then you were asking about the assumptions in credit overall. So, yeah, as I said, like, the central case economic forecast has a mild recession and, if I remember correctly, unemployment peaking at something like 4.9%.", "The adjustments that we make to the scenarios to reflect a slightly more conservative outlook have us, you know, imply a peak unemployment that's notably higher than that. So, you know, I think we have appropriately conservative assumptions about the outlook embedded in our current balances. And the trajectory that we've talked about in the presentation, they definitely can capture something more than a very mild soft landing. But of course, it wouldn't be appropriate to reflect a full-blown, hard landing in our current numbers since the probability of that is clearly well below 100%." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Noted. And I guess just as a follow-up on, you've managed RWA growth pretty well when you look at, like, loan growth year over year, which is RWA still relatively flat. As we think about just managing capital, how should we think about the evolution of RWA? Are there still opportunities to optimize that going into whatever the Fed comes out with on Basel? Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, there are definitely still opportunities to optimize. We're continuing to work very hard, and it's a big area of focus. Some of that is reflected in this course numbers, but on the other drivers of this quarter are what you might call more passive items, particularly in market risk RWA.", "And, yeah -- but we should be clear that although we've said that the effects of capital optimization are not, you know, a material economic headwinds for the company, they're also not zero. There are real consequences to the choices that we're making as a result of this capital environment. And then in a Basel III outcome that is, you know, unreasonably punitive from a capital perspective. There will be additional consequences.", "So, we obviously are hoping that's not the case and, you know, believe that's not appropriate, but we'll see what happens." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Noted. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Glenn Schorr, Evercore ISI. You may proceed." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thank you. So, I'm curious. Let me talk leveraged loans for a second.", "You've done a good job avoiding some of these -- put on these loans sort of like the better half of the last half year. So, good call on your part. Things have gotten a lot cheaper. However, bank balance sheets, not yours, are still kind of monkeyed up with a lot of the back book.", "I'm curious to see if things have gotten cheap enough. Do you consider yourself back in? And how important is this in general for activity levels to pick back up, to have available funding from the big banks?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, a couple of things there, Glenn. So, short answer is we're absolutely open for business there. Terms are better, pricing is better. We have the resources needed or fully, fully there.", "No overhang, no issue. Also, I think there's a bit of a narrative that, like, activity in the market needs to overcome overhang. We're not convinced that that's true. We think that the overhang is in the numbers, and people need to look forward, and the system has the capacity to handle the risks.", "So, you know, I, I recognize your point. I think it's an interesting point, but we are wide open for business and not particularly concerned about the overhang from the perspective of banks' ability to finance activity." ] }, { "name": "Glenn Schorr", "speech": [ "Hmm. Interesting. So, maybe a bit asking, more so. OK, Maybe, Jamie, while we have you, in the last annual letter, you talked about low competitive moats and intense competition from [Inaudible] not just fintech.", "And I was just trying to think out aloud, is that better or worse that competitive landscape in a much higher rate backdrop? Maybe I'll just leave it at that to see where you go with it." ] }, { "name": "Jamie Dimon", "speech": [ "You know, I think it's the same, you know, because you have the apples who are basically doing a lot of banking services and Walmart starting theirs and, you know, obviously higher rates over some other folks in the fintech world and maybe even help some folks. So, we expect tough competition going forward in." ] }, { "name": "Glenn Schorr", "speech": [ "OK. Thanks." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Gerard Cassidy from RBC Capital Markets. You may proceed." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Hi, Jeremy." ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Jeremy, you mentioned in your payments business that if you took out the equity investment writedowns, the growth was, you know, over 50%. Can you share with us on the equity write downs -- obviously, private equity is going through some challenging times. And I'm assuming --" ] }, { "name": "Jamie Dimon", "speech": [ "There was a gain last year. It wasn't a writedown this year." ] }, { "name": "Gerard Cassidy", "speech": [ "Oh, I got it. OK. I thought there was a writedown there. OK." ] }, { "name": "Jamie Dimon", "speech": [ "Let me make that clear. I'm sorry about that." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. Thank you, Jamie. Can you -- just sticking just with private equity for a moment, can you share with us where the risks are in the private equity markets to JPMorgan? Is there -- when you think about it from your loan book, or is it really just in equity investments? And maybe expand upon that." ] }, { "name": "Jeremy Barnum", "speech": [ "So, you want me to [Inaudible] There's couple of things. So, Jamie's right. The headwind, you know, year on year is primarily a function of the fact that this is an investment that, you know, just because of the measurement of alternative accounting standard, we were forced to mark up previously. Um, this is, you know, uh, an investment that we got payment in kind as part of the sale of some of our internally developed initiatives.", "So, anyway, it's fine. The point is there is a small writedown this quarter. And the important point there is that the core business is performing exceptionally well, both because of higher rates but also because of the strategy. The talk is talk a lot on Investor Day, paying off across fees and value-added services and so on and so forth.", "And I guess your question is, like, private equity in general and how are we feeling about that space, did I hear that correctly?" ] }, { "name": "Gerard Cassidy", "speech": [ "That's correct, Jeremy. And just in terms of any lending, you know, obviously, so many of these companies have seen their valuations come down considerably. Is there any elevated risk in lending to some of these companies considering the struggles they're having?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, I mean, I think that's a risk that we manage quite tightly as a company. Our exposures to the sort of nonbank financial sector broadly defined. And, you know, of course, as you know, we thought a little bit about what normalized wholesale charge-offs could look like through the cycle. They're obviously higher than effectively zero, which is what we have now.", "But, you know, we feel confident with our credit discipline and what we have on the books." ] }, { "name": "Gerard Cassidy", "speech": [ "Great. And then as a follow-up question, you guys did a good job building up that loan loss reserve this quarter. Two questions to that. First, the Shared National Credit exam results are always released in February.", "Does the reserve buildup, take some of that into account? And second, how much of the reserve build was more of a management overlay versus your base case, you know, the quantitative part of the decision-making for building up the reserve." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, I mean, I'll give you that answer, but I'm oversimplifying a lot. I would say that --" ] }, { "name": "Jamie Dimon", "speech": [ "We're oversimplifying." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Yeah, I got it. The sort of conservatism of the management overlay did not change, for all intents and purposes, quarter on quarter. I think that's the best way to think about the reserve." ] }, { "name": "Gerard Cassidy", "speech": [ "Oh, and then, the Shared National --" ] }, { "name": "Jamie Dimon", "speech": [ "[Inaudible]" ] }, { "name": "Gerard Cassidy", "speech": [ "Yeah, go ahead." ] }, { "name": "Jamie Dimon", "speech": [ "The National Shared Credit thing will not affect our results materially." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. Thank you, Jamie." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Ken Usdin from Jefferies. You may proceed." ] }, { "name": "Ken Usdin", "speech": [ "Hi. Thanks. Good morning. I was just wondering if you can help us understand the ongoing efforts on your mitigation for the RWAs in advance of all the points we've made already about the pending capital regime.", "How do we -- can you help us understand what type of effect that has, if any, on parts of the income statement, whether it's NII or the trading business?" ] }, { "name": "Jamie Dimon", "speech": [ "So, if I just take that one. Just assume we're going to have modest growth in RWA. And in every single businesses, mortgages, loans, derivatives, how we hedge CVA and stuff like that, we take actions to manage RWA. Do not -- it does not really affect the business that much.", "You know, might one day, but it doesn't affect it today. And so, we don't build in -- you know, somehow, it was a little bit of this, a little bit of that. And, you know -- and the biggest opportunity down the road would be a reopening of the securitization markets. And they're still very tight.", "And I think one day they will reopen." ] }, { "name": "Ken Usdin", "speech": [ "OK. And then on the -- one follow-up, just coming back to the reserving process, can you just help us understand, relative to the 5% peak in 3Q that you gave for your unemployment rate quarterly average and the 3.9 average baseline, just where does this fourth quarter reserve get you to? And just does that rule of thumb that you kind of gave us last quarters still stand in terms of, you know, scenario analysis on potential builds ahead of this mild recession?" ] }, { "name": "Jamie Dimon", "speech": [ "You know, can I just make it real simple? The base case is where it hits almost 5% unemployment. Then you probability wait other scenarios. That's why Jeremy is saying the reserve is higher than the base case. We didn't change the probabilities in their weighting, but of course, it got worse as the base case got worse.", "That's all it is. We're still -- would -- still is a good benchmark. You know, keep in mind is, if we got to a relative adverse case, call that a 6% unemployment -- and then once you get there, you assume the average weighting you have wins. It could get better or it could get worse.", "At that case, we would need about $6 billion more. When the base case itself deteriorates, we're moving closer to the relative adverse. That's all it is. These are all probabilities and possibilities and hypothetical numbers.", "You know, if I were you, I'll just look at charge-offs, like, actual results. And so -- and, you know, we break this out, but it's -- you know, it's hard to describe and everything goes slightly differently. Every bank has a slightly different base case and slightly different weighting of adverse cases, etc. And so we're just trying to make it simple as possible." ] }, { "name": "Ken Usdin", "speech": [ "Yeah, I hear you. The challenge this time is that we're going to have the income statement affect way ahead of that charge-off. So, we're all trying to adjust fit for that, but I appreciate that. Thanks, Jamie." ] }, { "name": "Jamie Dimon", "speech": [ "And once the [Inaudible] base case gets to where you expect relative adverse, would be adding the $6 billion reserves before you have charge-offs." ] }, { "name": "Ken Usdin", "speech": [ "Exactly. Right." ] }, { "name": "Jeremy Barnum", "speech": [ "Again, and maybe just out of interest, implied in your question might be a little bit to what extent does this quarter's build sort of is a down payment on the 6 billion. And the answer to that question is much less than all of it because a lot of it was earned by long growth. And some of it, as Jamie says, is driven by the flow-through of the downward revision in the central case. You could say, subject to the caveat that this is a little bit hard, not science, that there's some down payment on the six." ] }, { "name": "Ken Usdin", "speech": [ "Yep. Understood. Thank you for all that." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Betsy Graseck, Morgan Stanley. You may proceed." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning." ] }, { "name": "Jamie Dimon", "speech": [ "Hey, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "I wanted to understand a little bit about how you're thinking about managing the expense line as you go through this year. I know we talked already about how, you know, it's hard to predict. NII, obviously markets, you know, has pushes and pulls. Can you help us understand how you're thinking about delivering operating leverage, where the elements of the expense base are, you know, needing to be invested in, so you really can't touch, and where there are opportunities to potentially peel back such that if you get a weaker red line, you know, you can still deliver positive operating leverage?" ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. So, I mean, as we -- as you know, obviously, we tend, you know, to break down our expenses across all three categories. And sometimes, the category that you're addressing is the volume and revenue-related items, which we highlight because it should pretty symmetrically respond to a better or worse environment and thereby contribute to operating leverage. So, for example, in this year's ultimate outcome, and the number that we wound up ending in 2022, the year-on-year change in volume and revenue-related expense, still finding the number of employees show you more than yesterday, but it's probably closer to $1 million.", "In other words, a year-on-year decline, whereas next year, we're assuming something more like flat. So, while the sort of year-on-year dollar change in the outlook, sort of '21 to '22 or '22 to '23 is comparable, the mix is quite different, actually. And so, for example, if we wound up being wrong about the type of environment that we're budgeting or you would expect a significant drop in the volume in revenue-related numbers in the prior outlook. And that would contribute to operating leverage.", "For the rest of it, we're always generating efficiency. And we work just as hard at that, you know, whether the revenue environment is good or bad. And as you know, we invest through the cycle. And so, broadly, our investment plans really should be that sensitive to short-term changes in the environment.", "Of course, certain types of things like marketing investments in the card business, in particular, the math of what we expect, the NPV of those things [Inaudible] cycle may change in a downturn, and that could produce lower investment, all else equal. But the core strategic investments that we're making to secure the future of the company are not going to get modified because of the ups and downs of the environment and --" ] }, { "name": "Betsy Graseck", "speech": [ "OK. And part of the reason for asking is one of the debate points on JPMorgan's stock has been around the capital charges, the capital march, and will capital be, you know, a bigger burden for you to bear as we go through the next couple of years. You know, as you deliver on the positive operating leverage side, it gives you room to absorb some more capital, obviously, and still hit those, you know, IRR and rosy targets on incremental investments. Maybe you could help us understand what level of capital increase you could absorb given the operating leverage you're expecting to generate.", "And maybe that's an unfair question today, and it's a better question for Investor Day, but, you know, that's kind of the debate that's out there on the stock." ] }, { "name": "Jeremy Barnum", "speech": [ "I get it. I mean, it's a fair question. It's a good question. I'm not going to answer it super specifically.", "And Jamie may have some views or two, but let me just quickly say, we've kind of said that we feel quite confident about, you know, this company's ability to generate 17% for the cycle. And that's incorporating our sense of the current environment, the operating leverage that you talked about, and the expectation of higher capital requirements with the 13 and up target in the first quarter of '24. The question of whether Basel III endgame and other factors increase that number and how much of that we can absorb and still produce those returns is, of course, impossible to answer right now. But I would remind you that it's not just denominator expansion.", "You know, unreasonable capital outcomes will increase costs into the real economy, which goes into the numerator too. It's not what we want, but that is a possible outcome." ] }, { "name": "Betsy Graseck", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Mike Mayo from Wells Fargo Securities. You may proceed." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Yeah. I recognize you're evolving your business model, and you're spending money to make more money, and that your track record last decade was strong there. But, as relates to the Frank acquisition that's been in the news, I'm just wondering what that says about the financial discipline for the 15 deals that you pursued, the $7 billion of investing each year, and the one-fifth increase in expenses over three years to your guide of 81 billion in 2023.", "So, it's really a question about financial discipline. And I know you can't go into details on the Frank deal. But you earned the purchase price in two days, OK, so, I get that. And if there's fraud, there's only -- you can't do anything about fraud, but still, it diverts management resources and attention.", "So, maybe just, in the specifics, as it relates to the acquisition strategy, like, who sources them? Who negotiates them? Who does the due diligence? Who runs it? And ultimately, who's accountable for all these 15 different deals? And when you have investments going across business lines, which is a strength of you guys, but who's ultimately accountable when these investments don't go the way you want to? And, Jamie, you recognized a couple of years ago at Investor Day, you said, look, sometimes you're going to waste money as you're innovating and you're growing. But ultimately, who's accountable when an investment doesn't go right, like the Frank deal or another deal, or some of the other $81 billion that you expect to spend this year?" ] }, { "name": "Jamie Dimon", "speech": [ "You know, obviously, Mike, it's a very good question, which we're always concerned about. We've always talked about complacency and all things like that. So, you know, obviously, when you're getting up to bat 300 times a year, you are going to make -- have errors. And we don't want our company to be terrified of errors so we don't do anything, and if the complacency isn't burdened by bureaucracy, which is stasis and death.", "So, you've got to be very careful when you make an error, when you cripple the firm. We are very disciplined, and you see that in a lot of different ways. You see it in our leverage lending book, you see the success of our investment, you see it in the quality of our products and services. You see it in our -- in all these things.", "It is no different for an acquisition. There are -- so the acquisitions are done by the businesses, but there's also a centralized team that does extensive due diligence. So, the business does it. The centralized team does it.", "We've been doing it for 20 years, like, we just started doing something like that. And obviously, there are always lessons learned. And, you know, one point I would tell you, the lesson learned here when this thing is out of litigation, but we're quite comfortable. And the people who are responsible, the people in the business, so they know that business did the acquisition, they are responsible, they were back.", "And we expect people, when they talk to all of us, is the good, the bad, the ugly. Whenever looking for, you know, how great everything was and obviously just been in one way or another, it was a huge mistake." ] }, { "name": "Mike Mayo", "speech": [ "Let me -- a follow-up on that. So, that relates to the inorganic growth. As it relates to the organic growth such as in the payments business, which I know is a focus, that cuts across a lot of different business lines. So, as you invest more in payments, which is, you know, can be a 20 or 30 PE business, which could be, you know, great if you got there, who's responsible for that sort of organic investment that cuts across? You know, sometimes, you know, where you aggregate the data, you know, it's consumer, it's the investment bank.", "It could be asset management, could be commercial, could be everything, in the payments. Who's responsible for those?" ] }, { "name": "Jamie Dimon", "speech": [ "So, just to be clarified, so I would say that Marianne and Jenn, when it comes to credit, debit, checks, and all the consumer-related stuff and talk is, which, I think, was you saw the presentation about payments at Investor Day, reporting to Daniel. And that is on the wholesale payments, merchant processing, a whole bunch of stuff. And they -- and those are direct responsibilities. It's quite clear, this is an area that cuts across the company.", "So, the payments working group that just spent time on that. That working group is not done in acquisition, and they don't -- and if they make -- they want to invest, which there are cases, by the way, would you -- and you'll see more this year, decided jointly, and all the way up to Daniel and me." ] }, { "name": "Mike Mayo", "speech": [ "And then, last follow-up to my first start, the general comment, I mean, this is the third year in a row of about $5 billion of expense growth. And you have Slide 11 there. But that's a lot of certain front-loaded expenses for less certain back-ended benefits. How's your comfort level that you're going to see those back-ended benefits relative to the past?" ] }, { "name": "Jamie Dimon", "speech": [ "Totally. And we should -- we try to show you guys in Investor Day, every branch we open for, every banker we hire, every tech thing we do, we're pretty comfortable. There are certain things like infrastructure, like, you know, getting to the cloud or stuff like that, which, you know, you can't identify all of that. But we're pretty comfortable that we -- if they weren't working, we change them.", "So, we ask ourselves that question every day. I mean, what managers or branches or certain things. And marketing, you always have to -- not quite have -- but have that number that is very specific. For the most part, a very specific dollar in, how many dollars out, not a guess, and we're pretty accurate in that kind of stuff.", "And again, if there's $1 billion that we were spending, it didn't give us the return, we cut the billion." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Steve Chubak from Wolfe Research. You may proceed." ] }, { "name": "Steven Chubak", "speech": [ "Hi. Good morning. So, wanted to start off with a question on the outlook for trading in the investment banking businesses. Jeremy, given the strong pipelines you cited, I was hoping you can provide some additional color just in terms of what you're hearing from corporate clients, especially in the context of the mild recession scenario you outlined, when you would expect to see some inflection in investment banking activity.", "And similar question on the trading side. You're facing difficult comps in the coming year. We still have QT, rate volatility proxies still elevated. Do you anticipate a significant moderation in trading activity or not?" ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. Thanks, Steve. So, let's do banking first. So, I think the thing that's interesting about banking right now is that the declines have been so significant, obviously, from very elevated levels.", "But even relative to 2019, 2022 was was a relatively weak year. And as we look ahead to 2023, it's possible that the actual economic environment will be worse than it was in [Inaudible] That could conceivably make you pessimistic about the investment banking wallet outlook? And to be sure, it's not as if we're super optimistic. But it's important to note that part of the issue here is how quickly things change in 2022, specifically with respect to rates, as that affects the debt business, and valuations as it affects M&A, and you see that as well. And one of the sort of necessary conditions for people to do deals or decide to raise capital is just getting comfortable with valuation and the level of the market.", "So, I think there's a chance that that actually winds up helping in 2023 in the investment banking world. Of course, we don't know. But, you know, those are some of the things that we're thinking about. Similarly, on the market side, obviously, markets had another very strong year, you know, better than we'd expected.", "Since, you know, the numbers were so strong coming out of the pandemic, we were expecting more normalization than what we actually saw. And, you know, 2022 had a lot of themes. I think the active management community did well. That always helps us a little bit.", "And we had volatility with relatively orderly and continued markets. As we look toward 2023, maybe some of those themes will be a little bit less obvious and that could be a little bit of a headwind. But on the other hand, it's not like the volatility is going away. And markets seem to continue to be quite orderly.", "And, you know, 4.5%, 5% rate environment is probably one where there's more trading opportunities and there's 0% rate environment. So, you know, of course, we don't know. We'll see. I think you would have to probably expect some normalization there.", "It's -- the numbers are really very strong in markets. But we'll see. We'll see what happens." ] }, { "name": "Steven Chubak", "speech": [ "That's really helpful color. And just my final follow-up on finalization of Basel III. Sorry, Jeremy, I couldn't help myself here, but in Barr's December speech, he strongly hinted at capital requirements moving higher for you and peers. You also alluded in your comments or in response to one of the questions that the finalization of Basel III can potentially be very punitive.", "Given the absence of the proposal, I was really just hoping you could speak to how you're scenario planning for the eventual finalization. And any additional detail you can offer on the areas of mitigation? I think the one issue or area of confusion is that one of the biggest sources of RWA inflation is op risk, which can't really be mitigated. So, what are the actions that you can take to really offset some of those potential headwinds?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, see, I'd love to get into more detail here, but I just think that the question of how to mitigate is really hard to discuss in a lot of detail until we see an actual proposal. You know, and the reason that we talk about potentially punitive increases, I mean, if you study this issue closely, is just to point out that under the version of the world where you get the worst outcome in all of the different moving parts of this thing, it's a very significant increase to the capital requirements of the system as a whole. And given how strong the system is today, that just, like, doesn't make sense to us.", "So. we just want to say that. But yeah, Jamie, please." ] }, { "name": "Jamie Dimon", "speech": [ "Let me just-- look, you guys know this operators' capital and trading bug, the CCAR or G-SIFI, all those moving parts. Let's just see what they are. We'll deal with them when we get there and, you know -- and then we'll figure out what we have to modify in business and stuff like that. We don't think it's necessary to increase capital ratios.", "We're quite clear on that. What are the new numbers we put in the top of the press release was our total loss-absorbing capacity. So, we have now almost 500 billion. I mean, really, like, at one point, when it's 500 billion of that, $1 trillion liquidity, all those thing's enough.", "And so -- but let's just see what it is. You know, they're going to work through whether international laws or international requirements. You know, we're hoping that America is the same as international. That would be nice.", "G-SIFI is supposed to be correct. Let's see if that happens. Let's just say we don't have a guess. And, you know, it's -- if the number too high, we're going to tell you what we can do about it.", "I don't know." ] }, { "name": "Steven Chubak", "speech": [ "Fair enough." ] }, { "name": "Jeremy Barnum", "speech": [ "[Inaudible] Just minor expansion. Just to expand on that. On Jamie's point -- it's important to be clear -- there will be time to adjust. You know, like there's a long road from the NPR to, you know -- supports Jamie's point.", "Let's see what it is. And then we'll --" ] }, { "name": "Steven Chubak", "speech": [ "Fair enough. Thanks so much for taking my questions." ] }, { "name": "Operator", "speech": [ "The next question is coming from the line of Matthew O'Connor from Deutsche Bank. You may proceed." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. How are you guys think of the managing the securities book given the outlook of lower deposits? Obviously, the yield curve is quite inverted depending on what part you're looking at, or most part, frankly. And at the same time, you know, the securities book is cash flowing a lot less than it was a couple of years ago, just given the rate environment." ] }, { "name": "Jamie Dimon", "speech": [ "You know, just remember that the security book is an outcome of investing that basically excess deposits. And you have like 2.4 trillion deposits and $1 trillion of loans and things like that. So -- and we manage it to manage interest rate exposure, all these various things. And so -- and then, when you say the size of it, we forecast, which I'm not going to give you the numbers -- we forecast every quarter what we're going to buy, what we're going to sell, how much is coming in, and how much we need to do liquidity.", "And we adjust it all the time based upon deposits coming down and loans and stuff like that. Obviously, what you get to invest in is, you know, a much higher rate today. And, you know, you see JPMorgan's loss in the ACM loan book as a percentage, much lower than most of the people. Remember, we're kind of conservative there too." ] }, { "name": "Matt O'Connor", "speech": [ "So, I guess a bigger-picture question. You know, we've seen such a drop in, you know, really five, 10-year part of the curve and even further out. And, you know, banks aren't really buying. The Fed is selling.", "And I guess I was wondering if you have thoughts on, you know, who's buying and what's driving the rates so much lower than -- you know, most people thought they should be up." ] }, { "name": "Jamie Dimon", "speech": [ "That -- we do. But you should read -- get the House reports to get that. We look at what everybody is doing, pension plans, governments. We look at every part of the curve.", "We look at what other banks are doing. I think I mentioned earlier in this call, banks are in different positions. Some have -- some may have to sell securities to finance their loan books. We obviously don't know.", "So, people are in a different position. And Jeremy pointed out, it's very important, that yield curve will not be the same six months from now that it is today. Well, we use that to kind of look forward. It's not actually our forecast, even though it will be wrong.", "And the investment portfolio will be invested when there are opportunities. We bought a lot of Ginnie Maes when there was, you know, a 60 OAS spread. We sold -- one of the reasons we take securities losses, because that gives you $10-plus billion you can reinvest to bigger, more attractive securities." ] }, { "name": "Matt O'Connor", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "The final question is coming from the line of Andrew Lim from Societe Generale. You may proceed." ] }, { "name": "Andrew Lim", "speech": [ "Hi, good morning. Thanks for taking my questions. So, the first one on credit quality. And thanks for giving us commentary on the shape of NCOs, I guess, specifically for credit cards popping out at the end of this year.", "Could you give us a bit more color on how reserve builds should shape out this year? I guess, you know, with respect to CECL, I'm guessing that it should top out quite soon. That's my first question." ] }, { "name": "Jeremy Barnum", "speech": [ "[Inaudible] OK --" ] }, { "name": "Andrew Lim", "speech": [ "Just assuming all your macro assumptions are unchanged and only macro assumptions are unchanged and ready to [Inaudible] and so forth." ] }, { "name": "Jeremy Barnum", "speech": [ "Well, I think we've talked about CECL quite a bit. And I think there's some decent color there in terms of Jamie's, you know, 6 billion over a few quarters in a world where the economic outlook is worse than it is today. We're definitely not going to get into the business of giving you an outlook for a sequential evolution of the loan loss allowance that, you know, it's appropriate today and it will evolve as a function of the environment." ] }, { "name": "Andrew Lim", "speech": [ "Sure. OK. Let's drill down into NII then. I just want to square a few comments made there, Jaime.", "So, if I heard you correctly, I think you're still talking about sequential increases in NII. So, I guess looking toward like 20 billion-plus for 1Q, maybe even 2Q. So, I guess we're hitting about 40 billion for 1H, and then a sharp drop-off. As, say, deposit costs increase, maybe we get a few Fed fund rate cuts as well.", "Is that the way we should be thinking about it?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, no. So, let me uncontroversially say no, there just really wouldn't. So, the -- my comments about sequential increases were to address the sort of obvious conclusion, which you are somewhat correctly drawing from the slide, which is that in a world where we're exiting the fourth quarter run rate at 81, and we're telling our ADX markets or whatever, and we're telling you 74 for the full year, there are obviously some sequential declines in there somewhere as a function of what plays out. We're simply saying don't project those into the future in perpetuity.", "Once things adjust, we will return to normal sequential growth. That answer --" ] }, { "name": "Andrew Lim", "speech": [ "Right. But you -- yeah. No, no, sure. Absolutely.", "That makes sense. That's great. Thanks for that." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks." ] }, { "name": "Operator", "speech": [ "We have no additional questions in queue. I would now like to hand the call back to Mr. Barnum." ] }, { "name": "Jeremy Barnum", "speech": [ "That's it. Thank you very much. Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "Thank you very much. We'll talk to you all soon." ] }, { "name": "Operator", "speech": [ "That concludes today's conference. Thank you all for participating. You may disconnect at this time." ] } ]
JPM	2023-10-13	[ { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Ryan Kenny", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's third-quarter 2023 earnings call. This call is being recorded. [Operator instructions] At this time, I would like to turn the call over to JPMorgan Chase's chief financial officer, Jeremy Barnum; and their chairman and CEO, Jamie Dimon.", "Mr. Dimon, please go ahead." ] }, { "name": "Jamie Dimon", "speech": [ "Good morning, everybody. Before we start the actual call, I want to repeat something we just said on the press call. So before we get into discussions about third-quarter earnings, I just want to say how deeply saddened that we all are about the recent horrific attacks on Israel and the resulting bloodshed and more. Terrorism and hatred have no place in our civilized world, and all of our hearts here at JPMorgan Chase go out to all who are suffering." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, Jamie. And of course, I very much echo the sentiment. Now let's turn to our third quarter earnings results. The presentation is available on our website, and please refer to the disclaimer in the back.", "Starting on Page 1. The firm reported net income of $13.2 billion, EPS of $4.33 on revenue of $40.7 billion, and delivered an ROTCE of 22%. These results included $669 million of net investment securities losses in Corporate and $665 million of firmwide legal expense. On Page 2, we have some more detail.", "Similar to last quarter, we have called out the impact of First Republic where relevant. For this quarter, First Republic contributed $2.2 billion of revenue, $858 million of expense, and $1.1 billion of net income. Now focusing on the firmwide results, excluding First Republic, revenue of $38.5 billion was up $5 billion or 15% year on year. NII ex markets was up $4.8 billion or 28% driven by higher rates and higher revolving balance card, partially offset by lower deposit balances.", "NIR ex-markets was up $374 million or 4%, which included lower net investment securities losses than the prior year. End market revenue was down $190 million or 3% year on year. Expenses of $20.9 billion were up $1.7 billion or 9% year on year primarily driven by ongoing growth in front office and technology staffing as well as wage inflation and higher legal expense. And credit costs were $1.4 billion predominantly driven by net charge-offs in card and included a $102 million net reserve release driven by changes in the central scenario, primarily offset by card loan growth.", "On to balance sheet and capital on Page 3. We ended the quarter with a CET1 ratio of 14.3%, up about 50 basis points versus the prior quarter as the benefit of net income less capital distributions was partially offset by AOCI. We had $2 billion of net share repurchases this quarter, and the pace of buybacks will likely remain modest in light of the Basel III Endgame proposal. In line with our capital hierarchy, we'll continue to reassess the buyback trajectory as circumstances evolve or opportunities emerge.", "And on the topic of the Basel III Endgame, you'll see that we added a couple of pages on it. So let's cover that now, starting on Page 4. Given the significance of this proposal for us, the broader industry as well as households and businesses as end users, we thought it was important to spend time discussing it. And while we know the interest in having us quantify the expected impact of this proposal in a lot of granular detail, it's important to start by asking why the proposed increase is so large, given the repeated statement over time by policymakers that banks are well capitalized and well-positioned to deal with stress.", "Given that context, the absence of detailed analysis supporting a capital increase of this magnitude is disconcerting, and there's a lot that does not make sense to us. Starting with RWA. We've already said we expect the firm's RWA to increase by around 30% or $500 billion, which results in capital requirements increasing by about 25% or $50 billion. One immediate thing to point out is that at 4.5% GSIB, a $500 billion increase in RWA requires $22.5 billion of additional capital with no change in our systemic risk footprint.", "We've been on the record for a long time that GSIB was conceptually flawed and miscalibrated originally. Since implementation, the failure to address economic growth despite the Fed themselves acknowledging this problem at the outset has made matters worse. And now all of those problems are being applied to an additional $500 billion of RWA. Our view is that the combined proposals could have adjusted the surcharge levels to keep dollars of capital associated with the GSIB buffer constant rather than simply multiplying the RWA increase by the existing surcharges.", "Another lens on the proposed increases is the introduction of RWA for operational risk and its clear overlap with op risk losses already capitalized through the stress capital buffer. Although there is limited disclosure from the Fed on this point, we have estimated that we have about $15 billion of operational risk capital embedded in the SCB based on the information the Fed does disclose. Once we capitalize for this new op risk RWA, our required capital will go up by around $30 billion without any change to our portfolio. Now let's turn to Page 5, which shows the impact of the actual and proposed capital rules over the last few years.", "Zooming out from the details of this most recent proposal, this page reminds us of what's happened since 2017. Since then, SACR and the stress capital buffer have been adopted and our GSIB surcharge will increase to 4.5%. So assuming the Basel III Endgame and GSIB proposals are finalized in their current form, we would see a 45% increase in our capital requirements relative to that 2017 starting point. This illustrates again how overcalibrated these proposals are, and it's not done yet.", "We still expect the Fed to incorporate CECL into CCAR, which will likely increase the SCB. And of course, given the absence of effect to the GSIB flaws, it continues to present a headwind into the indefinite future. And aside from those dynamics, there remains the long-standing issue of procyclicality in the overall capital reform. We think it's also important to point out that the agencies did actually have a choice here.", "While it may technically be true that the proposal is Basel-compliant, Basel compliance does not mandate a 25% increase in capital requirements. Implementing the Basel III end game consistently with how the Europeans have by retaining credit risk modeling and also addressing the compounding effects of GSIB and SCB would have achieved Basel compliance without creating this unnecessary increase in capital requirements. As you would expect, we will continue to engage and forcefully advocate during the comment period and beyond in a great deal of technical detail. For the purposes of this call, we wanted to make the equally important broader plans about both the level of capital increase and the flaws in the construct of the framework itself since coherent design is critical to the framework's durability over time.", "The current proposal exacerbates existing features to discourage beneficial scale and diversification. If it goes through as written, there will likely be significant impacts on pricing and availability of credit for businesses and consumers. In addition, the ongoing and persistent increase in the regulatory cost of market-making for banks suggest that the regulators want dramatic changes to the current operation of the U.S. capital markets.", "We believe that well-regulated market makers that are committed to deploying capital to clients on a principal basis are a critical building block supporting the breadth, depth, and resilience of the American capital markets, which is vital to the U.S. economy. So caution is warranted when proposing changes of this magnitude. With that, we go to our businesses, starting with CCB on Page 6.", "Consumer spend growth has now reverted to pre-pandemic trends with nominal spend for customer stable and relatively flat year on year. Cash buffers continue to normalize to pre-pandemic levels with lower income groups normalizing faster. Turning now to the financial results, excluding First Republic. CCB reported net income of $5.3 billion on revenue of $17 billion, which was up 19% year on year.", "In Banking and Wealth Management, revenue was up 30% year on year driven by higher NII on higher rates. End-of-period deposits were down 3% quarter on quarter. We ranked No. 1 in retail deposit share based on FDIC data and continue to solidify our leadership position in key markets.", "Client investment assets were up 21% year on year driven by market performance and strong net inflows as we continue to capture yield-seeking flows from our Consumer Banking customers. In Home Lending, revenue was down 2% year on year, given a smaller market. Originations of $10.3 billion were up slightly quarter on quarter, but they remained down 15% year on year. Moving to Card Services & Auto.", "Revenue was up 7% year on year driven by higher Card Services NII on higher revolving balances, partially offset by lower auto lease income. Card outstandings were up 16% year on year due to strong account acquisition and continued normalization of revolve. And then auto originations were $10.2 billion, up 36% year on year as we saw competitors pull back and we gained market share. Expenses of $8.5 billion were up 7% year on year largely driven by continued investments in staffing, primarily in front office and technology.", "In terms of credit performance this quarter, credit costs were $1.4 billion driven by net charge-offs, which were up $720 million year on year predominantly due to continued normalization of card. The net reserve build of $49 million reflected a $301 million build in Card Services, primarily offset by a $250 million release in Home Lending. Next, the CIB on Page 7. CIB reported net income of $3.1 billion on revenue of $11.7 billion.", "Investment Banking revenue of $1.6 billion was down 6% year on year. IB fees were down 3% year on year, and we ranked No. 1 with a year-to-date wallet share of 8.6%. In advisory, fees were down 10%.", "Underwriting fees were up 8% for debt and down 6% for equity. In terms of the outlook, we're encouraged by the level of capital markets activity in September, and we have a healthy pipeline going into the fourth quarter. Advisory has also picked up compared to the first half, but year-to-date announced M&A remains down significantly, which will continue to be a headwind. Payments revenue was $2.1 billion, up 3% year on year.", "Excluding equity investments, it was up 12% driven by higher rates, partially offset by lower deposit balances. Moving to Markets. Total revenue was $6.6 billion, down 3% year on year against a very strong third quarter last year. Fixed income was up 1% driven by an increase in financing and trade activity and securitized products as well as improved performance in credit.", "This was predominantly offset by Currencies and emerging Markets coming off a very strong quarter last year. Equity Markets was down 10%, reflecting lower revenues across products compared to a strong prior-year quarter as activity was challenged by lower volatility. Securities Services revenue of $1.2 billion was up 9% year on year driven by higher rates, partially offset by lower deposit balances. Expenses of $7.4 billion were up 11% year on year predominantly driven by higher legal expense and wage inflation.", "Credit costs were a net benefit of $185 million driven by a net reserve release of $230 million, reflecting the impact of net lending activity and net charge-offs of $45 million. Moving to the Commercial Bank on Page 8. Commercial Banking reported net income of $1.7 billion. Revenue of $3.7 billion was up 20% year on year with payments revenue of $2 billion, up 30% year on year driven by higher rates and gross Investment Banking and Markets revenue of $821 million was up 8% year on year, reflecting increased M&A volume.", "Expenses of $1.4 billion were up 15% year on year largely driven by an increase in headcount, including front office and technology investments as well as higher volume-related expense, including the impact of new client acquisition. Average deposits were down 7% year on year and 5% quarter on quarter primarily driven by lower nonoperating deposits as clients opt for higher-yielding alternatives. Loans were up 1% quarter on quarter. C&I loans were flat, reflecting continued stabilization in new loan demand and revolver utilization.", "And CRE loans were up 1%, reflecting funding of prior year originations in real estate banking as well as lower payoff activity. Finally, credit costs were $64 million, including net charge-offs of $50 million and a net reserve build of $14 million. Then to complete our lines of business, AWM on Page 9. Asset and Wealth Management reported net income of $1.1 billion with a pre-tax margin of 31%.", "Revenue of $4.6 billion was relatively flat year on year as higher management fees on strong net inflows and higher average market levels were offset by lower performance fees and lower NII from deposits. Expenses of $3.1 billion were up 3% year on year driven by continued growth in our private banking advisory teams and the impact of closing the JPMorgan Asset Management China and global shares acquisitions. For the quarter, net long-term inflows were $20 billion, positive across all asset classes led by equities. And in liquidity, we saw net inflows of $40 billion.", "AUM of $3.2 trillion was up 22% year on year, and client assets of $4.6 trillion were up 21% year on year driven by continued net inflows of higher-margin levels. Finally, loans were flat quarter on quarter, while deposits were down 5% driven by migration to investments, partially offset by client inflows. Turning to Corporate on Page 10. Corporate reported net income of $911 million.", "Revenue was $1.5 billion, up $1.8 billion compared to last year. NII was $2 billion, up $1.2 billion year on year due to the impact of higher rates. And NIR was a net loss of $506 million and included the net investment securities losses I mentioned upfront. Expenses of $456 million were up $151 million year on year.", "To finish, we have the outlook on Page 11. We now expect 2023 NII and NII ex markets to be approximately $88.5 billion and $89 billion, respectively, with the increase driven by slower reprice than previously assumed. Consistent with what we've been saying throughout the year, while we don't know when it will normalize, we do not consider this level of NII to be sustainable. Our outlook for 2023 adjusted expense is now approximately $84 billion.", "And as a reminder, this is on an adjusted basis, which excludes legal expense. Also, remember this outlook excludes the pending FDIC special assessment. On credit, we now expect the 2023 card net charge-off rate to be approximately 2.5% mostly driven by denominator effects due to recent balance growth. So to wrap up, we're pleased with another quarter of strong operating results.", "Throughout the year, we've been pointing out the various sources of significant uncertainty. And all of those, including the geopolitical situation, economic outlook, rate environment, deposit reprice and the impact of the Basel III Endgame proposal are as prominent now as they have been in the recent past. But as always, we continue to prepare for a range of scenarios and are focused on being there for our clients and customers when they need us most. And with that, let's open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. Please stand by. Our first question comes from John McDonald with Autonomous Research. You may proceed." ] }, { "name": "John McDonald", "speech": [ "Hi. Good morning. Jeremy, I was wondering if you could give us a little more color on what you're seeing so far on deposit reprice and migration, what's been better than expected so far on that front? And how do you see higher for longer rates potentially impacting deposit reprice pressure?" ] }, { "name": "Jeremy Barnum", "speech": [ "Sure. Thanks, John. I think the themes are pretty much the same as we've seen in prior quarters. So as we talked a little bit about on the press call, we've been trying to be a little bit cautious about recognizing that we don't think the current levels are sustainable.", "And we do think that we'll have to reprice in some pockets to some degree, maybe tiering or whatever at some point in the future. And of course, that hasn't happened yet this year. So that's one factor. In the meantime, the CD strategy is working well.", "We're going to continue to get very good feedback from the field, and we're capturing money in motion. And so we're seeing the sort of internal migration associated with slow increase in deposit rate paid as a result of CD migration, but that's sort of working as we would have hoped. And so everything is kind of playing out according to plan, I would say. In terms of higher for longer, I think it just means that there will continue to be upward pressure on deposit pricing, both from internal migration and possibly from other effects.", "And at the end, as we always say, we're going to price products as a function of the competitive market environment." ] }, { "name": "John McDonald", "speech": [ "And just as a follow-up, it seems like you've done some securities repositioning in the last couple of quarters. How are you positioning the balance sheet in terms of cash in the securities portfolio, given your outlook for rates?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. I think I would say that while we're not predicting higher rates, I'm sure Jamie will have something to say here, we believe in being prepared for it. And that's been our position for some time. And of course, that's produced good results, and we continue to try to position ourselves.", "So neither significantly higher rates nor significant lower rates present a particularly large challenge to the company. So probably at the margin, we're still a little bit biased for slightly higher rates. But do keep in mind that when modeling the duration of the balance sheet, higher rates do extend the duration or rather shorten the duration on the deposit side, so that can be a factor as well." ] }, { "name": "John McDonald", "speech": [ "OK. Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Steven Chubak with Wolfe Research. You may proceed." ] }, { "name": "Steven Chubak", "speech": [ "Hey. Good morning. Jeremy, I was hoping to just inquire about capital market outlook. You cited improved activity levels in September.", "But given persistently higher rates, geopolitical tensions and just poor performance of recent IPOs, how you're thinking about the outlook over the near to medium term? And how are you thinking about just the timing of an inflection in activity?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Good question. I mean, as you know, obviously, the current levels in Investment Banking remain quite depressed, certainly relative to the very elevated levels that we saw during the pandemic but even relative to sort of 2019, which is what you might consider the last normal year. We do eventually think we'll recover to those levels and hopefully recover to above those levels, recognizing that by the time it happens, you will have had many years of economic growth in the meantime.", "And to be fair, while the current environment is a little bit complicated in mix and there are some headwinds, as you pointed out, things have improved a little bit. And I think I would say our banking team is a little bit more optimistic than they were last quarter. So it feels to me like a little bit of a slow grind with some positive momentum, but obviously, significant uncertainty in the outlook and some structural headwinds, given lower levels of announced M&A and some regulatory headwinds on that side." ] }, { "name": "Steven Chubak", "speech": [ "And just for my follow-up on some of the regulatory commentary you provided. Certainly, a lot of helpful color on the slide. So thank you for that. If the proposal were to go through as written, what proportion of the inflation do you believe can be mitigated over time? And I was also hoping you could provide some context as to the quantum of how you think CECL inclusion could potentially impact the SCB and CCAR." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Those are all good questions, Steve. I think it's probably too early to try to provide that level of quantification on either front. If I start first with the Basel III end game proposal, from our perspective, we're currently focused on advocating as aggressively as possible for the necessary changes, some of which are what you might call philosophical in nature or some of the things I highlighted in my prepared remarks.", "But some of them are very technical in nature, including things that we think might actually be mistakes on the proposal. And so talking a lot about optimizing away stuff that might change just feels like a bit premature at this point. I would point out that given how significant operational risk RWA is as part of the proposal, that is -- you can think of that sort of as a generic tax across the entire spectrum. And it's therefore, in some sense, non-optimizable.", "So we feel that it's important to manage expectations about the level of optimization that's possible once the rule is finalized and hopefully some of the technical items are addressed. Also, it depends on your definition of optimization. There's what I -- sometimes I use the term costless optimization, where it's just technical fixes that don't affect revenue and don't require you to exit businesses. I think that type of optimization will be harder to find than it has been in the past.", "But as we pointed out, we may simply need to exit things. And that will be because it is better than the alternative, which would be to do activity that's shareholder value disruptive, but it won't be costless. A good example of that is the renewable energy tax credit investment business, which as a result of the quadrupling of the risk weight may no longer make sense. Now that's one that we hope will be changed but is tricky because those are very long-duration assets.", "So between now and the rule is finalized, it raises some questions whether we want to put that stuff on the balance sheet. So sorry, a bit of a long answer. But then, yes, on quantifying CECL and CCAR, I think we've got to wait for that one because given the relative lack of transparency that we have into the Fed's exact modeling in terms of which quarter is the peak and so on and so forth, it's a little bit hard to predict what the exact impact of putting CECL and CCAR is going to be. We just know probabilistically that it will, like everything else these days, tend to push capital higher." ] }, { "name": "Steven Chubak", "speech": [ "Very helpful color, Jeremy. Thanks for taking my question." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Ebrahim Poonawala with Bank of America. You may proceed." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Hey. Good morning. Just first question, Jeremy, on credit. I think you mentioned some of the reserve release was tied to the change in the central scenario.", "Could you just talk to us, remind us what the central scenario is today, what changed? And then in terms of fundamentally on credit, like where are you seeing softness either on the consumer or the commercial side?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. So on the central scenario, you should read the research that gets put out by our competitors and our excellent research team. No, but in all seriousness, I think our U.S. economists had their central case outlook to include a very mild recession with, I think, two quarters of negative 0.5% of GDP growth in the fourth quarter and first quarter of this year.", "And that then got revised out early this quarter to now have sort of modest growth, I think, around 1% for a few quarters into 2024. So just flowing that through our process while acknowledging that we're still skewed to the downside. We're still reserved to a significantly higher unemployment rate on a weighted average basis than is in the central case outlook. So that number would be sometimes giving you this 5.5% this quarter.", "So it's really not much more complicated than that. We're just kind of following the process. And I think your other question was where am I seeing softness in credit. And I think the answer to that is actually nowhere roughly or certainly nowhere that's not expected, meaning we continue to see the normalization story play out in consumer more or less exactly as expected.", "And then, of course, we are seeing a trickle of charge-offs coming through the office space. You see that in the charge-off number of the Commercial Bank. But the numbers are very small and more or less just the realization of the allowance that we've already built there." ] }, { "name": "Ebrahim Poonawala", "speech": [ "That's helpful. And just going back to the details you laid out on Basel end game. Maybe on the philosophical side, I think Jamie was speaking last month said doesn't -- we don't expect any changes. But at the same time, you make everything that makes sense in terms of the pushback.", "Is it all falling on deaf ears from a shareholder perspective? Are we resigned to the fact that we are going to see more toward the worst case outcome play out? Or is there some level of sort of meeting in the middle of the road as this thing gets finalized?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I'll let Jamie speak for himself on that point, but our job is to advocate. We're not going to guess what the sentiment is in Washington. It's a 1,000-page rule proposal, as you know.", "We've got a big team of very smart people studying it very closely. Interestingly, we noted recently that in some of the analysis that they did about the impact on lending, they sort of forgot about like $1 billion of the Fed and their preamble, they forgot about $1 billion of operational risk RWA. So it just highlights that there is a possibility or seem to have forgotten. They simply omitted the impact of the operational risk RWA on fees.", "So anyway, the point is it's long, it's complicated, it's technical. We do think there are probably some technical mistakes and there -- cannot forcefully advocate on all of those. And while we disagree with a lot of this stuff, these are technical issues that should be, in some sense, resolved technically. And hopefully, they'll listen." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Got it." ] }, { "name": "Jeremy Barnum", "speech": [ "Sorry, I'm just getting a correction in the room. I meant to say $1 trillion." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Yeah. No, I got that. I got the $1 trillion. Yep, thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "What you're talking about actually put something out on it" ] }, { "name": "Ebrahim Poonawala", "speech": [ "Yeah. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Ryan Kenny with Morgan Stanley. You may proceed." ] }, { "name": "Ryan Kenny", "speech": [ "Hey. Good morning. I want to dig in on the NII side. So you raised the 2023 NII markets guidance by $2 billion for this year.", "So I know your comments in the press release suggests JPMorgan's overearning. So I just want to triangulate there. What does normalized NII look like? And do we get to normalize next year or earlier on?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. A couple of things. So let me do the timing question first. So we're being very clear that we are not predicting when it's going to be a function of the marketplace and the rate environment and competitive dynamics and so on and so forth.", "So we're just really just trying to remind everyone not bank on the current run rate, which we just don't fundamentally think are sustainable. You'll be aware that before Investor Day last -- earlier this year, we tried to quantify what we thought that kind of normalized range might look like, and we put a sort of mid-70s type number out there. And at Investor Day, we talked about how the acquisition of First Republic was going to push that number up a little bit, although there were some overlaps and so on and so forth. So anyway, with the benefit of time and having everything settled in a little bit, if you sort of push us for that kind of what does that number now look like, we think it's probably closer to about 80 with all the obvious caveats that this is a guess and we don't know when.", "But we're just trying to point out that it's a bit lower than the current run rate." ] }, { "name": "Jamie Dimon", "speech": [ "Inside the company, some people think it will happen sooner, i.e., me. Some people think it will happen later, i.e., Jen and Maryann, and Jeremy." ] }, { "name": "Jeremy Barnum", "speech": [ "I wasn't aware I was in that count. I don't know. I don't know." ] }, { "name": "Ryan Kenny", "speech": [ "Thanks. And then on the loan growth side, industry loan growth has slowed significantly this year. What demand are you seeing for loan growth across the different categories? And I know it might be too early to talk about next year, but directionally, how should we think about loan growth, given where we are in the cycle and the higher capital requirements coming?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, sure. So on loan growth, the story is pretty consistent with what we've been saying all year. So we were seeing very robust loan growth in card, and that's coming from both spending growth and the normalization of revolving balances. As we look forward, we're still optimistic about that, but it will probably be a little bit more muted than it has been during this normalization period.", "In auto, we've also seen pretty robust loan growth recently, both as a function of slightly more competitive pricing on our side as the industry was a little bit slow to raise rates. And so we lost some share previously, and that's come back now. And generally, the supply chain situation is better. So that's been supported.", "As we look forward there, it should be a little bit more muted. And I think generally in wholesale, the loan growth story is going to be driven just by the economic environment. So depending on what you believe about soft landing, mild recession, no lending, we have slightly lower or slightly higher loan growth, but in any case, I would expect it to be relatively muted. And of course, lending remains fairly constrained both by rates and market conditions.", "But also, and I think this is true across the board, we will be managing things actively, as mentioned in light of Basel III, which may not change originations, but it will change what we retain." ] }, { "name": "Ryan Kenny", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Gerard Cassidy with RBC. You may proceed." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning, Jeremy. How are you?" ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Jeremy, you guys have put up a really strong ROTC number of 22% for the quarter. When you dive into your different segments, what really jumps out at us is the 40% ex First Republic ROE in Consumer and Community Banking. I know you and Jamie have talked about your over-earning on credit, we get that. But in view of all of these fintechs and all these other nonbank competitors that were all supposed to pick away at everybody's market share, you guys have put up great numbers here.", "What's the drivers behind an ROE, even when you take that credit overearning out, what's driving this business profitability at such high levels?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, Gerard, I'd say a couple of things there. So first, it's not just credit, it's also deposit margin, right? So when we talk about overearning on NII, a disproportionate amount of that is coming out of the consumer franchise for all the reasons that we've talked about. But I would also point out, sometimes we don't like the word overearning because right now, customers are happy, and they're doing CDs. And the broader answer to your question about why we're able to beat effectively really comes back to a decade, two-decade-long history of investing for the future and recognizing that there's a holistic value proposition here that includes branches and the app and all the online services and the entire suite of products and services that is around this enterprise, which drives engagement and customer loyalty.", "And we're seeing some of the benefits of that now, although we're not complacent. The competition is still there. The fintechs are still there, and we know we need to continue investing to preserve the value. And it's also true that the particular circumstances of the current rate and credit environment means that the earnings are a little bit above normal, but that core franchise is extremely robust." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then as a follow-up, which ties into your answer on the deposit margin and consumer and your earlier comments, you and Jamie, about the internal debate inside JPMorgan about the migration of rates going higher on the funding side. Your noninterest-bearing deposits, I think, are around 28% of total deposits, which is slightly above the 26% you guys had back in 2018 or pre-pandemic. Is this expectation that you're going to see more of the noninterest-bearing deposits going to interest-bearing? Or is it just the repricing of interest-bearing deposits that have some of your folks inside JPMorgan a little more cautious on that net interest income number?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. It's a good question, Gerard. I think it's a little bit bigger picture than that. And I'm not sure.", "I get your question. It's a good question, but I'm not sure that the reported interest-bearing, noninterest-bearing split is the best one to look at this through for a couple of reasons. So first, like between wholesale and retail, we've got some amount of noninterest-bearing in wholesale. That's sort of the ECR product, and so you see some dynamics there that play out.", "And in consumer, in a world where savings is paying a relatively low rate paid across checking and savings, the migration dynamics are probably not that different right now. But then, of course, even within consumer across both consumers and small businesses, you've got slightly different dynamics in terms of how people manage their operating balances. So I would tend to zoom out a little bit and see this as a holistic answer that's driven by internal migration from checking to earnings to CDs, from ECR to interest-bearing and wholesale. And then our potential response to the rate environment, the competitive environment, the overall level of systemwide deposits in terms of product-level reprice that may or may not happen at the moment in the future." ] }, { "name": "Gerard Cassidy", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Erika Najarian with UBS. You may proceed." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Good morning, Jeremy. My first question is for you. Again, sort of maybe reasking the question a different way.", "Your new guide for net interest income for this year would imply an exit run rate of $22.9 billion in the fourth quarter. As we think about the dynamics and higher for longer, on one hand, your fixed-rate assets will continue to reprice. On the other, you've been asked a lot about the deposit dynamics that could continue to creep higher. How do you think about those puts and takes as we think about that relative to that exit rate of $22.9 billion in the fourth quarter?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. So, Erika, I think the simple answer to your question is those -- I believe that fourth quarter exit number equates to a $90 billion run rate ex markets. And we're kind of saying that -- yes, it's not what I meant to say." ] }, { "name": "Jamie Dimon", "speech": [ "She said $22 billion." ] }, { "name": "Jeremy Barnum", "speech": [ "Oh, I didn't hear that. OK. Anyway, model that way. Anyway, so call it $90 billion run rate on an exit rate basis, and we're saying that we think something a bit more normal is closer to $80 billion.", "So that's one building block. Underneath that, I think one thing that's interesting, actually, is that as the percentage of the deposits which our CDs increases, the sort of balance between internal migration and betas and rate and volume, it's a little bit less binary and a little bit smoother. So when we look at this type of stuff and we model migration balances, product-level reprice as you get out of that lower zero bound with 0% CD mix world, things get a little bit smoother, I would say, overall. So it will be interesting to watch that, but it's obviously one of the most important things for us as a company right now.", "And we think we can manage it, but it's also worth remembering that the big picture point is just the client franchise. And we've often said, we're very focused on primary bank relationships, and we didn't lose any of those in the last cycle. We're not planning to lose any in this cycle, and that's what sort of a long-term focus means for us." ] }, { "name": "Jamie Dimon", "speech": [ "And I would just say quantitative tightening there. That will be a large number, and we don't exactly know the effect where wholesale, consumer as -- remember also the Fed has the RRP program, which is also sucking money into the Fed directly reducing deposits. That's still $1 trillion, too." ] }, { "name": "Erika Najarian", "speech": [ "And my second question is on maybe zooming out on the Basel III Endgame impacts. It's clearly complex, overly complex. And I completely agree with you that it is unnecessary at this point and very backward-looking. I guess what is not complex is the fact that you generated 75 basis points of CET1 this quarter while your RWAs are down.", "And I guess my question here is, is that I understand that we're in the public advocacy process. I hear you loud and clear in terms of how this could have harm in terms of pricing for Main Street and dislocating the pipes in American capital markets. But for JPMorgan, this change your natural return profile of 17%. Jamie, I know you lingered a little bit on 14 when you were at Barclays in September.", "But at the end of the day, it feels like for your -- for the portfolio managers that own JPMorgan through the cycle, this Basel III end game really harm your natural earnings power and returns." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. OK. That's a good question, Erika. I think there's a couple of pieces in there.", "So let me take the most important piece first, which is the 17% through the cycle target. Are we keeping that or not in light of the Basel III Endgame proposal. So short answer is we're not going to change that number today. But when you look at what we've disclosed about a 25% increase in capital, it's not -- you have to start by acknowledging that, that is a major headwind to returns.", "In simple terms, you talk about earnings power and returns, but they're two different things, right? We have to be a little bit pedantic and do numerator, denominator here. OK. So say the numerator doesn't change, if you just dilute down the numerator by the increased capital, that's a significantly lower return number. I would say that that's probably the lower bound in terms of the impact of the Basel III Endgame for a couple of reasons.", "One is we are hoping for changes. Two is once the rule is final, we will seek to reprice in the places where we can. And that will be different in consumer and in wholesale. Some of it will be product level, some of it will be relationship level.", "But that hopefully can mitigate some of it. But of course, the flip side of that is that's cost getting passed into the real economy, and that's part of the point that we've made about lowering availability of products and services and lending. There may be some opportunities for costless optimization. I'm personally a little bit more pessimistic about those, but we surprised ourselves on those points in the past.", "So we'll see. And then finally, yes, we may stop doing certain things, and we may exit things. But I wouldn't necessarily assume that, that's going to do a lot to preserve returns at the 17%. That's going to be about exiting things that are shareholder-disruptive but not necessarily producing much higher returns if you know what I mean.", "So that's that. And then the other part of your question implicitly was talking about organic capital generation, and I think it's just very important to separate impacts on the economy and impacts on long-term returns from our ability to meet the requirements. Of course, as Jamie always says, JPMorgan is going to be fine. And we're building a lot of capital, and we were managing capital conservatively.", "And we'll be able to build the necessary capital in order to achieve on time or early compliance, which is always what we strive to do. But that doesn't really have any particular bearing on the question of what the long-term return target is or the impact on the real economy." ] }, { "name": "Erika Najarian", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Glenn Schorr with Evercore ISI. You may proceed." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thank you. So I very much appreciate the comments in the release on the big picture things of what's going on in the world and the potential impact on markets on crude market, global trade, everything that you mentioned. Sadly agree about the most dangerous time in decades.", "The question I have is, does it surprise you that markets are heading in that you yourself have green shoots or still green shoots type of mindset about banking while that's going on? And then maybe more importantly, if you believe what -- obviously, what you wrote, what are you doing about it? How do you manage yourself conservatively? How do you prepare for tougher times?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. Go ahead, Jeremy. Do you want to start?" ] }, { "name": "Jeremy Barnum", "speech": [ "OK. So I mean, on green shoots, you'll just note that our comments are cautious. I mean, there is momentum. I do think we are a little bit more optimistic than we were.", "But obviously, markets have been bumpy, both equity markets and rate markets have been very whippy recently. So we don't want to get too carried away with optimism here. We are coming off a very low base. And so there's a hope and an expectation that we are on the path to normalization and improvement.", "And of course, the overall economic picture, at least currently, looks solid. The sort of immaculate disinflation trade is actually happening. So those are all reasons to be a little bit optimistic in the near term, but it's tempered with quite a bit of caution." ] }, { "name": "Jamie Dimon", "speech": [ "I would add question, there has been an extraordinary amount of fiscal monetary stimulus still in the system. And you can't look at -- and of course, it can drive markets and sentiment and sales and profits and all that, but it can't stay like this forever. Between Q2, which you've never had and how much the fiscal stimulus is going to continue at this rate before you have kind of the crowding out kind of factors. So I just -- I think you have to be very cautious.", "And of course, the dealer policies, I think, is just an extraordinary issue we have to deal with. How do you prepare the company for that? We do 100 stress tests a week. And we do multiple views of it, including geopolitical problems or interest rate problems. But usually, geopolitics presents itself as usually as a deep recession or a mild recession, a recession part of the world or markets going down a lot.", "And because markets do well is not a reason ever to say they're going to continue to do well. If you don't believe me, remember 1987, 1990, 1994, the year 2000, the year 2009, and people don't predict those inflection points. I just -- but my caution is that we are facing so many uncertainties out there. You're just going to be very cautious where you're facing and like I said, the other thing about the green shoots regardless of that, we try to run the company so that we serve the clients day in and day out with better products and better services, securely, safely and all those things.", "And that's the ultimate goal. We know there are going to be bad times. That's not a surprise as there are going to be bad times. I don't know how they're coming and where they're coming from, but we keep on serving clients and doing good for clients, you can build a good business kind of separate from what it does to your returns.", "That's a slightly different issue at this point. But we'll deal with that, too, when we figure out what to do." ] }, { "name": "Glenn Schorr", "speech": [ "Thank you for all that." ] }, { "name": "Jamie Dimon", "speech": [ "Thanks, Glenn." ] }, { "name": "Operator", "speech": [ "Thank you, Our next question comes from Mike Mayo with Wells Fargo Securities. You may proceed." ] }, { "name": "Mike Mayo", "speech": [ "Hi. I understand the NII strategy benefited from First Republic asset sensitivity, TD strategy, money in motion. And I'm curious to how much is the NII increase and the deposit benefits a function of the 67 million digital banking customers. Do you have more digital banking customers and branch customers now? If you can just refresh that? And then a more general question, I guess, the first one for Jeremy, and the second one for Jamie.", "You have record tech spend. What's the benefit of having record tech spend? If you can kind of mark to market your thoughts there as it relates to AI as it relates to maybe weighted spending, your outlook for next year? And does it really help to be the biggest tech spender of the banking industry?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Let me do digital banking, Mike. I spent some time on this actually a couple of weeks ago. And it's interesting to note the sort of extent to which the growth in digitally engaged consumers is higher than the overall growth in consumer accounts, meaning that we're continuing to increase the percentage of our consumers that are digitally engaged.", "And it sort of goes back to my prior point about --" ] }, { "name": "Jamie Dimon", "speech": [ "The percent who are digital only is much lower than that." ] }, { "name": "Jeremy Barnum", "speech": [ "For sure, for sure, which actually links to the broader point that what -- in terms of your question about how much is this helping the current NII story, it goes to the larger point of it holistic, through the cycle, multichannel, fully engaged customer strategy, which requires a lot of investment in branches, obviously, but also in digital services of all sorts. So in many ways, you can see the current environment as a little bit of a payoff of that investment, but that's not like, therefore, we stop investing, obviously. So I guess that's part of the answer. And I guess, your other question is the benefits of being the biggest tech spender.", "I just think like it's sort of mandatory, right? I mean, we're big and very technology-centric business, and the world is competitive. And everything is changing. Younger generations have different expectations, and we have to be nimble, and we have to be on our front foot. And otherwise, we risk getting severely disrupted.", "So I don't know if Jamie wants to add anything." ] }, { "name": "Jamie Dimon", "speech": [ "Just the competition, we look at it is it's Wells. It was coming back, which I'm happy for you guys. It's obviously, Marcus, it's Apple. It's Chime, it's Dave.", "It's -- a lot of people coming up with these businesses in different ways. Some have been quite successful. It's Stripe in payments. And so we want to be very good and very competitive.", "Some of that tech spending is things which are almost [Inaudible] which is cybersecurity, data center resiliency, regulatory requirements, and things like that, which we simply are going to do and be very, very good at to protect the company." ] }, { "name": "Mike Mayo", "speech": [ "As it relates to AI specifically, which is the talk of the town, I guess the consensus among people outside the banking industry is that banks will not win that battle, including JPMorgan. You won't control the front end. What are you doing with AI to make a difference now? Or is this simply a moonshot?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, I don't agree with that statement. Banks have an extraordinary amount of proprietary data in addition to when you do like a large language model, that's public data. It's looking at everything in the Internet or everything that's ever been published or something like that. But AI is an extraordinarily good tool to use.", "We just put a woman who is running at our table. So it's data analytics, AI, etc. And there are multiple types of AI. So we use AI for risk, broad marketing, prospecting.", "And the management team is getting better and better and say, how can we use data to do a better job to reduce errors, to serve clients better, to have a salesperson have copilots. They know why even the clients calling us something like that. And so we simply have to do it. Does it create opportunity for disruptors to come in? Yes, of course.", "that's always been true with technology and -- but we'll be quite good at it." ] }, { "name": "Mike Mayo", "speech": [ "And then lastly, I think you had made a mention at a conference about investment spend or tech spend over the next year. Where do you stand on that?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. No, because you did ask a little bit about the expense outlook for next year. So I think at the conference, we said I think the consensus was $88 billion, but we're still going through budget process, etc., etc. So that's still true.", "I think we're still kind of in the ballpark, but I would say at the margin, there's going to be a little bit of upward --" ] }, { "name": "Jamie Dimon", "speech": [ "First Republic, too, or no?" ] }, { "name": "Jeremy Barnum", "speech": [ "That's all now including First Republic. And I think there'll be a little bit of upward pressure on that as we sort of do our usual thing and look at all the opportunities that we see and the investments that we want to make. So no surprise in that sense that we're going to invest prudently. Nothing dramatic, but probably a little bit of upward pressure on the margin." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thank you" ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Jim Mitchell with Seaport Global. You may proceed." ] }, { "name": "Jim Mitchell", "speech": [ "Hey. Good morning. Jeremy, do you think there's any receptivity among regulators regarding the double counting, not only of operational risk, but I think you alluded to this earlier in the Markets business, but there's clearly double counting and market risk in the trading book. Is there any receptivity?" ] }, { "name": "Jamie Dimon", "speech": [ "Can I just answer real quickly? We don't really know. It's a one side of the conversation generally. They say put in your comments. So everyone's going to put in extensive comments kind of like you heard from Jeremy, and we don't really know.", "We don't really know what's going on inside the Fed, how many people get involved. My view it's become a very politicized process as opposed to the technical analysis, I think, is required to do it exactly right. So we'll see." ] }, { "name": "Jim Mitchell", "speech": [ "OK. And then if it weren't to change, and you talked about the potential impact on liquidity in the Markets business, specifically. Is that a JPM pulling out of certain business type of event? Or is that -- is it more a comment that there'll be fewer providers of liquidity as less-scaled players exit? And maybe that's all else equal, a market share gain opportunity for JPMorgan in a smaller business?" ] }, { "name": "Jamie Dimon", "speech": [ "I think -- so if you look at Markets alone, it's a huge, I think, 60% increase in capital. And if you look at it, you can do that by product for some products and for others. But generally, it's across all products. And market make-- but the really important thing is market making is a critical function.", "and if you look at the world, only so many large market makers who can make markets for governments, hospitals, cities, schools, states, IMF, World Bank, BlackRock, Blackstone, and all those various things to buy and sell for their clients in size, and market makers have a different function than hedge funds. And I don't know what the real intent was, but this is another one, I think, needs to be really thought through. What are you trying to accomplish? We do market making quite safe. We've never lost the kind of money that people talk about in market making in the global market shock or something like that.", "But the other thing about market making, I do agree it could actually force some people out. It will force lower positions, which is why I think it's a little risky, but it may also force more consolidation. And so clients since they need it so much, there may be consolidation in unintended way in market making and obviously more volatile markets because with all the constraints for the LCR, SLR, capital, etc, you will constantly be up against limitations on what you can do." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. And I think that last point of Jamie's is particularly important because sure, if you want, you can construct as what I would consider a very optimistic argument that the higher cost of doing business will lead smaller-scale players to exit, and that's a share gain opportunity for us. But I refer back to the comments about the disincentives to beneficial diversification and scale. Getting bigger, especially in Markets, it's quite expensive from, for example, a GSIB perspective.", "And so you wind up kind of hemmed in on all sides, which is one of the reasons why we're sort of highlighting that it does seem like the only way out sometimes when you look at the cumulative effect of everything that's happened in markets over the last 15 years is a fundamentally very different system. And well, obviously --" ] }, { "name": "Jamie Dimon", "speech": [ "Great opportunity for European market makers. I mean, a great opportunity. Like they can do repo and FX and swaps and credit and stuff with 30% less capital. That is a big difference in that kind of business." ] }, { "name": "Jim Mitchell", "speech": [ "Right. That's helpful. Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. Our last question comes from Matt O'Connor -- excuse me, with Deutsche Bank. Your line is open." ] }, { "name": "Matt O'Connor", "speech": [ "All right. Good morning. You talked about increased spend in some areas in response to an earlier question, but just how do you think about cost control overall looking at the medium term? The outlook for revenue is obviously pressure at least on net interest income, a few might help. But the backdrop is for potentially declining revenue or at least flattish revenue for a couple of few years.", "So I know you always say you want to invest for the cycle, and it's really paid off over time, but how are you thinking about cost control in the next few years?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, I wish I had sort of an answer that fit better into your framework, but in some fundamental sense, we just don't agree with the framework in the sense that -- and we've been through this over the last couple of years, right? In a world where rates drop very suddenly and recover like quite dramatically and credit becomes abnormally good and then rebounds, and you see these very significant fluctuations in capital markets. We saw that 2021 going into 2022 where the revenue environment can change a lot in the short term for reasons that can be largely out of your control. And while, of course, there are parts of our expense base, which are in the short term, directly sensitive to the revenue environment, and some of those adjust naturally, and some of them we adjust more forcefully as a function of volumes.", "But other things are more structural. And the goal is to make sure that those other things are sized appropriately to what we believe sustainable through cycle returns are. So we're always very focused on cost. You can be rest assured of that.", "That discipline internally is as aggressive as ever as we go through the budget cycle, but they're long-term plays. And you really shouldn't expect us to see trying to generate cosmetically lower cost in response to a lower revenue environment, where we didn't balloon the cost when the revenue became, as we've argued, unsustainably high." ] }, { "name": "Matt O'Connor", "speech": [ "Yes. Fair enough. And then if I could just squeeze in on First Republic. Obviously, the contribution there is coming in at multiples higher than expected.", "How do you think about the puts and takes in terms of -- I think there's probably some runoff of loans still to come, but also opportunities to deepen the relationships there?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So you're right about the contribution about the runoff of loans that it is notable the net income, the First Republic-related net income that we printed this quarter. So the first thing to say is that we don't think that, that First Republic-related net income number from this quarter is a sustainable indicator of the future run rate. Some of the same dynamics that we just talked about, in particular, overearning on deposits or sort of above-normal deposit margins also apply to First Republic franchise to some degree.", "So we would expect that to normalize. And probably more significantly, as I think you alluded to, we do have some accelerated pull to par on some of the commitments that we took on at a fair value discount as part of the acquisition. And so that's a short-term tailwind in the revenue that will come out of that over the next few quarters. And yes, in terms of how it's going overall and deepening the relationships, that remains a focus.", "And I think more of that will happen as we continue the integration and we continue stabilizing. And yes, I think, as I said, I think, on the press call, things are going well, arguably a little bit better than we had sort of modeled as part of the acquisition, and we're happy to see that." ] }, { "name": "Matt O'Connor", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. There are no further questions." ] }, { "name": "Jamie Dimon", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2020-07-14	[ { "description": "Chief Financial Officer", "name": "Jennifer Piepszak", "position": "Executive" }, { "description": "Chairman of the Board and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Seaport Global -- Analyst", "name": "James Mitchell", "position": "Analyst" }, { "description": "Keefe, Bruyette, & Woods, Inc. -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "Analyst -- Analyst", "name": "Matthew O'Connor", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Michael Mayo", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Portales Partners -- Analyst", "name": "Charles Peabody", "position": "Analyst" }, { "description": "UBS Investment Bank -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Kenneth Usdin", "position": "Analyst" }, { "description": "Oppenheimer & Co. -- Analyst", "name": "Christoph Kotowski", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's Second Quarter 2020 Earnings Call. [Operator Instructions]", "At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO, Jamie Dimon, and Chief Financial Officer, Jennifer Piepszak. Ms. Piepszak, Please go ahead." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you, operator. Good morning, everyone.", "I'll take you through the presentation, which, as always, is available on our website and we ask that you please refer to the disclaimer at the back.", "Starting on page 1. The firm reported net income of $4.7 billion, EPS of $1.38 and record revenue of $33.8 billion with a return on tangible common equity of 9%. Included in these results are a number of significant items. First, a credit reserve builds of $8.9 billion and then approximately $700 million of gains in our bridge book and $500 million of gains in credit adjustments and other, both of which represent reversals of some of the losses we took in the first quarter.", "As we continue to navigate this challenging and uncertain environment, this quarter's performance once again demonstrates the benefits of the diversification and scale of our platform. So I'll just touch on a few highlights here.", "CIB reported its highest quarterly revenue on record, with IB fees up 54% and markets revenue up 79% year-on-year, each representing record performances with strength across the board. We saw record consumer deposit growth of 20%, up over $130 billion year-on-year, and firmwide average deposits were $1.9 trillion, up 25% year-on-year and 16% quarter-on-quarter.", "Average loans were up 4% year-on-year and quarter-on-quarter, largely reflecting the COVID related loan growth that we saw in March. However, on an end-of-period basis, loans were down 4% quarter-on-quarter due to revolver paydowns as well as lower balances in card and home lending, partially offset by the impact of $28 billion of PPP loans.", "And lastly, we increased our CET1 ratio by approximately 90 basis points in the quarter after building approximately $9 billion of reserves and paying nearly $3 billion of common dividends.", "As you'll recall, we started the second quarter on the back of unprecedented levels of business activity in March. On the following pages, I'll give you an update on some of those key activity metrics we looked at last quarter and share what we're seeing today. So with that, let's turn to page 2.", "Starting with wholesale on the top of the page. We saw record levels of debt and equity issuance in the quarter as clients sought to pay down the majority of the revolver drawns from March and continued to shore up liquidity while market conditions were receptive supported by extraordinary central bank interventions. The surge in investment grade debt issuance seen in March continued throughout the second quarter, and as high-yield markets reopened, US issuance volumes increased by 19% [Phonetic] compared to the first quarter. In ECM, as markets rebounded to pre COVID levels, May and June together were our two busiest months for equity issuance ever, driven by converts and follow-ons.", "Moving to consumer spending behavior on the bottom left. Debit and credit sales volumes, while overall still down, has consistently trended upward since the trough in the second week of April to down just 4% year-on-year in the last two weeks of June. T&E and restaurant spend continued to be down meaningfully, though we had seen some improvement, especially on the back of higher levels of restaurant spend. And most significant improvement we saw was in retail, with a strong recovery in card present volume in the second half of the quarter and consistently strong growth in card-not-present volume throughout the quarter. More recently, we've seen the improvement in overall sales growth across the country flatten out, notably, in those states with increasing cases and states with decreasing cases. We continue to see larger year-on-year declines in states that remain partially closed, particularly those in the Northeast and mid-Atlantic regions.", "In terms of consumers' demand for credit, we observe similar recovery trends. In auto, April saw the lowest level of loan and lease originations since the financial crisis. But activity rebounded sharply in May and June, and in fact June ended up the best month for auto originations in our history. And in home lending, retail purchase applications after reaching a low in April recovered to well above pre COVID levels in June due to a strong and broad market recovery.", "Continuing on the topic of consumer behavior, let's turn to page 3 for an update on what we're seeing around our customer assistance programs. Relative to the peak levels we observed at the beginning of April, we've seen a significant decline in new requests for assistance over the quarter. To date, we have provided customer assistance for nearly 1.7 million accounts, representing $79 billion of balances across both our owned and serviced portfolios, and of those accounts, a large percentage having made at least one payment while in the forbearance period, just over 50% in both cards and home lending.", "In terms of early reenrollment trends, in card, only a small portion of our customers have completed both the initial 90-day deferral period and reached a payment date, but the majority of those customers resumed payments with less than 20% of accounts requesting additional assistance. And then in home lending, of those whose forbearance period expired in June, most have either been extended at the customer's request or auto enrolled into new three month forbearances with approximately 40% of the extensions still current. And so, while we're following the data closely, it's still too early to draw any conclusions.", "Now moving on to page 4 for some more detail about our second quarter results. We recorded revenue of $33.8 billion, which was up $4.3 billion or 15% year-on-year. While net interest income was down approximately $600 million or 4% on lower rates, mostly offset by higher market NII and balance sheet growth, noninterest revenue was up $4.9 billion or 33%, predominantly driven by CIB markets and IB fees. Expenses of $16.9 billion were up approximately $700 million or 4% year-on-year on revenue related expenses, partially offset by continued reduction in structural expenses. This quarter, credit costs were $10.5 billion, including net reserve builds of $8.9 billion and net charge-offs of $1.6 billion.", "Let's turn to page 5 for more detail on the reserve builds. Our net reserve build of $8.9 billion for the quarter consists of $4.6 billion in wholesale and $4.4 billion in consumer, predominantly card. The reserve increase in the first quarter was predicated on an acute but short-lived downturn, with a solid recovery in the second half of the year. And while we have seen some positive momentum in the economy over recent weeks, there does continue to be significant uncertainty around the path of the recovery.", "At the bottom of the page, you can see our updated base case. But remember, this is just one of five scenarios we used to derive our allowance for credit losses. Our build is based on the weighted outcome of these scenarios and assumes a more protracted downturn with a slower GDP recovery and an unemployment rate that remains in the double digits through the first half of 2021. In addition to the obvious impact on consumer, this protracted downturn is expected to have a much more broad-based impact across wholesale sectors than we assumed in the first quarter.", "Given the increased uncertainty of the macro economic outlook, how customer payment behavior will play out and the future of government stimulus and its ultimate effectiveness as it relates to both consumer and wholesale clients, we put more meaningful weight on the downside scenario this quarter, and so therefore we're prepared and have reserves for something worse than the base case. And given CECL covers the life of loans, if our assumptions are realized, we wouldn't expect meaningful additional reserve builds going forward.", "Now moving to balance sheet and capital on page 6. We ended the quarter with a CET1 ratio of 12.4%, which is over 100 basis points above our new SCB based minimum of 11.3%. And just to touch on SLR, while our reported ratio is 6.8%, it's worth noting that we're not going to rely on temporary relief and so without that our ratio is 5.7%. As we said in late June, unless things change meaningfully, the Board intends to maintain the $0.90 dividend in the third quarter. Given the wide range of potential outcomes going forward, I'd like to spend a few minutes on why we're comfortable saying that, including the value of our strong and steady earnings stream as well as how we're managing our capital through this crisis.", "So with that, let's go to page 7. It's an obvious point, but it's worth a reminder that since 2018 our average quarterly PPNR of over $13 billion has been generating over 60 basis points of new CET1 capacity per quarter even after having made meaningful investments in our businesses. This powerful earnings stream allows us to grow the franchise and serve our customers and clients when they need us most, and it provides us the capacity to absorb losses and quickly replenish capital in times of stress. While over the last two and a half years we've paid out approximately 100% with cumulative earnings, distributing nearly $75 billion of excess capital, we're now building a significant amount of capital since we suspended our share repurchases. And we believe our capital base remains strong even in more severe scenarios, which you can see on page 8.", "Standing here today, we have $34 billion of reserves and $191 billion of CET1 capital, of which $16 billion is excess over and above our regulatory buffers. Our 3.3% SCB translates to $51 billion of capital that is available to pre-fund stress at any time. And on top of that, our 3.5% GSIB surcharge translates to another $54 billion, all that so our $69 billion regulatory minimum is never touched.", "And as you know, we prepare for and manage our capital to a number of scenarios and one of them is the extremely adverse scenario that Jamie discussed in the shareholder letter earlier this year. We've updated this analysis and it now assumes an even deeper contraction of GDP, down nearly 14% at the end of 2020 versus 4Q '19 and reported unemployment ending the year at nearly 22%. Even under this scenario, we estimate that we would end the year with a CET1 ratio above 10% and we would be down by that or regulatory minimum would be 10.5%. While we are not likely to voluntarily dip into any of our regulatory buffers, this scenario would require us to do so, but notably only to a small extent.", "It's also worth noting that based on the limited information provided from the Fed about their U and W scenarios, we believe that our extremely adverse scenario simulates an even worse path for the economy over the next 12 months. And even if we get this wrong and our losses are twice as high, we still wouldn't use the entire SCB." ] }, { "name": "Jamie Dimon", "speech": [ "Okay. Yeah. So, this is Jamie.", "I'd just like to amplify a couple of these points. So, we're showing this example. Obviously, it's predicated on a lot of assumptions, which we're not going to give you a lot of detail on, just simply to show that we can bear another $20 billion of loan loss reserves. That $20 billion brings us to an extreme average, which roughly may equate to U or W of the Fed. And we're going do a lot more analysis than that because obviously we need to be prepared for that.", "We dip into advanced CET1 because we're taking no actions. So, I've already told you that advanced capital is very pro-cyclical, so as things get downgraded your RWA goes way up. Your capital base doesn't change that much but the RWA goes way up, and there'd be lots of actions we would take that we can avoid that from taking place whatsoever. The other thing I want to point out is this extreme average probably can't happen in one quarter. It will happen several quarters. We don't really know kind of what July looks like and August and stuff like that. So even if the economy starts to head there, it will take us a couple of quarters before you make the determination that that has a 100% possibility.", "Remember, this is saying, we now believe it's 100%. But of course, things can be worse, by the way, but we're just trying to show you that how much capital the Company does have. And the dividend -- now, I'm going to sound like I'm contradicting myself; I am not, OK? Today, we have all that PPNR, all that earnings, all the things, so we can be foolish to get the future of extreme adverse and cut your dividend, because we can easily go through very, very tough times and never cut the dividend. However, if you enter something like extreme adverse, all of a sudden you have new scenarios which are even worse. You don't know. So, at one point, the Board will consider cutting the dividend because things can get even worse than extreme adverse and we want to be able to handle anything out there.", "The primary concern of the Company is to serve our clients, serve our community through thick or thin and no one should ever worry about JPMorgan Chase. So, there is no intent to do it. But if things get really bad, and we use the word materially and significantly, and that's something to look at. The other thing by the way is these loan losses are our best estimate of loan losses and not the CCAR type of stuff. You all is doing estimates to show DFAST and Fed adverse. We will not lose that kind of money on credit, OK? And on the next page, Jen's going to explain some stuff on the -- a few slight additional comments.", "I also want you to -- she said that we're not going to use temporary buffers. I think that temporary is a funny thing to go into a crisis, and you could use it for a while, but it disappears on March 1 or February 1. So my view is we shouldn't rely on anything like that." ] }, { "name": "Jennifer Piepszak", "speech": [ "And all this add, Jamie, to the point on advanced RWA.", "If you look on the slide, then you can see we traveled from 13.1% to 10.4%. About half of that is just the RWA increasing and the other half just the [Indecipherable].", "So anyway, as Jamie said, moving on to page 9. All of this is against the backdrop of a capital framework that still has opportunities for recalibration. So, while we've talked about this for years, it has perhaps never been more important. I'll start with CCAR, and Jamie just made this point, but it is not predictive of what we actually think would happen. And the best example of this might be the global market shock. It is a significant portion of the SCB and we've obviously experienced a very different result here in the first half of 2020.", "So, we continue to believe that there are opportunities to rationalize the overall capital framework, including the points we've previously made about GSIB. These changes would foster a higher pace of economic growth over time without compromising financial stability." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah.", "So, again, I just want to emphasize a couple of things here. So look, the point of CCAR was that banks couldn't handle extreme stress and if everything goes wrong. CCAR itself is not a predictive forecast of what your results might be. So all the CCAR tests roughly equate to a global financial crisis, and all the CCAR tests always have us losing somewhere between $25 billion and $30 billion over the ensuing nine quarters. But in the ensuing nine quarters, at the Lehman we made $30 billion. We never lost money in a quarter. We take actions, we're diversified, we've got other streams of earnings.", "And so we're not against CCAR because that's protecting you from the worst of the worst of the worst, but that's not necessarily predictive. The global market shock, which I think really have $25 billion in counterparty losses. Again, just to be instructive of that. In '08 and '09, you had Fannie May go bankrupt, Freddie Mac go bankrupt, you had Bear Stearns effectively, you had Lehman Brothers effectively, you had AIG effectively, you had tons of financial institutions in Europe, tons of counterparty failures, and our trading results in the worst two quarters combined was a loss of $4 billion, not $25 billion.", "And of course, it's quickly made back because as we pointed out, when things get bad in trading, spreads gap out and then also -- and you're making more money trading because -- and have recoveries in position. So the stress capital buffer of 3.3% is not indicative of what we would lose, and so -- and I hope, over time we can drive that down by taking real actions to a number closer to 2.5%.", "GSIB itself, I pointed out before -- I'm not against the concept of big banks and more capital and all, but GSIB is -- it's not the same as CCAR. CCAR includes your diversification, your strength, your earnings, your PPNR and things like that. GSIB does not. It's just a measure of size multiplied over and over and over. It doesn't include diversification, it doesn't include margin, it doesn't include actions, it doesn't include -- and just really not representative at all of, I would say, risk of a company or something like that.", "And so, we have enough capital to fund a lot of stuff, which is -- we've always run the Company that way. We've always run the Company so that we can handle adverse times because in my short life time, I've seen crises over and over and over and over. We're not predicting them. We're just prepared for them.", "So, I'll stop there." ] }, { "name": "Jennifer Piepszak", "speech": [ "Okay. Thank you.", "All right. So let's go on to the businesses. So I'll start on page 10 with Consumer and Community Banking.", "So CCB reported a net loss of $176 million including reserve builds of $4.6 billion. Revenue of $12.2 billion was down 9% year-on-year driven by deposit margin compression, lower transaction activity and customer relief, partially offset by strong deposit growth and home lending margin expansion. The deposit margin was down 108 basis points year-on-year on a sharp decline in rates. But deposit growth was a record 20% year-on-year, up over $130 billion. We would estimate that approximately 50% of that growth is COVID related due to government stimulus for consumers and small businesses, lower consumer spending and tax payment delays.", "Mobile users were up 10% year-on-year. And since the start of the pandemic, we've seen increased levels of digital engagement. For example, quick deposit enrollment is up 2 times pre-COVID levels.", "As I noted earlier, for consumer lending, the overall activity for the quarter reflected an environment that continued to evolve. Auto loan and lease originations were down 9% year-on-year due to the exit of the Mazda partnership. Excluding this impact, auto originations were up mid single digits. And while the home lending market was favorable, home lending total originations were down 1% year-over-year, driven by declines in correspondent volume substantially offset by an increase in retail volume.", "Total CCB loans were down 7% year-on-year, driven by home lending down 14% due to prior loan sales and card down 7% on lower spend, offset by business banking up 59% due to PPP originations.", "Expenses of $6.6 billion were down 3% driven by lower travel related benefits, structural and marketing expenses. And lastly, credit costs included the $4.6 billion reserve builds I mentioned earlier and net charge-offs of $1.3 billion driven by card.", "Now turning to the Corporate and Investment Bank on page 11. CIB reported net income of $5.5 billion and an ROE of 27% on revenue of $16.4 billion.", "Investment banking revenue of $3.4 billion was up 91% year-on-year, largely driven by our strong performance in capital markets as well as the gains on our bridge book which were primarily a function of improved market conditions. IB fees for the quarter were an all-time record, up 54% year-on-year. We maintained our number one rank and grew our market share to 9.8% for the first half of the year.", "In advisory, we were up 15% driven by the closing of a few notable transactions. Debt underwriting fees were up 55%. We maintained our number one rank in overall wallet and we're the leaders in lead-left across leveraged finance. In equity underwriting, fees were up 93% and we grew share by approximately 200 basis points relative to the first quarter.", "With regards to outlook, we expect third quarter IB fees to be down both sequentially and year-on-year due to the usual seasonal declines and lower M&A announcements year-to-date. And if the economy begins to stabilize, we expect capital markets to revert to normal levels. However, any sustained period of instability could result in additional demand for liquidity and therefore increased capital markets activity.", "Moving to Markets. Total revenue was $9.7 billion, up 79% year-on-year, an all-time record, driven by strong performance throughout the quarter, and it was only later in June that activity began to revert to more normal levels. We saw strength across products and regions from both flow trading and large episodic transactions. While strong buying activity was a continuation of the first quarter theme, our market-making activity this quarter benefited from improved market liquidity, and we were able to better monetize flows.", "Fixed income was up 99% year-on-year or 120% adjusted for the gain from the IPO of Tradeweb last year, driven by very active primary and secondary markets across products, particularly in macro. Equities was up 38%, largely driven by strong client activity in equity derivatives and cash.", "Looking forward, we expect the slowdown that we started to see toward the end of June to continue. In addition, the second half of last year was very strong, making any year-on-year comparison difficult. But obviously the environment makes forecasting markets' performance even more challenging than usual.", "Wholesale payments revenue of $1.4 billion was down 3% year-on-year, primarily driven by a reporting reclassification in merchant services. Security services revenue of $1.1 billion was up 5% year-on-year as continued elevated volatility in the second quarter drove increased transaction volume and higher average deposit balances. Credit adjustments and other was a gain of $510 million as I mentioned upfront, driven by the tightening of funding spreads on derivatives, and was a partial reversal of the losses in the first quarter. Expenses of $6.8 billion were up 19% compared to the prior year due to revenue related expenses. Finally, credit costs of $2 billion reflect the net reserve builds I referred to earlier.", "Now moving on to Commercial Banking on page 12. Commercial Banking reported a net loss of $691 million which included reserve builds of approximately $2.4 billion. Revenue of $2.4 billion was up 5% year-on-year, driven by higher deposits and loans and equity investment gain and higher investment banking revenue, largely offset by lower deposit NII. Record gross investment banking revenues of $851 million were up 44% year-on-year due to increased bond and equity underwriting activity.", "Expenses of $899 million were down 3% year-on-year, driven by lower structural expenses. Deposits of $237 billion were up 41% year-on-year as the increase in balances from March have largely remained on our balance sheet as clients look to remain liquid in this environment.", "End of period loans were up 7% year-on-year, but down 4% quarter-on-quarter. C&I loans were down 7% quarter-on-quarter as revolver utilization, while still elevated, has declined significantly from the all-time highs in March. However, this was partially offset by the impact of PPP loans. CRE loans were flat, with generally lower originations in both commercial term lending and real estate banking. Credit costs of $2.4 billion included the reserve builds mentioned earlier and $79 million of net charge-offs, roughly half of which were in oil and gas.", "Now on to Asset and Wealth Management on page 13. Asset and Wealth Management reported net income of $658 million with pre-tax margin and ROE of 24%. Revenue of $3.6 billion for the quarter was up 1% year-on-year as growth in average deposit and loan balances along with higher brokerage activity were largely offset by deposit margin compression.", "Expenses of $2.5 billion were down 3% year-on-year, with lower structural as well as volume and revenue related expenses, partially offset by continued investments in advisors. Credit costs were $223 million, driven by the reserve builds that I mentioned earlier.", "For the quarter, net long-term inflows were $29 billion positive across all channels and all regions, led by fixed income and equity. At the same time, we saw net liquidity inflows of $95 billion, making us the number one institutional money manager globally.", "AUM of $2.5 trillion and overall client assets of $3.4 trillion, up 15% and 12% year-on-year respectively, were driven by cumulative net inflows into liquidity and long-term products.", "And finally, deposits were up 20% year-on-year on growth in interest-bearing products and loans were up 12%, with strength in both wholesale and mortgage lending.", "Now on to Corporate on page 14. Corporate reported a net loss of $568 million. Revenue was a loss of $754 million, down $1.1 billion year-on-year, driven by lower net interest income on lower rates, including the impact of faster prepays on mortgage securities. And expenses of $147 million were down $85 million year-on-year.", "Now let's turn to page 15 for the outlook. You'll see here that despite the uncertain environment, our latest full year outlook remains largely in line with our previous guidance. Based on the latest insights, we expect net interest income to be approximately $56 billion and adjusted expenses to be approximately $65 billion, which is slightly higher than expected previously, reflecting the outperformance in the second quarter and will ultimately be an outcome of our performance in the second half of the year.", "So, to wrap up, against the backdrop of an unprecedented environment, our second quarter performance highlighted the benefits of our diversification and scale and the resulting earnings power of our Company. While the range of outcomes is broader than ever before, our priorities remain unchanged. We are focused on supporting our employees, customers, clients and communities around the globe and on being good stewards of the capital entrusted to us by our shareholders.", "I'd like to end by thanking all of those who continue to serve on the front lines of this crisis and our people here at JPMorgan Chase who have demonstrated unwavering fortitude and dedication through these times.", "And with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] Our first question comes from John McDonald of Autonomous." ] }, { "name": "John McDonald", "speech": [ "Good morning, Jen and Jamie. Jen, I was wondering if you could give us some incremental color on your commercial exposures to heavily COVID-impacted sectors across CRE and C&I, so thinking oil and gas, travel, retail, just to help us understand the types of areas where your incremental commercial reserve building was directed toward this quarter." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So I'll start by saying the most impacted sectors like the ones that you mentioned represents about a third of our overall exposures. More than half of that is investment grade and two-thirds of the non-investment grade is securities.", "And in terms of the second quarter downgrades, well, first I'd say, in the first quarter while we were really looking at a deep but short-lived downturn, we were really very much focused on the most impacted sectors. And now that we're looking at a more protracted downturn, we're reserved for a much more broad-based impact across sectors. So just to put that in context, the second quarter reserve build, about 40% of that is in the most impacted sectors versus two-thirds of the builds in the first quarter was the most impacted sectors. And then, in terms of the downgrades that we saw in the second quarter, less than a third of those were in the most impacted sectors." ] }, { "name": "John McDonald", "speech": [ "And for your definition of most impacted sectors, what would you be including in that?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Consumer and retail, oil and gas, real estate, retail and lodging and subsectors as you think about real estate." ] }, { "name": "John McDonald", "speech": [ "Okay. And just a quick follow-up question. You maintain the NII outlook for the year despite a pretty big drop in net interest margin. Could you talk about the dynamics embedded in that second half outlook for NII and maybe how trading NII might play into the thinking?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah, it's a great question and you're spot-on, which is Markets helps NII. So the outperformance in Markets helps NII but can be a headwind on NIM, just given that the NIM is below the average. So yes, it was -- maintaining that outlook did have something to do with the outperformance in Markets, you're right." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning. Thanks. Jennifer, just to kick off on the question, on page 3, you went through a lot of detail around the forbearance that you've been given and the percentage that has been paying you at least once during the deferral period. Could you give us a sense on these different asset classes that you've outlined in your base case? What are you assuming those delinquencies end up becoming?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So, I won't go into specific details, but I'll just say a couple of things, which is, it is still too early to really read a whole lot into what we're seeing. The visibility here remains low, I would say, given the amount of support that is out there. But you are right that we are considering these customers to be higher risk given that they are in forbearance program. So we did account for that as we thought about our reserves." ] }, { "name": "Betsy Graseck", "speech": [ "Okay. Because I'm thinking, all right, you've got the inverse of the right-hand column could be construed as what should be expected to become delinquencies over time. And I'm wondering, as a follow-up question, you mentioned during the prepared remarks that if your assumptions are realized, that you could be basically close to fully reserved for the cycle.", "Maybe you could give us a sense as to which assumptions you are talking about because I know you're expecting an outcome that's worse than your base case. I was just a little confused about what I should assume your base case is and what assumptions you're pointing to that, if realized, you're done on the reserving." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So, first of all, there are a lot of assumptions, given, as I said, the visibility is still quite low. So assumptions around the economic outlook, and I'll come back to that, assumptions around consumer payment behavior and then assumptions around stimulus.", "So going back to the economic outlook. We have five different scenarios. We did lean in more heavily to the downside scenarios relative then to what we would have otherwise done. Even the Fed has put equal weight on downside scenarios and their base case. So we certainly thought having a conservative bias there was the prudent thing to do. And so, as you look at that slide 5, that is just the base case. So you can see there exiting this year just under 11%. When you then look at the weighted outcome of unemployment across the five scenarios, we end up with double-digit unemployment through the first half of 2021 versus what you see on page 5 there is just the base case, which shows some improvement relative to the fourth quarter getting down to just under 8% by the end of 2021." ] }, { "name": "Jamie Dimon", "speech": [ "Betsy, I'll just clarify. The base case, if you took Morgan Stanley's estimates or Mike Feroli or JPMorgan or Fed estimates, for their base case, that is basically the base case. Embedded in that are always assumptions about the stimulus and PPP and all these other things. So that is the base case, and we're reserved more than that. So therefore if the base case happens, we may be a reserve. I hope the base case happens." ] }, { "name": "Betsy Graseck", "speech": [ "Me too." ] }, { "name": "Operator", "speech": [ "Our next question is from Jim Mitchell of Seaport." ] }, { "name": "James Mitchell", "speech": [ "Hey, good morning. Maybe just a quick follow-up on the consumer and delinquencies. Obviously, you had an impact from deferral programs and delinquencies actually -- 30 day delinquencies were actually down. Can you talk to what you're seeing in the non-deferral programs? It doesn't seem like we're seeing much stress at all, even in early stage delinquencies. What would you attribute that to? What are you seeing in your non-deferral programs?" ] }, { "name": "Jennifer Piepszak", "speech": [ "I mean, simply, I would attribute it to the amount of support that is out there in the form of stimulus. And so, as I said, the visibility on what we're dealing with is very, very low, because we're not seeing right now what you would typically expect to see given the recession and so the way we have to think about reserving is it's all about the outlook because we're not actually seeing it today. And so, Jamie has said this many times. May and June will prove to be the easy bumps in terms of its recovery and now we're really hitting the moment of truth I think in the months ahead." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. And just to amplify it. In a normal recession, unemployment goes up, delinquencies go up, charge-offs go up, home prices go down. None of that's true here. Incomes go down, savings go down. Savings are up, incomes are up, home prices are up. So you will see the effect of this recession -- it's not going to see right away because of all the stimulus and the fact 60% or 70% of the unemployed are making more money than they were making when they were working. So it's just very peculiar times, Jim." ] }, { "name": "James Mitchell", "speech": [ "Yeah. No, it's fair. Maybe a follow-up on DFAST. Jamie, you made comments about the market shock. We kind of went through a market shock and everyone's trading held up quite well. Do you see that changing the Fed's view over time in terms of how they think about stress losses in the trading book? Or is it -- or you don't think that's too optimistic?" ] }, { "name": "Jamie Dimon", "speech": [ "I don't expect any change. And like I said, they're not -- what they're looking at is, they're making sure a bank can withstand the bad -- as if they were the -- all the worst bank. They're not giving credit to banks for things have been good. So I'm not against that concept. I just want to say, if it goes really bad and you do everything totally wrong, what happens to your trading for something like that. And they do the same assumptions like outflows. The outflows they have on liquidity are worse than the outflows of the worst bank in the worst crisis. But they just want to make sure that every bank can withstand that." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Great. Thanks. A quick question on the balance sheet. I mean, obviously there was tremendous balance sheet growth as liquidity built up in the quarter, but how are we thinking about on a go-forward basis? Is that expected to roll off over the next couple of quarters? Is that kind of persistent and is expected to stick around or you're just going to operate with a much larger balance sheet in near term?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So, I'll start with deposits. I mean, in the first quarter it was very much a wholesale story, and we said we expected to normalize and we have seen that. We started to see that. So, looking ahead on wholesale, I think there are puts and takes. We'll continue to see revolvers pay down, security services will likely continue to normalize. I think tailwinds for deposits, Fed balance sheet expansion will be slower, but we will continue and we do think we'll continue to see organic growth. On the consumer side, probably down from here on tax payments as well as the pickup in consumer spending. But in both cases, I think we'll continue to see very, very strong year-on-year growth both for wholesale and consumer in the latter part of this year.", "And then in terms of balance sheet management, I mean, we manage the balance sheet across multiple dimensions: NII, liquidity, capital and interest rate risk. And so we have had $400 billion of deposit growth since the end of last year. And when you consider, as you note, that some of that growth is likely to be transitory and deployment opportunities have been diminished given the rate environment, we have held a decent amount of that in cash. However, we did add about $88 billion in securities here in the second quarter. And on the deposit side, we've been very disciplined on pay rates." ] }, { "name": "Brian Kleinhanzl", "speech": [ "So, if those deposits have grown, we should expect more to migrate from deposits on the asset side into securities. Are you looking to fund loans on those?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. As the Fed grows the balance sheet, it's going to end up in deposits, and for the most part, lot of deposits will end up in securities because the loan growth usually during a recession doesn't go up that much." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. I mean, we should see -- as consumer spending recovers, we should see some growth in card, which will help but we'll have PPP starting to pay down, and as Jamie said, loan growth, but -- likely slower." ] }, { "name": "Jamie Dimon", "speech": [ "I should point out that -- look at the big numbers. We have over $1 trillion between cash held at the Central Bank, which is close to $400 billion, $500 billion, Treasuries which is close to $700 billion and other very liquid assets, mostly good securities. That's $1 trillion. When people look at the safety and soundness of an institution like this, that is a tremendous sum of money. Some of it's required; we are required to hold all that liquidity, but some of it's just because we're investing considerably." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matthew O'Connor", "speech": [ "Good morning. I was just wondering if you could talk a bit about the expected timing of starting to see some charge-offs. Obviously, there is a lot of unknowns with the stimulus and the forbearance, but what are your assumptions in terms of when charge-offs start going up, maybe where they peak and how long will they stay at that level?" ] }, { "name": "Jennifer Piepszak", "speech": [ "It's really difficult to know. I mean, first we have to start seeing delinquencies. And so, later this year, but next year will be much heavier on charge-offs as you think about realizing the assumptions that we've made in the reserves. It's very -- it's difficult to know. The good thing in CECL is life of loans, so we feel well covered for the scenarios that we're looking at." ] }, { "name": "Matthew O'Connor", "speech": [ "And then remind us -- you are seeing some creep in the nonperforming assets. Obviously, it's at low levels, but they are starting to go up. And remind us why that's not starting to feed into net charge-offs or is this just a timing issue and will in the next quarter or two." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. When we look at the non-accrual increase in wholesale, half of that is one client. So it's really -- I wouldn't draw any conclusions from that. And as you say, it's creeping up off a very low level. So again, we still aren't seeing what you would expect to see in terms of recessionary indicators." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo." ] }, { "name": "Michael Mayo", "speech": [ "Hi. Just more on the reserve question. So, if the Fed base case is achieved, then you are over-reserved. If your base case assumptions which are..." ] }, { "name": "Jamie Dimon", "speech": [ "We hope. We hope [Speech Overlap]" ] }, { "name": "Michael Mayo", "speech": [ "Okay. And if your base case assumptions, which are more conservative, are realized, then, OK, you're done with the reserve building, and if it's worse, then you have to add more reserves. But since the end of the quarter, we're seeing an increase in COVID cases in Florida and Texas and California and elsewhere. And isn't there a link between an increase in COVID cases with deaths, with economic activity? Or how do you think about that?", "And I'm staring at slide 2 and I can't get my eyes off that debit and credit card sales volume, and it seems like it's flattening off here in June. So just, since the end of the quarter, if you were to kind of mark-to-market your thinking as of this second with what's happening, do you feel better, worse or the same versus the end of the quarter as it relates to your assumptions?" ] }, { "name": "Jamie Dimon", "speech": [ "So, guidance-wise, we feel exactly the same way that we did at the end of the quarter. That's sort of mark to market. And Mike, we are very clear. We cannot forecast the future. We don't know. We are also very clear that -- I know at least think, you're going to have a much murkier economic environment going forward than you had in May and June. And you have to be prepared.", "So you're going to have a lot of ins and outs. You got people who get scared about COVID. Again, talking about the economy, small businesses, big companies, bankruptcies, emerging markets. So it just could be murky. Which is why, if you look at the base case, adverse case and extreme adverse case, they are all possible, and we're just guessing at the probabilities of those things. That's all we're doing.", "We are prepared for the worst case. We simply don't know. I don't think anyone knows. This, the word unprecedented is rarely used properly, this time, is being used properly. It's unprecedented what's going on around the world, and I would say COVID itself is a main attribute. So the Fed's W case, they made it very clear their W case is that COVID comes back in a big way in the fall and you have to shut down the economy again. And obviously, we got to be prepared too. We don't know the probably of that. We simply don't know, and I think, by the way, we're waiting time, guessing." ] }, { "name": "Jennifer Piepszak", "speech": [ "And then I would just add, Mike, to clarify that, we are reserved for something worse than the base case, and for all the reasons you said. They informed our decision to rein in a bit more on the downside scenarios. And so while there is a bit of a, we hope, pretty conservative bias here, this does represent our best estimate based upon everything we know which does include the sort of slowdown that you referenced in terms of more recent activity." ] }, { "name": "Michael Mayo", "speech": [ "All right. And my follow-up would be, kind of in the flip side, during this very difficult time, you've grown deposits over the past year equal to the fifth largest bank. I mean, the deposit growth is kind of off the charts here. So, you said half of that is due to COVID. But is the other half due to share gains? So I guess there's several questions in that. But how much of that is related to digital banking and how much of that do you expect to go away once this crisis has passed?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So, I talked a little bit about kind of how we're thinking about deposits looking forward. And also, I just clarify, Mike, when we said 50% COVID related, that was on the consumer side. And so that -- we do think some of that will leave with tax payments and consumer spending coming back. And then, in terms of how much of it are the share gains, it's difficult to know at this point. Historically, we have performed well in lower rate environment. And I think you're right. I think it is because of our digital capabilities and our branch footprint and our people and all the things that we offer that differentiate us in a time like this." ] }, { "name": "Operator", "speech": [ "Our next question is from Erika Najarian from Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning. The first question is for Jamie. A lot of investor feedback has indicated that they are encouraged by the fact that banks can remain profitable while absorbing pretty significant provisions which you've proven today but are hesitant about bank stocks given the overhang of the DFAST resubmissions in the fourth quarter and what that could imply for the dividend. And I guess -- I just, I know you alluded to this in your prepared remarks, but I'm wondering, under the scenario that you see playing out and relative to that 60 basis points of CET1 generation for quarter, what is your view on dividend sustainability outside of that extreme adverse case." ] }, { "name": "Jamie Dimon", "speech": [ "They're completely sustainable. And if you -- if we enter the extreme adverse case, the Board should and will consider reducing it. And like I pointed out, the extreme adverse case itself is completely sustainable with the dividend. The reason they would consider reducing it is because once you enter like 14% or 15% unemployment, you don't know the future. So now you're going to have to -- another extreme adverse case, which is going to be 20% unemployment. And therefore, you will protect yourself from that and cutting your dividend is cheap equity.", "And so the goal is to sustain the dividends. You can look at the numbers, it's completely minuscule relative -- quarter by quarter. So this decision could be made as you enter these things. And we're all hoping the base case happens." ] }, { "name": "Erika Najarian", "speech": [ "And just as a quick follow-up. We also got this question from investors. In the extreme adverse case, is there a preference toward cutting the dividend or a temporary suspension or is there a difference between the two?" ] }, { "name": "Jamie Dimon", "speech": [ "There is no difference between the two. You cut your dividend, you're going to hopefully put it back when the time comes. And so you know, the temporary suspension just sounds peculiar to suspension. And I've done that twice in my life. It's a prudent thing to do if you might need that capital going forward because things are going to get that terrible or something like that.", "Maybe the other thing, you can ask the another question, if the base case happens, we're going to end up with far too much capital generation and we'll start buying back stock again, which I hope we can do before it goes way up. So we don't expect that this year, but I wouldn't completely rule it out in the fourth quarter." ] }, { "name": "Operator", "speech": [ "And our next question is from Glenn Schorr of Evercore." ] }, { "name": "Jamie Dimon", "speech": [ "Hi, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hello there. A question for you. So we had this big market rebound in the overall markets and that's led to a lot of revenue. But given this outlook and the uncertain path that we've been talking through this whole time, I'm curious on ways you think about potentially derisking on balance sheet. Now, some of it is just a huge liquidity buildup is a de-risked balance sheet. I get that. But are there proactive things you can do to reduce the high leverage RWA in a more stressed environment? Have you been selling into this recovery is I guess my question." ] }, { "name": "Jennifer Piepszak", "speech": [ "Dimon?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, go ahead." ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, I'll just -- I guess there's two components to it, which is the investment securities portfolio and then proactive things we do on RWA, if that answers your question, Glenn. I'll start with investment securities. We are being cautious and we have opportunistically looked to reduce credit exposure there over the second quarter. And then on RWA, we are -- because we're preparing for a range of outcomes, we are spending a lot of time thinking about if we needed to what could we do. But it is sort of a last resort because we certainly don't want to have any impact on clients and customers. And so we're ready. We're looking at it, but we haven't done anything I would say proactively at this point. We're very much focused on helping clients and customers get through this crisis." ] }, { "name": "Jamie Dimon", "speech": [ "And so let me answer as well. On the consumer side, we, like other banks, have seen -- are kind of prudent tightening up of how you do credit. It's already happened. And obviously you could do some more. But Jen, you had some great numbers about how good credit is. Like I think give those FICO's numbers you gave me the other day, mostly how much better home lending..." ] }, { "name": "Jennifer Piepszak", "speech": [ "Oh, that was -- on the LTV -- the weighted average LTV." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, LTV, yeah." ] }, { "name": "Jennifer Piepszak", "speech": [ "I mean, it's really extraordinary. And I was in mortgage. So I should have remembered but I did have to ask. In 2010, our weighted average LTV on the portfolio in home lending was 90% and it's now 56%." ] }, { "name": "Jamie Dimon", "speech": [ "Right. And you can assume it's better in credit cards, better in auto. We have less subprime. That's the consumer side. On the lending, on the business side, we've always been prudent, we're always very tight and careful and stuff like that. Usually what happens with downturns like this, you get all more serious about security and the management team and responsiveness and raising capital. So a lot of these companies have been raising a lot of capital.", "On the investment side, and this is kind of a peculiarity of accounting, again, we can actually make it more conservative by putting securities into held to maturity, which we've done very little [Indecipherable] I don't personally understand why that reduces risk, but it does reduce SCB and maybe we'll do that over time. But the security portfolio is pretty prudent. They are -- and in trading, it's every day. And so trading is -- just think of trade as that Daniel and Troy Rohrbaugh and Jason Sippel and the whole team, they are every single day managing those risk and those exposure and you could assume that they're managing it very, very well and tightly today. And we certainly are not punching through fences or anything like that. We're trying to be very cautious and serve our clients. And so, yeah, you are more conservative. And reducing RWA, yes, we can, if we wanted to, we can start doing that by all these various things." ] }, { "name": "Glenn Schorr", "speech": [ "Thanks. One quickly on the consumer side. I'm curious if you've had -- we're now four months into the bulk of the lockdown in the United States and some of your branches have been either closed or drive-up only. And we're watching your deposits grow like a weed. So I'm curious if you've learned any lessons that might change your thoughts on the branch network, on your organic growth efforts, as we go forward and come out of this some day." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So, first of all, the deposit number. Deposits went up because of PPP; deposits went up because of the payroll checks that people got; deposits went up -- the revolvers were taken down by $50 billion or something like that. So almost all that ended up in deposits. And of course, a lot of that's already reversed and stuff like that. So you got to look at both sides of that. And -- but you were going to say something, Jen?" ] }, { "name": "Jennifer Piepszak", "speech": [ "I was just going to add on. I mean, there's -- of course, we're learning a lot. I mean, I mentioned the great deposit enrollment. But we haven't learned enough to make any changes to our strategy around branch expansion. In fact, we just opened our 100th branch in market expansion, so are really excited about that. We think will open probably another 75 this year. So we'll be nearly halfway to the 400 branches that we've talked about in market expansion. And so, we'll see.", "We do have -- still have about 1,000 branches that are closed. And it's possible that we learn something that helps us think about accelerating de-densification or consolidation, but it will be at the margin, then we're not going to make any big changes quickly because we want to make sure that we have the benefit over time of watching our customer behavior. So they can really be the ones that inform our strategy." ] }, { "name": "Operator", "speech": [ "Our next question is from Charles Peabody of Portales Partners." ] }, { "name": "Charles Peabody", "speech": [ "Yes. Good morning. Two questions. One, on page 6, you give the SLR ratio as adjusted for the temporary relief programs on the capital. I wonder if you had a similar ratio for CET1. And part of that question would also be, which would be the more confining ratio starting next March?" ] }, { "name": "Jamie Dimon", "speech": [ "There is no temporary relief in CET1." ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, CET1, the only -- and I'll not even try to call it relief. There is a phase-in on CECL. But it's over many years. And so I don't necessarily think about that as temporary like SLR. SLR, at this point, it is temporary. It is due to expire in the first quarter of next year, which is why we're very focused on managing that without the exclusions." ] }, { "name": "Jamie Dimon", "speech": [ "And they're both -- we manage them both. I wouldn't say one is more than the other. We manage -- it's like 20 different capital and liquidity ratios." ] }, { "name": "Charles Peabody", "speech": [ "And Jamie, FSOC is meeting today behind closed doors. If I understand, there are two topics. One has to do with mortgage -- secondary mortgage market liquidity and the other with the COVID stress test overlay. Do you have any thoughts or insights as to what they may be discussing on either of those?" ] }, { "name": "Jamie Dimon", "speech": [ "I don't. The COVID -- but we obviously have some insights. The COVID -- obviously, we're going to run a new stress test. We're going to run it -- we're going to look at all the Fed cases, U, W and stuff like that because they've laid it out. Perfectly reasonable that people refer that kind of stress tests. I think the mortgage markets is a different issue, OK? And we've been very consistent that mortgages, believe it or not, are more -- far more cost than they should be.", "Normally, you've been looking at, if you look at the 10-year rate which is like 60 basis point, the mortgage takes me 1.6% or 1.8% instead of the 3.3%. The cause or the reason for that is because the cost of servicing and origination is so high it's obviously got to be paid through. It's high because an enormous amount of rules and regulation put in place that a lot not create safety and soundness. Safety and soundness is basic 80% LTV, verify people's incomes, make sure you're doing the right kind of stuff. And the second one is because there is probably no securitization market.", "The securitization market is important because it reduces your risk-weighted asset and it puts more incentive for banks to put on their balance sheet and the securitization market is a real transfer of risk to somebody else. So we -- I think they should change that. They should change it immediately. The beneficiary of that will be non-agency mortgages, which are even more -- a lot more expensive than agency mortgages. So once you have a securitization market that people believe in, you have to change Reg A, B a little bit, you're going to have a much better market, the cost of mortgage will come down and they'll particularly come down for people at the low rank. I mean, so this should be phased and it should phase right away." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Thanks for taking my questions. I had a broader question and I just want to get your perspectives on public policy and banks and a little bit more broadly than the discussion about capital planning and stress testing. And I know banks are working hard to be part of the solution this time and not part of the problem. But we're also having more open discussions about things like inequality and social justice, which in my opinion are long overdue. But I worry that, fair or not, banks are sort of being depicted as being on the wrong side of some of those issues. And I think you see that in things like the mainstream press's depictions of big banks in PPP and stuff like that.", "Again, I'm just curious if you are concerned at all about populist anti-bank policies gaining traction, however you want to define them, whether it's breaking up the banks, directed lending, rate capture or whatever in a pretty polarized political environment. Or do you think I'm being too alarmist or overly concerned about stuff that is pretty unlikely in our country? So just kind of want to get your perspective just generally on how banks fit into the overall policy and political backdrop." ] }, { "name": "Jamie Dimon", "speech": [ "I mean, the thing you guys do every single day when you go to work is just do the right things for the right reasons, serve your customers. And we try to do that. We tried very hard to do take care of our employees, to train people -- we tried very hard to advance black [Indecipherable] in finance, and of course we make mistakes. And so I understand some of the angst out there. But we try to do the best we can. We get involved in policy like this mortgage thing that would be better for Americans. And we understand that people want banks to help America, and we do.", "The most important thing we could do is be a healthy and vibrant bank through this crisis and continue to serve our clients. And remember, responsible lending is good lending. Irresponsible lending is bad lending. So very often we hear that banks should do more. That's not -- irresponsible stuff is responsible. It will be to bad outcomes. And that's kind of we had last time around. So we try to do it right and we try to listen very carefully when there is criticism and sometimes, and often legitimate, that we could have done better or should do better or try to do better in the future." ] }, { "name": "Saul Martinez", "speech": [ "Okay. That's helpful. I guess as broad as that question was, I'm going to ask a very narrow question for Jen on your NII guidance. Does that -- I presume that includes gains on PPP fees for unforgiven loans and have you -- have you quantified that or sized that up in terms of where you think the magnitude of those figures could be?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So we've been really clear on PPP which is that we don't intend to profit from PPP. That doesn't mean that you won't have some geography issues. So you'll have some revenue and then you have expenses and the profit will be near zero. It is an immaterial amount this quarter given these fees are recognized over the lives of the loans. So it's very little this quarter, both revenue and expenses. And looking out, you'll see -- we'll see more of that probably in the third and fourth quarter. Again, it will still be zero on the bottom line and even the gross numbers won't be meaningful in the grand scheme of things." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, Jen. Can you share with us the reclassification of the wholesale portfolio that you talked about? How often do you go through that process where you have to look to reclassify new corporate loans? And second, you touched on earlier in a question about some of the COVID related sectors that are being impacted because of what we're going through. Can you highlight for us what is the most stressed within that COVID group that you mentioned?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So first on the reclassification. We mentioned it was a geography issue in merchant services. It didn't happen." ] }, { "name": "Jamie Dimon", "speech": [ "There was no reclassification of wholesale loans." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yeah. Yeah. And then in terms of the most impacted, I mean, they are the ones that you would expect to see around travel, oil and gas and real estate and retail. So it's the sectors that you would expect to see, although as I said earlier, and it's important to note, that from the downgrades that we experienced in the second quarter, less than a third of them were in the most impacted industry. So, really this is -- we're seeing this as being much more broad based." ] }, { "name": "Gerard Cassidy", "speech": [ "Okay. Thank you. And then second. I may have missed this. So I apologize. But in your slide 3, you give us very good detail on the forbearance on the consumer portfolio. Do you have any numbers on the commercial and corporate portfolios that -- loans that might be in forbearance and is it more commercial real estate or C&I?" ] }, { "name": "Jennifer Piepszak", "speech": [ "They're just not meaningful numbers. We would have included them had they been. So I'll just go back to what we said, which is, we're just not seeing what you would typically see." ] }, { "name": "Jamie Dimon", "speech": [ "But they end up in nonperforming." ] }, { "name": "Jennifer Piepszak", "speech": [ "They end up in nonperforming." ] }, { "name": "Jamie Dimon", "speech": [ "You don't have a category in wholesale or commercial the same way you have a category in consumer." ] }, { "name": "Operator", "speech": [ "And our next question is from Ken Usdin of Jefferies." ] }, { "name": "Kenneth Usdin", "speech": [ "Thanks. Good morning. Just a question on the points in slides you made about capital and long-term opportunities for recalibration. First, I guess, will you have any dialog with the Fed about the 3.3% SCB as some other banks have mentioned? And then secondly, where do you think we stand on the GSIB recalibration to your points about in a systemic risk not -- that shouldn't impact a bank's balance sheet?" ] }, { "name": "Jamie Dimon", "speech": [ "We're not going to just go back to the Fed on the 3.3%. But obviously, we're looking at why 3.3%, and we can try to adjust our plans going forward to try to reduce that number a little bit. Because we know we have another CCAR coming up in a couple of months. So there is no reason for us to go through extensive amount of work as opposed to fix what's already there.", "And GSIB, look, I've always thought GSIB needs a lot of recalibration, but there are things they should have recalibrated for already which is America gold-plated it, which I think was wholly unnecessary. They should have taken cash and treasuries and a whole bunch of stuff out of the calculation. It obviously goes way up when the Fed does things like it's been recently. And they never adjusted it for growth in the economy or growth in the shadow banking system, which they were supposed to do. So I'm just hoping they go about do that at one point, but these things get so wrapped up in political. People politicize very complicated calculations, which I thought kind of peculiar and funny but my view is that they do the numbers they should do them right, and they're just not right anymore." ] }, { "name": "Kenneth Usdin", "speech": [ "Yeah. And the second question is, just going back to slide 3, you lay out the percent of accounts on this page. Auto seems to be the biggest. And then in the supplement, on page 13, the balance does seem to imply a bigger percent on deferral. Just can you talk a little bit about the differences there and then why do you think you're seeing more accounts in auto deferring versus other asset classes? Thank you." ] }, { "name": "Jennifer Piepszak", "speech": [ "Okay. I don't actually know the answer to reconciling the supplement to slide 3. So Jason and team can follow up with you on that one." ] }, { "name": "Kenneth Usdin", "speech": [ "Maybe then just a comment about auto on deferrals. What do you think you're seeing in that customer base versus others? And do you think that means anything different for forward credit trends?" ] }, { "name": "Jamie Dimon", "speech": [ "No." ] }, { "name": "Jennifer Piepszak", "speech": [ "No, yeah." ] }, { "name": "Kenneth Usdin", "speech": [ "Okay. Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question is from Chris Kotowski of Oppenheimer." ] }, { "name": "Christoph Kotowski", "speech": [ "Yeah. Good morning. Thank you. I guess I just think it was such an extraordinary quarter for capital raising. Dealogic shows over $2 trillion of debt and equity raised in the quarter. And I guess a two part question around that. One is, as you look at that, was a good portion of that in kind of the stressed areas and presumably capital that's junior to your bank debt and to what extent has all that helped raise the quality of bank loans? And then secondly, looking forward, I mean, did all the companies that needed to and could raise capital do so in the second quarter and therefore we're looking at kind of a flat spot going forward or do you see this as kind of -- like there is an ongoing need for a lot of these companies to continue to raise capital?" ] }, { "name": "Jamie Dimon", "speech": [ "Well, I think, first of all, it's across the board. I mean, you saw as strong companies, weaker companies, high-yield markets opened up, converts -- and put converts and equity in there too, people did a lot of capital raise, and I think it was wise, I think a lot of people said they pre-funded a lot of their capital needs to make sure they can get through whatever this crisis means for their company and their industry and stuff like that.", "So I don't think it would be like it was before. So it will definitely come down, but I still think there is opportunity for some people to pre-fund some of that. But it is pre-funding. This is not capital. A lot of those capital was not being raised to go spend. It's been raised to sit in the balance sheet so that you you're prepared for whatever comes next. And you've heard a lot of companies make statements, and you guys go through yourself about we've got two years of cash, we got three years of cash, we got people want to be prepared. I think it's appropriate." ] }, { "name": "Christoph Kotowski", "speech": [ "Okay. That's it from me. Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "But just for your models, we don't expect revenues in investment banking -- they will normalize or even come down below normal next quarter and the quarters out. At one point -- we can't predict month by month exactly, and for trading, because no one asked, cut it in half, cut it in half and that'll probably closer to the future than if you say [Indecipherable] double what it normally runs." ] }, { "name": "Operator", "speech": [ "And our next question is from Andrew Lim of Societe Generale." ] }, { "name": "Jamie Dimon", "speech": [ "Please say that's the last question." ] }, { "name": "Andrew Lim", "speech": [ "Hi. Good morning. Thanks for taking the questions. And I think the point is straightforward. I just want some clarity really on the major CECL provisioning. And obviously you've made some very big provisions based on much more conservative assumptions, but the nature of CECL provisioning [Indecipherable] could mean that in the third quarter if your assumptions do not change, then your provisions should fall down quite considerably versus the second quarter to a much more normal level. I just wanted to see how you thought about that for the third quarter." ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So I will start by saying where we are right now. While there is a conservative bias to where we are right now, it is our best estimate of what we're facing. We certainly hope that in the future we look back on it as a conservative moment. But this is our best estimate. And so, if our assumptions are realized -- and again, our reserve reflects something worse in the base case. So if that's realized, then we shouldn't see meaningful reserve builds in the third quarter or if that continues to be [Speech Overlap] third quarter." ] }, { "name": "Andrew Lim", "speech": [ "Yeah. So I mean, in context, would it be similar to quarters that we've seen in 2019, for example?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes, you have reserves for growth but not for the prices." ] }, { "name": "Andrew Lim", "speech": [ "Yeah, exactly, exactly. That's very clear. Thanks for that. And then on the CIB trading environment, and obviously we saw June and we've seen a bit of a July. Would you say that's normalized, so a level consistent with what we've seen with 2019 or are you still seeing some pretty strong trading following through into the third quarter?" ] }, { "name": "Jamie Dimon", "speech": [ "I just answered that question. You should assume it's going to fall in half. We don't know, it's only a couple of weeks into this thing, but we don't assume we have unbelievable trading results going forward. And hopefully we'll do better than that, but we should -- we don't know. I also just want to point to reserving. Since it's probabilistic, you can actually change nothing in your assumptions, but the probability is of potential outcomes to put up more reserves." ] }, { "name": "Operator", "speech": [ "We have no further questions at this time." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
JPM	2022-04-13	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt OConnor", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's first quarter 2022 earnings call. [Operator instructions] At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jeremy Barnum. Mr.", "Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, operator. Good morning, everyone. The presentation is available on our website, and please refer to the disclaimer in the back. Starting on Page 1, the firm reported net income of $8.3 billion, EPS of $2.63, and revenue of $31.6 billion, and delivered an ROTCE of 16%.", "These results include approximately $900 million of credit reserve builds, which I'll cover in more detail shortly, as well as $500 million of losses in credit adjustments and other in CIB. Regarding loan growth, we're continuing to see positive trends with loans up 8% year on year and 1% quarter on quarter ex PPP, with the sequential growth driven by a continued pickup in demand in our wholesale businesses, including ongoing strength. On Page 2, we have some more detail on our results. Revenue of 31.6 billion was down 1.5 billion, or 5% year on year.", "NII ex markets was up 1 billion, or 9%, on balance sheet growth and higher rates, partially offset by lower NII from PPP loans. NIR ex markets was down 2.2 billion, or 17%, predominantly driven by lower IB fees, lower home lending production revenue, losses in credit adjustments and other in CIB, as well as investment securities losses in corporate. And markets revenue was down 300 million, or 3%, against a record first quarter last year. Expenses of 19.2 billion were up approximately $500 million, or 2%, predominantly on higher investments and structural expenses, largely offset by lower volume and revenue-related expenses.", "Credit costs were 1.5 billion for the quarter. We've built 902 million in reserves, driven by increasing the probability of downside risks due to high inflation and the war in Ukraine, as well as builds for Russia-associated exposures, and CIB in AWM. Net charge-offs of 582 million were down year on year and comparable to last quarter and remained historically low across our portfolios. On the balance sheet and capital on Page 3, our CET1 ratio ended at 11.9%, down 120 basis points from the prior quarter.", "As a reminder, we exited the fourth quarter with an elevated buffer to absorb anticipated changes this quarter, the largest being SA-CCR adoption, as well as some pickup and seasonal activity. In addition to those anticipated items, there were a couple of other drivers. The rate sell-off led to AOCI drawdowns in our AFS portfolio. But keep in mind, all else equal, these mark-to-market losses accrete back to capital through time and as securities mature.", "And price increases across commodities resulted in higher counterparty credit and market risk RWA. While, of course, the environment is uncertain, many of these effects are now in the rearview mirror. And as a result, we believe that our current capital and future earnings profile position as well to continue supporting business growth while meeting increasing capital requirements as we look ahead. With that, let's go to our businesses, starting with consumer and community banking on Page 4.", "CCB reported net income of 2.9 billion on revenue of 12.2 billion, which was down 2% year on year. In consumer and business banking, revenue was up 8%, predominantly driven by growth in deposit balances and client investment assets, partially offset by deposit margin compression. Deposits were up 18% year on year and 4% quarter on quarter, consistent with the last quarter. And client investment assets were up 9% year on year, largely driven by flows in addition to market performance.", "In home lending, revenue was down 20% year on year on lower production revenue from both lower margins and volumes against a very strong quarter last year, largely offset by higher net servicing revenue. Originations of 24.7 billion declined 37% with the rise in rates. And as a result, mortgage loans were down 3%. Moving to card and auto, revenue was down 8% year on year, primarily on strong new card account originations leading to higher acquisition costs.", "Card outstandings were up 11%, and revolving balances have continued to grow, ending the quarter above the first quarter of '21 levels. And in auto, originations were 8.4 billion, down 25% due to the lack of vehicle supply, while loans were up 3%, Touching on consumer spend, combined credit and debit spend was up 21% year on year, with growth stronger in credit as we see a continued pickup in travel and dining. And as the quarter progressed, we saw a robust reacceleration of T&E spend, up 64%. Expenses of 7.7 billion were up 7% year on year, driven by higher investments and structural expenses, partially offset by lower volume and revenue-related expenses.", "Next, the CIB on Page 5. CIB reported net income of 4.4 billion on revenue of 13.5 billion for the first quarter. Investment banking revenue of 2.1 billion was down 28% versus the prior year. IB fees were down 31% year on year.", "We maintained our No. 1 rank with a wallet share of 8%. In advisory, fees were up 18%, and it was the best first quarter ever, benefiting from the closing of deals announced in 2021. Debt underwriting fees were down 20%, primarily driven by leveraged finance as issuers contended with market volatility.", "And in equity underwriting, fees were down 76% on lower issuance activity, particularly in North America and EMEA. Moving to markets, total revenue was 8.8 billion, down 3% against a record first quarter last year. Fixed income was relatively flat, driven by a decline in securitized products, where rising rates have slowed down the pace of mortgage production, largely offset by growth in currencies and emerging markets and commodities on elevated client activity and a volatile market. Equity markets were down 7% against an all-time record quarter last year.", "This quarter, however, was our second best, with robust client activity across both derivatives and cash. And prime continued to perform well with client balances hovering around all-time highs. Credit adjustments and other was a loss of 524 million, driven by funding spread widening, as well as credit valuation adjustments relating to both increases in commodities exposures and markdowns of derivatives receivables from Russia-associated counterparties. Let me take a second here to address the widely reported situation in the nickel market as it relates to our results this quarter.", "We were hedging positions for clients closely linked to nickel producers who generally sell forward a portion of the coming year's production. The extreme price movements created margin calls, which we and other banks are helping to address. Because this is counterparty-related, not trading, it appears in the credit adjustments and other line where it contributed about 120 million to the reported loss I just mentioned. It also drove approximately half of the increase in market risk RWA that I noted on the capital slide and was a driver of higher reported VAR, which will also be elevated in our upcoming filings.", "Payments revenue was 1.9 billion, up 33% year on year, or up 9% excluding net gains on equity investments, driven by continued growth in fees, deposit balances, and higher rates. Security services revenue of 1.1 billion was up 2% year on year, driven by higher rates and growth in fees. Expenses of 7.3 billion were up 3% year on year, mostly due to higher structural expenses and investments, largely offset by lower volume and revenue-related expenses. Moving to commercial banking on Page 6.", "Commercial banking reported net income of 850 million and an ROE of 13%. Revenue of 2.4 billion was flat year on year, with higher payments revenue and deposit balances offset by lower investment banking revenue. Gross investment banking revenue of 729 million was down 35%, driven by both fewer large deals and less flow activity. Expenses of 1.1 billion were up 17% year on year, largely driven by investments and volume- and revenue-related expenses.", "Deposits were down 2% quarter on quarter as client balances are seasonally highest at yearend. Loans were up 5% year on year and up 3% quarter on quarter, excluding PIP. C&I loans were up 3% sequentially ex PPP, reflecting higher revolver utilization and originations across middle market and corporate client banking. CRE loans were up 3%, driven by strong loan originations and funding across the portfolio.", "And then to complete our lines of business, AWM on Page 7. Asset and wealth management reported net income of 1 billion with a pre-tax margin of 30%. Revenue of 4.3 billion was up 6% year on year, as growth in deposits and loans and higher management fees and performance fees and alternative investments were partially offset by deposit margin compression and the absence of investment valuation gains from the prior year. Expenses of 2.9 billion were up 11% year on year, predominantly driven by higher structural expenses and investments, as well as higher volume and revenue-related expenses.", "For the quarter, net long-term inflows of 19 billion were positive across all channels, with strength in equities, multiasset, and alternatives. And in liquidity, we saw net outflows of 52 billion. AUM $3 trillion and overall client assets of $4.1 trillion, up 4% and 8% year on year, respectively, were driven by strong net inflows. And finally, loans were up 3% quarter on quarter, with continued strength in mortgages and securities-based lending, while deposits were up 9%.", "Turning to corporate on Page 8. Corporate reported a net loss of 856 million. Revenue was a loss of 881 million, down 408 million year on year. NII was up 319 million due to the impact of higher rates, and NIR was down 727 million due to losses on legacy equity investments versus gains last year, as well as approximately $400 million of net realized losses on investment securities this quarter.", "Expenses of 184 million were lower by 692 million year on year, primarily due to the contribution to the firm's foundation in the prior year. Next, the outlook on Page 9. We still expect NII ex markets to be in excess of $53 billion and adjusted expenses to be approximately $77 billion. And we'll update these and give you more color in investor day next month.", "So, to wrap up, once again, this quarter, the company's performance was strong in a particularly volatile and challenging environment. We helped our clients navigate very difficult markets, provided support to relief efforts, and implemented economic sanctions of unprecedented complexity with multiple directives from governments around the world. And of course, our thoughts remain with everyone, including our employees affected by Russia's invasion of Ukraine. Looking ahead, the U.S.", "economy remains robust, but we're watching high inflation, the reversal of QE, and rising rates, as well as the ongoing effects of the war on the global economy. With that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Please stand by. And our first question is coming from John McDonald from Autonomous Research. Please go ahead." ] }, { "name": "John McDonald", "speech": [ "Thank you. Good morning, Jeremy. I was wondering about the net interest income outlook. I know it sounds like we'll get more in investor day, but it's very similar to what you gave in mid-February.", "And obviously, rate expectations have advanced since then. Could you give us a little bit of color on what kind of assumptions are underlying the net interest income ex markets outlook?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Good morning, John. Good question. Yeah, look, obviously, given what's happened in terms of Fed hike expectations and what's getting priced into the front of the curve, we would actually expect the excess part of in excess of 53 billion to be bigger than it was at Credit Suisse.", "So, you know, to size that, you know, probably a couple of billion dollars. But we don't want to get too precise at this point. We want to run our bottoms-up process. We -- you know, there have been very big moves, and we're going to want to get it right.", "And so, we'll give, you know, more detail about that at investor day." ] }, { "name": "John McDonald", "speech": [ "OK. And as my follow-up, could you give us some thoughts about the markets related at NII? What things should we think about there, whether it's seasonality or how it's affected by rising rates?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I guess I would direct you to my comments, I think one or two quarters ago, on this. But generally speaking, that number is pretty correlated to the short-term rate. So, you know, all else equal, you'll see a headwind in there as the Fed hikes come through, which, you know, in general, on the geography, we would tend to expect that to be offset in NIR.", "But it's noisy. It can shift as a function of, you know, obscure balance sheet composition issues, as I've mentioned in the past, you know. And so, that's why we don't focus too much on that number." ] }, { "name": "John McDonald", "speech": [ "OK. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, John." ] }, { "name": "Operator", "speech": [ "And the next question is coming from Ken Usdin from Jefferies. Please go ahead." ] }, { "name": "Ken Usdin", "speech": [ "All right. Thanks. Good morning. Jeremy, just wanted to follow up on your comments about capital and, you know, being able to provide room for organic growth.", "You know, with 5.2 SLR, 11.9 CET1 versus your longer-term targets, can you talk about what that means in terms of the buyback potential from here? And do any of the RWA inflation items come back off that you just, you know, saw in the first quarter? Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks. So, let me just give some high-level comments about the CET1 trajectory and so on. So, as you know, we went into the quarter with elevated buffers, knowing that we would have denominator growth as a result of the adoption of SA-CCR.", "And so, of course, that happened. And, you know, we would have expected roughly to be at 12 .5, right in the middle of the range for this quarter. Of course, it was an unusual quarter in a number of ways. And so, we saw RWA inflation from market risk, which we've talked about.", "And the AOCI drawdown and, you know, a number of other slightly smaller factors producing the 11.9. From where we sit here, to your point, a number of these items are, in fact, going to bleed back in relatively quickly, some faster than others. So, we would expect a significant portion of the RWA inflation to bleed out, obviously, to decay out. The AOCI drawdown will obviously come back over time.", "And probably, most importantly, you know, to the prior question, the higher rate outlook is -- it's improving the revenue outlook, which will, of course, accrete to capital. Um, so then if you line that up against the sort of rising minimums, of course, we have the increase in the G-SIB requirement in the first quarter of '23 coming in. And then there's the question on SCB, where, you know, we don't know, obviously. But given the countercyclical nature of the stress and the fact that the unemployment launch point is a lot lower and that the unemployment rate is floored in the Fed's scenario, you might expect SCB to be a little bit higher when it's published in June, you know, effective in the fourth quarter.", "But that gives us time to make any adjustments that we need to make. So, I guess to summarize, when we put all this together between improved income generation, some of the denominator decay effects, and the various levers that we have available to pull across the dimension of time as new information comes into play, we really feel quite good about our capital position from here and the trajectory as we look forward and minimums, you know, evolve." ] }, { "name": "Ken Usdin", "speech": [ "And just a follow-up there, too, is there anything you need to consider structurally in terms of like, you know, adding preferred to help bridge the gap? Or is it just going to be enough to organically build back with, you know, possibly, you know, just utilizing less buybacks will allow things to just grow back?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I think the -- I guess, in general, we haven't wanted to say a lot publicly about our preferred actions. As you know, some of these instruments are callable and, you know, we have choices to make about whether or not we call them to adjust to different situations. So, I think that's an example of the types of levers that we have available to pull as the environment evolves.", "But from where we sit today, with the numbers that I'm looking at, you know, we have a pretty clean trajectory to get to where we want to be." ] }, { "name": "Ken Usdin", "speech": [ "OK. Thanks, Jeremy." ] }, { "name": "Jeremy Barnum", "speech": [ "Yup." ] }, { "name": "Operator", "speech": [ "The next one is coming from Betsy Graseck from Morgan Stanley. Please go ahead." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning." ] }, { "name": "Jeremy Barnum", "speech": [ "Good morning, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "I had a question for Jamie. In your annual letter, you've mentioned how you expect to achieve double-digit market share over time in payments. And when I -- what I wanted to understand is if you could unpack that a little bit, because when I look at payments, you've got a lot of different sleeves. For example, in consumer credit cards, you're at 20%, 25%.", "In Treasury, I think you're at 7%. So, could you give us a sense as to where you think you are in this total payments category you're talking about, what you're expecting in terms of drivers to get to double-digit, and what kind of timeframe you're thinking about there. Thanks." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, so, Betsy, so that number, the double-digit relating just to wholesale payments, not to consumer payments, which, obviously, we already have a fairly significant share. And we've gone from 4.5% to something a little bit north of 7% over the last five years. And we're just building out -- and I gave some examples, and I'll give a lot in the investor day coming up. We're building all the things we need, real-time payments, certain blockchain-type things while it's the -- just a couple of acquisitions.", "They're building out our wholesale capabilities to do a far better job for clients globally around the world and supported by, what I would say, very good cyber-risk control, which clients really need to, by the way. So, it's kind of across the board. There's nothing mystical about it. But it's an area we want to win in." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And getting to double digits is over, you know, the same kind of time frame with the same pace going from 4 to 7? Or you think you can accelerate that --" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, I wasn't --" ] }, { "name": "Betsy Graseck", "speech": [ "Because I see what's --" ] }, { "name": "Jamie Dimon", "speech": [ "I wasn't meaning to put a time frame up, but I would say five years. But you'll get more update on this in investor day." ] }, { "name": "Betsy Graseck", "speech": [ "OK. And then just the follow up here is, on the NII outlook, where you indicated, you know, the curve suggests the plus side and, you know, is it a couple of billion? And I guess the question I have is, you know, historically, you've been looking to reinvest that benefit from rising rates. You know, you did that last cycle as well. You know, what I hear -- what I'm hearing is that, you know, maybe you don't want to size it for us right now today because you plan on investing it and explaining that at investor day." ] }, { "name": "Jamie Dimon", "speech": [ "No." ] }, { "name": "Betsy Graseck", "speech": [ "Is that a fair takeaway or not?" ] }, { "name": "Jamie Dimon", "speech": [ "No. No. No. That's --" ] }, { "name": "Jeremy Barnum", "speech": [ "No. No." ] }, { "name": "Jamie Dimon", "speech": [ "We don't look at it that way like we're reinvesting NII. We -- the investing stuff, we look at all the time we're investing. And, you know, we're investing a lot of money for the future kind of across the board. But that's not why, as you're saying, as --" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, I think fundamentally, you know, we have had confidence in delivering our 17% ROTCE through the cycle. We talked a little bit over the last couple of quarters about, at the time, some short-term headwinds to that, mostly as a function of the rate environment and a couple of other things. The investment plan is a strategic plan that recognizes that sort of confidence in the 17%.", "The fact that that moment may be getting pulled forward as a result of the Fed's, you know, reaction to the economy has no impact on how we think about spending." ] }, { "name": "Betsy Graseck", "speech": [ "OK. Great. Thanks for -- Thanks for that." ] }, { "name": "Operator", "speech": [ "The next question is coming from Steve Chubak from Wolfe Research. Please go ahead." ] }, { "name": "Steven Chubak", "speech": [ "Hey, good morning. So, I wanted start off with the question on QT. In the past, you've spoken about the linkage between Fed balance sheet reduction and deposit outflow expectation for yourselves in the industry. And with the Fed just outlining a more aggressive glide path for balance sheet reduction, how should we be thinking about deposit outflow risk? Any views on how data may differ versus last cycle, given a more aggressive pace of Fed tightening?" ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Steve. So, this is a fun question, so let's nerd out a little bit. I'm sure Jamie will jump in." ] }, { "name": "Jamie Dimon", "speech": [ "And then I'll simplify it for you." ] }, { "name": "Jeremy Barnum", "speech": [ "OK. So, look, I think we've talked a little bit about what happened in the prior cycle, right? So, you had QE and then you had big expansion in bank deposit systemwide expansion. And then at the tail end of that cycle, you had RRP come in, and then RRP has gotten sort of quite big as QE finished. And so, now as you look at potentially kind of running that whole thing in reverse, you might actually expect that the first thing that would happen is that RRP would get drained and only later would bank deposits start to shrink.", "But I think you correctly point out some of the nuances in the Fed minutes. And when you sort of combine all the effects together, you realize that there's a lot of interacting forces here. And it's really, I think, very intelligent people differ on their predictions about what's going to happen here. And just to outline a couple of those.", "So, it's worth noting for starters that, in general, industrywide loan growth outlook is quite robust. And that should be a tailwind for systemwide deposit growth. So, as you note, yup, QT will start in May and all likelihood for the minutes headwind. Then, you just have to look at what's going to happen on the front end of the curve, particularly in bills.", "So, the Treasury has to make decisions about weighted average maturity and what makes sense there. There's obviously a little bit of shortage of short-dated collateral in the market right now. So, you know, that might argue for wanting more supply there. The Fed has to make decisions about portfolio management.", "They talked in the minutes about using bill maturities to fill in gaps and so on and so forth. And so, those things are going to interact in various ways. I think one thing that's worth noting, though, is that if you wind up in a state of the world where bank deposits drained sooner than people might have otherwise thought, in all likelihood, that's going to be the lower-value, nonoperating-type deposits. So, you know, in any case, we'll see.", "But to simplify it for a second, our base case remains modest growth in deposits for us as a company. And just pivoting away for a second from the system to us, you know, from a share perspective, we've taken share in retail deposits, and we feel great about that. And in wholesale, you know, we've had some nice wins and a nice pipeline of deals there. So, that's the current thinking on that topic." ] }, { "name": "Jamie Dimon", "speech": [ "So, the answer is we don't know. OK? And you guys should read economist reports. But the fact is, initially, it probably won't come out of deposits. Over time, it'll come out of wholesale and then maybe consumer.", "We're prepared for that. It doesn't actually mean that much to us in the short run. And the beta, effectively, we don't expect to be that different than it was in the past. There are a lot of pluses and minuses.", "You can argue a whole bunch of different ways. But the fact is it won't be that much different, at least the first hundred-basis-point increase." ] }, { "name": "Steven Chubak", "speech": [ "No, that's really helpful color. Thanks for allowing us to nerd out with you guys on that. Just one more topic or a follow-up, I should say, Jamie, just in the shareholder letter, you had spoken about how the market's underestimating the number of Fed hikes that might be needed to curb inflation. What's your expectation around the level of Fed tightening? I know it's difficult to make such predictions, but maybe if you could just help us understand, given your own rate outlook, how that's been forming, how you're managing excess liquidity, given the significant capacity that you have to redeploy some of those proceeds into higher-yielding securities." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So, I think the implied curve now is like 2.5% at the end of the year and maybe 3% at the end of 2023. And look, no one knows. And, you know, obviously, everyone does their forecasts.", "I think it's going to be more than that, OK? I can give you a million different reasons why because of inflation and just about deposits. And we've never been through ever QT like this. So, this is a new thing for the world. And I think it's more substantially important than other people think because the huge change of flows of funds is going to create as people, you know, change their investment portfolios.", "So, I think we're going to be fine because we're going to serve to help our customers and gain share. So, you'd say, what does it do for JPMorgan Chase? JPMorgan Chase will be fine. We got plenty of capital, plenty -- with all great margins. We've already had the returns we want and all the things like that.", "So, you know, I would just be cautious. I think what you should expect is volatile markets. Again, that's OK for us, you know. And the Fed -- you know, we think the Fed needs to do what they need to do to try to manage this economy and try to get to a soft landing, if possible." ] }, { "name": "Steven Chubak", "speech": [ "And then the appetite to deploy the excess liquidity?" ] }, { "name": "Jamie Dimon", "speech": [ "No, don't expect that." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. OK. We can leave it there." ] }, { "name": "Steven Chubak", "speech": [ "OK. Thanks so much." ] }, { "name": "Operator", "speech": [ "The next question is coming from Glenn Schorr from Evercore ISI. Please go ahead." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thank you. I wonder if you could talk through the changes in the macro assumptions for the -- to capture that downside risk in CECL assumptions. Just because what I want to get to is where we came from, where we're at now, and then we can impose our thoughts on each quarter as we go, just --" ] }, { "name": "Jamie Dimon", "speech": [ "I don't want to spend a lot of time on CECL, OK? I think it's a complete waste of time. Basically, all we said is the chance of a severe adverse event at 10% higher than it was before. That's all we did. Very basic.", "And that led to big --" ] }, { "name": "Jeremy Barnum", "speech": [ "It really is that simple, Glenn." ] }, { "name": "Jamie Dimon", "speech": [ "And we don't know -- and it's a guess. You know, it's probability-weighted hypothetical, multi-year scenarios that we do the best we can. But to spend a lot of time on earnings calls about CECL swings is a waste of time. It's got nothing to do with the underlying business.", "Charge-offs are extraordinarily good, matter of fact, way better than they should be. I mean, you know, middle market, 1 basis point; credit card, 1.5. We would have told you the best it'll ever be is 2.5. So, credit's very good.", "That will get worse. NII is going to get much better. Things are going to normalize. We're still earning 16% or 17% on tangible equity.", "And, you know, obviously, you have -- yeah." ] }, { "name": "Glenn Schorr", "speech": [ "I -- the 10% is what I wanted because your guess is better than my guess. So, that -- I appreciate that." ] }, { "name": "Jamie Dimon", "speech": [ "I don't -- Glenn, with all due respect, I do not believe it is." ] }, { "name": "Glenn Schorr", "speech": [ "OK. Um, well, I mean, pinky bet. So, I think you might have just answered, but I want to make sure I ask it explicitly. The follow-up I have on credit and I know it's in much better shape and it depends on the go-forward, but are you seeing any stresses in the levered parts of the debt markets, meaning levered loan, high-yield CLO private credit.", "Anything in there that makes you like turn a side-eye?" ] }, { "name": "Jamie Dimon", "speech": [ "Just a spread widening and a little bit less liquidity." ] }, { "name": "Glenn Schorr", "speech": [ "It doesn't sound so bad. And maybe the last one --" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. You know, I mean, Glenn, I think -- look, we -- no one likes to be complacent about this type of stuff. And obviously, in this environment, everyone's looking very closely everywhere for any risks and trying to steer on the corner. But as of right now, we're really not seeing anything of concern in that kind of spot metrics, so to speak." ] }, { "name": "Glenn Schorr", "speech": [ "Maybe the last quickie on credit is just with everybody having a job and there's wage inflation and excess cash, are there any buckets, you know, of income that you're seeing the early stage delinquencies picking up?" ] }, { "name": "Jeremy Barnum", "speech": [ "In short, no. You know, it is an interesting question as you look across our customer base, particularly in card and, you know, sort of the heavily debated question of real income growth and gas prices and what's that doing to consumer balance sheets. And so, we're watching that, especially in the kind of LMI segment of our customer base. But right now, we're not actually seeing anything that gives us reason to worry." ] }, { "name": "Glenn Schorr", "speech": [ "OK. Thank you for all that." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, Glenn." ] }, { "name": "Operator", "speech": [ "The next one is coming from Gerard Cassidy from RBC Capital Markets. Please go ahead." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, Jeremy." ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Gerard." ] }, { "name": "Gerard Cassidy", "speech": [ "Jeremy -- hi. Can we follow up on your comments about building up the reserves? I think you said it was $902 million that, you know, you guys built up, and it was due to high inflation and the war in the Ukraine. How much was due to inflation? And when you made that comment, is it because you're concerned about the lower-end consumer spending more money for fuel and food that may lead to greater delinquencies down the road? And how much was that due to the Ukraine situation?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Glenn, it's really a lot more general than that. So, just to repeat 900, build; 300 name-specific, primarily related to Russia-associated individual names. The other 600 is portfolio level.", "And as Jamie just said, it simply reflects increasing the probability from a very low probability to a slightly higher probability of a, you might call it, Volcker-style, Fed-induced recession in response to the current inflationary environment, which, obviously, is in part driven by commodity price increases, which are in part driven by the war in Ukraine. So, but it's not, you know, a super micro portfolio level thing, except to the extent that our models, you know, handle that. It's a top-down modification of the probabilistic ways." ] }, { "name": "Jamie Dimon", "speech": [ "One of the things I hated when CECL came out is that we spend a lot of time at every call yapping about CECL. I just think it's a huge mistake for all of us to spend too much time on it." ] }, { "name": "Gerard Cassidy", "speech": [ "Understood. And then, as a follow-up, Jeremy, if we look at the AOCI number that you gave us, and you were very clear about it, you know, it's going to accrete back into the capital as those securities mature, two things, is there anything you can do, assuming if the long end of the curve continues to rise and probably giving you maybe a bigger hit on AOCI as we go forward? Is there anything you can do to mitigate that, whether to shrink that, you know, the available-for-sale portfolio, which looks like it was $313 billion at the end of this period? Or do you just have to grow the revenue, as you pointed out, as another way of growing your capital?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, I think that, obviously, we always try to grow revenue sort of independently of anything else. I think the large point here is, yes, there are some things that can be done to mitigate this. But the big picture is that the, you know, central case path is one that gets us to where we want to be when we need to be there in terms of CET1 and leverage.", "And if things don't play out as along the lines of the central case, we have tools and levers available to adjust across a range of dimensions, so --" ] }, { "name": "Gerard Cassidy", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "The next one is coming from Mike Mayo from Wells Fargo Securities. Please go ahead." ] }, { "name": "Mike Mayo", "speech": [ "Hi. I have a question for both Jeremy and Jamie. Jeremy, I guess the SLR 5.2% close to the minimum, you explained that. But since quarter end, AOCI probably has gotten worse.", "And I'm guessing your SLR might be very even close to that minimum. So, I understand your central case, it's fine. Your outlook is good. But at what point do you say you stop buybacks? Or do you think you'll buy back maybe half of the $30 billion authorization? Or does JPMorgan even put on asset caps, given just the amazing asset growth over the last three months? So, that's my question for Jeremy.", "But the bigger picture is for you, Jamie, your CEO letter. The takeaway was in the eye of the beholder. Like, Jamie was really worried about a recession this year, now he's not. So, the first question certainly ties into the second.", "So, Jeremy, plan for buybacks, stopping at asset cap. And then, Jamie, your view of the broader economies and that feeds into your expectations for capital growth. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "OK, Mike. So, let me take this capital one. So first, let's not talk about asset caps. That's just not a meaningful thing.", "I think that's a distraction, and the terminology is unhelpful. Then, in terms of the leverage ratio, just remember that the denominator of that number is so big that it actually takes like pretty big moves to move the ratio. So, 5.20 is actually still pretty far away from 5%. And, of course, there are relatively easy-to-use tools to address that as well as was alluded to earlier.", "In addition, I do think it's worth just reminding everyone of how the ERI restrictions work now relative to how they were at the beginning of the crisis. Just briefly, just to remember that based on the redefinition, if you drop into the regulatory buffer zone, you're subject to a 60% restriction, which, based on our recent historical net income generation, still gives us like ample, ample capacity to pay the dividend and so on. So, you know, it's obviously not part of the plan, but it's just worth remembering that the cliff effects that we had in there at the beginning of the pandemic are no longer there. And then, in terms of buybacks, just a reminder that the $30 billion authorization is a, you know, nontime-bounded SEC requirement.", "It's not the old CCAR standard. So, it's just a signal that we want to have that capacity and that flexibility. But it doesn't really say that much about how much we're actually planning to do in the near term." ] }, { "name": "Mike Mayo", "speech": [ "Are you allowed to say what you're planning to do in the near term? Like, just in -- like, if you're kind of like half the level last year, do you think you can keep that? Or does this slow down? Or you're not giving guidance?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So, let's talk about buybacks for a second. So, in the kind of post-SCB world, we haven't been guiding a lot on the pace of buybacks, mainly because, as you know, they're at the bottom of our capital stack. So, we're focused on investing in the business, providing capital to support growing RWA, acquisitions when they make sense, etc.", "And buybacks are an output. As we have discussed, in the current environment, the rate of buybacks is clearly going to be less than it was in the 2021 period as a result of the interaction of all those effects. And that's a good thing. It means that we have better uses for the capital.", "And if things evolve one way or the other, then the rate of buybacks will be an output. But it's one of the tools in the toolkit." ] }, { "name": "Mike Mayo", "speech": [ "OK." ] }, { "name": "Jamie Dimon", "speech": [ "Mike, I would just add, you know, if you look at liquidity and capital, it's extraordinary. And we don't want to have buffers on top of buffers. So, we're going to manage this pretty tightly over time. And obviously, we have AOCI and earnings and CECL, all that, but being conscious of all of that, we can manage through that.", "And we've done some acquisitions this year. And so -- and plus, we are adding -- we're planning to have more capital for the increase in G-SIFI down the road, which reduced stock buyback and -- but the amount -- I look at the amount of liquidity, the earnings, the capital, that's the stuff that really matters. And at the end of the day, it's driving customers. You know, we serve customers, which is why we're here.", "We don't serve managing SLR. That's kind of an output of stuff we do. And so -- and then, your question about -- I think it was about recession basically. Yeah, do you want to repeat the question, Mike?" ] }, { "name": "Mike Mayo", "speech": [ "Yeah. No, I mean, if you read your CEO letter, and that's great. You're the chief worry officer. You're the chief risk manager.", "You're bringing up all the things that, you know, keep you up at night, which is great. But you can read it one way and say, \"Hey, Jamie and JPMorgan thinks there's going to be a recession this year.\" And you can read it in other way, saying, \"Hey, things are fine, but these are some tail risks.\"" ] }, { "name": "Jamie Dimon", "speech": [ "OK." ] }, { "name": "Mike Mayo", "speech": [ "So, do you think -- and I'll repeat what Glenn said. Your view is better than mine, and I'm not going to accept anything else. You have a lot of people, a lot of resources. Do you think the U.S.", "is going to have a recession this year based on everything you know?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah, I don't. But I just want to question this. First of all, I can't forecast the future any more than anyone else. And, you know, the Fed forecasted and everyone forecasted, and everyone's wrong all the time.", "And I think it's a mistake. We run the company to serve clients through thick or thin. That's what we do. We know there will be ups.", "We know there will be down. We know the weather is going to change and all that stuff like that. What I have pointed out in my letter is very strong underlying growth, right now, which will go on. It's not stoppable.", "The consumer has money. They pay down credit card debt. Confidence isn't high. But the fact that they have money, they're spending their money.", "They have $2 trillion still in their savings and checking accounts. Businesses are in good shape. Home prices are up. Credit is extraordinarily good.", "So, you have this -- that's one factor. That's going to continue in the second quarter, third quarter. And I -- after that, it's hard to predict. You've got two other very large countervailing factors, which you guys are all completely aware of.", "One is inflation/QE-QT. You've never seen that before. I'm simply pointing out that we've -- those are storm clouds on the horizon that may disappear, they may not. That's a fact.", "And I'm quite conscious of that fact, and I do expect that alone will create volatility and concerns and endless printing and endless headlines and stuff like that. And the second is war in Ukraine. I pointed out in my letter that, you know, war in Ukraine. Usually, wars don't necessarily affect the global economy in the short run.", "But there are exceptions to that. This may very well be one of them. I don't -- I'm not looking at this on a static basis, OK? So you're looking at this war in Ukraine and, you know, sanctions there. Things are unpredictable.", "Wars are unpredictable. Wars have unpredictable outcome. You've already seen in oil markets. The oil markets are precarious, OK? So, I pointed that out over and over that, you know, people don't understand that those things can change dramatically for either physical reasons, cyber reasons, or just, you know, supply demand.", "And so, that's another huge cloud in the horizon, and I -- we're prepared for it. We understand it. We're just -- I can't tell you the outcome of it. I hope those things all disappear and go away.", "We have a soft landing and the war is resolved, OK? I just wouldn't bet on all that. I just, you know -- and, of course, being a risk manager, we're going to get through all that. We're going to serve our clients, and we're going to gain share. We're going to come to that earning tremendous returns on capital like we have in the past." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "You're welcome." ] }, { "name": "Operator", "speech": [ "Next one is from Matthew O'Connor from Deutsche Bank. Please go ahead." ] }, { "name": "Matt OConnor", "speech": [ "I was hoping you guys could comment on the -- there are some articles on the nickel exposure and how the losses could have been significant if the trades hadn't been canceled and from the actions that were taken. And then, just as a follow-up, you guys have talked about kind of looking at that business and reevaluating how you think about some of the outsized risks, and maybe you can update us on that process." ] }, { "name": "Jamie Dimon", "speech": [ "We've already told you. We're helping our clients get through this. We had a little bit of loss this quarter, we're going to manage through it. We'll do postmortems on both what we think we did wrong and what the LME could do differently later.", "We're not going to do it now." ] }, { "name": "Matt OConnor", "speech": [ "And then, I guess, I mean, more broadly speaking, you know, given what we just saw where it was probably a several standard deviation event and kind of, as you mentioned, markets might do more of these unusual things, like, does it make you step back and look at other portfolios, other businesses and try to reduce the next --" ] }, { "name": "Jamie Dimon", "speech": [ "In my life, I've seen so many 10 standard deviation events to be shocked." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, exactly. Yeah." ] }, { "name": "Jamie Dimon", "speech": [ "So, obviously, we're aware of that all the time in everything we do." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. And I would take it one step further. I think the whole paradigm of saying it's a 10 standard deviation event is naive, right? We know the returns are not normally distributed." ] }, { "name": "Jamie Dimon", "speech": [ "Right." ] }, { "name": "Jeremy Barnum", "speech": [ "We know that. Regulators know that. The capital framework recognizes that in a broad variety of ways, including things like stress. So, I don't think -- of course, you can't predict where and in which asset class and in which particular moment you're going to see these types of fat tail events.", "But the framework recognizes in a range of ways that that's the case. And that's how we manage risk, and that's how we capitalize." ] }, { "name": "Jamie Dimon", "speech": [ "So, we do CCAR once a year, as you guys see. But, you know, we actually run a hundred different various stress tests every week with extreme movements and things. You know, and that's what we do. And, you know, we're always -- you're always going to be a little surprised somewhere, but we're pretty conscious of those risks.", "And all events like this, we always look at -- but it doesn't have to happen to us. It can happen to someone else. We still analyze everything that, you know, maybe we were on the wrong side of something, too. But at the end of the day, in all of our businesses, we are here to serve clients all the time.", "That means taking rational, thoughtful, disciplined risk to do that." ] }, { "name": "Matt OConnor", "speech": [ "And then, just separately, you had mentioned earlier that you weren't looking to deploy large amounts of your liquidity. And I guess, the question is, you know, you might get the rate benefit just from Fed funds going up, but is there an opportunity to accelerate that benefit just by moving some cash into shorter-term treasuries?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes." ] }, { "name": "Matt OConnor", "speech": [ "We've obviously had a big move in --" ] }, { "name": "Jamie Dimon", "speech": [ "Guys, we're just talking about interest rates going up maybe more than 3%. Convexity is going up. AOCI is going up. All these -- there are all these various reasons not to do that.", "We're not going to do it just to give you a little bit more NII next quarter." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. And, Steve, to just go one level deeper there for a second, right? So, you talked about deployment. Of course, as Jamie says, we're always going to take relative value opportunities in the portfolio. You know, mortgage spreads have widened.", "There's interesting stuff to do. So, in that sense, yeah, deployment out of cash into various sorts of spread product that looks more interesting. We do that all the time. The high-level simple question of buying duration, you know, as Jamie says, balance sheets extended a little bit.", "That was never -- we were never planning to do that much of that anyway. And, you know, frankly, given the timing and expected speed of the rate hikes, increasingly, it just kind of doesn't matter that much. And yeah, so I think it's helpful to keep that in mind." ] }, { "name": "Matt OConnor", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from Jim Mitchell from Seaport Global Securities. Please go ahead." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Maybe you could just talk about how you're thinking about the trajectory of loan growth from here, where you're seeing the biggest pockets of strength. And specifically in cards, is the significant year-over-year growth driven more by slowing paydowns? Or is that increasing demand or a combination of both? Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, sure. So, you'll remember in the fourth quarter that we talked about the outlook based on sort of high single-digit loan growth for the year. And, you know, this quarter, we've roughly seen that. Interestingly, it's a little bit more driven by wholesale this quarter, which sort of brings us to your question of card.", "So, overall card loan growth is reasonably robust when you adjust for seasonality and so on. And that's really primarily driven by spend, which, as you know, is very robust. The question inside of that is then what's going on with revolve. And I think our core revolve thesis of getting back to the pre-pandemic levels of revolving balances by the end of the year is still in place to a good approximation.", "At the margin, we probably saw the like takeoff moment delayed by six weeks or so because of omicron. But some of that's reaccelerating now. We see that in some of the March numbers. So, we'll see how it goes.", "But also, just a reminder that, you know, there's a very, very close linkage between what we see in revolve and what we see in charge-offs. And so, in the moments where revolve is lagging potentially, certainly, that was true throughout the pandemic period relative to what we thought. We also saw exceptionally lower charge-offs. So, on a bottom-line basis, the run rate performance, there's significant offset there.", "But the core thesis is still there. Spend is robust. We are seeing spend down and some of the cash buffers in the customer segment that tends to revolve. So, more or less, as anticipated, I would say." ] }, { "name": "Jim Mitchell", "speech": [ "OK. And then, maybe just on -- skipping over to trading. Clearly, a stronger quarter, must have finished off strongly in March. So, any confirmation of that? And how do we -- you know, if you're expecting more volatility around Fed in QT, is it -- should we be thinking that this could be a better than normalization year? How are you thinking about trading, I guess, going forward?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean, you know that we're going to be reluctant to like predict the next three quarters of trading performance. But --" ] }, { "name": "Jim Mitchell", "speech": [ "Yeah, I could try." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, obviously, yeah. But just to your point about normalization, right? We've been saying that, of course, we expect some normalization. The question is, if you define normalization as a return to kind of like 2019-type trading run-rate levels, we never expected that because there's been a bunch of organic growth in the background, some share gains. And we had said that as we emerge from the pandemic and monetary policy normalized, that was going to add volatility to the markets.", "And that, you know, with any luck and good risk management, that would net-net help a little bit to mitigate what we might otherwise expect in terms of the drop from the very elevated levels that we saw during the pandemic. So, obviously, there are some particular things that played out this quarter. But one of those was more volatile rate market, and that helps a little bit. So, yeah, all else equal, the much more dynamic environment right now would mute the normalization you would see otherwise.", "But our core case is still that the pandemic-year period market's performance is not repeatable." ] }, { "name": "Jamie Dimon", "speech": [ "And I'll just add to that. I cannot foresee any scenario at all where you're not going to have a lot of volatility in markets going forward. We've already spoken about the enormous strength of the economy, QT, inflation, war, commodity prices. There's almost no chance you would have volatile markets.", "That could be good or bad for trading." ] }, { "name": "Jim Mitchell", "speech": [ "OK." ] }, { "name": "Jamie Dimon", "speech": [ "But [Inaudible] chance it won't happen. And I think people should be prepared for that." ] }, { "name": "Jim Mitchell", "speech": [ "All right. I appreciate the color." ] }, { "name": "Operator", "speech": [ "The next one is from Ebrahim Poonawala from Bank of America Merrill Lynch. Please go ahead." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Good morning. I guess just one more question on the macro outlook. I guess we can debate whether or not we get into a recession over the next year. But, Jamie, would love to hear your thoughts around as we think about just the medium term, do you see a better capex cycle for the U.S.", "economy? We've heard a lot about reshoring, labor productivity, how companies are dealing with it. Just given the lens you have in terms of large corporate and middle-market customers, do you see some pent-up demand for capex spending that's going to be a big driver of growth, maybe not for the next six months, but as we think about the medium term next few years?" ] }, { "name": "Jamie Dimon", "speech": [ "Yes, in general because as people are spending money and you need to produce more goods and all that, yes, and generally see capex going up. And I forgot the exact number. You're better off looking at our great economist forecast for that than asking me. And we see in the borrowing a little bit of --" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, we do see a pretty nice loan growth in the commercial bank. I mean, there's a bunch of different factors there. It could be some inventory effects and so on, but, you know, we'll see. But, yeah." ] }, { "name": "Ebrahim Poonawala", "speech": [ "And just on that front, like, have you seen any improvement in supply chains? And how big a setback was the Russia war to supply chain improvements?" ] }, { "name": "Jamie Dimon", "speech": [ "It's very hard to tell. There was some improvement and then there was Ukraine. And now, it's all mixed again. So, it's hard to tell." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Got it. And just one follow-up around you launched the U.K. digital bank last month. Any early wins in terms of how that's playing out? Any perspective on what the markers are as we think about how that strategy plays out? I'm sure you're going to talk about that at investor day, but just wondering any early thoughts." ] }, { "name": "Jamie Dimon", "speech": [ "We'll leave that to investor day." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And the next question is coming from Erika Najarian from UBS. Please go ahead." ] }, { "name": "Erika Najarian", "speech": [ "Hi. Good morning. My questions have been asked and answered. I'll see you guys at investor day." ] }, { "name": "Jeremy Barnum", "speech": [ "All right. Thanks, Erika." ] }, { "name": "Operator", "speech": [ "And there are no further questions in the queue." ] }, { "name": "Jamie Dimon", "speech": [ "Well, thank you very much." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks very much." ] }, { "name": "Jamie Dimon", "speech": [ "See you, I guess, at investor day." ] }, { "name": "Jeremy Barnum", "speech": [ "May 23rd." ] }, { "name": "Jamie Dimon", "speech": [ "OK. Goodbye." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2019-01-15	[ { "description": "Chief Financial Officer", "name": "Marianne Lake", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "James Dimon", "position": "Executive" }, { "description": "Buckingham Research -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "HSBC -- Analyst", "name": "Al Alevizakos", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "Vining Sparks -- Analyst", "name": "Marty Mosby", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "-- Analyst", "name": "Ken Usdin", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's Fourth Quarter and Full Year 2018 Earnings Call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation. Please standby.", "At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO, Jamie Dimon; and Chief Financial Officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thank you, operator. Good morning, everyone. I'm going to take you through the earnings presentation which is available on our website. Please refer to the disclaimer at the back of the presentation.", "Starting on page one. The firm reported fourth quarter net income of $7.1 billion and EPS of $1.98, on revenue of nearly $27 billion, with a return on tangible common equity of 14%. Market impacts aside, underlying business drivers remain solid, including core loan and deposit growth, consumer sentiment and spending in a robust holiday season, capital market activity and with credit performance continuing to be very strong across businesses. For the full year 2018, the firm reported revenue of $111.5 billion and net income of $32.5 billion, both clear records even adjusting for the impact of tax reform, and so we're entering 2019 with good momentum across our businesses.", "Turning to page two and some more detail about our fourth quarter results. Revenue of $26.8 billion was up $1.1 billion or 4% year-on-year driven by net interest income. NII was up $1.2 billion or 9% on higher rates and on loan and deposit growth. Non-interest revenue was down slightly with lower market levels impacting asset wealth management fees and private equity losses being offset by higher card fees and auto lease growth in CCB. Expense of $15.7 billion was up 6% year-on-year. The increase relates to investments we're making in technology, marketing, real estate and front office, as well as revenue related costs, including growth in auto. This was partially offset by a reduction in FDIC fees. As we had hoped, the incremental surcharge was eliminated effective at the end of the third quarter. And this is a benefit of a little over $200 million for the quarter across our businesses.", "Credit trends remain favorable across both Consumer and Wholesale. Credit cost of $1.5 billion were up $240 million year-on-year driven by changes in reserves. In Consumer, we built reserves of $150 million in card on loan growth. In Wholesale, over the last several quarters, we have seen net reserve releases and recoveries. However, this quarter we had about $200 million of credit costs. The gain largely reserve builds on select C&I client downgrades driven by a handful of names across multiple sectors. While we are constantly looking at a granular level foreshadows, these downgrades are idiosyncratic and do not reflect signs of deterioration in our portfolios. The outlook for credit as we see it, remains positive.", "Shifting to the full year results on page three. We reported net income for the year of $32.5 billion. Our return on tangible common equity of 17%, and EPS of $9 a share. Net income was a record for the firm as well as to each of our businesses even excluding tax reform. Revenue of $111.5 billion was also a record and was up nearly $7 billion or 7% year-on-year, $4.3 billion of which was higher net interest income on higher rates with growth and card margin expansion being offset by lower market NII.", "Non-interest revenue was up $2.5 billion or 5% driven by CIB markets and growth in Consumer, being offset by private equity losses and the impact of spread widening on SBA. We ended the year with adjusted expense of $63.3 billion, up 6%, which brings our overhead ratio to 57% for the year even as we continued to make very significant investments across the franchise. And although we are showing modest positive operating leverage on a managed basis, remember our revenues were impacted by lower growth results given tax reform. Adjusted for this, or looking on a GAAP basis, we delivered nearly 200 basis points of positive operating leverage for the year and well over 100 basis points for the full quarter. On credit, the environment remains favorable throughout 2018. Credit costs were $4.9 billion, down 8% driven by lower net reserve builds in Consumer as well as the impact in 2017 of student loan sale.", "Moving on to page four and balance sheet and capital. We ended the quarter with a CET1 ratio of 12% flat to last quarter. Risk weighted assets decreased with loan growth more than offset by derivatives counterparty and trading RWA given a combination in seasonality, market conditions and model enhancements. Our net payout ratio for the quarter exceeded 100% and we repurchased $5.7 billion of shares.", "Moving to Consumer & Community Banking on page five. CCB generated net income of $4 billion and an ROE of 30% for the fourth quarter. And for the year, nearly $15 billion of net income and an ROE of 28%. Customer satisfaction remains near all-time high across our businesses. For the quarter, core loans were up 5% year-on-year driven by home lending, up 8%; card, up 6%; and business banking, up 5%. Deposits grew 3%, growth continues to slow given the rising rates environment, but importantly we believe we continue to outpace the industry. Of note, this quarter, we opened the first 10 branches in our expansion markets including D.C., Boston, and Philadelphia. And although it's clearly early, reception in the market and the performance of the new branches have been strong. Despite volatile market, client investment assets was still up 3% and we saw record net new money flows for the year. Card sales were up 10%, debit sales up 11% and merchant processing volumes up 17%, reflecting a strong and confident Consumer during the holiday season.", "And in keeping with our focus on digital everything, of note, active mobile customers were up 3 million users or 11% year-on-year. Revenue of $13.7 billion was up 13%. Consumer & Business Banking revenue was up 18% on higher deposit NII driven by margin expansion. Home lending revenue was down 8% driven by lower net production revenue in a low volume, highly competitive environment. And of note, while not a material driver of overall expense, revenue headwinds here were offset by lower net production expense.", "And Card, Merchant Services & Auto revenue was up 14% driven by higher card NII on both loan growth and margin expansion. Lower cost net acquisition costs principally Sapphire reserves and higher auto lease volumes. Card revenue rate was 11.6% for the quarter and 11.27% for the year as expected. Expense of $7.1 billion was up 6% driven by investments in technology and marketing and auto lease depreciation, partially offset by lower FDIC charges and other expense efficiencies.", "On credit, net charge-offs were $18 million as modestly higher charge-offs in cards were more than offset by lower charge-offs in auto and home lending. Charge-off rates were down year-on-year across all portfolios. Economic indicators remain upbeat and given the breadth and depth of our franchise, we have a pretty good parameter. From everything we see, the US Consumer remains very healthy.", "Now turning to page six, on the Corporate & Investment Bank. CIB reported net income of $2 billion and an ROE of 10% on revenue of $7.2 billion for the fourth quarter. And for the year, net income of nearly $12 billion and an ROE of 16%. In banking, it was a record year for both total fees and advisory fees. We went number one in global IB fee for the 10th consecutive year gaining share across all regions. Fourth quarter IB revenue of $1.7 billion was up 3%. We saw continued momentum in advisory, with fees up 38% driven by the closing of several large transactions. For the year, we ranked number two in wallet gaining share.", "Equity underwriting fees were down 4%, but significantly outperforming the market. We ranked number one for the year and the quarter and so our leadership positions across all products globally, with particular strength in IPOs as well as in the technology and healthcare sectors. And debt underwriting fees were down 19% versus the strong prior year and better than the market. We maintained our number one rank for the year and continued to hold strong lead-left positions in high yield bonds and leveraged loans.", "Moving to market, total revenue was $3.2 billion, down 6% reported and down 11% adjusted for the impact of tax reform and slight in of margin loan loss last year. A confluence of factors throughout the quarter including trade, concerns around global growth in corporate earnings, fears of a more mortgage fare, as well as other negative headlines caused spikes in volatility, which were amplified by markets by assets and liquidity. And although we saw a decent client flow, rates rallied, spreads widened and energy prices fell significantly, all against general market condition that was anticipating a stronger end to the year.", "As a result, fixed income markets in particular were challenging with revenue down 18% adjusted. Weaker performance across rates, credit rating and commodities was partially offset by good momentum in emerging markets. Equities revenue was up 2% adjusted, a solid end to a record year. Prime continued to do well, but we saw clients deleveraging over the course of the quarter and cash and derivatives are solid in a tougher environment.", "Treasury Services revenue was $1.2 billion, up 13% driven by growth in operating deposits as well as higher rates, but also benefiting from fee growth on higher volumes. Security Services revenue was $1 billion, up 1%. Underlying this was strong fee growth and a modest benefit from higher rates, together being substantially offset by the impact of lower market levels and the business exit. Credit Adjustments & Other was a loss of $243 million, reflecting higher funding spreads on our derivatives.", "Finally, expense of $4.7 billion was up slightly with continued investments in technology and bankers, and volume-related transaction costs, partially offset by lower FDIC charges and lower performance based compensation. The comp-to-revenue ratio for the quarter and for the year was 28%.", "Moving to Commercial Banking on page seven. The Commercial Bank reported net income of $1 billion and an ROE of 20% for the fourth quarter. And for the year, $4 billion of net income and an ROE of 20%. Revenue of $2.3 billion for the quarter was down 2% as the prior year included a tax reform related benefits, excluding its revenue was up 3% driven by higher deposit NII. Gross IB revenue of $600 million was down 1% year-on-year, but up 4% sequentially on a strong underlying flow of activity particularly in M&A. Full year IB revenue was a record $2.5 billion, up 4% on strong activity across segments, in particular, middle market banking, which was up 8%. Deposit balances were up 1% sequentially as client cash positions are seasonally highest toward year end, although down 7% year-on-year as we continue to see migration of non-operating deposits to higher yielding alternatives. We believe we are retaining a significant portion of these flows.", "Expense of $845 million was down 7% year-on-year, as the prior year included $100 million of impairment on leased assets. Excluding this expense, was up 5%, driven by continued investments in the business in banker coverage, as well as in technology and product initiatives. Loans were up 2% year-on-year and flat sequentially. C&I loans were up 1%, reflecting a decline in our tax exempted portfolio given tax reform. Adjusting for this, we would have been up 4%, which is still below the industry as we focus on client selection, pricing and credit discipline.", "But keep in mind in areas where we have chosen to grow such as in our expansion markets, we are growing at or above industry benchmarks. CRE loans were up 2%, also below the industry, as we have proactively slowed our growth due to where we are in cycle through continued structural and pricing discipline and targeted selection of new deals. Underlying credit performance remains strong with credit costs of $106 million including higher loan loss reserves largely due to select client downgrades.", "Moving on to Asset & Wealth Management on page eight. Asset & Wealth Management reported net income of $604 million, with a pre-tax margin of 23% and an ROE of 26% for the fourth quarter. And for the year, net income was nearly $3 billion, pre-tax margin of 26%, and an ROE of 31%. Revenue of $3.4 billion for the quarter was down 5% year-on-year, with the impact of current market levels driving lower investment valuations and management fees, as well as to a lesser extent, lower performance fees. These were partially offset by strong banking results and the cumulative impact of net inflows.", "Expense of $2.6 billion was flat, as continued investments in advisors and in technology were offset by lower performance-based compensation and lower revenue-driven external fees. For the quarter, we saw a net long-term outflows of $3 billion with strength in fixed income more than offset by outflows from equity and multi-asset products. Additionally, we had net liquidity inflows of $21 billion. For the tenth consecutive year, we saw net long-term inflows of $25 billion this year, driven predominantly by multi-asset, and in addition, saw $31 billion of net liquidity inflow this year.", "Asset from the management of $2 trillion and overall client assets at $2.7 trillion were both down 2%, as the impact at market levels more than offset the benefit of net inflows. Deposits were flat sequentially and down 7% year-on-year, reflecting migration into investments and we continue to capture the vast majority of these flows. Finally, we had record loan balances, up 13%, with strength in global wholesale and mortgage lending.", "Moving to page nine, and Corporate. Corporate reported a net loss of $577 million. Treasury and CIO net income of $175 million was up year-on-year, primarily driven by higher rates. Other Corporate saw a net loss of $752 million, including, on a pre-tax basis, funding our foundation for corporate philanthropy, $200 million this quarter, flat year-on-year, and including a $150 million of markdowns on certain legacy private equity investments market related.", "The remainder is driven by tax-related items, totaling a little over $300 million, and within this are two notable components. The first is regular weighted tax reserve, and second, represents small differences between the effective tax rate for each of our businesses and that for the overall company as we close the year. So therefore there is an offset across our businesses. Our full year effective tax rate was just a little over 20%, in line with guidance.", "Moving to page 10, and outlook. We will give you more full year outlook and sensitivity information at the Investor Day, as always. However, for now, I did want to provide some color and reminders about the first quarter. Net interest income will continue to benefit from the impact of higher rates on growth, but quarter-over-quarter will be negatively impacted by day count, and we expect the first quarter NII to be relatively flat sequentially. While it is too early clearly to give guidance on fee revenues, it's also fair to say that this quarter markets feel calmer and more positive and capital markets pipelines are strong. So if the environment remains supportive, we would expect normal seasonal strength in the first quarter. But I will remind you that the first quarter of 2018 included a $500 million accounting write-off, as well as broad strength in performance. Expect expense to be up mid-single digits year-on-year, obviously market dependent, primarily annualization effects. And finally, as I said, we expect credit to remain favorable across products.", "So, to close, while the market in the fourth quarter were more challenging, we should not leave sight of the fact that 2018 was a strong year, indeed a record for revenues, net income and EPS, both reported and adjusted for tax reform. Fundamental economic data remains supportive of continued growth and we're generally constructive on the outlook for 2019. We have good momentum coming into the year and the Company and each of our businesses are very well positioned.", "With that, operator, we can open up the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Our first question is from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Erika." ] }, { "name": "Erika Najarian", "speech": [ "So, the way Bank's stocks have performed, clearly, investors are starting to worry about revenue trends near-term and of course credit which you addressed. I'm wondering if the revenue trends continue to be weaker than expected, if the overhead ratio of 57% that you posted in 2017 and 2018, is something that you could continue to level off to or will the investment horizon be more of a dominant factor when we're thinking about the overhead ratio?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I would say a couple of things. The first is just to remind you, that 2017 and 2018, I would look at a GAAP rather than a managed basis because of the adjustments to our revenues from tax reform. But that said, we have -- while we don't set expense targets nor do we set overhead ratio targets, we have given you some outlook that would suggest that we continue to believe that a combination of revenue growth and expense discipline notwithstanding the investments that we've been making. We should see our overhead ratios continue to be stable to trending down to the kind of mid-50%s or 55%-ish. Obviously, the timing of that will depend on rates and markets and everything else. So we would expect to continue to deliver positive operating leverage on higher NII on growth if nothing else and continued solid growth in fees. Clearly, in any one quarter, you can have pluses and minuses that can be market dependent, but generally over time we would still expect those trends." ] }, { "name": "Erika Najarian", "speech": [ "Thank you for that. And just as a follow-up question, the market is also thinking that the last rate hike from the Fed was December. And I'm wondering how we should think about the dynamics of net interest income and more specifically net interest margin and deposit pricing if December was indeed the last rate hike for sometime?" ] }, { "name": "Marianne Lake", "speech": [ "So I would say, first of all, just to say that -- the question mark about whether that's a pause or a stop, is it the end of a cycle, we don't think so, we think the outlook for growth in the economy is still strong, the consumer is still strong and healthy and we're expecting to still see maybe slower but still global growth going forward.", "Having said that, just as a general matter, you've seen through our earnings at risk, as we have put more and more of the benefit at past rate hikes in our run rate each incremental hike from here has while still positive significantly lower sort of incremental NII drive and that the front end skew is a lower percentage. So it's not nothing, so clearly lower front end rates or lower long end of the curve or a flatter curve, all other things would be modestly negative.", "But against that, you kind of pointed out the potential for this to lead to lower or slower reprice. And so, as the Fed pauses, it is fair to say there could be an offset from lower reprice as people digest the data and understand whether this is a pause or no. We would still look at -- we delivered $4.3 billion of NII growth in 2018, we'll still benefit in 2019 from the annualization effects of the higher rates we've already had as well as solid growth. So while you can't expect 2019 over 2018 to be at that level, it would still be strong NII growth year-on-year." ] }, { "name": "James Dimon", "speech": [ "I would just add the why is equally, if not more important than the what. So if you -- if it is a pause because you're going to go into recession, you're going to reduce rates, that obviously is very different than if it's a pause, the economy is strong in their wage rates. You know which one you would choose." ] }, { "name": "Marianne Lake", "speech": [ "Right. And this is where the end of a cycle, it's no cycle we've ever seen before. So, in that scenario, if term loans and fund rates are at 2.5% -- no, 4%, 4.5%, 5%, 5%-plus, I think we've never seen that movie before, but that's not our central case. And by the way, the house fee, the research fee would still be to see incremental hikes this year, if not in the first half, in the second." ] }, { "name": "Operator", "speech": [ "Our next question is from Jim Mitchell of Buckingham Research." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Maybe a question on the card business. There's been chatter about sort of pulling back on rewards to kind of focus more on profitability. I guess, how do you think about the strategy in cards right now? And can that -- I think the revenue yield in the card business was up 7 bps to 11.57%. Can that go higher from here as you maybe pull back on rewards?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah, I would say that, when we think about the product continually have in the constructs, rewards is a very important part of driving engaged relationships with our customers. Customers are very attuned to it and are looking for value in the product. Value and simplicity, and ease of use are the three things in the products that we deliver. And so, for us, engaged relationships drive profitability. This is a -- still a very profitable business. And so while we'll always make adjustments to our offerings, it's not the case that we are looking at meaningful pull back -- pull back in rewards.", "And if you think about things like Sapphire Banking where we're looking to bring the impact of our products together, we're continuing to offer rewards based incentives to drive engagement with our customers. So we think it's a solid strategy, a business that already has good returns. It's fair to say that we've seen a lot of competitive response and competitive products in the marketplace that are driving high rewards, offerings too, and we've not seen that lower our ability to net acquire new accounts. So we feel great about the value proposition, the simplicity and the compelling products that we have." ] }, { "name": "Jim Mitchell", "speech": [ "Okay. So we think we about --" ] }, { "name": "Marianne Lake", "speech": [ "That's already a very profitable business." ] }, { "name": "Jim Mitchell", "speech": [ "Right. And so we think about still seeing decent growth. How do we think about card losses specifically this year? You seem pretty optimistic on credit. Should we still expect some seasoning or do you think the macro trends are that positive that we hold steady? How do you think about credit in cards?" ] }, { "name": "Marianne Lake", "speech": [ "So I think the macro trends are definitely positive, so they are creating tailwinds. But it's also true, we talked about the fact that if you go back to 2014-2015 that we had expanded our credit books, we had expanded it intentionally at higher risk-adjusted margins. But over the course of the last couple of years, as we've experienced outperformance, we've done sort of surgical risk pullbacks and we've amended our collection strategy, all of which have led to a charge-off rate for the fourth quarter in 2018, that's down slightly year-on-year, and for the year that's at 310 basis points, which is reasonably meaningfully below our expectations even as late as the end of last year. So we feel great that that kind of loss trend at that 310 basis points, maybe a little bit higher, is something we should look forward to at least into 2019 and it will be helped by a supportive macro environment.", "And we are seeing -- if you unpick all of our trends, you see the phenomenon of three vintages, you'd see the mature vintages that continue to be stable to grinding lower in terms of delinquencies and loss rates. You see the older expansion vintages that have passed their peak delinquencies and are trending to a more stable low level. And then you do have, obviously, with new acquisitions, a cohort that are still seasoning, that will continue. But net-net, we're expecting a relatively stable loss rate that leveled similar to 2018." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Saul." ] }, { "name": "Operator", "speech": [ "And I'm sorry, his line has disconnected. Our next question is from John McDonald of Bernstein." ] }, { "name": "Marianne Lake", "speech": [ "Hey, John." ] }, { "name": "John McDonald", "speech": [ "Hi, good morning. Good morning, Marianne. Just wondering on the markets commentary, obviously super-early in the quarter, but you mentioned things feeling better. Can you just talk about seasonality there, but also just what feels better so far? And then also in the fourth quarter what you saw in leverage lending market? How much did you have to take in terms of maybe marks and leveraged loans and hung deals, a little bit of color there would be helpful." ] }, { "name": "Marianne Lake", "speech": [ "Sure. Okay. So I would say that obviously the fourth quarter was challenging and there was a lot of market moves, a big sort of broad set off. And at that point there were elevated concerns around trade, global growth data. It was causing concerns, there were concerns that the Fed was going to continue to be hawkish and not necessarily as responsive to some of the things the market was worried about. So there were a lot of negativity. We think too much negativity priced into the fourth quarter and it started to change a bit when we saw the first really strong unemployment print, which reminded people that there's a very long distance between 3% growth and a contraction.", "So yes, we could see slower growth, but still growth in the US and across the globe. A slightly more constructive narrative on trade and that continues to broadly progress, we hope and believe, in a positive direction, a more dovish outlook from the Fed, the potential for that to be pauses in rates, all being relatively supportive. And the fact that a lot of people were on the sidelines through the fourth quarter and investor appetite is out there for good value where it can be found. So I would say just early days in the first quarter, there are still obviously risks to the outlook and any of those things could go in both direction. But so far things just feel a little bit more positive and that's constructive. And therefore you would hope to see normal seasonal strength in January.", "On leveraged loans, look, sort of just start diving into the sort of potential for that to be hung bridges. It's true that there was a significant market correction where the spreads widening across high yield bonds and leveraged loans in the fourth quarter. Clearly, stepping back while the industry leverage finance commitments are up, they are materially down from before the crisis and very different. So credit fundamentals look pretty good.", "Having said that, and by the way, we paused on a lot of deals in the fourth quarter. We've maintained sort of protection in terms of flex pricing and flex protections. And as a result, the vast majority of our bridge book has still got a decent cushion. And that's not to say that there is no deals that have the potential for there to be net losses after fees, but nothing that we would consider to be significant and nothing in the fourth quarter.", "I would also say that coming back to the first quarter, that actually the market could be quite constructive for fixed income into the first quarter given a more dovish Fed supporting corporate margin, corporate default rates is going to stay pretty low and we do have time. So none of the deals that we have need to be booked to market in a hurry and the market is moving in a positive direction." ] }, { "name": "John McDonald", "speech": [ "Got it. Thanks very much." ] }, { "name": "Operator", "speech": [ "Our next question is from Al Alevizakos of HSBC." ] }, { "name": "Al Alevizakos", "speech": [ "Hi. Thank you for taking my question. I again want to focus a bit on the market's performance. You pretty much mentioned like weakness across-the-board in credit, in FX, in rates, which I assume like it's the case. First of all, I want a bit of an outlook on how you think rates will perform now that volatility has picked up. And more importantly, you mentioned strength in emerging markets. Can I ask whether that was primarily in Asia or LatAm? Thank you very much." ] }, { "name": "Marianne Lake", "speech": [ "So it's -- no good ever comes of talking about how we think things are going to pan out in the first quarter, other than just the general comments I've already made, which is the environment should be more constructive and we are expecting decent volatility in client activity and we'll see how that pans out. With respect to emerging markets, Latin America was a big piece, but Asia too." ] }, { "name": "Al Alevizakos", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question comes from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Can you hear me?" ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "Mike Mayo", "speech": [ "I guess, I'm a little torn between the year and the quarter. So I'll just ask it to Jamie. Jamie, it seems like you guys are very happy with the year with all the record revenues and earnings. But the fourth quarter, are you happy with the fourth quarter given expenses, credit fees?" ] }, { "name": "James Dimon", "speech": [ "I am fully happy with it. The franchise is strong. We're investing in new products and services, but we're not immune from the weather, volumes and volatility. We're not immune from market prices and assets going up or down. And I like the -- loans up 6%, and assets up sub-10%, long-term flow is up. I like the fact that credit card spend is up 10%, merchant processing is up 17%, shares in almost every business, market shares have gone up, that's what I look at. I really don't pay that much attention to being busted a little bit by the fact that volumes are low in the last three weeks of December. I honestly couldn't care less. And I look at more like in equities we've gained share and we're now bumping up to number one. Those folks have done a great job, of course, cash derivatives, prime broker, et cetera. And fixed income, we've maintained our share and we're adding products and services around the world and we don't know --" ] }, { "name": "Marianne Lake", "speech": [ "And even gained share." ] }, { "name": "James Dimon", "speech": [ "We don't know what's going to happen next quarter and I don't care." ] }, { "name": "Marianne Lake", "speech": [ "And we take the same position, like we had strong first half of the year, and we said, loan may continue but it may not. And one quarter doesn't make a trend and so we don't really react to that sort of micro even though it was driven by the macro. The real underlying business drivers continue to be strong and even in those businesses we are holding leadership positions and gaining share. And so there is two parts, and things will continue to move forward in a constructive manner." ] }, { "name": "Mike Mayo", "speech": [ "Well, as a follow-up, let's talk about the weather. So the weather is lousy at the end of the year. And Jamie, you were just appointed to your third year as Chairman of the Business Roundtable. So in that role, what are you doing to help JPMorgan and I guess the other banks, in terms of China, the government shutdown, immigration, some of these headline issues that Marianne talked about having hurt the CIB in the fourth quarter." ] }, { "name": "James Dimon", "speech": [ "Yeah, so December is terrible, but if you look at January, you have half of it back, genuine spreads and markets and stuff like that. And as BRT, I don't do anything to benefit JPMorgan. That's about public policy, that's good for the growth of American total. And it's very specifically stayed away from doing -- about banks there. But the BRT does take up trade and we are supportive of the fact there are serious issues with China. We'd like to see the trade deal gets done. It looks to us like they're marching along at least to this March 1st deadline date that they'll have -- enough will be done to kind of get an extension and hopefully complete the deal. We would like to see immigration reform, so proper border security, allowing people who have advanced degrees to stay here, having the doctors stay here, having more merit based immigration and having some path to citizenship. That is the BRT position. We want more innovation. We'd like to reduce regulations at the local and federal level to stop small business formation.", "So if you look at the BRT, there are 10 verticals around it and we try to do things that are good for the growth of America. And bad policy can slow down the growth of America. As I pointed out over and over, it takes 12 years to get the permits to build the bridge. I mean -- and it took us 8 years to put a man in the moon. It is time that we reform ourselves and not blame anybody else for our own lack of that we don't have kids getting out of school of educations, whether you get jobs, that our innovation slow down, the government R&D spending is down. I always think it's look at yourself looking to do better and there's plenty this country could do better to help growth over the long run. It's not about helping it next quarter." ] }, { "name": "Operator", "speech": [ "Our next question is from Glenn Schorr of Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi there." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Good morning. A follow up on John's question earlier on leveraged lending. On slide 24, you see the balance on loans held-for-sale go from like $6.5 billion to $15 billion. I heard your comments on marks. I'm assuming that that is just a disruption and you go back toward your normal level that's in the pipes and progress, but I just want to make sure that I'm not making that wrong assumption." ] }, { "name": "Marianne Lake", "speech": [ "Yes, we're not expecting anything to be elevated." ] }, { "name": "Glenn Schorr", "speech": [ "Okay, cool. And --" ] }, { "name": "James Dimon", "speech": [ "That number goes up or down all the time just based on episodic what is cleared out of the books. There's nothing on a number that we're afraid of." ] }, { "name": "Glenn Schorr", "speech": [ "Understood. Curious on the credit, on the couple of marks in C&I. I'm just curious on how much of that is internal versus external rating agency? And I guess it's a feel for the underlying fundamentals. So how do you know we should treat that as idiosyncratic as you call?" ] }, { "name": "Marianne Lake", "speech": [ "Yes, so it's internal and it's like five names, four sectors. We know the specifics. It is situationally specific. Remember, just to give you some context, for those who can drive the dollar value, regular way in any quarter, given the size of our portfolio, we might downgrade and upgrade hundreds of individual names based upon the circumstances. And so when we say that we're looking at this and saying that things are idiosyncratic, it's not just looking at the five situations that drive the biggest dollar value, it's also looking at the hundreds of downgrades and the hundreds of upgrades and seeing if there's any trends or net worrying signs there and honestly not now. And so if anything, marginally, we had more upgrades, but it's just there's nothing to see right now in our portfolios and we're looking." ] }, { "name": "Glenn Schorr", "speech": [ "Okay. Appreciate that." ] }, { "name": "James Dimon", "speech": [ "We look for reasons to put up reserves." ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "James Dimon", "speech": [ "Not to take them down." ] }, { "name": "Marianne Lake", "speech": [ "Only the paranoids survive. We are more paranoid than you are." ] }, { "name": "James Dimon", "speech": [ "Right." ] }, { "name": "Glenn Schorr", "speech": [ "Last one. Obviously, markets all went down in the fourth quarter and we had some freeze-ups, if you will, in high yield first time in like 10 years. But I'm curious how you all think the markets functioned in general. In other words, things went down, spreads widened out, there was lots of fear, but it felt like the plumbing was working, but I don't want to put words in your mouth." ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "James Dimon", "speech": [ "And half the people weren't even here the last two weeks in December." ] }, { "name": "Marianne Lake", "speech": [ "That's right. The plumbing was working. We didn't see any sort of algo or technology issues. We didn't see any volumes that can be coped with. While I said that there was a little bit of a lack of debt for the markets and liquidity, that's typically the case when you have one-way trends in a market and a lot of people similarly situated. So I would say that relatively functioned well, but challenging." ] }, { "name": "Operator", "speech": [ "Our next question is from Andrew Lim of Societe Generale." ] }, { "name": "Andrew Lim", "speech": [ "Hi. Good morning. Thanks for taking my questions. I just had a follow-on question from the vesting high-yield marks question. I mean, you seem to getting impression that there weren't really much in the way of marks. Is that because you got very strong hedging strategies in place and that the decline in FICC revenues mainly was due to the lower volumes?" ] }, { "name": "James Dimon", "speech": [ "There were no marks." ] }, { "name": "Marianne Lake", "speech": [ "There were no marks. In our bridge book right now, we have, for the vast majority, we have good cushion and we expect to be able to clearing price through the market and for anything that's even borderline, it's completely not material." ] }, { "name": "James Dimon", "speech": [ "And I think some of the field did have a few marks." ] }, { "name": "Marianne Lake", "speech": [ "Yeah." ] }, { "name": "James Dimon", "speech": [ "If you look at what happened to flex pricing, like mid-December, when things were at their worst, yeah, some of these things were very close to the end of their flex pricing, and that means they're very close to having some kind of mark. Of course, since then, the spreads have kind of come back 40%." ] }, { "name": "Marianne Lake", "speech": [ "Right." ] }, { "name": "Andrew Lim", "speech": [ "Interesting. Thanks. And then my follow-up question is that also mean the capital markets had a tough time. But your wholesale lending, the grids accelerated quite nicely. And do you get the impression that corporates had a general shift to seek borrowing from banks such as yourselves, because they were shut out of the market?" ] }, { "name": "Marianne Lake", "speech": [ "I mean, there was an uptick at the end of the year, you saw in the industry data, we saw it in our spot data. For us, in fact, it was largely driven by: one, investment grade loan that we extended at the end of the quarter, but there was a little bit of an uptick a little bit more in terms of acquisition financing on the balance sheet, but nothing I would call --" ] }, { "name": "James Dimon", "speech": [ "(inaudible)" ] }, { "name": "Marianne Lake", "speech": [ "No. Nothing that I would call unusual or a trend. We didn't have to take down things that would have otherwise not cleared the market." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. I want to circle back on the expense flexibility. I think, in your base case you're pretty clear that you're targeting positive operating leverage and moving down the efficiency ratio to the mid 50%s. But what is some of the expense flexibility and where would it come from if the revenue is light? I think, in 2018, you accelerated some of the technology spend given tax reform, you've been opening branches, some of that stuff obviously can't be pulled back. But you always talk about some areas of flexibility. So maybe what are those and if you could kind of size or help quantify some the flexibility you have, that would be helpful. Thank you." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So I would say, first of all, that you saw that from 2013 through 2016, we had a pretty structural expense reduction program associated with simplifying our businesses. So in terms of the low hanging fruit and things like that, we would say largely that's been harvested. We are always looking to generate core operating efficiencies, so that we can absorb growth. And when we are investing in technology and data, one of the reasons to do it, customer satisfaction, product innovation aside, is for efficiency. So we are seeing some that come through. We'll continue to drive that down." ] }, { "name": "James Dimon", "speech": [ "But the efficiencies and the investments are all in the number that Marianne gives and when she says up 5%." ] }, { "name": "Marianne Lake", "speech": [ "That's right." ] }, { "name": "James Dimon", "speech": [ "Roughly mid-digits for --" ] }, { "name": "Marianne Lake", "speech": [ "And so the way I would -- the way I would say it is that we continue to drive for expense discipline. But as long as you feel as we do that the decision criteria that we use to determine the investments we're making, which we think are strategically important for the long-term growth of the Company and the profitability of the Company supporting our clients, if those are good decisions for long-term growth, while we could obviously make changes, we would not look to do that. And so marketing expense, for example, is one area where you would say, there's pretty sizable and immediate flexibility nevertheless when we invest in marketing, we're driving new accounts and engage customers that drive long-term growth. So we invested through the cycle, we think it sort of differentiates our long-term performance and we'd like to continue to do that. 2019 over 2018, you wouldn't expect to see necessarily the same clip-ups that you saw last year. We did accelerate investments in 2018. And so more of the growth will be revenue-related, but still decent investments and the opportunity is still good to do that." ] }, { "name": "Matt O'Connor", "speech": [ "Okay. That's helpful. And then just on a sidebar here on the reserve bill as we think about credit quality, are we just in the period now where we should assume kind of some reserve build consistent with loan growth each quarter? Or was this just a quarter where you had a couple of the lumpiness that really drove it? I guess, what I'm getting at is, last quarter, you had --" ] }, { "name": "James Dimon", "speech": [ "We had pretty good model for it." ] }, { "name": "Marianne Lake", "speech": [ "Sorry, keep going." ] }, { "name": "Matt O'Connor", "speech": [ "I guess what I'm getting at is, like it's -- are we at the point where like just a couple lumpy loans is going to drive a few hundred million reserve build or is it just -- maybe this is a bit unusual still?" ] }, { "name": "Marianne Lake", "speech": [ "So, first of all, I just want to sort of point out that in the cards space, we hopefully continue to grow healthy mid-single digits. There's the seasonality to cards balances and losses, so you typically see reserve builds in the second half of the year, that's what we saw this year and actually a little bit lower year-on-year than last.", "And in the wholesale space, you're going to see some things will be a bit lumpier and episodic given the nature of the loans that we have. I wouldn't necessarily say that we expect to see a trend of some significant reserves, but we've been flatted by recoveries and releases over the course of the last couple of years, partly or in large part, at least earlier, releasing reserves we took on energy, when the energy went through the downturn. And so, we'll have some downgrades, we might have some releases. I would, net-net, think that, as we grow, we would build, but not disproportionately.", "And we're arguably at the best point in the cycle. So Jamie mentioned earlier, to the degree that we have the flexibility, we're making sure that we're reserved accordingly." ] }, { "name": "Operator", "speech": [ "Our next question comes from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hey, good morning. Sorry about earlier. I think I need to figure out how to use my phone. (Multiple Speakers) No comment there. Lot of talk on macroeconomics and the policy backdrop in volatile markets. But as you mentioned earlier, you guys are in a pretty unique position in that you have pretty consistent dialog with a lot of economic agents whether it's corporates, governments, institutional investors and whatnot. But just a sense of what your clients are saying, what are they concerned about. Is there any concern on your part that some of these issues have sort of a self-fulfilling effect in that, it does end up leading to actions that precipitate a downturn or a recession?" ] }, { "name": "Marianne Lake", "speech": [ "So, I mean, I think that we would look to the sort of macroeconomic data, which is still generally supportive and say things should be good. But for sure, the sentiment is not immune to external factors. And so manufacturing data has been a little weaker, I would say, CapEx is sluggish on, let's say, is around global growth. Government shutdown trades are not particularly helpful, uncertainly is not good for anyone. So there's no doubt that as things continue, if there's an level of anxiety and uncertainty, if it's not constructive for confidence and confidence to get stronger or less strong market. So, no, I wouldn't say, I think it's clear and present danger, but I think we should be extremely careful because sentiment, particularly consumer sentiment will be incredibly important. And right now, it's to good, right, sentiment in consumer and we just got back some sentiment from a whole bunch of our middle market companies that well neither are at their highs, are still very high." ] }, { "name": "Saul Martinez", "speech": [ "Right. Okay, that's helpful. If I could just ask about loan growth and just a more broad question about your ability to continue to outpace the industry and I suspect we'll get more color at Investor Day. But just want to get your sense of the sustainability of growth. And you mentioned on the commercial side, maybe you scaled back a little bit, maybe we're late cycle. But where do you feel like you can continue to outgrow the industry? Where do you feel like maybe it's time to scale back on risk a little bit?" ] }, { "name": "Marianne Lake", "speech": [ "Okay. So I mean, I think it's incredibly nuance question because in general, home lending has a challenging market backdrop. For us, it's tale of two cities. We're doing quite well and gaining a bit of share in the kind of retail purchase market. And we're holding sort of pricing discipline in correspond and losing share there. So there's a challenging market backdrop. Card was doing well at -- and it's a factor of all things we talked about, our investments in digital product, rewards, all of the above. So we would like to believe that we'll continue to hold our own there.", "Auto is extremely competitive. We play in prime, super prime space and we're seeing competition from people who have different economic drivers in our sight, credit unions and captives. And so we're willing to lose share to maintain returns there. You bifurcate C&I, we're growing in line or better than the industry in our expansion markets where we've been making the investments, where we've been adding specialized industry coverage, and we'd like to see that because of the investments we're making, but in mature markets where again being pretty prudent, I wouldn't call it tightening but being very selective.", "Commercial real estate, particularly construction lending, yeah, we are tightening, we are being very cautious about new deals and selective about them. So it isn't the case anymore that we would say we're seeking to grow, although we ever were, loan growth is an outcome of a number of factors, may need a strategic dialog with our companies, but also the environment we're in and it's extremely nuanced. And in many of our businesses, we're going to protect profitability and credit discipline over growth at this point." ] }, { "name": "James Dimon", "speech": [ "So let me just reemphasize that. We tell our management that we have no problem seeing loan books shrink." ] }, { "name": "Marianne Lake", "speech": [ "Correct." ] }, { "name": "James Dimon", "speech": [ "We are not going to be sitting here ever in our lives and say you got to grow the loan book, you got to show loan growth. Remember, Warren Buffett used to say, in insurance business, sometimes, during the little business you're better off with the sales force, go play golf in order to make new loans. We are not going to be stupid. And the other thing you have to always keep in mind is not the loan, it's the relationship if you look at in total. And so, when it comes to middle market or all these other things, there are reasons that we stay in a business knowing there's going to be a cycle and we're not going to be children when there's a cycle. We know the losses are going to go up." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Betsy Graseck", "speech": [ "Are we playing golf all day yet or is that still far away?" ] }, { "name": "James Dimon", "speech": [ "Credit is pristine. Mortgage credit is pristine, middle market is pristine, underwriting standard has been pretty good, other than a few little pockets that Marianne has mentioned. But we saw people stretching in auto, we saw some stretching and we're not in the subprime credit card, but a little bit or few stretching that in. Leveraged lending, we're not worried about our loan book. I think you can have a logical conversation with kind of the non-bank loan book, but that's not our concern and it is what it is at the time, so --" ] }, { "name": "Marianne Lake", "speech": [ "And I think where businesses are notably a little bit less relationship-driven, I think about kind of low loan new relationships, commercial term lending, real estate banking, mortgage, to a lesser degree, auto. We are seeing -- we are losing or ceding share where it makes sense to do it." ] }, { "name": "James Dimon", "speech": [ "And competition there, we've done this before, is back everywhere and that's a good thing for America. That means the pricing is a little tough, and that you have to compete." ] }, { "name": "Betsy Graseck", "speech": [ "Yes. So we're still off the golf course. All right. That's good. Just wanted to understand a little bit more on the expense side. I know it was a -- even with the weather, you guys put out a 14% ROTCE, which is obviously best-in-class. The question is, on the expenses, there's flexibility there, but yet I know you've got it to up-single digits in 1Q 2019. Based on the prior conversation, it seems like 1Q might be an aberration of mid-single digits or should I take that that's kind of the run rate you're expecting for the full year. So, why would 1Q be a little bit different, I guess, is really the question." ] }, { "name": "Marianne Lake", "speech": [ "Yes. So I wouldn't fully annualize the first quarter, but think about we've added bankers and advisors across our businesses, so you're going to get some annualization impact, particularly first quarter into first quarter. We had added more and more as the year progressed. Similarly something like auto lease where we grew our auto lease business, revenues and expenses strongly in 2018 and that will be in our run rate in the first quarter, so front office, auto lease, some of the technology investments we've been making, the annualization of those will be more pronounced first quarter to first quarter than fourth quarter to fourth quarter, because many of them were in our run rate in the fourth quarter. And then, outside of that, there's a bit more in real estate as we sort of execute on our head office strategy and then marketing, foundation completion, those things -- there are going to be timing.", "So the first quarter will be higher. I wouldn't annualize it. We are going to see likely growth year-over-year much more because of revenue growth than because of investments at both year-on-year not the same level as the last year. And we'll obviously give you a lot more detail and insights and thoughts on ranges and everything at Investor Day clearly." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Good morning Brian." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Hi, Marianne. Just a quick question on the balance sheet. I'm sorry if you gave this already, but can you kind of walk through the idea of lowering down the deposit with banks and kind of moving into repo what you saw in the quarter, and then kind of, is that just something that was temporary that's expected to reverse in the first quarter? Thanks." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, so, I mean, it's fair to say that money market rates traded above IOER throughout the fourth quarter and more pronounced at the end of the quarter. And so, through the quarter and that year end, we were able to take advantage of the market opportunity to move out of cash into cash alternatives, thinking of reverse repos and short duration assets. And so for us, it was yield enhancing opportunity to redeploy cash and a mix change rather than adding duration and that continues to be the case into the first quarter. It contributed to our NIM expansion in the fourth quarter. We continue to have a bit of that mix shift in the first quarter and it's a market opportunity." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Okay. And then a separate question, I know it's not a big revenue driver anymore, but within the mortgage banking, you had a negative gain on sale in the quarter. If you can just give us some color there what drove a negative gain on sale." ] }, { "name": "Marianne Lake", "speech": [ "Yeah, so in the quarter, as we were looking at optimizing our balance sheet, we actually did a sale of conforming loans to the GSEs of about $5 billion. The impact of that was to have a loss on the sale of the portfolio given that they've been originated at lower rates. So as rates are higher, the fair value of the loans is lower. Against that, if you were to look at the rest of the P&L, you'll see a benefit in net interest income because the interest rate risk of that has been transferred to the Treasury Department. So it's geography. It's is a loss on the sale of a portfolio against which there's funding breakage in NII. Just so that you know, when we -- our mortgage loan with RWA at 50% versus a security at 20% with better liquidity value. We did reinvest some of those proceeds in mortgage-backed securities in Treasury. So we'll earn that back over time, net to the company." ] }, { "name": "Operator", "speech": [ "Our next question is from Steven Chubak of Wolfe Research." ] }, { "name": "Steven Chubak", "speech": [ "Hey, good morning. So wanted to start with just a bigger picture question on credit and the impact of normalization. Certainly the near-term guidance sounds quite encouraging. Jamie, you did make a comment recently at an investor conference, talking about how the banking industry is over-earning on credit, not particularly a controversial remark, but in the past you guided to a medium-term loss rate, blended basis of roughly 65 bps that does contemplate continued loan losses in Commercial. And just given that we're late cycle, I was hoping you can maybe speak to your expectation for what a normalized credit loss rate is for JPMorgan, given your current mix and where that might differ from your medium-term loss guidance?" ] }, { "name": "James Dimon", "speech": [ "So we're not talking quarter-over-quarter, we're just talking in general trends?" ] }, { "name": "Steven Chubak", "speech": [ "I'm talking bigger picture." ] }, { "name": "James Dimon", "speech": [ "Right. So Marianne has shown, year-to-year, what are consider normalized losses and for years we've been doing better than that, in credit card, middle market, large corporate, mortgage has come back down to a very low number. And at one point, it is going to go up. So I'm not -- we're telling you what's going to happen next quarter. Right now it looks like it's kind of steady state. But at one point, we will not be surprised to see it go up. I don't know if it could be second quarter or third quarter or fourth quarter and I don't know if we're late cycle. We don't exactly know where we're in the cycle and so we just won't be surprised to see it go up in the number. We look at it by product, we don't look at it in a total as it can actually -- the number may vary against the total." ] }, { "name": "Marianne Lake", "speech": [ "No, no. And I think -- I hate to say this because I know that you don't want to wait a few weeks, but we'll have a more complete conversation about kind of range of plausible outcomes on credit at Investor Day. But when we gave our medium-term simulation, we said, listen, we did a 17% return on tangible common equity in 2019 and our medium-term guidance is for 17%. We've under-earned against our guidance in other parts of the cycle, maybe we will over-earn against it, but NII and refi flags are higher and credit is benign, and at some point, we would expect those things to normalize, but we would continue to see solid growth in all of our drivers. So we don't know when it will be and actually we don't see anything that things -- I know you said, is it second, third or fourth quarter. There's no indication that it's in any of those quarters. But we'll have a more comprehensive discussion at Investor Day about range of plausible outcomes." ] }, { "name": "Steven Chubak", "speech": [ "All right. Looking forward to that. And just one follow-up for me on the IB outlook. Marianne, I was hoping I could unpack just some of your comments around the -- how the IB backlog. You cited that as being quite strong, but just looking at the individual businesses for M&A, ECM, DCM, especially given some of the economic pressures outside the US, what informs your outlook across each of those?" ] }, { "name": "Marianne Lake", "speech": [ "Yes. So I would say that, first of all, we did see given the conditions in the fourth quarter a number of deals that got pushed from the fourth quarter into the first quarter, particularly in ECM and DCM. In M&A, it was a little bit more balanced. For every deal that got pushed or stopped there, there were more that came to take its place. But as a result, now as we go into the first quarter, pipelines across the board are elevated relative to last year are pretty strong. And at the end of the day, we talked about earlier, confidence is still high. Companies are still motivated to drive growth.", "And so the environment should be constructive for continued M&A. Technology, healthcare, the biotech innovation, technology innovation momentum in ECM that we've been benefiting from and the IPO pipeline should continue market dependent. And notwithstanding December, actually a sort of lower outlook for rates in the US should broadly be a tailwind for fixed income in the first quarter in the first-half. So the second half of the year, I think, is going to be determined by how things shape up over the next several months. But looking into January, again, if the market remains generally constructive, we should see tailwinds across the businesses." ] }, { "name": "James Dimon", "speech": [ "And I think the intentional backlogs, generally, you want them high because that's good, but they're all like an accordion too, they come and go. So that's not a forecast for the future that you'd definitely get those revenues, then you get delayed, particularly things like IPOs that you've already seen. And the other thing I'd just want to point out is a shout out to the folks in the investment bank, our market share went up in Europe, Asia, Latin America and the United States last year. That's what we really look at when we look at the business." ] }, { "name": "Marianne Lake", "speech": [ "60 basis points, full year, approx." ] }, { "name": "James Dimon", "speech": [ "60 basis points, full year. And first time ever it went up in all four major markets." ] }, { "name": "Operator", "speech": [ "Our next question is from Marty Mosby of Vining Sparks." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Marty." ] }, { "name": "Marty Mosby", "speech": [ "Good morning. Jamie, I'm glad that you mentioned that we don't know the red in of the cycle because that's kind of just assumed because of the lapse of time, but not really the economic factors. And then the other piece of this is when you look at losses, they tend to be good until they go into recession then they're bad. There's no just kind of normalization. So the question about a normal rate of loss that we really have two dichotomous answers. We have a good answer, which is when we're expanding and the economy is stable. And we have a bad answer, one, our recession, it's kind of one or the other. Just wanted to see what you thought about that." ] }, { "name": "James Dimon", "speech": [ "Yeah, you're exactly right. At one point, you're going to over-earn, and one point you're going to under-earn. And we try to -- when we look at the business, we kind of try to price through that. So we try to earn fair returns through the cycle. And I totally agree with you. We know it's going to -- they're going to change at one point. And we try to do a better job underwriting too, by the way. We're not -- we do work hard and make sure we out-underwrite other people as best we can." ] }, { "name": "Marty Mosby", "speech": [ "What's then the limits of volatility when you go into that bad period, which is what you want to do; you underwrite -- make sure you're defending against that cycle?" ] }, { "name": "James Dimon", "speech": [ "Exactly. And the other one you have is the reserves. You put them up, you take them down. So our total reserves, what $14 billion?" ] }, { "name": "Marianne Lake", "speech": [ "Yes, $14 billion and a bit." ] }, { "name": "James Dimon", "speech": [ "Yeah, but at one point, they were $30 billion. So we went from -- in the great recession, we went from $7 billion to $30 billion, back to $14 billion. And I call it income paper." ] }, { "name": "Marianne Lake", "speech": [ "Right." ] }, { "name": "James Dimon", "speech": [ "It doesn't mean anything. It's just -- right, so when you go into that recession, your losses go up, any reserves have to go up. And we're completely aware of that." ] }, { "name": "Marianne Lake", "speech": [ "Although I think we could say for obvious reasons that we wouldn't expect any near-term recession if there is one to look anything like it did before. And even if it did, given the credit quality of the portfolios, performance will be not only absolutely better, but we think strong on a relative basis." ] }, { "name": "James Dimon", "speech": [ "So other than if you look at the consumer that $13 trillion that's outstanding, other than student, which is fundamentally own by the government, the mortgage stuff that's been written is prime. So it's back to $10 trillion, but it's much better than what it was in 2007. And I think credit card, I forgot the exact numbers, it's much more prime than it was in 2007. I think orders are about the same, but order actually outperformed in the --" ] }, { "name": "Marianne Lake", "speech": [ "There's more prime." ] }, { "name": "James Dimon", "speech": [ "Yes, more prime, and outperformed in the Great Recession. I think, people, in general, has done a better job underwriting middle market and leverage stuff than it did last time. So I think you don't need -- if you start a recession soon, going into it, their credit portfolio is much stronger than last time." ] }, { "name": "Marty Mosby", "speech": [ "And the follow-up question to that is we talked about auto and some of those other places where you saw some of that deterioration. What our models showing is that actually the discipline and the reaction time to that deterioration is much quicker than when we saw the one to four family cycle in the last time, where you saw deterioration but growth just kept going. We've had so many banks jump in and say, look we've already pulled back on auto lending or we pulled back on multi-family. There's already been places where you've seen that discipline. So that discipline in itself puts a governor on economic growth which is why we're having less growth or slower growth, but yet it also creates a, like you said, a stronger portfolio for that eventual downturn." ] }, { "name": "James Dimon", "speech": [ "And I agree with you, the lack of discipline we see is in student and a little bit in small commercial real estate." ] }, { "name": "Operator", "speech": [ "Our next question is from -- I'm sorry." ] }, { "name": "Marianne Lake", "speech": [ "No, keep going." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning, Marianne." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Gerard Cassidy", "speech": [ "Can you guys -- there's been a lot of talk about leveraged loans and how this time around everything seems to be underwritten better. Are there any tangible statistics that you can share with us or maybe on Investor Day you might, to show us that, yes, the leveraged loan portfolio for you guys in particular is much healthier than maybe 2006, 2007?", "And then second, on this leveraged loan issue, outside the banking industry, what are some of the indirect hits that you and maybe some of your peers may experience, none from the direct hit of a leveraged loan, but for some of the craziness that's going on outside the banking industry?" ] }, { "name": "James Dimon", "speech": [ "So can I just give the big picture, I think $1.7 trillion of leveraged loans, OK. So Term A is about half of that. These are very rough numbers, OK? Most of which were banks and obviously safer than Term B. A big chunk, over, I think, 60% or 70% of the Term B is with non-banks. And so, if you look at the banking system, if you look at the leveraged lending rich book in 2007, it was over $400 billion, today it's a number like $80 billion. In 2007, there were commitments in no flex. Almost everyone has plenty of flex now.", "So when you look at covenants, there is kind of covenants, but there's flex and there is a whole bunch of other stuff in there. So it is far, far, far sounded today. Even these CLOs, you look to underwrite the two CLOs, they are far better underwritten with more equity, more sub-debt, more mezzanine stuff like that. And now go to the shadow banks, they do things slightly differently, a lot of those folks are -- they're quite bright. They kind of know what they're doing. Someone's going to get hurt there.", "And the issue there in the next recession isn't going to be what the loss. And remember, most of the major banks don't fund a lot of that. We aren't taking huge indirect exposure to that by funding some of the non-banks. And I think the issue there is, for the marketplace, is going to be, when you have a real recession, the lender will not be there. So lot of these borrowers will be stranded. And so that -- and that's not -- that's an opportunity or a risk or something like that, but it's not -- I wouldn't put it in the systemic category." ] }, { "name": "Gerard Cassidy", "speech": [ "And do you think that --" ] }, { "name": "James Dimon", "speech": [ "By the way -- again, if you go back to 2007, it emerged in 2007, there was $1 trillion of bad mortgages that were kind of all over the place, the CLOs, SIBs. There are no SIBs. The CLOs are much smaller. The leveraged lending book is a much smaller book. Capital liquidity is much higher. So, it is nothing like 2007. You will have a recession, it just won't be like you had last time, affecting the banking system. It will affect the banking system. We are little bit canaries in the coal mine. We are not immune to what goes on in the economy. But it won't be anything like you saw last time for most of the larger banks." ] }, { "name": "Gerard Cassidy", "speech": [ "No, I would agree with that. And do you think Janet Yellen and other Federal Reserve officials comments about leveraged lending is more directed to the exposure outside of the banking industry than inside the banking industry?" ] }, { "name": "James Dimon", "speech": [ "Yes, I do." ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "James Dimon", "speech": [ "And again, I don't think they were saying it's huge and systemic. They're saying it's something they should keep an eye on. And I think that the regulatory do keep an eye on that." ] }, { "name": "Gerard Cassidy", "speech": [ "Right. And then just a pivot on a deposit question. Obviously, non-interest-bearing deposits are tough to keep as rates are going higher. Can you guys give us some color on the non-interest-bearing deposits? There was obviously a small decline. What parts of the business you're seeing that and the Fed's unwind of its balance sheet how much of an impact do you think that might be having on the non-interest-bearing deposits?" ] }, { "name": "Marianne Lake", "speech": [ "So, the migration into product from non-interest to interest-bearing is predominantly or largely exclusively a wholesale thing. At this point there is not enough rate benefit in the interest-bearing savings to drive into product migration, definitely some growth outlook in CDs given pricing, but it's wholesale right now and it's mainly rate-related and not balance sheet related in terms of the Fed unwind." ] }, { "name": "James Dimon", "speech": [ "Can I just make a comment about interest rates and the balance sheet of Fed? So, the interest rate is one thing but the balance sheet of Fed obviously is causing changes in the flow of funds. It's causing changes in -- the banks now have options other than reserves at the central bank because the two-year and three-year bond yields for corporate -- government bond is much higher, some people are preferring to own that, because they think they'd be paid better than corporate risk. So, changing the whole bunch of fund flows which concerns people, but I'd say it's part and process of normalization." ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "Operator", "speech": [ "Our next question is from Ken Usdin of Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Hi, thanks." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Ken." ] }, { "name": "Ken Usdin", "speech": [ "Hi. Good morning. There were couple of Fed or regulatory documents out in late December, one is codifying the three-year burning of stated CECL impacts. And then another one where they are pushing out till 2022 on their own implementation of CECL accounting in the supervisory stress test? I was just wondering, just any takeaways you had from reading that and any hopes you might have for just as we get toward some finalization of which way CECL goes and how it looks, aspirations around that and how that interacts with CCAR and such?" ] }, { "name": "James Dimon", "speech": [ "Before Marianne answers that question, I just want to do a shout out to Jefferies, because we actually look at what everyone does and every investment banking group, and you guys did a hell of a good job in healthcare this year." ] }, { "name": "Ken Usdin", "speech": [ "I'll pass that along, Jamie." ] }, { "name": "Marianne Lake", "speech": [ "And following that -- it's hard to follow, I would say that we've been pretty clear about the fact that our biggest concern around CECL was like properly understanding not just for us but regulators to properly understand the implications for capital, not only in benign but in stressed scenarios, and what the implications of the outcome that it could have on the willingness of people to extend credit, particularly as cycles age and with the outlook for volatilities to increase. So, having a transition is obviously helpful. You should imagine that we would likely avail ourselves of that opportunity. That is what it is.", "For me, the question that needs to be clarified is, if we are to include the impact of CECL in Company-run stress test, but the Federal Reserve is not going to include it in the stress test, we need to kind of understand the insight between those two things, particularly if that might coincide with a turn in the cycle in actual fact. So I think we're looking for continued clarity from the regulators about what exactly that means. If we're embedding these assumptions into our stress tests and our results sooner than they are, how do we think about the implications of that on our distribution plans and capital outlooks.", "And importantly, if it really is the case that we have to upfront significant amounts of capital for longer term and lower credit quality loans, I do really believe even though the cash flows and the economics conceptually don't change that you might find people less willing to lean into growth for longer duration assets if there are concerns around potential volatility and we should worry about that." ] }, { "name": "James Dimon", "speech": [ "And it'll be a big number for like credit card. So, if you put on 3% now on when you build the loan book by $100, the number would be 6%. Some number in the future will be much higher. So I do think particularly smaller banks will react fairly dramatically on how they run their loan books to do that." ] }, { "name": "Marianne Lake", "speech": [ "So, our view is that more on that just needs to be done in the industry about what this looks like. I hope that what was meant by we should include it in company run stress test is for us to collectively learn and for the regulators to have the time to respond to that. But remember, 2022, considering all the discussion we've had on this call about the cycle, how long the cycle is, when there's a turn in the cycle, I mean, we could actually face a stress before that. And so it's great that they are waiting a bit, but it might all be a bit of an academic point depending on what happens actually." ] }, { "name": "Ken Usdin", "speech": [ "Yeah. That's a fair point. And, Jamie, you've also said in the past that you guys lend on accounting, right -- don't lend on accounting and lend on economic, right, but there's this kind of challenge to that that Marianne just mentioned about the unintended consequences. And so, it would be interesting to see that if there is in fact a point where banks don't lean in as you just mentioned, Marianne." ] }, { "name": "Marianne Lake", "speech": [ "Yes." ] }, { "name": "James Dimon", "speech": [ "They will change." ] }, { "name": "Marianne Lake", "speech": [ "Yes. And we have the luxury or the flexibility of being able to say that we can continue to lend based upon the underlying economics, but someone who has a differently situated balance sheet and return profile may not be able to do that." ] }, { "name": "Ken Usdin", "speech": [ "Okay, thanks for the color." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo Securities." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Hi. A follow-up on the net interest margin, two sides to the question. One is, commercial loan pricing, I guess, it's been kind of brutal you've had the BDCs, private equity firms, loan funds all competing. Has there been any let up with some of the dislocation the capital markets late in the year? And the other side, retail deposit betas, Marianne, you thought they would get a lot worse. I don't think it's been as bad as you thought. What was your retail deposit beta and what do you still expect?" ] }, { "name": "James Dimon", "speech": [ "Before Marianne answers that, can I just go back to the cyclical stuff? One of the issue -- it's not just CECL. A lot of things that have been built and since the crisis were really good, but there was more pro-cyclicality built into it. And so you're going to see the next downturn that we have a far more pro-cyclical accounting, liquidity and rules, capital rules and stuff like that, which we don't know the full effect of that. But if I was a regulator, I'd be very cautious about constantly building pro-cyclicality into the system. And I gave you the example, is our loan loss is going from $7 billion to $30 billion or whatever they went to back to $14 billion. It will affect how people respond to in the downturns. And it will cause people to pullback much quicker than maybe in the past in total." ] }, { "name": "Marianne Lake", "speech": [ "Okay. So, just on your question, so corporate loan spreads, I would say, we did see sort of pretty brutal grinding down in corporate loan spreads. But over the last actually couple of quarters, we saw them find a bit of an equilibrium and stabilize at levels. So while I would say it's still true to say that there is a lot of competition, at least in the space in which we're operating we're seeing spreads at relatively stable levels in the corporate space. And honestly, I don't remember saying that I thought we would see an acceleration that was dramatic in retail betas in the short-term. I mean, obviously at some point when we have this level of rates and the spread between market rates and rates paid get to a certain level and if normalization continues, we would expect to see reprice lags sort of catch up. But, we have not seen that yet outside of CDs in retail space right now." ] }, { "name": "Mike Mayo", "speech": [ "And the way you calculate it, what was your retail deposit beta this quarter and how does that compare to the past?" ] }, { "name": "Marianne Lake", "speech": [ "So, in checking and savings and lead savings, it's nothing. In CDs, it's something, but around to a very small number." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thank you." ] }, { "name": "Marianne Lake", "speech": [ "Thanks, Mike." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Just a quick follow-up, Marianne. Have your investment bankers on the front lines passed on any concerns about the government shutdown? There's been reports that the SEC is not open. And is that slowing down the Investment Banking business and your thoughts on that, please?" ] }, { "name": "Marianne Lake", "speech": [ "Yes. So, I would say that we've been -- we benefited from the fact that year-end and into the early part of January and holiday season have a light calendar, typically in January for IPOs in particular. But for sure, if we don't see the ability to get approvals from SEC on IPOs and to a lesser extent some of the M&A deals that need approvals from government agencies, it will be problematic in the ability to see those activity levels play out and fees be realized. So, it's one of many things that would behoove us to end this sooner rather than later." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Marianne Lake", "speech": [ "Thanks very much." ] }, { "name": "James Dimon", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "This concludes today's conference call. You may now disconnect." ] } ]
JPM	2018-04-13	[ { "description": "Chief Financial Officer and Executive Vice President", "name": "Marianne Lake", "position": "Executive" }, { "description": "Sanford C. Bernstein -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Wells Fargo -- Analyst", "name": "Michael Mayo", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew O'Connor", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erica Najarian", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "The Buckingham Research Group -- Analyst", "name": "James Mitchell", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Kenneth Usdin", "position": "Analyst" }, { "description": "UBS Investment Bank -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Chris Kotowski", "position": "Analyst" }, { "description": "HSBC -- Analyst", "name": "Alevizos Alevizakosof", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Please stand by. We are about to begin. Good morning, ladies and gentlemen. Welcome to JP Morgan Chase's First Quarter 2018 Earnings Call. This call is being recorded. Your line will be muted for the duration of the call. We will now go live to the presentation. Please stand by. At this time I would like to turn the call over to JP Morgan Chase's Chief Financial Officer, Marianne Lake. Ms. Lake, please go ahead." ] }, { "name": "Marianne Lake", "speech": [ "Thank you, Operator, and good morning, everyone. Just to let you know that Jamie is actually on the road with clients today so he's not able to join us this morning but sends his regards. So now I'm going to take you through the earnings presentation, which is available on our website. Please refer to the disclaimer at the back of the presentation.", "Starting on Page 1, the firm reported net income of $8.7 billion, EPS of $2.37, and a return on tangible common equity of 19% on revenue of $28.5 billion, benefiting from broad-based strength in performance, but also lower taxes and seasonality. To put this quarter's performance into context, on a core basis, pre-tax earnings grew 13% year-on-year, benefiting from higher rates, solid growth across other revenue drivers, and continued investments in our businesses. And even excluding the benefit of tax reform, net income was a clear record this quarter.", "Included in the results you see on the page, approximately $500 million of mark-to-market gains on certain investments previously held at cost due to the adoption of a new accounting standard. These gains are reported in CIB Markets revenue. Against that, there were a number of other smaller but nevertheless notable items, including changes in credit reserves, FDA investment securities and private equity losses, and legal, which together substantially offset those gains.", "Underlying results continue to be strong: average core loan growth, excluding the CIB, of 8% year-on-year; card sales and merchant processing volumes up 12% and 15%, respectively; we maintained our No. 1 rank in global IB fees; and have net income of $1 billion in the commercial bank. And in Asset and Wealth Management, we saw strong long-term flows across all regions and 10% AUM growth.", "Turning to Page 2 and more details about the first quarter results. So before we get into the numbers and the performance drivers for the quarter, I do want to remind you that there have been a couple of adjustments to the numbers on the page, which are in line with the guidance that we gave during the fourth quarter. First being the impact of the new revenue recognition standard. You will recall this will have a full-year impact of groping up non-interest revenue and expense, each by approximately $1.2 billion. The impact for the quarter of about $300 million is included here and prior periods have been similarly restated.", "Second, as a result of tax reform, certain tax equivalent adjustments that are included in managed revenue are lower on a relative basis and, for that, prior periods have not been restated. This impact, which was also about $300 million for the quarter, reduced revenue and was split about 50/50 in NII versus NIR and offset in tax expense.", "So with that, revenue of $28.5 billion was up $2.7 billion, or 10%, year-on-year. Net interest income was up $1.1 billion, mainly reflecting the impact of higher rates. Non-interest revenue was up $1.6 billion year-on-year, and while this includes the mark-to-market gains on the first page, it also includes approximately $400 million of losses on investment securities and negative private equity investments.", "Adjusted expense of $16 billion was up 6% year-on-year, reflecting higher compensation expense as well as business growth, including auto lease depreciation. Credit costs of $1.2 billion were down $150 million year-on-year. Consumer charge-offs were in line with expectation guidance and there were no changes to reserve this quarter. In wholesale, we had a net reserve release of about $170 million driven by a single oil and gas loan.", "You'll see that our effective tax rate for the quarter ended a little above 18% compared to the 17% guidance we gave, driven by a combination of higher pre-tax earnings as well as geographical mix. We're expecting full-year effective tax rates to be close to 20%.", "Shifting to balance sheet and capital on Page 3, we ended the first quarter with CET1 of 11.8%, down about 30 basis points versus last quarter. Capital generated was offset by net capital distributions and changes in AMCI. So the reduction was driven by higher risk-rated assets, reflecting the increased level of market activity, which similarly impacted all other ratios.", "In the quarter, the firm distributed $6.7 billion of capital to shareholders and last week, we submitted our 2018 CCAR capital plan to the Federal Reserve. But as you know, we can't provide any details of that at this stage.", "So before moving on to the lines of business, on Page 4, I'll briefly address this week's new capital news. Two new capital MPRs were release this week: the Stress Capital Buffer and eSLR. Starting with the Stress Capital Buffer, the proposal was broadly in line with the narrative and expectations that had been set. There's a comment period. We intend to fully participate in the process and are encouraged that there is an openness from current leadership to really consider feedback from the industry. On the positive side, we support the convergence of stress and BAU capital and, in general, support simplification of the framework.", "We agree that firms should be required to hold adequate capital to withstand severe stress, calibrated to firm-specific exposures and risks. We also agree that many of the changes to the construct of the test, for example, not having to hold capital for full distributions during a stress environment, better reflect reality and Board-approved policies. That said, stepping right back, if we are fundamentally reconsidering the construct of minimum capital levels, then all of the building blocks should be in place, including the GSIB surcharge, to ensure they all hang together. And to reinforce points that we've previously made, first and foremost, the fixed coefficients need to be recalibrated in light of the economic growth we've had.", "Second, the underlying premise for the surcharge, and more particularly, U.S. gold plating, is somewhat unnecessary for a firm that is compliant with all of the post-crisis reform that directly addresses systemic risks, which includes the severity of the CCAR stress, incorporating material GSIB-specific instructions. Beyond that, obvious challenges with the current proposal include the significant volatility and the opacity in the Fed's results, as well as challenges around implementation.", "So getting to the numbers, you can see on the page our estimated historical Stress Capital Buffer derived from the Fed results, as well as for 2017, it would imply no impact on our minimum capital levels. You can see that, in years prior, the Buffer would have been higher. And you know that in 2018, the scenario was in many ways more severe and the lower tax rate has a net negative bias. Further, there will be potentially be a need for larger management buffers if it is necessary to accommodate significant volatility.", "So acknowledging everything that we don't know, it's fair to say that our minimum level of capital including a management buffer would likely be higher under this proposal but likely still in the range of 11% to 12%.", "Briefly on eSLR, as you know, we are not currently bound by leverage. And prima facie, this proposal would reduce the eSLR minimum. So my primary comment on this is to reiterate my earlier comments about the need to be willing to reexamine the GSIB surcharge, regardless of the fact that it reduces the number.", "Overall, we have been waiting for these proposals and we look forward to participating in the comment process.", "Moving to Page 5, let's start with Consumer and Community Banking. CCB generated $3.3 billion of net income and a ROE of 25%. Core loans are up 8% year-on-year, driven by home ending up 13%, business banking up 7%, cards up 5%, and auto loans and leases up 6%.", "Deposits grew solidly at 6% year-on-year. We believe that we continue to outpace the industry, which as we previously noted, is experiencing a slowdown as consumers are increasing their allocations to investments. But also, based upon our data, they appear to spending more, reflecting a continued high level of confidence.", "Client investment assets were up 13% year-on-year, with half of the growth from net new money flows and with record flows this quarter. And active mobile users were up double digits.", "Revenue of $12.6 billion was up 16% year-on-year. Consumer and Business Banking revenue was up 17% on higher NII, driven by continued by continued margin expansion and deposit growth. Home Lending revenue was roughly flat, as portfolio loan spread and production margin compression were predominantly offset by higher net servicing revenue. And Card, Merchant Services & Auto revenue was up 18%, including higher auto lease income, but it was driven by Card, on lower net acquisition costs, higher loan balances, as well as margin expansion. The Card revenue rate was 11.6% in the quarter.", "Expense of $6.9 billion was up 8% year-on-year, driven by investment in technology and marketing, higher auto lease depreciation, and continued underlying business growth. The overhead ratio of 55% was roughly flat quarter-on-quarter despite seasonally higher payroll taxes and higher marketing expenses.", "Finally, on Credit, the terms across our portfolio remain favorable. Charge-offs were driven by Card and were in line with guidance. And there were no reserve actions taken this quarter. Recall, last year included a net impact of a little over $200 million related to the student loan portfolio sale.", "Turning to Page 6 and the Corporate and Investment Bank. CIB reported net income of $4 billion on revenue of $10.5 billion and a ROE of 22%. This quarter in Banking, we maintained our No. 1 ranking in global IB fees, as well as our No. 1 rank in North America MIR. IB fees were $1.7 billion, down 10% from a record quarter last year, as strong performance in M&A was more than offset by lower debt and equity underwriting fees. Advisory fees were up 15% year-on-year as we saw good momentum and some large bills closed. We ranked No. 1 in global M&A wallet and gain share in every region and, for the quarter, we announced and completed more deals than any other bank.", "Equity underwriting fees were down 19% in a market that was also down and versus a strong first quarter last year, which included a number of large deals. This quarter, we ranked No. 3 in a very competitive environment. And debt underwriting fees were down 18%, driven by a slow start to the year, primarily due to increased market volatility which reduced issuance. Despite these headwinds, we maintained our No. 1 ranking globally. And looking forward to the rest of the year, across products, the overall pipeline remains strong.", "Moving on to Markets, total Markets revenue was $6.6 billion, up 13% year-on-year reported. However, as mentioned, this includes the mark-to-market gains we called out on the front page and also includes a reduction of about $150 million reflecting lower tax equivalent adjustments year-on-year. Accounting for both of these items, Markets revenues would have been up about 7%.", "Fixed Income Markets adjusted revenue was flat versus a strong first quarter last year, with rates and spread markets reverting to more normal levels following significant outperformance last year, being offset by strong emerging markets and commodities performance.", "It was a record quarter for equities, as revenue was up 25%, a well-diversified story, driven by broad strength and continued momentum throughout the quarter, with increased volatility benefiting all equities derivatives. In addition, we saw share gains in cash and continued client activity driving growth in prime, as the investments that we've made in the business are paying off.", "Treasury services and security services revenue were both $1.1 billion for the quarter and up 14% and 16%, respectively, driven by higher rates and balances. Securities services also benefited from asset-based fee growth on both market levels and new client activity.", "Finally, expense of $5.7 billion was up 9% year-on-year, half being higher compensation expense, with a comp to revenue ratio of 29%, and the remainder primarily driven by higher transactions costs in markets.", "Moving to Commercial Banking on Page 7, another very good quarter in this business with net income of $1 billion and a ROE of 20%. Revenue was up 7% year-on-year, driven by higher deposit NII as we continue to benefit from higher rates, partially offset by lower IB revenue. Sequentially, revenue was down 8%, largely driven by the impact of tax reform.", "Gross IB revenue of $569 million was down 15% year-on-year on a lower overall industry wallet and fewer large transactions versus last year. That said, the underlying flow of business remains robust. In fact, it was a record quarter for middle markets clients and the pipeline looks strong. Expense of $844 million was up year-on-year, as we continue to invest in the business, both in bankers and technology.", "Loan balances were up 6% year-on-year and flat sequentially. C&I loans were up 5% on strength in our expansion markets, as well as specialized industries, but down 1% sequentially, roughly in line with the industry. CRE loans were up 7% year-on-year and up 1% quarter-on-quarter, as the competition is significantly elevated. For both, while client sentiment is high in the wake of corporate tax reform and we remain hopeful that this will support higher demand later in the year, we're not seeing that yet and we are maintaining pricing and credit discipline. Finally, credit performance continues to be very good, with zero net charge-offs this quarter.", "Moving on to Assets and Wealth Management on Page 8, Assets and Wealth Management reported net income of $770 million, with a pre-tax margin of 26% and an ROE of 34%. Revenue of $3.5 billion was up 7% year-on-year, driven primarily by higher management fees on growth in AUM as well as higher NII on deposit margin expansion and loan growth. Expense of $2.6 billion was down year-on-year, as the first quarter of last year included nearly $400 million of legal expense. Adjusted, expense would have been up 8%, driven by higher external fees on revenue as well as higher compensation.", "For the quarter, we saw net long-term inflows of $16 billion, including $5 billion in active equities, with strength across all regions benefiting from strong long-term performance. We saw net liquidity outflows of $21 billion, largely driven by a combination of recent M&A activity and the impact of cash repatriation due to tax reform.", "AUM of $2 trillion and overall client assets of $2.8 trillion were up 10% and 9%, respectively, on higher market levels globally as well as the inflows. Deposits were down 9% year-on-year, reflecting the migration into investments which we've previously discussed, but were about flat sequentially on seasonally higher balances. Finally, we had record loan balances, up 12%, with strength in both mortgage as well as other loans globally.", "Moving to Page 9 and Corporate, Corporate reported a net loss of $383 million. The net loss of $187 million in Treasury and CIO was primarily due to losses related to securities sales. The net loss of $196 million in Other Corporate reflects approximately $100 million after-tax loss on legacy private equity investments, as well as a net tax expense on adjustments and true-ups to certain reserves. And you will recall that last year included a legal benefit and last quarter, of course, included the impact of tax reform.", "Finally, turning to Page 10 and the outlook, given Investor Day is only six weeks behind us, we've not changed our guidance for the full year of 2018. To wrap up, we are pleased with the firm's performance this quarter, with all of our businesses showing continued and broad strength in an overall environment that remains supportive. And while acknowledging the tailwinds of tax reform and higher rates, the consistent performance of business drivers is translating into top-line growth and positive operating leverage, with revenues and pre-tax income both up double digits year-on-year.", "So with that, Operator, we can take some questions." ] } ]	[ { "name": "Operator", "speech": [ "Certainly, ma'am. If you would like to ask a question at this time, please press \"1\" on your telephone keypad. We kindly request that you ask one question and only one related follow-up. If you would like to ask additional questions, please press \"1\" to be reentered into the queue.", "Our first question comes from John McDonald of Bernstein." ] }, { "name": "John McDonald", "speech": [ "Hi, good morning, Marianne. I wanted to ask about LIBOR. We saw a big increase this quarter. Can you remind us how LIBOR affects you? Kind of pros and cons, where do you have LIBOR sensitivity on the asset side and where do you have it on the funding cost, sensitivity to LIBOR, and how should we think net about that?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. Okay, so I'll sort of end with the upshot, which is that net-net, the impact to our results in the quarter was a very modest positive. So a pretty small number but on the positive direction. And we've actually seen this a little bit before. I can't remember, a year or so ago. We are more sensitive, as you know, to the front end of rates but principally to IOER and prime. So while we do have exposure to LIBOR repricing, it's both on the asset and liability side, as you mentioned, and we also have exposure of a combination of one-month and three-month LIBOR. So if you look sort of net across the assets and liabilities sides, they materially offset. We don't have sort of significant mismatches. And so, as a consequence, obviously we benefit from a higher level of absolute short rates, but the basis widening hasn't been very meaningful to our NII.", "And, I mean, examples of assets that we price off LIBOR would be the commercial banking loans and obviously unhedged or hedged long-term debt, sorry, on the liability side." ] }, { "name": "John McDonald", "speech": [ "Okay. And then just as a follow-up, I'm wondering about the drivers of the 7% expected growth in fee income for this year. At Investor Day, you mentioned you've got some bounce back from headwinds in Card and Markets but also core growth of, I think, about $2.5 billion, you mentioned. So what are the drivers of that overall 7% fee income? If you could just give us some color, that'd be great." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So I'll start with sort of three relatively big drivers. So, yes, as we have now sort of lapsed the big Sapphire Reserve, high-premium vintages, our net acquisition costs are substantially lower and so that is a tailwind. Plus we are seeing regular way BAU growth in the Card and IR sort of drivers. Similarly, Markets, as we talked about after the fourth quarter, that's a driver. And then the ongoing sort of growth in the auto lease income space, which is significant. Outside of that, you look at our underlying drivers across the board, in terms of new accounts and debit trends and card sales and asset management fees is a driver, too. So there's obviously a level of market dependency to it. But a bit of the sort of outsized year-on-year increase is seeing the somewhat tailwind of Card and Markets, both in the trading and in the asset management space." ] }, { "name": "Operator", "speech": [ "Our next question comes from Glenn Schorr of Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi, thanks very much." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Glenn." ] }, { "name": "Glenn Schorr", "speech": [ "Hello. There's a comment in the prepared text on Lending and Commercial Banking being \"intensely competitive\" and led to no real growth. Yet I saw the comments about 5% and 7% C&I growth and CRE growth. So I wonder if you could just flesh that out a little bit more about the competitive landscape. And I guess that's a pricing issue mostly?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So I'll start with, year-over-year, we're still getting significant benefits from our investment in expansion markets. And also, as you know, we had a pretty -- we have a pretty unique sort of offering in terms of commercial term lending. And so for a period of time, in both of those spaces, we've been materially outperforming the market. And so we're still seeing the benefit of that in our year-over-year numbers. Quarter-over-quarter -- and the trouble with C&I loans is there can also be some volatility associated with held for sale, multiple portfolios, seasonality, mortgage warehouse seasonality, and stuff like that. But quarter-over-quarter, what we're seeing is just the impact of the sort of overall industrywide slowdown and the fact that, you're right, it's not just pricing. It's just generally we continue to be very selective and cautious given where we are in the cycle.", "But we're not expecting flat for the year. We're expecting growth in the mid-single digits for the year. And we still believe that there should be demand. I mean, the CTL space and commercial real estate more generally, that's where the competition really has stepped up very significantly. And that really is where pricing has become fiercely competitive and lets in compression." ] }, { "name": "Glenn Schorr", "speech": [ "Thanks. And I just want a quick follow-up on all the comments related to capital proposals. The simple question I have is, hearing you loud and clear on everything related to risk-based capital, but the clear improvement on the leverage side and SLR, does that theoretically, I know this is just a proposal right now, would that theoretically free up more activity in repo land and other short-term investments that soak up leverage, capital, but not much risk-based capital?" ] }, { "name": "Marianne Lake", "speech": [ "So generally across the sort of whole industry, I suspect the answer to the question is yes. But remember, for us, that we haven't been constrained by leverage, Tier 1 leverage or SLR, over the last several years. And it's a result, obviously, of the business mix we have and operating model that we have that we can socialize some of our scarcest resources across the company. And so we wouldn't expect our behavior to change materially." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo." ] }, { "name": "Michael Mayo", "speech": [ "Hi." ] }, { "name": "Marianne Lake", "speech": [ "Hi." ] }, { "name": "Michael Mayo", "speech": [ "Can you just give a little bit more of your expectations for Consumer? And specifically digital banking? The active online users were up 5% year-over-year, but for the quarter it was up 12% annualized. And I know there's always risk in annualizing a number so is that change in online users seasonal or is it structural? Just a little more color on that." ] }, { "name": "Marianne Lake", "speech": [ "Okay. So I'll give you my best thoughts. I would say it's a little bit more structural than it is seasonal and we've been seeing continued growth in both digital and especially the mobile channels. And it's a lot to do with adding features and, as we talked about at Investor Day, making it compelling for people to digitally move money, which makes them become much more engaged in all of the good things that come with that. In addition, we talked also, I think, at Investor Day about the fact that we've recently added digital account opening. And so I couldn't give you exact amounts of which ones of those is rising what, but we would continue to expect a bit of a structural acceleration. Certainly, we hope for it." ] }, { "name": "Michael Mayo", "speech": [ "And then a follow-up on that. So is this money sticky or not? And if you could elaborate more on the deposit beta? I know you've been pretty cautious, saying that money could flee more easily because of the digital? On the other hand, does it become more sticky because you have these connections?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So I think we sort of talked about the fact that digitally engaged customers are more loyal. That they spend more and they bring us more deposits and investments. So we gave you the stats, I think, at Investor Day. We see more card spend, both debit and credit, but we also see higher deposit and investments for digitally active customers. So overall it's really good for our franchise to have these customers engaged. And we hope they also use our branches, by the way.", "With respect to deposit betas, we talked before about the two theses. The first, which is the one that we generally subscribe to, is that a combination of the ability to use technology, the transparency, and the expectation of higher rates, as well as, potentially over time, the value of retail deposit liquidity, that we would expect higher reprice. And we haven't changed our expectation on that. But we haven't seen it yet either. So we're gonna have to watch that maybe play out. There is the other side of that argument that many people subscribe to, which is the customer experience, investments, the convenience, the brand, the marketing, the digital features, the products, the services, the rewards, all become increasingly important and customers are less price sensitive.", "So I guess we'll all know it when it finally unfolds. As you know, we sort of take a little bit more of a conservative view. But where we are right now in the normalization cycle specifically, for sort of retail, checking, and savings, we haven't yet seen that unfold. We have seen migration in Asset and Wealth Management balances and that's expected to be a leading indicator. So this will unfold over the course of the next year or so." ] }, { "name": "Operator", "speech": [ "Our next question comes from Matt O'Connor of Deutsche Bank." ] }, { "name": "Marianne Lake", "speech": [ "Hey, Matt." ] }, { "name": "Matthew O'Connor", "speech": [ "Good morning. Can you provide an update on your interest rate sensitivity with the recent move in rates that we've had?" ] }, { "name": "Marianne Lake", "speech": [ "Say again?" ] }, { "name": "Matthew O'Connor", "speech": [ "Just an update on your interest rate sensitivity from here." ] }, { "name": "Marianne Lake", "speech": [ "Okay. So we've seen two things happen, I guess. We've seen -- obviously we've rolled forward a quarter. I think our earnings at risk disclosed at the end of the last quarter was $1.7 billion. So you roll forward a quarter and that comes down a little as you sort of realize the rate benefit. But we've also seen, as you know, somewhere in the sort of mid-40s basis point increase in rates, sort of front- and long-end, which will also have a somewhat significant impact. So $1.7 billion will be down quite meaningfully, I would expect, at the end of the first quarter, but you'll see those disclosures in our Q." ] }, { "name": "Matthew O'Connor", "speech": [ "Okay. And then just separately, with the trading businesses, not a surprise, there was a big increase in the average VAR. Obviously there was a lot of volatility in a number of the products out there or the markets out there. But just any way to think about how much the VAR increased? And you had some increase in trading revenues but maybe not as much as one would think when you see the VAR up that much. Is there any correlation between those two from a magnitude point of view?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. I think it's extremely difficult to draw a straight line between VAR and all of its complexities and revenues in any one quarter. And I just sort of unpick it for you -- and by the way, just to reiterate that it's still at relatively low levels, relative to historical norms when we've been in more normal trading environments with higher levels of volatility and inventory and the like. So I would just unpick it and say, of the increase, more than half was related to volatility. And obviously some of the volatility was somewhat significant. We wouldn't necessarily expect to see that level continue, albeit we would expect to see periods or episodes of significant volatility. And a bit less than half to do with positions, principally but not exclusively as a result of higher levels of client activity in the CIB. And you saw the balance sheet also go up and risk-rated assets and so on." ] }, { "name": "Operator", "speech": [ "Our next question is from Erica Najarian of Bank of America." ] }, { "name": "Erica Najarian", "speech": [ "Hi, good morning." ] }, { "name": "Marianne Lake", "speech": [ "Hi, Erica. Morning." ] }, { "name": "Erica Najarian", "speech": [ "So my first question to you, Marianne, is, if the Stress Capital Buffer becomes final as proposed and now the industry has a BAU CT1 minimum that could move year to year, how does that change your outlook on how to think about dividends and buybacks from here?" ] }, { "name": "Marianne Lake", "speech": [ "Okay. So, I mean, I would start a little bit with -- so when you say as written, if you take the last year's spot Stress Capital Buffer, you've seen just from history for us that that could be significant. So there are three observations I would have. The first is when we think about capital planning, I think rightly you would expect us, and we do think about it over more than a one-year cycle. And while we have very significant earnings capacity, we don't want to be sort of up and down and sideways and find ourselves sideways. So I think there would be some implications of the potential for volatility in the calibration of management buffers. And so whether it's in a higher or lower SEB or whether it has to be taken into consideration so that we aren't caught sideways from a test result that is, with respect, once a year and a little big opaque.", "The second thing I would highlight to you is, for what it's worth, we saw our Investor Day, I won't say guidance, but sort of indication that we would expect to try and have payouts at or around 100%, plus or minus. And you see our ratios are a little bit below 12%. So I think that puts us on reasonably solid footing, regardless of the precision of it, to sort of understand how the rules play out.", "Finally, I hope and I believe, I suspect, that through the comment period, the implications of volatility will be properly explored and that hopefully there will be some sort of mechanism considered to accommodate smoother runways, allow for things not to be whipped around based on the specificity of the test.", "And more, I guess the fourth point, not something that we overthink, is having the four quarters of dividends explicitly included, notwithstanding that the soft cap is listed, kind of makes it dollar-for-dollar capital. So at the margin, I guess that makes people think carefully but we would still want to pay out a strong, healthy dividend on growing earnings." ] }, { "name": "Erica Najarian", "speech": [ "Got it. And my follow-up question, I wanted to follow up to your response to Glenn's question on SLR. I think there was some excitement from your investors, if you look at your 4Q banking sub-SLR, I think it was 6.7 off of a 6% minimum, and that would clearly go to 4.75. But just to make sure I understood your response, even if you could add low-risk rate exposure according to that constraint, that leverage exposure feeds into the size component of GSIB surcharge calculation. And so for there to be more freed balance, you also really need to recalibrate the GSIB surcharge. Did I get that?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. I mean, that's definitely one of the factors. But just the other, sort of slightly cruder, first-order factor is we're running 70 basis points above our minimum. So if you reduce the minimum by another 100 or 200 basis points, whatever the number is, we already had excess capacity. And so when we think about the use of our resources, we obviously think about let's maximize SCA. And so we haven't felt extraordinarily constrained, I would say. So there's that kind of, just sort of basic, we haven't been maybe as constrained as maybe others have been and that is what it is. And so while we'll continue to make every decision incrementally based on marginal SCA -- but you are right. You have to take into consideration all the lop-on impacts. I mean, our stock price alone impacts GSIB." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning, Marianne." ] }, { "name": "Marianne Lake", "speech": [ "Good morning, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Question on LIBOR. I know you discussed it relative to the loan book. I'm wondering if you could give us some color on how the LIBOR changes impacted trading." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, look, I would say that in the fixed income space, it was a sort of discussion and it was a feature or a factor. And even in equities, to be honest. It was part of the discussion but I wouldn't say that we could point to it materially impacting our trading results." ] }, { "name": "Betsy Graseck", "speech": [ "And then the follow-up is just on the mark-to-market gains that you called out, the $505 million. It looks to me like you've called it out as mark-to-market gains on certain equity investments. And I just wanted to understand why it's really showing up in fixed income instead of equity trading line. Is that the correct interpretation of the slide?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So think about -- so many of these investments are years old, many years old. And think about them as strategic investments that relate to business activity. For example, illustratively, in financial market infrastructures or clearing houses or exchanges or so on. Also some strategic investments potentially related to other parts of the business. So it just happens to be the case that those investments years ago relate and continue to relate to fixed income more than equities. And they were previously held at cost and as there are observable prices, as you know, this quarter, we have to reflect that. So it's really the nature of the investment." ] }, { "name": "Operator", "speech": [ "Our next question is from Jim Mitchell of Buckingham Research." ] }, { "name": "James Mitchell", "speech": [ "Hey, good morning. Maybe just a question on the TSGA. I know we're all wondering if it's gonna have an impact on loan growth but what about credit? Do you think that that has any positive impact, I guess particularly on the corporate side, with higher cash flows going forward with the lower tax rate? How do you think about reserving and your expected loss rates going forward?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. I would say across the board actually, all the way from small business through middle market, we're expecting sort of higher earnings, more free cash flow, and generally speaking that would improve the sort of credit quality of the portfolio. And we will only really see that come through as we get financials and see that in the financials and are able to reflect that in our internal ratings. But we would expect to see some positive lift as a result of that over time. So no doubt it helps, but it helps in a rising rate environment. So there are lots of plusses and minuses. But, yes, it's a tailwind for credit overall." ] }, { "name": "James Mitchell", "speech": [ "Right. Okay. Thanks. And then maybe just following up on asset yields .You saw overall asset yields jump pretty nicely given the higher rate environment but securities portfolio yields were down. Is that sort of a shortening duration or just a mix issue? Shouldn't we expect securities yields to be moving higher in this environment?" ] }, { "name": "Marianne Lake", "speech": [ "Yes, you should. What it is, actually, is the tax equivalent adjustments that I mentioned. So you're seeing the sort of relative impact of lower tax gross-ups in the portfolio in investment securities. If you were to adjust for that, it would have been up in line with rates." ] }, { "name": "Operator", "speech": [ "Our next question is from Ken Usdin of Jefferies." ] }, { "name": "Kenneth Usdin", "speech": [ "Thanks. Good morning. Hey, Marianne, you mentioned that on the consumer side, you had no incremental reserving actions. And I'm wondering if you can just kind of give us a state of the consumer to that extent? Are you feeling just better or was it also related to kind of just the growth math starting to look a little bit better in Card and Auto?" ] }, { "name": "Marianne Lake", "speech": [ "So I would say we still feel really good about the consumer. Really good. And so while you can look at the sort of overall levels of consumer indebtedness and look at the fact that they've reached a peak, and student lending is driving that in large part, it's also clearly the case that people have had a long time to repair their balance sheets and term up debt at low rates and become more liquid. And so sort of debt service burdens are still manageable. And so our confidence is high and that should be a benefit generally speaking. So overall we still feel pretty good and it's showing a little bit in our sort of consumer spend data, where we're seeing that confidence continues to spur a bit in spending.", "With respect to reserves, so our expectation and our belief about the strength of consumer continues to be optimistic. And then further, of course, you know that our portfolio particularly is skewed toward higher quality credit. And so we aren't seeing any signs of fragility or deterioration across the portfolio across the board. So we feel pretty good." ] }, { "name": "Kenneth Usdin", "speech": [ "Got it. And my follow-up, the card revenue rate, it was nice to see it really spike up 11.6 and then you guys have been talking about it getting to 11.25 by mid-year. Any updated thoughts on just that trajectory and where you expect that to go over time now?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I mean, much like we talked about with card charge-offs, there is some seasonality. So the first quarter revenue rate would normally be seasonally higher. Having said that, you're right. We did see some revenue outperformance in the card space a little bit. And so a big point, if you were to ask me 11.25, it's certainly a very, very solid expectation. Probably higher for the year." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Marianne Lake", "speech": [ "Hi." ] }, { "name": "Operator", "speech": [ "Mr. Martinez, your line is open. Please go ahead." ] }, { "name": "Saul Martinez", "speech": [ "Can you hear me?" ] }, { "name": "Marianne Lake", "speech": [ "Yes, we can hear you." ] }, { "name": "Saul Martinez", "speech": [ "Can you hear me? Oh, I'm sorry about that. Sorry, a little scattered this morning. I have a lot going on. But, yeah, I apologize if you already addressed this question, Marianne, but can you just talk to how you're feeling about the pipeline in Investment Banking? Obviously it was a little bit of a soft quarter for you and for everybody. And just how are you thinking about the pipelines, deal activity, in light of Daniel's, I think Daniel's, guidance at the Investor Day? Your expectation that advisory and ECM might be up a little bit, DCM down a little bit. I don't know if you guys have any updated thoughts on the outlook." ] }, { "name": "Marianne Lake", "speech": [ "Yeah. I mean, I would just talk a tiny bit about the quarter because I think it's important and it's instructive. But first of all, last quarter was -- first quarter last year, sorry, was a record. And so not that we don't always want to repeat or beat those, I still feel like we did pretty well. And it's a little bit like the fixed income story. Last year, equities and equity markets in DCM was up and M&A was less strong and this year that's turned around. And I would say, as we look at the results in ECM and DCM that were down, there were a few -- we were under invest to the larger fee event for a combination of reasons. Some outside of our control and some regrettable. And also some deals that we had hoped would close moved into the second quarter.", "Which is all to say that actually, if you look across the board, M&A still looks strong, DCM and ECM pipelines also look strong. Overall, the pipeline is well ahead of this time last year. So as long as the market remains constructive, we should continue to see reasonable momentum across products. But as you say, thematically, M&A and equities are likely to benefit more strongly than DCM in a rate rising environment. And so confidence is strong. Activity levels, you saw announced volumes are up. We printed a No. 1 wallet M&A quarter. So as long as market volatility, regulatory-driven uncertainty doesn't escalate, we're feeling pretty good about the second quarter and into the year." ] }, { "name": "Saul Martinez", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Good morning, Marianne." ] }, { "name": "Marianne Lake", "speech": [ "Good morning." ] }, { "name": "Gerard Cassidy", "speech": [ "Can you give us any color on, when you look at your franchise, your consumer franchise, is there parts of the country that are more competitive for deposits, whether that's metro New York versus California versus Texas? And could you give us some color on what you guys are seeing geographically on deposit growth and the competition?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So, I mean, I'll make just some thematic comments and, if you still have questions, you can maybe speak to IR because I don't have everything in front of me. But I will tell you this. We compete with everyone across the board. We compete with the large, money-centered banks. We compete with regional banks, with local banks. And so there's plenty of competition in all markets. And we monitor the market dynamics, as you say, at a pretty granular level. And so we will respond accordingly and I think we do pretty well across the board. And I wouldn't call any one out as standing out or any one out as clearly being more challenging. But that's an ongoing, sort of iterative, dynamic process. So we compete. Everywhere we compete, we compete with a lot of people who want these high-quality liquidity deposits and they want these relationships. And so do we." ] }, { "name": "Gerard Cassidy", "speech": [ "Okay. And I apologize if you addressed this, I had to jump off the call for a minute. The deposit beta, where does it stand today for you folks? On Investor Day, you gave us a very good trajectory of where you think it's going to. Are you still on that trajectory of where you think you should be?" ] }, { "name": "Marianne Lake", "speech": [ "Yeah. So with deposit betas, you have to sort of dig deep because there's a sort of full spectrum. We are, as an industry, firmly on a reprice journey, no doubt. And so the sort of state and the maturity of that reprice journey depends upon the specifics of the business and the client. And so at the wholesale, sort of top-end, reprices really reasonably high. Not to say that there's nowhere left to go but it's reasonably high and pretty consistent. And as you go down, through into the middle market space and small business and all the way down to the retail space, it's still relatively early days given the absolute level of rates. And so we continue to see the journey. As I've said, we've seen migration in Asset and Wealth Management now for a few quarters, as people are sort of reassessing deposits versus investments. We're retaining those investments so we feel good about that. But that is generally a precursor to what we will see in retail at some point in the future. Not yet.", "But with respect to the final part of your question, which was are we still feeling like the trajectory we showed you is our central case, and the answer is yes at this point." ] }, { "name": "Operator", "speech": [ "Our next question is from Chris Kotowski of Oppenheimer." ] }, { "name": "Chris Kotowski", "speech": [ "Yeah, good morning. You touched on this in a tangential way but let me ask it a different way. If we look at your card fees on a consolidated basis, back in 2014-15 before you had the Sapphire launch, it was running around $1.5 billion a quarter. It bottomed out late '16 and early '17 at $900 million and now you're up to the $1.275 billion. Should we expect, as Sapphire completely matures, should we expect that to go back to the $1.5 billion, $1.6 billion a quarter? Or is that ancient history and not indicative of anything?" ] }, { "name": "Marianne Lake", "speech": [ "So I can't really comment on that. Two things. The first is that we've given you, since 2018 anyway, our expectation of the revenue rate that will be now likely above the 11.25% we previously said. I will tell you we are largely -- we have lapped. We have lapped the Sapphire Reserve quarters now. Right? So the big quarters, the 100,000 point premier quarters, those were in the fourth quarter and the first quarter. The fourth quarter of 2016 and the first quarter of last year. So I would call that in the rearview mirror now and, from here, we grow with the growth in accounts and the businesses and the spend. So we still expect to grow.", "But remember that also in that rebaselining, and I can't remember what period you called out, but also remember we have gone through a whole renegotiation of all our card co-brand relationships, too, that have an impact. So growth will be an offset. We've had some structural step-down, sort of reprice of the programs, albeit they're still great partnerships and we consider them very valuable. Sapphire we've lapped and, from here, hopefully we just continue to grow." ] }, { "name": "Chris Kotowski", "speech": [ "Okay. Alright. That's it from me. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is from Al Alevizakosof of HSBC." ] }, { "name": "Alevizos Alevizakosof", "speech": [ "Hi. Thank you very much for taking my question. I was wondering, equities was clearly strong in the quarter. But I was wondering if you could give us some geographical split. I'm particularly interested, since I'm based in Europe, to see if you witnessed any impact from the new regulation, especially PSD2, in either cash or derivatives. Thank you." ] }, { "name": "Marianne Lake", "speech": [ "Sure. So let me just start at the top of the house and say that we've been talking about globally investing in bankers and salespeople and technology and building out our platforms across the cash and prime space. It is the case, because we were not competitive in international synthetic prime years ago and we now have among best-in-class sort of platform, that that has been part of the growth drivers. So I would say MIR international prime has been a bright spot. Generally.", "But PSD2, I would say that there was a concern about pullback in trading. We saw a bit of hesitation, particularly in fixed income, less so in equities, but the market was generally being quite resilient. And so we're still in the relatively early days. And within the results that we have articulated to you, we've seen material increases in MIR electronic trading, which we think will be likely somewhat permanent. Where people are choosing to do high-touch cash trading, we're seeing some concentration among players. Which is all to say we are seeing the industry wallet decline and margins compress but, for us in particular, we're also benefiting from higher volumes. We think we're gaining some share and we're benefiting from some of that concentration among top players. So net-net, yes, I think there's been some pressure on the in-scope wallet, but less so than you would think for us. And it's early days. We'll just have to keep watching it." ] }, { "name": "Alevizos Alevizakosof", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "We have no further questions at this time." ] }, { "name": "Marianne Lake", "speech": [ "Okay. Thank you, guys, thanks very much." ] }, { "name": "Operator", "speech": [ "This concludes today's conference call. You may now disconnect." ] }, { "name": "Alevizos Alevizakosof", "speech": [ "More JPM analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
JPM	2019-10-15	[ { "description": "Chief Financial Officer", "name": "Jennifer Piepszak", "position": "Executive" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Morningstar -- Analyst", "name": "Eric Compton", "position": "Analyst" }, { "description": "Vining Sparks -- Analyst", "name": "Marlin Mosby", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt O'Connor", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's third-quarter 2019 earnings call. This call is being recorded. [Operator instructions] At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and Chief Financial Officer Jennifer Piepszak.", "Ms. Piepszak, please, go ahead." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you, operator. Good morning, everyone. I'll take you through the presentation, which, as always, is available on our website, and we ask that you please refer to the disclaimer at the back. Starting on Page 1, the firm reported net income of $9.1 billion and EPS of $2.68 on record revenue of $30.1 billion with a return on tangible common equity of 18%.", "Underlying performance continue to be strong with highlights including client investment assets in consumer banking, up 13%; strength in our consumer lending businesses, in particular on higher origination volume in home lending and auto; and healthy growth in sales and outstandings in card; No. 1 in global IB fees year to date with over 9% wallet share and record growth IB revenues in middle market; and in asset and wealth management, we saw record AUM and client assets. Overall, for the firm, total loans were flat year on year, which includes continued mortgage loan sales. SC sales loans were up 3% on healthy growth in card and AUM.", "Total deposits were up 5%, with strength across wholesale and retail, and credit performance remained strong across business. On to Page 2, and some more detail about our third-quarter results. Record revenue of $30.1 billion was up $2.2 billion or 8% year on year as net interest income was up $293 million or 2% on balance sheet growth and mix, partially offset by higher deposit pay rates. Noninterest revenue was up $1.9 billion year on year or 14%, driven by strong performance across fixed income markets and consumer lending, which included a gain on mortgage loan sales of approximately $350 million.", "Expenses of $16.4 billion were up 5% on volume and revenue-related expenses, as well as continued investments, partially offset by lower FDIC charges. Credit remains favorable with credit costs of $1.5 billion, reflecting modest net reserve build and charge-offs in line with expectations. And as we mentioned last quarter, we do not see any signs of broad-based deterioration across our portfolios, both consumer and wholesale. Now on the balance sheet and capital on Page 3.", "We ended the third quarter with a CET1 ratio of 12.3%, up about 10 basis points versus last quarter. The firm distributed $9.6 billion of capital to shareholders in the quarter, including $6.7 billion of net repurchases and a common dividend of $0.90 per share. Now on to Page 4 for a look at our businesses, starting with consumer and community banking. CCB generated net income of $4.3 billion and an ROE of 32% with continued deposit growth and total loans down 4% year on year.", "Revenue of $14.3 billion was up 7% year on year. In consumer and business banking, we saw strong deposit and investment growth year on year with deposits up 3% and client investment assets up 13%, reflecting continued growth across both physical and digital channels. Revenue was up 5%, driven by higher NII on deposit growth and margin expansion as well as higher non-interest revenue on higher transaction volumes. And even though the deposit margin is higher year on year, not surprisingly, it is down 13 basis points quarter on quarter given the current rate environment.", "Home lending revenue was up 12% on higher production volumes and margins, partially offset by lower NII on lower balances, which were down 12%, reflecting loan sales. With regards to these loan sales, it's important to note the net impact to home lending revenue is minimal with the gain on sale being offset by a funding charge from corporate. And in card, merchant services and auto, revenue was up 9%, driven by higher card NII on loan growth and margin expansion, as well as the impact of higher auto lease volumes. Card loan growth was 8% with sales up 10%, and merchant processing volume was up 11%.", "Expenses of $7.3 billion were up 4% year on year, driven by continued investments and higher auto lease depreciation, partially offset by expense efficiencies and lower FDIC charges. On credit, starting with reserves. This quarter, CCB had a net reserve build of $50 million, which included a build-in card of $200 million, largely offset by releases of $100 million in home lending and $50 million in business banking. The build-in cards is primarily driven by mix as the newer vintages naturally season and become a larger part of the portfolio.", "Net charge-offs were $1.3 billion, largely driven by card and consistent with expectations. Now turning to the corporate and investment bank on Page 5. CIB reported net income of $2.8 billion and an ROE of 13% on revenue of $9.3 billion. Investment banking revenue of $1.9 billion was up 8% year on year in a market that was down.", "It was a record third quarter for investment banking fees, driven by strong performances in debt and equity underwriting, partially offset by lower advisory. Year to date, we continue to rank No. 1 in overall IB wallet and gain share across products and regions, benefiting from our leadership position in technology and healthcare sectors. In advisory, we were down 13% year on year, reflecting lower deal activity compared to a strong prior year.", "However, we continue to gain wallet share, driven by our strategic investments. In debt underwriting, we were up 17% year on year in a market that was down. Here, we benefited from our participation in some large transactions and increased activity in investment-grade bonds. In equity underwriting, we were up 22% year on year, significantly outperforming the market, driven by our strong performance in IPOs and convertibles.", "And for both the quarter and on a year-to-date basis, we ranked No. 1 in wallet share for overall ECM and IPOs. We expect fourth-quarter IBCs to be down both sequentially and year on year driven by strong performances in the third quarter and prior year. However, the pipeline remains healthy as strategic dialogue with clients is constructive, equity markets remain receptive to new issuance and the lower rate environment has made debt issuance more attractive.", "Moving to markets, total revenue was $5.1 billion, up 14% year on year. Fixed income markets was up 25%, a good result, which also benefited from a comparison to a somewhat quiet quarter in the prior year. This quarter was characterized by strong client activities across the board with outperformance in agency mortgage trading and improved flows in rates and commodities. Equity markets was down 5% against a very strong third quarter last year.", "Equity derivatives performance was challenged by lower client activity and unfavorable market conditions, but prime remained strong and cash outperformed relative to the prior year. Treasury services and securities services revenues were $1.1 billion and $1 billion, down 7% and 2% year on year, respectively. The rate environment remains a relative headwind, primarily from the funding basis compression we've been talking about, which is largely firmwide neutral, and to a lesser extent, client-specific repricing in treasury services. But importantly, the organic growth in fees and balances continues to be strong.", "Expenses of $5.3 billion were up 3% compared to the prior year with investments and higher revenue-related expenses partially offset by lower litigation and FDIC charges. And finally, credit costs were $92 million, driven largely by reserve builds on select emerging market client downgrades. Now moving on to commercial banking on Page 6. Commercial banking reported net income of $937 million and an ROE of 16%.", "Revenue of $2.2 billion was down 3% year on year with lower NII, driven by lower deposit margin, partially offset by higher non-interest revenue due to strong investment banking performance. Gross investment banking revenues were $700 million, up 20% year on year on increased M&A and equity underwriting activity, and we saw revenues increase for both large deals and flow business with a record quarter in middle market. Expenses of $881 million were up 3% year on year as investments in the business were largely offset by lower FDIC charges. Deposit balances were up 3% year on year on strong client flows.", "Loan balances were flat year on year across both C&I and CRE. In C&I, while we are seeing pockets of growth in select industries, like financial institutions, technology and energy, there continues to be significant runoff in our tax exempt portfolio. And in CRE, although there was higher origination activity in commercial term lending, it was largely offset by declines in real estate banking as we remain selective given where we are in the cycle. Finally, credit costs were $67 million with a net charge-off rate of 9 basis points.", "Now on to asset and wealth management on Page 7. Asset and wealth management reported net income of $668 million with pre-tax margin of 25% and ROE of 24%. Revenue of $3.6 billion for the quarter was flat year on year as the impact of higher average market levels, as well as deposit and loan growth were offset by deposit margin compression. Expenses of $2.6 billion were up 1% year on year on continued investments in technology and advisors, partially offset by lower distribution and legal fees.", "Credit costs were $44 million, driven by net charge-offs, as well as reserve builds on loan growth. For the quarter, we saw net long-term inflows of $40 billion, driven by fixed income, and net liquidity inflows of $24 billion. AUM of $2.2 trillion and overall client assets was $3.1 trillion, both record, were up 8% and 7%, respectively, driven by cumulative net inflows into long term and liquidity products, as well as higher market levels. Deposits were up 4% year on year, driven by growth in interest-bearing products.", "Finally, we had record loan balances, up 7% with strength in both wholesale and mortgage lending. Now on to corporate on Page 8. Corporate reported net income of $393 million. Revenue was $692 million, up $795 million year on year, primarily due to higher net interest income driven by higher balances and balance sheet mix, as well as the funding offset from the lower mortgage loan sale that I mentioned earlier, all of which was partially offset by lower rates.", "This quarter also included small net gains in certain legacy private equity investments compared to approximately $200 million of net losses in the prior year. And expenses of $281 million were up $253 million year on year, primarily due to higher investments in technology and a prior year net legal benefit. Finally, turning to Page 9 and the outlook. Our full-year outlook remains in line with previous guidance.", "We expect net interest income to come in slightly below $57.5 billion, based on the latest implieds; and adjusted expenses to be approximately $65.5 billion. So to wrap up, the U.S. economy is on solid footing. And while global growth is slowing, the U.S.", "consumer remains healthy. Despite continued macro uncertainty and headwinds from the rate environment, this quarter showcases the diversification and scale of our business model. We remain well positioned to outperform in any environment, and we'll continue to strategically invest in our businesses. And with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] Our first question is from Glenn Schorr of Evercore." ] }, { "name": "Glenn Schorr", "speech": [ "Hi, thanks very much. I'm curious your take on everything that went on in the repo markets during the quarter, and I would love it if you could put it in the context of maybe the fourth quarter of last year. If I remember correctly, you stepped in, in the fourth quarter. So higher rates, threw money at it, made some more money, and it calmed the markets down.", "I'm curious what's different this quarter that, that did not happen. And curious if you think we need changes in the structure of the markets to function better on a go-forward basis." ] }, { "name": "Jamie Dimon", "speech": [ "So if I remember correctly, you got to look at the concept of -- we have a checking account at the fed with a certain amount of cash in it. Last year, we had more cash than we needed for regulatory requirements. So repo rates went up, we went with the checking account which paid IOER into repo. Obviously makes sense, you make more money.", "But now the cash in the account, which is still huge. It's $120 billion in the morning, and it goes down to $60 billion during the course of the day and back to $120 billion at the end of the day. That cash, we believe, is required under resolution and recovery and liquidity stress testing. And therefore, we could not redeploy it into repo market, which we would've been happy to do.", "And I think it's up to regulators to decide they want to recalibrate the kind of liquidity they expect us to keep in that account. And again, I look at this as technical. A lot of reasons why those balances dropped to where they were. I think a lot of banks are in the same position, by the way.", "But I think the real issue when you think about it, does that mean that we have bad markets because that's kind of hitting a red line in that checking account. You're also going to hit a red line in LCR, like HQLA, which cannot be redeployed either. So to me, that will be an issue when the time comes. And it's not about JPMorgan.", "JPMorgan declined -- in any event, it's about how the regulators want to manage the system and who they want to intermediate when the time comes." ] }, { "name": "Jennifer Piepszak", "speech": [ "And it's worth noting, Glenn, that the overall impact to JPMorgan from the events in mid-September was not material one way or another to our third-quarter results." ] }, { "name": "Glenn Schorr", "speech": [ "Yes. I feel bad for whoever borrowed at 10%. OK. Just a quickie on NII.", "I heard you on the full-year '19 commentary, and I don't think that's surprising, maybe a little bit better. Have you done much repositioning on the balance sheet as we look forward in 2020, which is looking like an obviously lower rate backdrop? I want to ask you what your thoughts around 2020 NII, but I'd rather hear the soft call because I know you're not going to give it to us." ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, I'll try. So in terms of balance sheet positioning, as you know, we have a negatively convexed balance sheet. We manage it in both directions. Some moves in interest rates are hedgeable and some are not.", "In a quarter like we just had, with the rally that we had, you would expect us to buy duration and we did. And so -- but in terms of 2020, the way I think you can think about it is we've given you full-year 2019, which implies a fourth quarter just under $14 billion. Frankly, that's not a bad place to start. There will be some puts and takes.", "Obviously, you would have to get the full run rate of the October cut because, of course, they're developing from the implieds, and then there's one more cut next year. But an offset to that, at least a partial offset to that, would be balance sheet growth and mix. So we'll give you more color on Investor Day, as we always do, and we'll be in a better position then. But the fourth quarter of '19 in terms of run rate is not a bad place to start." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Jennifer Piepszak", "speech": [ "Hi." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning. A couple of questions, one on your GSIB bucket. I know, as of the end of June, it showed that you had bumped up into the next GSIB bucket, and I wanted to understand how you're thinking about managing that as we go into year end. And is there a plan to get back down? And how would you effect that?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So as it relates to GSIB, we fully intend to be in the 3.5% bucket for year end. As you know, most aspects of GSIB are on a spot basis, so we will manage it like we do any scarce resource and fully intend to be in the 3.5% bucket for year end." ] }, { "name": "Betsy Graseck", "speech": [ "But is there -- does that impact just your market position in general? Is there anything that you would be looking to doing to get there that might reduce your positioning in some of the businesses that you're involved in, for example, things like derivatives, etc.? Or is it really not? Is it going to be something that we're not going to see in the revenues because it's too small to matter to you?" ] }, { "name": "Jamie Dimon", "speech": [ "I couldn't say." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. What we need to do across the various GSIB buckets will not be obvious in our fourth-quarter results. But like I said, we will be managing and fully intend to be in the 3.5% bucket. It's more than just leverage." ] }, { "name": "Operator", "speech": [ "Our next question is from Erika Najarian of Bank of America Merrill Lynch." ] }, { "name": "Erika Najarian", "speech": [ "Yes. Good morning. My first question is a follow-up to Glenn's question. As you think about the cross current of resolution planning, LCR, and liquidity stress testing, could you help us -- what is the level of excess deployable cash at JPMorgan?" ] }, { "name": "Jamie Dimon", "speech": [ "I said we have $120 billion in our checking accounts with the fed, and it goes down to $60 billion and then back to $120 during the average day. But we believe the requirement under CLAR and resolution recovery is that when we'd opened that account such that if there's extreme stress, during the course of day, it doesn't go below zero. You go back to before the crisis you go below zero all the time during the day. So the question is, how far is that as a red line was the intent to regulate to a CLAR resolution to lock up that much of reserves in account of fed.", "And that will be up for regulators to decide. But right now, we have to meet those rules. And we don't want to violate anything we told them we're going to do." ] }, { "name": "Erika Najarian", "speech": [ "Got it. And as my follow-up, Jen, if -- you said something about the offset to the two fed cuts that are in the forward curve would be balance sheet growth and mix. Could you give us a little bit more color on how you're expecting those dynamics to play out, particularly given slightly lower core loan growth this quarter and a 22% increase in investment securities balances?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. I think -- well, I'll come back to investment securities balances. But in terms of balance sheet growth in 2020, you can think about largely in deposits. And just as one example, obviously, the rate environment and the economy will matter a whole lot.", "But just in a declining rate environment, the higher-yielding alternatives for consumers are less attractive. And so we do expect to continue to grow the franchise. And we could see healthy growth in the deposit base. So that's what I was referring to.In terms of investment securities, when you look at the increase this quarter, there's a few things going on.", "As I said earlier, we did buy duration. But importantly, what you see in investment securities are also cash deployment strategies, as well as actions we took on the back of the mortgage loan sales. So there's a few things going on in investment securities this quarter." ] }, { "name": "Jamie Dimon", "speech": [ "In some cases, securities at a higher return on standardized capital than certain mortgage loans did." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Hi. So you, I guess, lowered your guidance for NII, but also lowered your guidance for expenses. So how much of that lower expense guidance is due to the deployment of technology? Or just more generally, at every Investor Day, you tell us you're going to spend, what, $12 billion on technology. And we don't really have a lot of insight into the traction that those technology investments are getting.", "So what's working technology-wise? What's not working? And how much of that can contribute to your improved expense guidance?" ] }, { "name": "Jennifer Piepszak", "speech": [ "OK. Sure. So I'll start, and if you want to add. So I would say, Mike, the NII guidance is not lower.", "At the second quarter, we said $57.5 billion, plus or minus. At the time, the implieds said three rate cuts: July, September, and December. And we said if there were two or more, that would be $57.5 billion minus; and if less than that, perhaps $57.5 billion plus. And so we are kind of right where we said we would be.", "And we're a little bit higher than what we said earlier in September at Barclays, and that's because we got a little bit of a tailwind on the 10-year and some balanced growth and one less cut in December. So I would say NII guidance broadly in line. On expenses in technology, there's a few things you can think about. First of all, broadly speaking, on expenses, I would say we remain committed to what we said at Investor Day in terms of the cost curve flattening from here.", "But importantly, you have to look at the underlying story, which I know is what you're getting at, which is there are volume or revenue-related expenses. And we're always looking for productivity there, and -- but they will be what they will be. They will come with top line growth. In terms of investments, we will continue with the discipline we always have around business cases and net present value and payback periods.", "But we will also always invest in the things we think we need to need to, even if they're a table fix. And so -- and then there's productivity, which is your point. And so we continue to realize productivity in our investments, and we continue to think we have opportunity ahead. We haven't laid that out in terms of quantifying it, but some of the things you can think about are robotics replacing repetitive processes.", "You can think about machine learning or AI in fraud. So machine learning assisting us in decision-making processes. Our call centers are always getting more productive. As Gordon said at Investor Day, our cost to serve in the consumer businesses are down 15%.", "And then digital capabilities that we're rolling out to our customers in terms of self-service is not only better for them, but more efficient for us. And so we have realized significant productivity to date in not only in our technology investments, but other investments and think still have room to run." ] }, { "name": "Jamie Dimon", "speech": [ "As you said, in our merchant processing systems, and API store for the CIB. The stuff we built to hooking all that into our custody business. So you can go business by business and see the extensive amount of stuff we're rolling out, and it's pretty good." ] }, { "name": "Mike Mayo", "speech": [ "All right. Let me have one follow-up then. So I mean how many call center personnel do you have? Or how many data centers do you have? And how does that compare to the peak?" ] }, { "name": "Jamie Dimon", "speech": [ "We're building many data centers as we speak. I forgot the total number, but it's quite a few. The new ones will be better, more efficient and more expandable and safe and more secure, all that kind of stuff. And we have to build that infrastructure.", "We have the best in the world. So we're not going to ever scrimp on something like that. And maybe at Investor Day, we can go a little bit more into how we try to manage the technology budget." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. I'd like to just -- and then our call centers, Mike, we don't necessarily think about it just in terms of the number of people. We think about the productivity of the people. So the number of calls that they are able to take because you may have more people because of more volume, but that's good, healthy volume with top line growth.", "But we're always making sure that the people in our call centers and the overall productivity of the call center is increasing." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. And with all the cyber stuff you read about, our fraud in cards and consumers come down, not gone up because of some of these deployed technologies in call centers. I would take you through all of them, but then we're telling them bad guys our secrets. But there are a lot of ways to stop some of the bad guys now." ] }, { "name": "Operator", "speech": [ "Our next question is from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi. Thank you. Good morning. I'll start of with sort of a broader question on just the macro outlook.", "I think, Jen, you mentioned you feel the economy -- the U.S. economy is on sound footing, the consumer is obviously strong, but we are seeing some softening in the economic data. What are you hearing from clients? What are they telling you about whether they're concerned or whether there's increasing concern on policy, macro uncertainties? And how you're thinking about that going forward?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So on client sentiment, I think it's fair to say that perhaps the marginal investment is being impacted by trade fatigue in terms of the uncertainty. But broadly speaking, while it's slower growth, it's still growth. As I said, the U.S.", "consumer is incredibly strong. Consumer spending is strong. Sentiment is strong, so the consumer credit is good. And it is true that if you look at the ISM surveys, both manufacturing and nonmanufacturing, they were recently disappointing.", "So I would say, no doubt, cautionary signs, but credit remains very good, and there's still very healthy business activity." ] }, { "name": "Saul Martinez", "speech": [ "OK. Great. That's helpful. On NII, just going back to NII, specifically in the CCB, if you adjust for the $350 million, actually, grew sequentially, which was a pretty strong result.", "And I know guidance is at the consolidated level. But how do we think about the glide path in that business going forward and some of the puts and takes? Deposit pricing came in a little bit at the consolidated level. I suspect some of that is commercial. But how do we think about that business and the NII trajectory? And is it possible that you can continue to grow that?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So I mean, there's no doubt that the business will be impacted by rate headwinds, as the implieds play out. We're not immune to that. But as I said earlier, there is at least a partial offset to that in growth. And so we still feel very good about the underlying growth that we're seeing there.", "And then just in terms of reprice, obviously, there's very little movement on the back of the SEBIs, given there's very little movement on the way up. And in fact, quarter over quarter, we saw rates paid in the consumer businesses tick up a little bit on slight migration that we continue to see into interest-bearing. But we love the platform. The branch expansion is going very, very well.", "And so we feel great about the continued growth there, but we won't be immune to rate headwinds." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Can you guys give us some additional color on the investment banking backlog that you may have at the end of the third quarter? And then second, if you take a look at the success that you had investment banking grabbing more wallet share, is it coming here in North America or in Asia? Can you give us some color there as well?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. So on the IB pipeline, I would say it's healthy, although we do expect to be down in the fourth quarter, both sequentially and year on year, on very strong performances in the third quarter, as well as the fourth quarter of last year. But overall, it feels healthy. And I would say, geographically, largely some strength in the U.S." ] }, { "name": "Gerard Cassidy", "speech": [ "And then following up in the markets business, again, you had good numbers. How important is the technology spending that you've been doing in markets leading to grabbing more wallet share in both equity and FICC?" ] }, { "name": "Jamie Dimon", "speech": [ "I think it's critical. If you walk on the trading floor today, the deployment of technology in automated trading algorithms in swaps and FX and equities, it's making its way into corporate buying. But I think it's critical you keep up with the technology in a very competitive business where market share matters." ] }, { "name": "Operator", "speech": [ "Our next question is from Eric Compton of MorningStar." ] }, { "name": "Eric Compton", "speech": [ "Thanks for taking my question. So I just want to step back and real big picture here. I mean net interest income, you're already starting to see some pressure there. Just I think the general commentary in the industry is the banks are just under pressure seemingly almost everywhere.", "You got to focus on expenses. And yet, you guys are still hitting returns on tangible at 18%. So just stepping back, I mean, you still have a couple of billion to play with before you even start getting to that 17% long-term goal level. Like what worries you about potentially pushing you under that 17% level? It just seems like even with all the pressures in the industry, you're still even exceeding it.", "Other than onetime credit events really -- I guess stepping back, what worries you about pushing the bank to that or even below that from your perspective?" ] }, { "name": "Jamie Dimon", "speech": [ "And again, I think that you're overdoing the pressures on the banking industry. OK. Because we've had growth in the United States for the better part of 10 years. And I'd say that the credit is extraordinarily good.", "So if you look at consumer credit, commercial credit, wholesale, it's extraordinarily good. It can only get worse if you have a cycle. So our 17% is -- we always sort of play just through the cycle. We are at the over-earning part of the cycle in credit today.", "At one point, we'll be at the underearning part on credit. And of course, if you have a recession, it affects volumes and all these sort of things. So that's right -- that 17% is through the cycle and, frankly, not that bad." ] }, { "name": "Operator", "speech": [ "Our next question is from Marlin Mosby of Vining Sparks." ] }, { "name": "Marlin Mosby", "speech": [ "Thanks, and good morning. I wanted to ask you two kinds of different venues of questions. First, is if you look at the balance sheet, security yields came down pretty significantly this quarter. Just wondered how much you had in premium amortization that was embedded in that.", "And then as you look at the interest-bearing deposit cost, we didn't get much traction on the first cut. But did you get a little bit more traction on lowering those rates as you went into the -- going into the fourth quarter?" ] }, { "name": "Jennifer Piepszak", "speech": [ "OK. Sure. So first, on securities yield. So that did play a role, Marty.", "But more importantly, the impact on securities yields came from mix and just lower rates overall. So predominantly, mix and lower rates, and then to a lesser extent, your point on prepaid as well as a little bit of day counts. And then on betas, broadly speaking, we'd say betas are symmetric. And so if you look at the retail side, as I said before, very little movement on SEBI.", "And we did see rates paid even tick up a little bit there quarter on quarter. Wholesale, there's obviously more opportunity to reprice, but we do that client by client. And we're not going to lose valuable client relationships over a few ticks of beta. And so what we saw there, as you might expect, in CIB, rates paid down quarter over quarter.", "And then we also saw rates pay down in both AWM and the commercial bank, but a little bit less so." ] }, { "name": "Marlin Mosby", "speech": [ "And then would you see retail improving next quarter? And then Jamie, I wanted to talk to you about liquidity. Two things: one, we saw the repo market. And as you looked at Volcker and the liquidity coverage ratios, you've kind of taken the big banks out of participating and being able to solve for some of those liquidity issues. So the Fed has kind of put a ring fence around this, putting that all on their shoulders versus letting JP Morgan or Goldman Sachs or Bank of America jump in and help in those processes.", "And then when you sold the loans this quarter, those mortgage loans, and replaced them with securities, was that related to liquidity or just the decisioning process on that?" ] }, { "name": "Jamie Dimon", "speech": [ "So the loan decision is because we are at standardized capital now, which I think, by the way, risk -- I mean, the advance is far more important, and we should probably report more than that because that's 13%. But when we're constrained by standardized, there are points in time when putting mortgage on your balance sheet just gives you a very low return. And of course, you have a portfolio decision. You can sell it or put it in your balance sheet.", "If you sell it, you're going to probably reinvest in securities. So it's a pure economic calculation of what gives you a better return. And that's why, I think we need some fixes in the mortgage market about securitizations. Because I think we've pointed out, if you had built the securitizations, you have a healthy mortgage market, you keep some of them on your balance sheet.", "You sell some of the risk. And you wouldn't have to sell these mortgages per se. And I do think -- and the liquidity, we've focused on liquidity at the fed account. We have 400 -- probably total $450 billion of cash, T-bills, repo, deposit at the fed, and there's all -- a bunch of certain constraints.", "And you want to base a proper liquidity. But then I should also point out that those things go into getting multiple GSIB calculations, multiple other calculations. So you kind of calibrate, of course, all those things and optimize across all those things. But I do think you're correct.", "The banks are deploying now but they will not be able to redeploy a big chunk of that $500 billion that we have in all the markets when the time comes. It's not Volcker per se. Volcker is a slightly different thing." ] }, { "name": "Jennifer Piepszak", "speech": [ "And then, Marty, I think you asked about fourth quarter. We do think we'll continue to see deposit margin compression there on the retail side. We have come off the peaks in terms of CD pricing, but you still have slight migration there into interest-bearing products." ] }, { "name": "Operator", "speech": [ "Our next question is from Ken Usdin of Jefferies." ] }, { "name": "Ken Usdin", "speech": [ "Hey, thanks. Good morning. Jen, you had mentioned earlier just the point about that next year's earning asset growth will be led largely through deposits. But with all this mixing into your last point there about where the deposit margin pressure comes in, do you expect the constitution of deposit growth to change at all, whether it comes from the consumer business, wholesale or the wealth management complex?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. Look, I think it's difficult to know. I think, in a declining rate environment, as I said, I think the higher-yielding alternatives are obviously less attractive for consumers. We do still see good organic growth in wholesale as well in both treasury services and securities services.", "So I think it's difficult to know. The macro environment will be a big determinant." ] }, { "name": "Ken Usdin", "speech": [ "Got it. Understood. And the second question, the card revenue margin you mentioned, it's kind of flattened out. And I'm just wondering, can you first walk us through the NII versus fee components there? Any -- is it partially because of that obvious NII challenge? Is there also any changes with regards to just the underlying card fee activity?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. There is really just timing. There's just seasonality there. So at Investor Day, we said that the card revenue rate would be 11 50%, plus or minus.", "But fourth quarter is a seasonally high quarter for us, and so we still expect to hit that 11 50%, plus or minus, for the full-year guidance, so just seasonality." ] }, { "name": "Jamie Dimon", "speech": [ "And that's -- and the thing I'd add here, it doesn't have the same compression that it does in deposits." ] }, { "name": "Jennifer Piepszak", "speech": [ "Yes. Very different dynamic there." ] }, { "name": "Operator", "speech": [ "Our next question is from Matt O'Connor of Deutsche Bank." ] }, { "name": "Matt O'Connor", "speech": [ "Good morning. That's one to follow-up on. You talked about the fourth-quarter net interest come just under $14 billion, and that's not a bad place to start for next year. You highlighted balance sheet growth and mix and had some puts and takes.", "But it's probably not as bad as I think some would have thought. Think about that $14 billion-ish as potential run rate plus or minus. I'm just trying to better understand, like, what's the rate assumption that you have. And how much of a swing factor is the duration change that you did in the third quarter helping that?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So I mean, we're doing that based on the latest implieds. And it's obviously early days. We're working through our budget process as we speak. So it's based on the latest implieds, which have a cut in October and a cut in April.", "And 10-year, call it, 1.70% plus or minus. So relative to where we might have been just a couple of months ago, or even weeks ago, it might have been a different outlook. So I think it's important to take it with a health warning that's on the latest implied because that is, of course, what we know." ] }, { "name": "Jamie Dimon", "speech": [ "And it's assuming some balance sheet growth, as opposed to all things being equal. That would be worse." ] }, { "name": "Jennifer Piepszak", "speech": [ "That's right. It would be worse. The balance sheet growth, that will partial offset to larger impacts from just rates." ] }, { "name": "Matt O'Connor", "speech": [ "And what is the rate sensitivity at this point? And how is that split between the short and long end?" ] }, { "name": "Jennifer Piepszak", "speech": [ "There, I would just say you can look at the earnings at risk that we'll have in the Q. I mean, that's probably the best way to think about it. Because that is not an NII sensitivity, but is an interest rate sensitivity. And so that will be out in a few weeks." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Thanks for allowing my follow-up question. But Jamie, this is the first earnings call we had since the Business Roundtable came up with a new statement that it's not about shareholder-driven capitalism. It's about stakeholder-driven capitalism.", "And I was hanging out at the New Yorker Festival over the weekend and your name came up, and at least one author said he spoke to you. And the real question, what is the political and regulatory risk to JPMorgan to earnings as we look out over a year? You're having the presidential debates. Over the weekend, people talked about -- and the politicians talked about the wealth tax, the transaction tax, the change in corporate tax, personal tax, basically flattening the pyramid. And it seems like a lot of people point their fingers at the banks, including JPMorgan.", "So my question to you is what are you doing..." ] }, { "name": "Jamie Dimon", "speech": [ "They're pointing their fingers as base on what? Point their fingers as a base for what?" ] }, { "name": "Mike Mayo", "speech": [ "I think part of the cause, part of the cause of inequality in America. Banks should be doing more to help out the situation. And again, it's a whole -- this is just one example, Mike. The way I saw this at the New Yorker Festival, this was kind of intellectual underpinnings of a lot of the policies that are being introduced today.", "And so you're seeing that in the politicians' statements about wealth tax, changes to the bank business model, too much deregulation. And it's just an environment -- I mean, here we are 10 years after the financial crisis, where I would summarize it as very anti-bank. And I know JPMorgan had proposals to help move the company and the country ahead. But how do you, as head of the Business Roundtable, help the industry and corporate America manage these concerns about income inequalities and these other topics that come up in the presidential debates.", "I know it's a big question. But hey, you're in that role as -- with the Business Roundtable." ] }, { "name": "Jamie Dimon", "speech": [ "OK. So the business roundtable, checking -- get rid of shareholder value, basically said shareholder value and customers and employees and communities, which essentially has been how many of these banks have been running for years. I think part of the statement was a lot of the world looked at shareholder value and it -- that you have rapacious profit seeking. Whereas most CEOs are thinking pretty long term, building people, taking care of their employees, their customers.", "And we can highlight all the great things we do for employees: huge training, health, wellness, retirement, sharing the wealth inside the company. And we do, do all that. And most of these companies do that. A lot of these larger companies, they're great community citizens when it comes to trying to participate and help and stuff like that.", "So I do think -- and so as a JPMorgan matter, we're going to grow our businesses and serve our clients as best we can whatever the environment is. That environment changes. Politically, it changes. Economically it changes, geopolitically.", "But we're just going to navigate to do the best we can, serving our clients the best we can. And I do think that we try -- and I'm speaking for a lot of -- to try to do a tremendous amount to help the communities because there have been people left behind. The inner city schools are not failing because of banks. OK? And infrastructure is not failing because of banks.", "So I think we can help build infrastructure, help train people, get more skills, get involved with education systems and like all the kind of stuff that a lot of us all do in Detroit, we could lift up society. And I think it's good for us to lift up society. And when society does better, everyone does better. If you don't believe me, look at Venezuela, Argentina, Cuba, North Korea, etc., that doing well is a good thing for society, and we can share the wealth a little bit.", "So I'm not able to respond to specific political statements out there, but we'll do our part to be a great community citizen and serve our shareholders at the same time." ] }, { "name": "Mike Mayo", "speech": [ "So can I put words in your mouth? I mean doing well for communities and employees and all the other stakeholders is good for the shareholders long term. Is that..." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. And Mike, I actually gave examples in the crisis about the amount of people that we financed at markets way -- at prices way below the market. We're doing that to make rapacious profit seeking? No. And that included states, cities, hospitals, businesses, consumers, etc.", "And so you won't be -- our answer was no, we're going to help our clients get through this tough time. It wasn't about our profitability. Our profitability dropped dramatically, and we were fine. And I think that was long term, but you can never get sued over that.", "So -- and same time we do with employees. We're constantly investing in employees and branches, in jobs and training. That stuff will benefit three years out, five years out, 10 years out, 20 years out." ] }, { "name": "Mike Mayo", "speech": [ "All right. Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Great. Thanks. Quick question on equity trading. I know you gave an update on where you thought the revenues would come in, in mid-September.", "Looks like it came in worse than what you were looking for. Is there a way to kind of break out what was the impact of the potential marks on investments versus true equity trading revenues?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Sure. In equity derivatives, it was a combination of weaker client activity and some losses on inventory, but it wasn't meaningful. Those losses were certainly not meaningful in the grand scheme of things, but they were part of the equity derivatives story." ] }, { "name": "Brian Kleinhanzl", "speech": [ "But there wasn't any other additional investments in there that had marks on them impacting the numbers?" ] }, { "name": "Jennifer Piepszak", "speech": [ "No." ] }, { "name": "Brian Kleinhanzl", "speech": [ "OK. And then separately on CECL. I know you've been doing parallel runs, as all banks have been. Are you at the point now where you can kind of give what the pro forma provision will be for CECL? Or do you plan on doing that prior to the adoption date?" ] }, { "name": "Jennifer Piepszak", "speech": [ "Well, as we said at Investor Day, the range is $4 billion to $6 billion. We've done a ton of work, as you say, and a lot of modeling. The range is still between $4 billion and $6 billion. And we'll be able to be more precise, obviously, as we prepare for the January 1 implementation." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Thanks. A follow-up on the equity. I mean I know DB books were in the market, and I believe that you were a winner of some of that.", "Is that in these numbers in 3Q or that comes in, in 4Q?" ] }, { "name": "Jamie Dimon", "speech": [ "That was in prime balance I think you're referring to. I don't know the answer to that." ] }, { "name": "Jennifer Piepszak", "speech": [ "It was not meaningful whatever it is." ] }, { "name": "Betsy Graseck", "speech": [ "OK. All right. And then separately, there's been some news obviously on discount brokers cutting commissions to zero. I know you have You Invest and that that's a recent launch.", "But how do you think about how that impacts your business model? Is that just something that you would consider is specific to You Invest? Or do you think that that's something that would have a bigger impact and potentially more optionality for your clients across your wealth spectrum?" ] }, { "name": "Jennifer Piepszak", "speech": [ "So majority of our customers in You Invest already trade for free, and so we're pleased to see the market moving toward us. As we think about You Invest, it is one component of our broader investment strategy. And as I said, we're really proud of this quarter's results with client investment assets being up 13%. It was an important product launch for us in terms of meeting an unmet need with our existing customers, but we're pleased to see the market moving toward us." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. And there's strength in You Invest. We still are improving the products over time. We haven't done a tremendous amount of marketing.", "Kind of want to get it all right both You Invest and You Invest Portfolios, and then we'll figure out all the exact specific pricing around it." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Jennifer Piepszak", "speech": [ "Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2020-04-14	[ { "description": "Chief Financial Officer", "name": "Jennifer A. Piepszak", "position": "Executive" }, { "description": "Chairman and Chief Executive Officer", "name": "James Dimon", "position": "Executive" }, { "description": "BofA Securities -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Wells Fargo & Company -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steven Chubak", "position": "Analyst" }, { "description": "UBS Group AG -- Analyst", "name": "Saul Martinez", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "KBW -- Analyst", "name": "Brian Kleinhanzl", "position": "Analyst" }, { "description": "Oppenheimer & Co. -- Analyst", "name": "Chris Kotowski", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's First Quarter 2012 Earnings Call. This call is being recorded. [Operator Instructions]. At this time, I would like to turn the call over to JPMorgan Chase's Chairman and CEO, Jamie Dimon; and Chief Financial Officer, Jennifer Piepszak. Ms. Piepszak, please go ahead." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Thank you, operator. Good morning, everyone. As you heard, Jamie is with me on the call, and I know I speak for the entire company when I say we are just thrilled that he's back.", "Before we get into the first quarter performance, we want to start by recognizing that this is an extremely challenging time for all of us and our thoughts are with those most affected by COVID-19, particularly those on the frontlines of this crisis.", "The presentation this quarter is slightly longer to address a few key topics as we navigate this environment, and as always is available on our website and we ask that you please refer to the disclaimer at the back.", "Starting on Page 1, I'd like to highlight some of the ways we're responding to COVID-19. As a firm, we are focused on being there for our employees, customers, clients, and communities, in what is an unprecedented and uncertain environment. And while we don't know how this will play out, we will be transparent here about our assumptions and what we know today.", "Our number one priority is to continue to provide our services in an uninterrupted way by also providing a safe work environment for our employees. We're incredibly proud of all that our firm has been able to do over the past few weeks. So, I'll just hit on a few examples here.", "We've mobilized our workforce around the globe to work remotely where feasible, including operations and finance teams, portfolio and risk managers, bankers and traders, ensuring they have the right tools to work effectively. Currently, we have about 70% working from home across company, and for many groups, that number is well north of 90%. And for those who still need to go into the office or into a branch, we are taking extra precautions and being extremely mindful of their safety.", "And we're providing assistance in other ways too. For instance, we're offering free COVID-related medical treatment for U.S. employees and their dependents.", "On the consumer side, approximately 3/4 of our 5,000 branches have been open, all with heightened safety procedures and many with drive through options, and the vast majority of our over 16,000 ATMs remain accessible. And while our call center capacity has been challenged, we've quickly activated resiliency plans to address customer call seeking assistance and we put in place new digital and self-service solutions in record time. And while wait times have been extended, we're making good progress reducing them.", "For our customers who are struggling financially during this time, we are providing relief such as a 90-day grace period for mortgage, Auto, and Card payments, as well as waiving or refunding certain fees. We continue to support our customers and clients by providing liquidity and advice during this challenging market environment, and in the month of March we extended more than $100 billion of new credit.", "In wholesale, clients drew more than $50 billion on their revolvers with us, and we approved over $25 billion of new credit extensions for clients most impacted. And for our small business clients, we're actively supporting the SBA's Paycheck Protection Program.", "The number you see on the slide are as of April 12. And as of this morning, we have more than 300,000 in some stage of the application process, representing $37 billion in loans, and we funded $9.3 billion to businesses with over 700,000 employees. And to help the most vulnerable and hardest hit communities, as an initial step, we've announced $150 million loan program to get capital to underserved small businesses and non-profits, as well as a $50 million philanthropic investment.", "Now, turning to Page 2 for highlights on our first quarter financial performance. For the quarter, the firm reported net income of $2.9 billion, EPS of $0.78 and revenue of $29.1 billion with a return on tangible common equity of 5%.", "While the underlying business fundamental this quarter performed very well, we reported a number of significant items all due to impacts from COVID-19, which I'll discuss in more detail later. And at a high level, these items are a credit reserve build of $6.8 billion, approximately $950 million of losses in CIB, largely due to the widening of funding spreads on derivatives, and a $900 million markdown on our bridge book.", "It might be an obvious point that the quarter was really a tale of two cities: January and February, and then March when the crisis started to unfold. And with that, I thought it would be helpful to talk through some key metrics that highlight this dynamic across our businesses.", "So, let's go to Page 3. Starting with Card sales volume on the top left. In March, we saw a rapid decline in spend, initially in travel and entertainment, which then spread to restaurants and retail, as social distancing protocols were implemented more broadly. While most spend categories were ultimately impacted, we did see an initial boost to supermarkets, wholesale clubs and discount stores as people stocked up on provisions, but even that is now starting to normalize. And we saw similar trends in Merchant Services, as highlighted in the significant decline in brick and mortar spend excluding supermarkets, whereas e-commerce spend has held up well by comparison.", "In investment banking, in the middle of the page, there was a surge in debt issuance by investment grade clients as the market remained open and clients' desire to shore up liquidity was top of mind. It was the largest quarter ever in terms of investment grade debt issuance led by JPMorgan. And in Markets, volatility drove elevated trading volumes across products, most notably across rates and commodities, which at their peak were more than triple our average January trading volumes.", "And on the far right, deposit growth accelerated meaningfully in March, most notably driven by wholesale clients as they secured liquidity and held those higher cash balances with us. At the same time, we saw accelerating loan growth, primarily driven by revolver draws.", "And finally, flows in AWM were meaningfully different in March compared to January and February. Long-term flows through February was strong, positive across all asset classes. But this was more than offset by outflows in March. On the flip side, we saw significant net liquidity inflows into our government funds during March, which more than offset prime money market outflows.", "Onto Page 4, and some more detail about our first quarter results. Revenue of $29.1 billion was down $782 million or 3% year on year, and net interest income was flat to the prior year due to the impact of lower rates, offset by balance sheet growth and mix and higher CIB Markets NII. And noninterest revenue was down 5%, driven by the significant items I already mentioned, which were largely offset by higher CIB Markets revenue.", "Expenses of $16.9 billion were up 3%, driven by higher volume and revenue related expenses, continued investments and higher legal expense, all of which were largely offset by structural expense efficiencies. This quarter, credit costs were $8.3 billion, including a net reserve build of $6.8 billion, reflecting the impacts of COVID-19 and net charge-offs of $1.5 billion in line with prior expectations.", "Now, turning to Page 5, we have some more detail on the reserve builds. Our net reserve build of $6.8 billion for the quarter consists of $4.4 billion in consumer, predominantly Cards, and $2.4 billion in wholesale, with builds primarily due to impacts of COVID-19 as well as lower oil prices. This reserve increase assumes in the second quarter that U.S. GDP is down approximately 25% and the unemployment rate rises above 10%, followed by solid recovery over the second half of the year.", "In addition to these macro assumptions specific to each business, our consumer reserve build reflects our best estimate of the impact of payment relief that we are providing to our customers as well as the federal government stimulus programs.", "And in wholesale, the majority of the build is in sectors most directly impacted by COVID-19, such as in consumer and retail and also in oil and gas. We expect other sectors to be impacted to a lesser extent, if we have a way to prolong downturn. We have also assumed that the stress in oil and gas continues with WTI remaining below $40 through the end of 2021.", "After we closed the books for the quarter, our economists updated their outlook, which now reflects a more significant deterioration in U.S. GDP and unemployment. If that scenario were to hold, we would be building in the second quarter and build could be meaningfully higher, in aggregate, over the next several quarters relative to what we took in the first quarter. A primary unknown is the duration of the crisis, which will directly impact losses across our portfolio.", "With that being said, our consumer portfolio skews more prime than the industry average. And the effectiveness of government support, customer relief and enhanced unemployment benefits, while uncertain, undoubtedly will act as mitigant to the losses. And so even though our losses will be material, we will be doing what we can to help our customers recover from this crisis and help our clients stay in business.", "Now, moving to balance sheet and capital on Page 6. Our balance sheet, capital and liquidity going into this crisis were incredibly strong and, importantly, allowed us to facilitate client needs in a period of strength. And that, combined with our earnings power, is an extraordinary base to absorb the inevitable losses to come.", "For the quarter, we distributed $8.8 billion of capital to shareholders, which includes $6 billion in net share repurchases up to March 15th. Since then, we stopped our buybacks, which was both a prudent decision at the time and consistent with what we always say, which is that we would prefer to use our capital to serve our customers and clients. This capital distribution outweighed our earnings for the quarter, and this coupled with significant RWA growth resulted in a decline in our CET1 ratio to 11.5%.", "On RWA, which you can see on the bottom right of the page, the key drivers of growth were market volatility, which should subside over time, and more importantly, an increase in lending at this critical time for our clients. Going forward, in order to leverage our balance sheet to serve our clients, we are prepared to use our internal buffers, which may mean our CET1 ratio falls below our target range; and if necessary, we can also use regulatory buffers to go below our 10.5% minimum. It's worth noting here, that an environment like this is precisely why we have the buffers in the first place.", "We currently also have capacity and intend to continue to pay the $0.90 dividend, pending Board approval. And as you can see in the CET1 walk on the bottom left, it is a small claim on our capital base.", "And before we move on, just a moment on liquidity. Even with everything we facilitated, our liquidity position remains strong. And looking forward, it's helpful to remember that we have significant liquidity resources beyond HQLA, including the discount window if need be.", "Now, turning to the businesses, starting with Consumer and Community Banking on Page 7. CCB reported net income of $191 million, including reserve build of $4.5 billion. January, February, showed a continuation of strength across the business, but again March showed a major shift in trends. And across our consumer segments, we saw a drastic deceleration in spend across all forms of payments and a decline in origination volumes, except in the mortgage refi market. And on the small business side, we saw significantly reduced inflows in merchant processing activity, early signs of pressure on payment and delinquency rates as well as line utilization, and increased demand for credit.", "Turning back to the results, revenue of $13.2 billion was down 2% year-on-year. In consumer and business banking, revenue was down 9% driven by deposit margin compression, partially offset by strong deposit growth of 8% that accelerated in the quarter.", "Deposit margin was down 56 basis points year-on-year and we expect it to decline further, given the current rate environment. Home lending revenue was down 14%, driven by lower net servicing revenue and lower NII, partially offset by higher net production revenue. And in Card and Auto, revenue was up 8%, driven by higher Card NII on loan growth and margin expansion. Average Card loan growth was 8% with sales up 4% over the quarter, driven by January and February activity.", "Expenses of $7.2 billion were up 3% driven by revenue related costs from higher volumes as well as continued investments in the business, partially offset by structural expense efficiencies.", "And lastly on this slide, credit costs included the $4.5 billion reserve build I mentioned earlier and net charge-offs of $1.3 billion driven by Card and consistent with prior expectations.", "Now, turning to the Corporate and Investment Bank on Page 8. CIB reported net income of $2 billion, and ROE of 9% on revenue of $9.9 billion. Investment banking in the first half of the quarter showed continued momentum from last year. But as the market environment shifted, we saw delays in M&A announcements and completions, postponement of new equity issuance and increased draws on existing lines of credit. At the same time, the investment grade debt market remained open and we helped our investment grade clients raise approximately $380 billion of debt in the quarter across a wide range of sectors.", "By contrast, the high yield market was effectively closed, and high yield spreads widened significantly. As a result, our bridge book commitments were marked down by $820 million. And here, it's worth noting, our bridge book exposure is about 1/4 of what it was entering the 2008 crisis and is a higher quality portfolio.", "As a result of this backdrop, IB revenue of $886 million was down 49% year-on-year, largely driven by the bridge book markdowns. IB fees were up 3% year on year, and we maintained our number one rank with 9.1% wallet share.", "Advisory was down 22%, not only due to a tough compare, but also reflecting delays in regulatory accruals pushing out the closing of certain large deals. We did, however, complete more deals than any other bank this quarter.", "Equity underwriting was up 25% versus the challenged first quarter last year and we saw strong activity in January and February before the market effectively closed in March. And debt underwriting was up 15%, and an all-time record. We maintained our Number-One rank with 9.5% share of 90 basis points from 2019. Lending revenue was up 36% year-on-year, driven by the impact of spread widening on loan hedges.", "Looking forward, while a rapid recovery in the economy could produce a corresponding rebound in activity, we could also see significant downside risk to our forward-looking pipeline if the downturn is protracted.", "Now, moving to Markets. Here, total revenue was $7.2 billion, up 32% year-on-year. It's worth noting that even before the crisis, as we said in Investor Day, Markets performance was strong for the quarter. Then, the growing COVID-19 concerns triggered a major correction of equity markets, significant widening of spreads and a spike in volatility, leading to extraordinary government intervention and a substantial change in monetary policy, followed by a sharp decline in treasury yields. Simultaneously, we also saw a drop in oil prices. This unique combination of events led to further increased client participation and record trading volumes in several products.", "Fixed income was up 34%, driven by strong client activity, most notably in rates and currencies and emerging markets. Equity markets was up 28% on strength in equity derivatives, driven by increased client activity. In terms of outlook, it goes without saying that it's too early to project this performance going forward. In fact, low rates and low economic activity may even be a headwind. However, we are in a strong position to continue playing a central role in ensuring the orderly functioning of markets and serving our clients' needs.", "And now on the Wholesale Payments, a new business unit we're reporting this quarter, comprised of treasury services, trade finance and the Merchant Services business, which was previously part of CCB. Wholesale Payments revenue of $1.4 billion was down 4% year-on-year, driven by reporting reclassification in Merchant Services.", "As clients focused on preserving liquidity, we experienced higher deposit levels in Wholesale Payments throughout the quarter, offsetting revenue headwinds from lower rates and payments activity. In Security Services, revenue was $1.1 billion, up 6% year-on-year. Market volatility drove increased transaction volumes and deposit balances which offset the impact of the market correction on asset balances.", "In Wholesale Payments and Security Services, tailwinds from this quarter, like elevated deposit balances, maybe relatively short-lived and more than offset by the impact of low rates and potentially lower transaction volumes If the crisis is elongated.", "Credit Adjustments and Other was a loss of $951 million, which was one of the significant items that I mentioned upfront. Credit costs were $1.4 billion, driven by the net reserve build I referred to earlier. And finally, expenses of $5.9 billion were up 5%, driven by higher legal and volume-related expenses and continued investments.", "Now, moving on to Commercial Banking on Page 9. Commercial Banking reported net income of $147 million, including reserve build of approximately $900 million. Revenue of $2.2 billion was down 10% year-on-year with lower deposit NII and lower rates and a $76 million markdown on the bridge book, partially offset by higher deposit balances.", "Gross Investment Banking revenues were $686 million, down 16% year-on-year compared to a record prior year. While we remain confident in our long-term target, we expect some softness in our pipeline, specifically related to M&A and equity underwriting.", "Expenses of $988 million were up 5% year-on-year, consistent with the ongoing investments we discussed in Investor Day. Deposits were up 39% year-on-year on a spot basis and increased about $40 billion during the month of March, with about half of that coming from clients drawing on their credit lines and holding their cash with us as they look to secure liquidity.", "End of period loans were up 14% year-on-year, mainly driven by increases in C&I loans in March. C&I loans were up 26% as revolver utilization increased to 44%, which is an all-time high. CRE loans were up 3%, and here the story remains largely unchanged. Higher origination in commercial term lending, driven by the low rate environment, were partially offset by declines in Real Estate Banking as we remain selective.", "Credit costs of $1 billion, included the reserve build I mentioned, and $100 million of net charge-offs largely driven by oil and gas.", "Now, onto Asset and Wealth Management on Page 10. Asset and Wealth Management reported net income of $664 million with pre-tax margin of 24% and ROE of 25%. Revenue of $3.6 billion was up 3% year-on-year, driven by higher management fees and higher average market levels and net inflows over the past year. And then in addition, we saw record brokerage activity in March related to the recent market volatility. These increases were largely offset by lower investment valuations.", "Expenses of $2.7 billion were flat year-on-year with higher investments in the business as well as increased volume and revenue related expenses offset by lower structural expenses.", "Credit costs were $94 million, driven by reserve builds from the impact of COVID-19 as well as loan growth. Net long-term outflows were $2 billion and the strength we saw in January and February was more than offset in March. At the same time, we saw $75 billion of net liquidity inflows driven by significant inflows into our industry-leading government funds in March, as I mentioned earlier.", "AUM of $2.2 trillion and overall client assets of $3 trillion, up 7% and 4% respectively, were driven by cumulative net inflows, partially offset by lower market levels. Deposits were up 9% year on year on growth in interest bearing products. And finally, loan balances were up 11% with strength in both wholesale and mortgage lending.", "Now onto Corporate on Page 11. Corporate reported a net loss of $125 million, revenue was $166 million, a decline of $259 million year-on-year, primarily due to lower net interest income and lower rates, partially offset by higher net gains on investment securities. Expenses of $146 million were down $65 million year-on-year.", "And now, let's turn to Page 12 for the outlook. At Investor Day, we showed you a path to 2020 where we expected net interest income to be slightly down from 2019. And obviously, since then, the backdrop has changed significantly. Based on the latest implies and what we know today, we expect to see further pressure from rates, partially offset by balance sheet growth and CIB Markets NII, which results in NII of about $55.5 billion for the full year. And to give you an idea for the second quarter, we expect NII to be $13.7 billion.", "On non-interest revenue, it's always difficult to provide meaningful guidance and even more so, given the current heightened level of uncertainty. But based on our best estimates today, we do expect to see headwinds in 2020 compared to 2019. In addition to the two significant items in the first quarter, these headwinds included a $3.5 billion decrease in non-interest revenue, all else equal, which is also due to the impact of rates and as we offset the higher CIB Markets NII, and therefore revenue neutral. We also expect to see pressure on AWM and investment banking fees. And we now expect adjusted expenses for 2020 to be approximately $65 billion, largely due to lower volume and revenue related expenses versus the outlook we provided at Investor Day.", "It goes without saying all of this is market dependent and we'll keep you updated on future earnings calls.", "So, to wrap up, the challenges we are all facing as the COVID-19 crisis continues to unfold around the globe are unprecedented. Although we don't quite know what the past will look like going forward, what we do know is that we will continue to be there for our employees, clients, customers, and communities, as we always have been; and we have the talent, resources, and operational resiliency to do so.", "Our employees have proven that being resilient is not just about maintaining operations, it's also about culture. And that feels stronger than ever with our teams around the world working harder than ever to continue to serve our clients, customers, and communities. We've never been more proud of our people and we simply can't thank them enough.", "And with that, operator, please open the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "And our first question comes from Erika Najarian of Bank of America." ] }, { "name": "Erika Najarian", "speech": [ "Hi, good morning. And, Jamie, we're glad that you could join us, and that you're well enough to join us. My first question is on the forbearance activity. Jen, if you could give us a sense of, by product, how many of your clients, for example, in Card and Auto, home lending, are in a forbearance state so they started to defer the payment to the percentage of your clients? And, how we should think about the significant government intervention relative to the severely adverse scenarios, I believe, for total losses of 5.9% over nine quarters for the Fed and 4.1% for company run?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, first of all, I'll start with the payment relief forbearance there. I will start by saying that we have already refunded millions of dollars in fees. We have approved payment relief for 100s of thousands of accounts across consumer lending, and we obviously expect that to be meaningfully higher through time.", "We pause for closures and Auto repossessions, and importantly, we've made the process easier for our customers through digital and self-service options that we've built in record time. But in terms of what we're seeing, those are the numbers that still, as I said, relatively small compared to what we think we'll ultimately see. In mortgage, just to give you context, outside of customers asking for forbearance, which is just a little over 4% of our service book at this time, the April 1st payment seems BAU. In Card, we're seeing payment rate is down a bit, but still strong, and we've seen a slight uptick in late payments in Auto. But the quality of these portfolios was strong coming in as we've done surgical risk management over the last few years and that has made these portfolios more resilient.", "And then in terms of how we think about the significant government intervention; I mean, I think the ultimate effectiveness of these programs, which are extraordinary in terms of the direct payments or the enhanced unemployment insurance, the ultimate effectiveness is I think the biggest unknown. The key obviously is being able to bridge people back to employment. And so, we had assumed, as best we could, for our first quarter results, the impact of those programs, as well as the ultimate impact on payment relief that we'll be providing for our customers. But that is for sure an unknown and we certainly expect to learn a lot more about that in the second quarter." ] }, { "name": "Erika Najarian", "speech": [ "Thank you. My second question, you mentioned that you're prepared to go below 10.5% CET1 to help your clients. Going below 10.5% is also when the automatic restriction starts kicking in from the Fed in terms of payout. So if I understand it, it would be a 60% payout restriction on eligible net income. And just wanted to understand your thoughts on balancing servicing your clients and also thinking about your capital levels relative to those automatic restrictions from the regulators." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, as you probably know, Erika, that the Fed made some changes there recently, which as you say, puts us in a 50% bucket as we go below 10.5%. And we have a reasonable amount of room below 10.5% to remain in the 60% bucket. I would say that that was very helpful clarification from the regulators in terms of how we should think about using regulatory buffers, so that was particularly helpful. And right now, we are focused on serving clients and customers and we've looked at a range of scenarios, so we can ensure that we're managing our capital quite carefully.", "Jamie talked about an extreme adverse scenario in his Chairman's letter that we've looked at, assuming large parts of the economy remain in lockdown through the end of this year. And in that scenario, our CET1 drops to about 9.5%. And so, we think we have significant room to continue to serve our customers and clients through this crisis, but we are managing it quite carefully and looking at a range of scenarios, so we make sure that we're prepared." ] }, { "name": "Operator", "speech": [ "Our next question is from Mike Mayo of Wells Fargo." ] }, { "name": "Mike Mayo", "speech": [ "Hi, and welcome back, Jamie. The question is for you. How do you thread the needle between supporting your customers and the country and doing all those things that you want to do while still protecting the resiliency of the balance sheet and not getting hit with unexpected litigation costs as you mentioned in your CEO letter?" ] }, { "name": "James Dimon", "speech": [ "Yes, no, it's a very important question. And I think in times of need, banks have always been the lender of last resort to their customers. And obviously, you've got to be a disciplined capital provider because undisciplined loans are bad. So, you take a calculated risk and we're making additional loans. We're adults, we know that if the economy gets worse, we'll bear additional loss. But we do forecast all of that, so we are -- we know we can handle really really adverse consequences.", "There will be a point and the last question brought up was where you get below 10% CET1 even though we'll have almost $200 billion capital and $1 trillion liquidity, all these other constraints start to kick in like SLR, G-SIFI, advanced risk-weighted assets that make tighter constraint. And so, and then obviously then you got to look forward. So, we want to do our job. If we can help the country get through this, everybody is better off. If we move a little bit more money in the meantime, so be it. But obviously, we will protect our company, our balance sheet, our growth, and we'll be having close conversation with the regulators about what that is.", "I also think you have to take in consideration the extraordinary measures the government has taken. That's the income to individual, PPP, and all these Federal Reserve things." ] }, { "name": "Mike Mayo", "speech": [ "So, also in your CEO letter, you talk about the economy coming back online. And I guess with your reserve build, you're assuming, what, 10% unemployment and then the economy improves in the second half of the year. So, what is your base case for how people come back to work that's behind those descriptions? And I know you have a lot of scenarios too, but just a base case." ] }, { "name": "James Dimon", "speech": [ "Yes, I'll let Jen talk about the base case. But I think the back-to-work, we should think it as a binary thing that after the CDC, and we all get instructions from the government, after there's enough capacity in the hospitals, after there's proper amount of testing. Remember, a lot of people are going to work to-date in farms, factories, food production, retail, pharmacies, hospitals. So, this is like no one's going to work and hopefully you can turn it back on where it's very safe. There is plenty of capacity. You're not worried that you can give every American, who does get sick, the best possible medical advice. And the turn on would be regional, by company, all following standards of best health practices. And in some ways, you need to get that done because the bad economy has very adverse consequences way beyond just the economy, and in terms of mental health, domestic abuse, substance abuse, etc. So, a rational plan to get back is a good thing to do, and hopefully it will be tuned around later, but it won't be May. You're talking about June, July, August, something like that. So, I don't know if that answers your whole question.", "And then, Jen, you give the base case." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, Mike, as we closed the books for the first quarter, just to give a context, we were looking at an economic outlook that had GDP down 25% in the second quarter, unemployment above 10%. It's just important to note that that kind of gives you a frame of how to think about it, but there's a lot more that goes in to our reserving, including management judgment about some -- like, world-class risk management and finance people and also other analytics. And so, that just kind of gives you a frame of reference. But there, we did think about a number of other scenarios that we should contemplate in reserving and we also thought about the impact, what's our best estimate of the impact of these extraordinary government programs as well as our own payment relief programs.", "Since then, as I noted in my prepared remarks, our economists have updated their outlook and now have GDP down 40% in the second quarter and unemployment 20%. That's obviously materially different. Both scenarios though do include a recovery in the back half of the year. And so, all else equal, and of course, the one thing, probably the only thing we know for sure, Mike, is that all else won't be equal when we close the books for the second quarter. But all else equal, given the deteriorated macroeconomic outlook, we would expect to build reserves in the second quarter. But again, a lot will depend on the ultimate effect of these extraordinary programs and how effective they can be in bridging people back to employment. And we're going to still have a number of unknowns, I would say, at the end of the second quarter, but we're going to learn a lot through these next few months that will inform our judgment for second quarter reserves." ] }, { "name": "Operator", "speech": [ "Our next question is from Steven Chubak of Wolfe Research." ] }, { "name": "Steven Chubak", "speech": [ "Hey, good morning. And, Jamie, nice to have you back. So, I wanted to ask a question on some of the remarks relating to capital. Corals [Phonetic] actually made some comments on Friday alluding to efforts by the Fed to incorporate real life COVID stress in the upcoming CCAR cycle. We haven't gotten much color since then. I'm wondering whether you received any guidance from the Fed on which changes, if any, they plan on contemplating for this year's task? And maybe just bigger picture, how you're thinking about the potential impact that could have on the SCB and potentially raise some of your capital requirements?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. Thanks, Steven. So, we haven't gotten specific guidance. But it certainly makes sense that the Fed would want to look at a scenario like that. We have been, as you might imagine, staying very close to our regulators through this crisis, so they can have a very good understanding of how we are managing things. And then in terms of the potential impact, we'll learn more about that in June. We've given our best estimate of FCB and the impact it will have on our minimums, and that is absolutely incorporated into our thinking about how we'll manage capital through a range of scenarios here. But we'll learn more from the Fed in June." ] }, { "name": "James Dimon", "speech": [ "[Speech Overlap] one stress test, which will not be the stress you go through. JPMorgan does 100 a week and we're always looking at potential outcomes, and obviously we're doing our own COVID-related type of stress testing, including extreme, and we'll always be updating them, talking to regulators about it. Because that's what we have to deal with this time, not what I would consider a traditional stress test." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, the range of outcomes probably have never been broader. And so, as Jamie said, we have -- CCAR has been a good place for us to start in terms of one scenario, but we have looked at a number of different scenarios that how this may play out. And obviously, Jamie articulated what we think could be an extreme adverse, and we're prepared for that too. So, I think the most important thing is that we're prepared for a range of outcomes and we'll learn more about SCB in June." ] }, { "name": "Steven Chubak", "speech": [ "Got it. And just a follow-up on the securities book. Just given some of the significant declines at the long end of the curve, Jen, I was hoping you could help us think about where reinvestment levels are today just compared with the 2.48% yield on the bridge book? And then just separately, given the large impact of QE-driven deposit growth, how you're deploying some of that excess liquidity in this environment?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, on the Investment Securities portfolio, managing the balance sheet in this rate environment is obviously a different dynamic. And with lower rates as well as the deposit growth that you mentioned, with the Fed balance sheet expansion, you do see a large increase in our Investment Securities portfolio this quarter, which makes a lot of sense. Right now, in terms of balance sheet management, we are completely focused on supporting client activity. Our balance sheet is harder to predict right now but we are prepared for ranging outcomes." ] }, { "name": "Steven Chubak", "speech": [ "Okay, thanks very much." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Our next question comes from Saul Martinez of UBS." ] }, { "name": "Saul Martinez", "speech": [ "Hi, good morning. I wanted to follow-up on CECL related question. Jen, you gave us a good amount of color [Technical Issues] economic assumptions that were used to build the reserves and where Bruce Kasman and your economics team is now for the second quarter. But maybe thinking about it a little bit differently in terms of how to attribute the CECL reserve builds, and we're not looking for specific numbers, more just directional. How do we think about it in terms of how much is attributed to sort of mechanistic model related changes where you calibrate your model for new economic scenario versus actual signs of stress that you're seeing in your book that maybe aren't showing up in credit measures but that you do think will show up in a reasonably short time period, call it, within the next few quarters; how much of it is growth, how much of it is mix? Just if you can talk to that, because I guess what I'm trying to get at is, how much of it is more mechanistic and how much of it is actual tangible signs that you're seeing that of financial stress in your borrower base that could emerge in the reasonably near futures credit losses?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, it's a great question, Saul. So, I would start by saying that we haven't actually seen a stress emerge as of yet. So, I wouldn't necessarily use the term mechanistic, but I would say that what we took in the first quarter is our best estimate of future losses. It's also important to note that we don't reserve for future growth. And so, future growth with all else being equal, the reserve build. So, I wouldn't necessarily think of this as materially different because of CECL. We didn't actually really think about the impact of CECL relative to the incurred model. I mean, the regulators have given their point of view on that given the change in the capital rules, where 25% is assumed to be the difference. But that's their view. And like I said, we didn't spend a lot of time thinking about it and I would say that it is our best estimate of the losses that will inevitably emerge through this crisis. And it is life of loan, which of course is different under CECL. And so again, all else equal, you can think Card was larger than it would have been under an incurred model. But we didn't really think about it that way and it's impossible, of course, to know what judgment we would have applied under a different model." ] }, { "name": "Saul Martinez", "speech": [ "Okay. No, that's helpful. And, Jen, just on that point of growth, pivoting a little bit; what -- obviously a lot of the pressure in CET1 was because of risk-weighted asset growth and drawdowns on commitments. Where are we in terms of -- where do you think we are in terms of those drawdowns? I think it's like $350 billion still in wholesale commitments -- unfunded commitments. But like, how do we think about that? And, how it -- how much room there is for that to continue to make pressure risk weighted asset evolution?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. So, like so many other things, it is difficult to predict. I will say that early here in the second quarter, we have seen a pause on revolver draws. But it could very well just be a pause. And so, we are assuming, as we think about our own capital plans, that we will see revolver draws continue in the second quarter albeit at lower levels than the first quarter. And then of course, the timing in the case of the pay downs will depend upon the ultimate path of the virus and the economic recovery." ] }, { "name": "Operator", "speech": [ "Our next question is from Glenn Schorr of Evercore ISI." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thanks very much. I appreciate the limited sight we all have and maybe we could, let's assume, hopefully sooner than later, we get past the bulk of the credit impact. On the other side of this, have you thought about lending spreads underwriting criteria and how much turns we need to tighten given what we've learned or a scenario that we didn't capture under its previous underwriting? In other words, does lending spreads widen and do you get paid more for your balance sheet? I'm just curious on how you're thinking about risk management on a go-forward basis?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. And so, there I would say that our approach, we always take a long-term franchise view on things like that. And so, our philosophy has not changed. It is true, however, that the marginal cost of new activity is higher for us right now, and so that's a consideration. But I would say, in terms of risk management, we do what we've always done and what we always do, which is: Manage carefully within our risk appetite. And I think that has served us well coming into this crisis and we'll continue to stay close to our clients and manage that carefully." ] }, { "name": "James Dimon", "speech": [ "I'll just add. On the consumer side there's forward-looking view of risk. On the wholesale side, the revolvers were taken down to like $50 billion of our existing spreads. The bilateral stuff has been done, i.e. new credits. They've been done at slightly different spreads and stuff like that are higher. And then trading, obviously, you're actually getting higher spreads and a lot of things you do influence your finance people and do things and stuff like that. And then you will see a tightening of credit in the market. Think of leverage lending, certain underwriting, certain non-bank lenders who are no longer there. So, you will see an eventual tightening and an eventual increase in spreads, but you won't see banks do price gouge, which you've seen in other industries. Banks are very careful to support their clients through times like this." ] }, { "name": "Glenn Schorr", "speech": [ "Okay. And then one more impossible question, Jen, maybe. Could you help qualify, I know you can't quantify, but exit rate revenues that you kind of alluded to in some of the things like underwriting falling off, so tale of two quarters.The quarter itself, if it weren't for the ginormous credit issue that we're facing would have been like: \"Revenue is down a little bit, expenses up a drop, OK.\" But how much of the exit rate revenues are we looking at second quarter, third quarter versus the full first quarter? And that's a hard one." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "So, Glenn, I'm glad you acknowledged that it's impossible question and a hard one. I think, so there is a reason why we gave directional guidance here in terms of what could be headwinds, but it is just impossible to predict right now, as you point out. So, but I will say -- like, if you think, there is obviously nothing that we can really say with confidence about exit rate in 2021. I will say based upon the latest implies, if you look at NII, you could see growth in 2021 on balance sheet growth there, and then NIR is absolutely going to depend on the path of the virus and the economic recovery and when and how we all get back to work. And then, we've given you expense guidance to think about.", "And then from a credit perspective, as I said, we could see continued builds over the next several quarters. But the way CECL works in theory, again all else equal, that should be -- could be behind us by the end of the year and we then have those reserves to absorb the losses that will inevitably emerge over the back half of this year and into 2021." ] }, { "name": "Operator", "speech": [ "Our next question is from Gerard Cassidy of RBC." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning. Can you -- I know you gave us the color on the base case and the downturn in the second quarter. What's your outlook on the recovery in the second half of the year? Can you give us any color on what kind of recovery you're expecting in the second half of the year as part of the seasonal reserve build there?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, it is -- I don't have the numbers to hand, Gerard, but they're public. It was -- I suppose you can say it was based on our economist's outlook at the end of March, which did have a recovery. I just don't have the GDP numbers to hand, I think -- and the unemployment. I think what's most important to note, Gerard, is that based upon what we're looking at, you do have a recovery in the back half of the year. But it still leaves you, from a GDP perspective and unemployment, below your launch point on absolute levels of GDP and above your launch point on absolute levels of unemployment.", "So, it's a recovery. It is our latest outlook. And as I said earlier, it is probably the only thing we know for sure is that that is going to change through time, but it is a recovery in the back half of the year that doesn't get us back to where we started. And importantly, as we've said, that we're prepared for a range of scenarios. So while that may be the case that we based our reserve levels off, it is not the only scenario that we are preparing for." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then just as a follow-up on the bridge book, and I apologize if you've addressed this and I missed it. I know you guys mentioned the losses in the bridge book. Could you split us the size of the book, and then some more color on what triggered the losses in the bridge book?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, there I would just start by, as you know, I said it in the prepared remarks, but it's worth repeating, our bridge book is about 1/4 of the size it was in the financial crisis. So, it's about $13 billion. It's slightly down from where we were at year-end. Importantly, we don't have any imminent closing deadlines and the market is actually performing a little bit better here in the second quarter. So, we'll see where we land at the end of the quarter, but so far --" ] }, { "name": "James Dimon", "speech": [ "Just basing, marking the positions to market effectively." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. And the good news is --" ] }, { "name": "James Dimon", "speech": [ "Ex-fees." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Right. And with no imminent closing deadlines, it's not necessarily the case that we'll realize those losses. But, as Jamie said, they're mark-to-market at the end of the quarter." ] }, { "name": "James Dimon", "speech": [ "And I would just also put this in perspective; we're adults, we know that we have a bridge loan book that you're going to have quarters where things get bad and you might lose some money. We're the leader in the leverage lending, we're the leader in high yield, the leader in loans, etc. And we intend to maintain that position, and every now and then you have not a particularly good quarter. So, we're not worried about this very much.", "And like Jen said, so far if we look at spreads, there's probably a recovery this quarter." ] }, { "name": "Operator", "speech": [ "Our next question is from John McDonald of Autonomous Research." ] }, { "name": "John McDonald", "speech": [ "Hi, Jen. Regarding credit cards, just based on payment rates that you've seen so far and maybe the draws on revolves, how are you expecting card spending and card balances to trend over the next few quarters this year?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, hi, John. So, based upon what we're looking at right now, spend was down. We talked about different categories. But spend in aggregate was down 13% in the month of March year-over-year, and we're seeing trends like that continue here in April. And so, with that, I would say that we would, given what we know today, expect outstandings to trend down from here." ] }, { "name": "John McDonald", "speech": [ "And then can you help us think about how you do the accounting for the consumer deferrals? You keep accruing, but do you have some kind of haircut for NII suppression in terms of what might not be collectible, even though technically you're allowed to accrue what you defer?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, you got it, John. So, we do continue to accrue, but it is a lower yield over the life of the loan." ] }, { "name": "Operator", "speech": [ "Our next question is from Betsy Graseck of Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi, good morning." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Hi, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "I just wanted to -- I had two questions. One, just thinking about the outlook for the next couple of quarters here, I know you mentioned that your economics team had updated their estimates and maybe you could give us a sense as to the timing of when you clip your reserves versus those estimate changes? And part of the reason I'm asking is because of the reserve ratio move between 4Q19 and 1Q20 for the various segments. When I look at the CIB and the commercial bank, the reserve ratios are down from where they were in 4Q19. So, I'm trying to understand how the next change in the reserving is likely to traject between the various asset classes? Is there -- as you move from an adverse case to severely adverse case, are there different asset classes that potentially have a higher uptick in reserve ratio that we should be expecting here?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure. So, on the wholesale side, specifically, Betsy, the reason you see that dynamic is because of CECL. So, and it's in the presentation, so you can see the numbers. So, we -- the CECL adoption impact and wholesale was a net release. And so, we've now build that, and so that's why you see that dynamic there. And then in terms of the reserving, when we close the books, which was here in early April, we do have to, of course, kind of snap the chalk line at some points and close the books, which is why we wanted to be very transparent about how we think about reserving going forward. Because like I said, all else equal, given the macroeconomic outlook that we're looking at, that we would expect to have a build in the second quarter and perhaps beyond. Because as I said, obviously, everyone is incredibly fluid and we need too. We really need to learn a lot about the ultimate impact of these programs because they are extraordinary and should have an extraordinary impact. But we need some time to learn." ] }, { "name": "James Dimon", "speech": [ "And also, just to add on the wholesale side, kind of at one point you have an overlay about what you expect in terms of migration downward and downgrades and stuff like that. It will also be name-by-name; company-by-company, name-by-name, reserve-by-reserve. So, real detailed review of that." ] }, { "name": "Betsy Graseck", "speech": [ "So as, as we think through -- because effectively, I think, what we're saying is there is the possibility of the severely adverse case coming which we can look back at prior Fed stress tests to see what you anticipated that to mean for the credit losses. And maybe, Jamie, if you get an understanding as to how you're thinking about what your comments are looking for versus prior severely adverse stress cases that you have run on your own bank. Is it fair to look at the severely adverse stress cases on a bank run modeling basis that we have access to and it's in line with that kind of level? Or is this something that's even a little bit tougher -- and specifically around like things like commercial real estate? I get the name-by-name on the corporate side, that that is obviously extraordinarily granular, and you have access to that. But I'm wondering on the commercial real estate side, is there anything we should be thinking about that's different from perhaps what the Fed stress test might have suggested in the past?" ] }, { "name": "James Dimon", "speech": [ "I think commercial real estate, eventually, it will be loan-by-loan and name-by-name too. So, if you have reason to believe the loan is bad, you're going to write it down and put a reserve against it or something like that. This is such a dramatic change of events, so there are no models that have done -- dealt with GDP down 40%, unemployment growing this rapidly, and that's one part. And also, no models have ever dealt with a government which is doing a PPP program which might be $350 billion and might be $550 billion. Unemployment, it looks like 30% to 40% of people on unemployment were of higher income than before they went on unemployment.", "So, what does that mean for credit card or something like that, or that the government is going to make direct payments to people? So, this is all in the works right now. The company is in very good shape. We can serve our clients and we're going to give you more detail on this, but it's happening as we speak. And I think people are making too much of mistakes trying to model it. When we get to the end of the second quarter, we'll know exactly what happened in the second quarter. Like, you got to expect that credit card delinquencies and charges will go up. But we see very little of it so far. But by the end of the second quarter you'll see more of it. And then we'll also know if there's a fourth round of government stimulus. We'll know a whole bunch of stuff and we'll report it out. We hope for the best, which is you have that recovery, and plan for the worst so you can handle it." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. And then in terms of planning for the worst, Betsy, maybe it'd be helpful, the extreme adverse scenario that Jamie referenced in his Chairman's letter had 2020 credit cost of more than $45 billion. So, clearly that is not our central case. But that's the kind of scenario that we are making sure that we're prepared for. And then just coincidentally, if you look at our credit costs from the fourth quarter of '08 to the fourth quarter of '09, across those five quarters, we had credit cost of $47 billion." ] }, { "name": "James Dimon", "speech": [ "Right. And I've got the number where the reserves went from like $7 billion to $35 billion back to $14 billion." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Right." ] }, { "name": "James Dimon", "speech": [ "Reserve in itself is pro-cyclical and often wrong. And you're required to do it, but it certainly doesn't match revenues and expenses. And so, we'd like to be conservative in reserving, but I have to point out the flaws of it." ] }, { "name": "Operator", "speech": [ "Our next question is from Brian Kleinhanzl of KBW." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Yes, thanks. Good morning. Just a couple questions. Again, one on CECL maybe to start with. Can you just maybe give a little bit more qualitative disclosure on how this payment relief factors in? I mean, are you assuming some amount of government programs get used and that's included or that's just payment relief that you're directly giving to consumers and corporates? Just trying to get a sense of how all these government programs are going to flow through the model." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Sure, Brian. So, you can think about the government stimulus as being incorporated in the macroeconomic variables. And then the payment release, those are -- I'm referring to our own programs there. And there we, based upon our judgment and experience in the past, we apply some percentage of pull through in the portfolio of people who will get payment release, and then we think about the impact that that could have.", "Again, I would say, both, while estimated for the first quarter, we'll know a whole lot more about both of them for the second quarter." ] }, { "name": "James Dimon", "speech": [ "And, Jen, remind me, when we do the 10-Q for the quarter, we're going to lay out lots of these various assumption about CECL. And one of the problems of CECL is this precisely. We're going to spend all day on CECL, which was $4 billion and it's kind of a drop in the bucket, but it's a lot of data. It's like all the data we did after the last crisis, we give you on Level 3 and all these assumption and stuff like that. No one ever looks at it anymore." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "That's right." ] }, { "name": "James Dimon", "speech": [ "And every company does it differently." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. And we still have obviously several weeks before the Q. And so, we'll be able to give our best view on things then." ] }, { "name": "Brian Kleinhanzl", "speech": [ "Okay. And then in the quarter, is there, I mean, the marks were on the bridge loan. But is there a way to frame what the total marks were, I mean, assuming credit spreads tightened kind of dramatically post quarter end, so it seems like there would be a reversal of some of those marks initially?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, there could be. But that's only where we are at this point in the quarter. And so, it will obviously all depend on the market from now to the end of the quarter. But right now, the market is performing a bit better and spreads have come in, as you mentioned." ] }, { "name": "James Dimon", "speech": [ "A couple of deals may be syndicated, hopefully might be syndicated at the end of the second or third quarter." ] }, { "name": "Operator", "speech": [ "Our next question is from Chris Kotowski of Oppenheimer." ] }, { "name": "Chris Kotowski", "speech": [ "Yes, good morning. Thank you. At Investor Day, Jamie, you said that the real earnings, pre-provision earnings minus net charge-offs [Technical Issues]." ] }, { "name": "James Dimon", "speech": [ "I don't know about you guys, we can't understand a word he's saying." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. Chris, this is unfortunately part of our -- all of our new reality is we all work remotely. We couldn't hear you." ] }, { "name": "Chris Kotowski", "speech": [ "Okay. Is this better?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes." ] }, { "name": "Chris Kotowski", "speech": [ "Okay. So, my apologies. At Investor Day, Jamie said something like that the real economic earnings are pre-provision earnings minus net charge-offs, and so which I agree with. And so, if you push aside all the CECL reserving noise, I'm curious, does the customer relief, the 90-day grace period, does that change the -- alter the historic charge-off assumptions? Like, for example, I mean, credit cards was always pretty cookie cutter, 180 days after delinquency, it's charged off; and maybe with Auto or -- will those customer relief periods push back the charge-off curve as well?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "It may. Because as long as the customer is performing under the forbearance program, they are not delinquent. But, of course, it will all depend on whether these programs ultimately are able to bridge people back to employment." ] }, { "name": "James Dimon", "speech": [ "We'll surely know a lot more in 90 days." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes." ] }, { "name": "James Dimon", "speech": [ "We'll surely know a lot more in 90 days about how this affected, what we would have expected." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes, and to Jamie's point, what we may learn over the next 90 days is, of course, whether programs have been effective or were they just delayed losses. And of course, with CECL being life of loan, if it's just delayed losses, you can expect that that would, we would be reserving for that." ] }, { "name": "Chris Kotowski", "speech": [ "Okay. But in terms of charge-offs, the [Technical Issues] am I getting that right?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "It may be. It may be. But again, it's going to just completely depend on whether people are able to remain performing under a payment relief or a forbearance program.", "We don't really think about it that way. We think about what the ultimate losses will be, and we reserve for that. But -- and then importantly, in the first quarter, the chart [Phonetic] that you're seeing, which is why I was clear to say it was consistent with prior expectations because the charge-offs in the first quarter of course don't at all reflect the ultimate impact of COVID-19. They were just normal BAU, I would say." ] }, { "name": "Operator", "speech": [ "Our next question is from Andrew Lim of Soc Gen." ] }, { "name": "Andrew Lim", "speech": [ "Hi, good morning. Thanks for taking my questions. So firstly, on government guaranteed loans, these are 0% risk-weighted; and I'm wondering to what extent you're using them to refinance existing loans on your portfolios? And if you are, to what extent risk-weighted assets have gone through if you do those?" ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Yes. So, I'm not sure specifically what program you're referring to. I would just say broadly speaking on the Fed facilities, they're obviously very large programs rolled out very quickly and just an extraordinary response to unprecedented market conditions. Here, we are happy to leverage the facilities to intermediate these programs for our clients, but we are only using them where it makes sense to ensure credit and liquidity is flowing to where it's needed." ] }, { "name": "Andrew Lim", "speech": [ "So, I mean just to maybe elaborate on that, is there maybe some part where there is a bit of a capital uplift if you use government guaranteed loans that are 0% risk-weighting where previously --" ] }, { "name": "James Dimon", "speech": [ "What uplift?" ] }, { "name": "Andrew Lim", "speech": [ "A capital uplift, so your risk-weighted assets go down, say, for some something like loans that are government guaranteed --" ] }, { "name": "James Dimon", "speech": [ "We'll incorporate all of that into how we run the company, trying to serve the client etc. And there are few things here, like the PPP, you put in your balance sheet is zero RWA. But it does affect a lot of other things like SLR and G-SIFI and stuff like that. Whereas if you sell it to the government, it all goes away. And we'll manage through that as we learn if these programs [Phonetic] are working and what we want to do." ] }, { "name": "Operator", "speech": [ "And we have no further questions at this time." ] }, { "name": "Jennifer A. Piepszak", "speech": [ "Okay. Thanks, everyone." ] }, { "name": "James Dimon", "speech": [ "Thank you for spending time with us." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
JPM	2021-10-13	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Autonomous Research -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Steve Chubak", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew O'Connor", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "Portales Partners -- Analyst", "name": "Charles Peabody", "position": "Analyst" }, { "description": "Societe Generale -- Analyst", "name": "Andrew Lim", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Please stand by. We're about to begin. Good morning, ladies and gentlemen. Welcome to J.P.", "Morgan Chase's third-quarter 2021 earnings call. [Operator instructions]. We will now go live to the presentation. Please stand by.", "At this time, I'd like to turn the call over to J.P. Morgan Chase's chairman and CEO, Jamie Dimon; and chief financial officer, Jeremy Barnum. Mr. Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, operator. Good morning, everyone. The presentation is available on our website and please refer to the disclaimer in the back. Starting on Page 1.", "The firm reported net income of $11.7 billion, EPS of $3.74 on revenue of $30.4 billion and delivered a return on tangible common equity of 22%. These results include a $2.1 billion net credit reserve release, which I'll cover in more detail shortly as well as an income tax benefit of $566 million. Adjusting for these items, we delivered an 18% ROTCE this quarter. Touching on a few highlights.", "It was another strong quarter for investment banking, including an all-time record for M&A. And while loan growth remains muted, we see a number of indicators to suggest it has stabilized and may be poised to begin more robust growth across the company and particularly in card. And consistent with last quarter, credit continues to be quite healthy. In fact, net charge-offs are the lowest we've experienced in recent history.", "On Page 2, we have some more detail. Revenue of $30.4 billion was up $500 million or 2% year on year. Net interest income was up 1% with balance sheet growth and higher rates primarily offset by mix and lower CIB markets NII. And NIR was up 3%, driven by solid fee generation across investment banking and AWM, largely offset by net securities losses in corporate versus gains in the prior year and lower revenue in home lending.", "Expenses of $17.1 billion were up 1% year on year on continued investments and higher volume and revenue-related expenses, predominantly offset by lower legal expense and the absence of an impairment in the prior year. And credit costs were a net benefit of $1.5 billion, driven by the reserve release. But it's also worth noting that net charge-offs of just over $500 million were approximately half of last year's third-quarter number. Let's cover reserves on the next page.", "We released $2.1 billion this quarter, driven by less severe downside scenarios as the macro environment continues to normalize. Reserves stand at $20.5 billion, which still accounts for elevated uncertainties surrounding COVID and the current labor market dynamics, including the expiration of expanded unemployment benefits. Now, moving to balance sheet and capital on Page 4. We ended the quarter with a CET1 ratio of 12.9%, down modestly, primarily on higher RWA.", "The firm distributed $8 billion of capital to shareholders this quarter including $5 billion of net repurchases. And the common dividend was increased to $1 per share. With that, let's move on to our businesses, starting with consumer and community banking on Page 5. CCB reported net income of $4.3 billion, including reserve releases of $950 million on revenue of $12.5 billion, down 3% year on year.", "Deposits were up 3% quarter on quarter, indicating some deceleration as excess deposits are stabilizing. Notably contributing to this growth, we ranked No. 1 in retail deposit share based on the FDIC data and we're the only large bank to show meaningful share growth, up 70 basis points year on year. Similarly, client investment assets were up 29% year on year.", "And while market performance was a driver, retail flows in both advisor and digital channels were strong. Touching on spend. Combined credit and debit spend was up 24% versus the third quarter of '19 and in line with last quarter. Within that data, travel and entertainment spend was up 8% versus 3Q '19 and very closely track the patterns of the Delta variant within the quarter, softening in August and early September and reaccelerating in recent weeks.", "card outstandings were up 1% year on year and 4% quarter on quarter, benefiting from higher new account originations. And while the payment rate is still very elevated, it's come down from the highs and revolving balances have stabilized. And when we look inside our data, we see evidence of excess deposits starting to normalize in segments of the population that traditionally revolve. So as a result, we're optimistic about the growth prospects of revolving card balances.", "Moving to home lending. Average loans were down 6% year on year, but up 2% quarter on quarter with portfolio additions now outpacing prepayments. It was another strong quarter for originations totaling nearly $42 billion, up 43% year on year, reflecting record purchase volume and share gains in the refi market. And in auto, we had $11.5 billion of originations, second only to last quarter's record.", "So overall, loans ex PPP were up 3% quarter on quarter on the growth in card and home lending I just mentioned. Expenses of $7.2 billion were up 5% year on year, driven by investments in the business, including marketing. And more generally, we continue to see that the acceleration in digital adoption during the pandemic has persisted with active mobile users up 10% year on year to almost 45 million. So with that, looking forward, we are encouraged by our household growth and balance sheet trends.", "However, we expect it to take some time for revolving credit card balances to return to pre-pandemic levels given the amount of liquidity in the system. In the meantime, credit losses and delinquencies remain extraordinarily low. In card on a year-to-date basis versus 2019, low charge-offs more than offset lower NII. Next, the corporate and investment bank on Page 6.", "CIB reported net income of $5.6 billion on revenue of $12.4 billion. Investment banking revenue of $3 billion was up 45% versus the prior year and down 12% sequentially. IB fees were up 52% year on year, driven by strong performance in advisory and equity underwriting and we maintained our No. 1 rank with a year-to-date wallet share of 9.4%.", "In advisory, it was an all-time record quarter benefiting from the surge in M&A activity and we almost tripled fees year on year in a market that doubled. Debt underwriting fees were up 3%, driven by an active leveraged loan market, primarily linked to acquisition financing. And in equity underwriting, fees were up 41%, primarily driven by our strong performance in IPOs. Looking ahead to the fourth quarter, the overall pipeline is healthy and the M&A market is expected to remain active.", "And if so, IB fees should be up year on year but down sequentially. Moving to markets. Total revenue was $6.3 billion, down 5% compared to a record third quarter last year. Notably, we were up 24% from 2019, driven by the continued strong performance in equities and spread products.", "Fixed income was down 20% year on year due to ongoing normalization across products, particularly in Commodities, as well as an adjustment to liquidity assumptions in our derivatives portfolio. Equities was up 30%, a record third quarter, with strength across regions and reflecting higher balances in prime, strong client activity in cash as well as ongoing momentum in derivatives. In terms of outlook, keep in mind that it will be a difficult compare against a record fourth quarter last year but the current environment continues to challenge our ability to forecast revenues. Wholesale payments revenue of $1.6 billion was up 22%, or up 10% excluding gains on strategic equity investments.", "And the year-on-year growth was driven by higher deposits and fees, partially offset by deposit margin compression. Security services revenue of $1.1 billion was up 9%, primarily driven by growth in fees on higher market levels. Expenses of $5.9 billion were flat year on year as higher structural and volume and revenue-related expense as well as investments were offset by lower legal expense. And credit costs were a net benefit of $638 million, driven by the reserve release I mentioned upfront.", "Moving to commercial banking on Page 7. Commercial banking reported net income of $1.4 billion. Revenue of $2.5 billion was up 10% year on year on higher investment banking and wholesale payments revenue. Record gross investment banking revenue of $1.3 billion was up 60%, primarily driven by increased large deal activity with continued strength in M&A and acquisition-related financing across both corporate client and middle market banking.", "Expenses of $1 billion were up 7% year on year, predominantly due to investments and higher volume and revenue-related expenses. Deposits were up 4% sequentially, mainly driven by higher operating balances and loans were down 1% quarter on quarter. C&I loans were down 3%, but up 1% excluding PPP, driven by higher originations. And it's also worth noting that consistent with last quarter, we are seeing a slight uptick in utilization rates in middle market.", "And those among larger corporates seem to have stabilized albeit at historically low levels. CRE loans were flat with modestly higher originations in commercial term lending offset by net payoff activity in real estate banking. Finally, credit costs were a net benefit of $363 million, driven by reserve releases with net charge-offs of 6 basis points. And then to complete our lines of business, AWM on Page 8.", "Asset and wealth management reported net income of $1.2 billion with pre-tax margin of 37%. Record revenue of $4.3 billion was up 21% year on year as higher management fees and growth in deposit and loan balances were partially offset by deposit margin compression. Expenses of $2.8 billion were up 13% year on year, largely driven by higher performance-related compensation as well as distribution fees. For the quarter, net long-term inflows of $33 billion continued to be positive across all channels, asset classes and regions, with notable strength in equities and fixed income.", "AUM of $3 trillion and overall assets of $4.1 trillion, up 17% and 22% year on year, respectively, were driven by higher market levels and strong net inflows. And finally, loans were up 3% quarter on quarter with continued strength in custom lending, securities-based lending and mortgages, while deposits were up 5% sequentially. Turning to corporate on Page 9. Corporate reported a net loss of $817 million, including $383 million of the $566 million tax benefit that I mentioned upfront.", "Revenue was a loss of $1.3 billion, down $957 million year on year. NII was a loss of $1.1 billion, down $372 million, primarily on limited deployment opportunities as deposit growth continued. And we realized $256 million of net investment securities losses in the quarter compared to $466 million of net gains last year. Expenses of $160 million were down $559 million year on year, primarily driven by the absence of an impairment on a legacy investment in the prior year.", "On the next page, let's discuss the outlook. Our full-year outlook for 2021 remains largely in line with our previous guidance. We still expect NII to be approximately $52.5 billion and adjusted expenses to be approximately $71 billion. But as you'll see on the page, we've lowered our outlook for the card net charge-off rate to around 2% as delinquencies remain very low.", "So to wrap up, we're pleased with this quarter's performance as we approach what we hope is the tail end of the pandemic. The strength of the company, both in terms of our diversified business model as well as our fortress balance sheet, talent and culture, have enabled us to perform well through this difficult period while continuing to serve our clients, customers and communities. As we look ahead and the environment normalizes, new challenges will undoubtedly arise, but we feel confident with the position of the company and the strategy going forward. With that, operator, please open the line to Q&A." ] } ]	[ { "name": "Operator", "speech": [ "And our first question is coming from John McDonald from Autonomous Research. John, please proceed." ] }, { "name": "John McDonald", "speech": [ "Good morning, Jeremy. I wanted to ask about the net interest income guidance for the year. It seems to imply a nice step-up in NII for the fourth quarter to roughly $13.5 billion. Was wondering what do you expect to be the drivers of that sequential step-up? And would you see the fourth-quarter NII as a good starting point for us to think about our 2022 NII forecast?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, John. Good question and good catch there. It's true. That is quite a bit of sequential growth.", "If you do the math, it suggest about $350 million. And in reality, if you think about what we've been saying about the outlook for increased revolve and deployment and so on, the increase is not intuitively high. And so just to explain, within that, there are a couple of factors. So one, there's actually a meaningful amount of markets NII growth between the third and the fourth quarter, which in general, we would sort of encourage you to ignore.", "And there's also some sequential increase in NII from PPP forgiveness contributing to the fourth-quarter number. So if you strip those two out, you still see a little bit of modest growth, which is a little bit more consistent, I think, with the overall story that we've been telling, which is that the real acceleration in NII, especially from higher card revolve is a 2022 item. In that context then, if you take that sort of lower number and think about annualizing that, I think it's fair to assume that, that would be a sort of lower-end estimate for the 2022 number in light of what we believe will happen in terms of especially card revolve. But obviously, we'll give you a little bit more color about 2022 next quarter." ] }, { "name": "John McDonald", "speech": [ "OK. And as a follow-up, your cash balances continue to grow and you've been conservative on liquidity deployment. Could you update us on your thinking around liquidity deployment, pacing that and what factors you're balancing?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah, totally. So at the highest level, I would say that nothing's really changed, meaning we're still, all else equal, happy to be patient. We still believe in a robust global recovery. We still are a little bit concerned about inflation, I think relative to the consensus.", "And all of that contributes to a willingness to be relatively patient about deployment. But it's also fair to say that relative to last quarter, rates were obviously higher. We start to see central banks around the world normalizing their policy stance a little bit. So the market implied rates are coming a little bit more in line with our view.", "And given that, it wouldn't be surprising if we saw some more opportunities for front-end deployment, cash and cash-like activity as well as possibly some duration management." ] }, { "name": "John McDonald", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Our next question is coming from the line of Jim Mitchell from Seaport Global Securities. Please proceed." ] }, { "name": "Jim Mitchell", "speech": [ "Hey, good morning. Just first on loan growth. As you noted, auto has been strong, cards starting to show signs of life. But it looks like outside of acquisition finance, C&I still seems a little weak and we've got ongoing supply chain issues.", "So as we think about the big picture, how are you seeing I guess loan demand trends playing out? And what are you expecting as the next 12 months progresses?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So let's go through loan growth because obviously, that's one of the areas that everyone is interested in. So if we start with card, which is obviously the one that's going to matter the most in terms of NII impact. As you said, we see some signs of life and we believe that recovery is strongly underway.", "And it seems, hopefully, like Delta is really fading, so that's going to help. If you just look forward just to the holiday season, we would expect to see normal seasonality and normal growth there. And the question, really, for card, as we've talked about a lot, is whether that growth in spend and in card outstandings translates into revolve. But as I noted in the prepared remarks, when we look inside the data and we look at the customers who have both deposit accounts with us and our card customers and we look at those who would typically be the ones that are most inclined to revolve, we actually do see slightly faster spend down of the excess deposit balances there.", "So that makes us relatively optimistic about both the potential for card outstandings to grow with higher spend, but also for increased revolve and lower pay rates as we go into next year. It's going to take time, obviously, but that is the core view. In home lending, broadly, we expect that this quarter's trend with portfolio additions outpacing prepayments to continue. And then in C&I, which you mentioned, just a reminder, right, that as you go to the higher end of the spectrum in terms of the size of the C&I customers, we're eager to lend to them.", "It's a key part of the franchise, but from a financial performance perspective, that's more of an outcome rather than a goal. But we do, as I noted upfront, see a little bit of an uptick in utilization rates among smaller corporates. So that's kind of consistent with the theme that we've been seeing, which is that the smaller you are and the less likely you are to have had -- to have benefited from the wide-open capital markets, the more likely you are to be borrowing. We do hear a lot about supply chain issues from that customer segment.", "So it's going to be interesting to see how that plays out. And then in CRE, we see quite a robust origination pipeline as we have sort of fully removed any pandemic-related credit pullbacks. And we're leaning into that and we do expect to see a little bit of net loan growth going forward. And then finally, I would note that we do see some loan growth in markets, actually.", "And we generally discourage you from focusing too much on NII and loan growth within markets. But it is an indicator that there are some opportunities there that we're taking advantage of in the usual kind of nimble way that you would expect us to do in markets." ] }, { "name": "Jim Mitchell", "speech": [ "OK. That's all very helpful. And maybe just a follow-up on the expense side. You and your peers have all seen higher expenses this year, higher capital markets and incentive expense and increased investment spend.", "But as we think about going into next year, if capital markets activity normalizes as many expect, can we start to see expense growth slow or are there other considerations to think about, whether it's investment spend or inflation pressures that we should think about?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So it's a little bit of an all of the above story, I would say. So first of all, we're still in the middle of budgeting. And it's sort of a little early to be giving you 2022 expense guidance.", "We'll do more of that next quarter. But realistically, expenses are going to be up next year. Now, to your point about capital markets-related expenses, it's obviously true that we pay for performance. And in light of the very strong performance over the last couple of years in both banking and markets, we have seen increased compensation expense on the way up.", "And therefore, as a function of the amount of normalization that you see in 2022, you're going to see that come down in line, all else equal. Obviously, I would point out that I think that the amount of growth in that number that we've seen through the pandemic is less than a lot of people would have expected actually. And therefore, on the way back down, you would also potentially expect less participation, not to mention just the timing dynamics associated with the treatment of stock-based compensation vesting. So all of that aside, at the same time, we are still investing.", "We still see significant opportunities. We still see marketing opportunities in card. And yes, labor inflation is a question. You saw us raise wages in parts of the U.S.", "at the entry level that just came into effect this September. And as we look out, we see a lot of churn. And as Jamie was saying, it's good stuff. It's normal.", "It's understandable in this environment. But labor inflation is definitely a watch item for us. So when you put all that stuff together, as I say, we'll update you more next quarter. But that's sort of how we see the expense outlook for next year." ] }, { "name": "Jim Mitchell", "speech": [ "OK, great. That's helpful. Thanks." ] }, { "name": "Operator", "speech": [ "Next question is coming from Mike Mayo from Wells Fargo Securities. Your line is open. Please proceed." ] }, { "name": "Mike Mayo", "speech": [ "Hi. There are a couple of events during the quarter that I wanted to ask about. And specifically, how has the tech strategy evolved? One, you made the announcement that you're changing the retail bank core system entirely to the public cloud and that's a big change. And Jamie, I would love to hear your comments on that.", "And then second, your expansion in the U.K. with digital banking, what metrics are you shooting for? And third, your recent fintech acquisitions, to what degree are there synergies among the acquisitions in addition to J.P. Morgan? Thanks" ] }, { "name": "Jeremy Barnum", "speech": [ "OK. Mike, hang on, I'm writing down your questions because I don't want to lose track. OK, so let's start with the cloud first. So yeah, you will have seen some press coverage around our partnership with Thought Machine.", "At a high level, there's actually nothing new here. We've actually been committed to the cloud for a long time. And by the way, when I say cloud, I think we're talking about both private and public cloud. Our core strategy involves really leaning into both and being very nimble across both.", "And I think that's very important for us as a regulated institution from a resiliency perspective. But the reasons for -- and that's all part of our overall tech modernization road map and a lot of the investments that we're doing that you've heard all the leadership of the company talk about. When it comes to Thought Machine in the consumer space, there are five main reasons why we did that. And it's all the normal reasons why you do cloud stuff and you do tech modernization.", "We want to be able to innovate quickly and bring products to consumers faster. We want to be able to run multiple products on the same platform. As I mentioned, resiliency is critical. Increasingly, we want to be able to run the bank much more in real time rather than based on batch processes.", "And obviously, APIs are central to the entire strategy in this environment. So that's what I would say about that. Now, yes, please, Jamie?" ] }, { "name": "Jamie Dimon", "speech": [ "I'll just say this real quick. Thought Machine is basically the core general ledger. It's not all the other stuff around consumer. And when you do these conversions, different than conversions in the past, you can do them -- you can schedule pieces -- do part at a time, not all at once, like a big bank, which we used to have to do when we did big merger and stuff like that.", "So it's a -- I put it as a lower risk for the company, but the core strategy hasn't changed at all." ] }, { "name": "Jeremy Barnum", "speech": [ "OK. And then, Mike, international consumer and acquisitions, I think you asked about. So in terms of international consumer, you will have seen that we launched -- it's obviously early days to give meaningful updates on that, but you will have noted actually that we just rebranded Nutmeg as a J.P. Morgan company just a couple of days ago.", "So all that's proceeding apace and it seems to be pretty well received. I think the offering is seen as differentiated and innovative. So we'll have more to say about that over time. Generally ..." ] }, { "name": "Jamie Dimon", "speech": [ "Can I just -- again, just to add. This is a 10-year game plan. This is not -- they're going to worry that much about metrics in the next month or two. And with -- this is a long-term work to try to get this thing right, because if we ever going to be retail overseas, it's going to be digital.", "And so we're going to be very patient. And at one point, Mike, we will report some metrics so you can see them. But they're not going to be material to the firm's numbers for years." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. That's going to take time for sure. So -- but just more generally, in terms of the acquisition strategy, we've talked about this a little bit before. We're not claiming that we have some overarching top-down acquisition strategy.", "I think broadly, we're just doing things that make sense. But there are some themes that you can detect around bolt-on and adding capabilities. Just for the sake of argument, if you start with AWM, you see a pretty consistent theme in there of ESG-related capability additions. You've mentioned already international expansion and the potential for growth and it will be a long game, as Jamie says.", "And then, yes, there's definitely a fintech narrative a little bit in terms of some of the stuff that we've done in the CIB. And then within consumer, most recently, the collection of things that we've done, I think, is unified by the theme of providing more integrated and holistic experiences to our customers. We've always been very proud of the value proposition that we offer, especially in the card product. But we think we can take it up even another notch with some of the stuff that we're doing around lounges and cxLoyalty and stuff like that.", "So I think I touched on everything there, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Yeah, you certainly did. And just a follow-up. I mean we see the results. The marginal efficiency in the businesses where you're growing has improved and we just don't have the why.", "So how much of that is tech driven versus other reasons? I mean I guess you have metrics internally that we just don't have. But your marginal efficiency is what or your unit costs are going down or any additional color as to the why the marginal efficiency is improving." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I mean I think reasonable people can differ on how you talk about this stuff, especially in terms of what parts of the expense base you see is a little bit more fixed versus a little bit more floating. I would have said that in reality, marginal expense increases as a function of most types of marginal revenue are actually lower than a lot of people think. So the sort of operating leverage that you see, especially in the type of environment that we've had with really big increases in revenue in the capital markets areas in the NIR side, is actually relatively consistent with what I would have expected.", "But a little bit to your point, Mike, what's also true is that we're a big organization. There's a scale play here. We have a big fixed cost base. And a lot of the modernization agenda is about making sure that, that doesn't creep and that it's as expensive as possible so that it can be as nimble as possible.", "And that marginal efficiency over time is as good as possible, but that's a long play there." ] }, { "name": "Jamie Dimon", "speech": [ "Just to add, Mike. One of the things as you think about -- one is you -- people worried about the forecast for next year and stuff like that. We're playing the game for 10 years here. So we're going to -- and we're not going to disclose certain things like margin by product or something like that because it's competitive information.", "But the long game, we are competing with some very large, talented global players who are not even in banking today. And we are going to compete in that. So even some of these acquisitions are more around that than around just what I consider traditional banking. And so -- and my whole life, just so you know, we've been modernizing technology.", "Every year of every month of every quarter, that's like a permanent state of affairs. Obviously, now it's to the cloud and stuff like that. Those things are critical to do to be competitive going forward. That was true, by the way, 20 years ago." ] }, { "name": "Mike Mayo", "speech": [ "Got it. Thanks." ] }, { "name": "Operator", "speech": [ "Next up, we have a question from Ken Usdin from Jefferies. Your line is open. Please proceed." ] }, { "name": "Ken Usdin", "speech": [ "Thanks. Good morning. I wanted to ask if you can expand a little bit more upon card fees and card revenue rate. We all certainly expected the marketing expenses to kind of go up inside that line.", "And just wondering if you can help us understand how much of that was captured in the third quarter. And just what your general outlook is for the fee line and the underlying overall revenue rate?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks, Ken. So you're right. Part of the drop in the revenue rate this quarter is a function of higher card marketing spend, which you would have expected as a result of what we said last quarter in terms of the importance of getting our fair share of the growth in spending as we emerge from the pandemic.", "And the fact that we're out in the market with a lot of offers that are seeing good uptake and we're seeing nice growth there. So that's expected. And I think that card marketing number will actually remain elevated and if anything, tick up a little bit sequentially just based on how the amortization there works. So you should expect to see that continue.", "But in addition, this quarter, we have just an adjustment to the rewards liability, which is contributing to the drop this quarter as well. So that is not something that we see continuing. So that should come out of the run rate as we look forward." ] }, { "name": "Ken Usdin", "speech": [ "Can you help us understand like what the magnitude of that is and what you think about overall card revenue rate going forward?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean as you know, we don't really manage the card revenue rate. So it's not a number that I'm eager to guide to. But I think the -- if I remember correctly, I think the rewards liability adjustment this quarter was of the order of something like $180 million.", "So we'll confirm that, but I think that's right." ] }, { "name": "Ken Usdin", "speech": [ "OK, thanks. If I might just ask Jamie. You made a comment yesterday about the supply chain hopefully easing by next year around this time. What are you just hearing from your partners around the world in terms of the log jams and the potential for that to open up from here?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. I'm not hearing much different than you're hearing. I'm just -- I know that the overfocus over time is so extraordinary sometimes from the press that people forget the big picture. The economy is growing 4% or 5%.", "What people are buying has changed, which has also hurt supply chains a little bit. There's not one company I know that's not working aggressively to fix their supply chain issues. Sales are still up, credit card, debit card spend still up, consumers in great shape. And capitalism works.", "I doubt we'll be talking about supply chain stuff in a year. I just think that we're focusing on it too much. It's simply dampening a fairly good economy. It's not reversing a fairly good economy." ] }, { "name": "Ken Usdin", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Next up, we have a question from Betsy Graseck from Morgan Stanley. Please proceed." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Yeah, two questions. One, just following up on the card discussion that we just have regarding the fees and the $180 million on the -- roughly $180 million on the rewards adjustment. I mean it still leaves us with a pretty big decline q on q.", "And I'm just trying to think through that a little bit, because I know marketing, rewards, etc., is up. But was there anything in particular that would have driven a one-timer that is unlikely to persist or not? I realize that cash back is a little more expensive. So maybe that's a piece of it and it's a onetime move or is it more a function of, hey, we're going to be ramping our offerings here. And so you should expect that the forward look is a step down from what you had been seeing in 2Q?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So Betsy, in short, it's really the latter. So the only thing that is onetime-ish in nature, for lack of a better term, is the rewards liability adjustment. And the rest of it really is marketing spend and we see that as a critical investment in this moment.", "It's a moment of high engagement with the product and we're very committed to making those investments. And so that is going to remain elevated and if anything, tick up a little bit as we look forward." ] }, { "name": "Betsy Graseck", "speech": [ "OK, thanks. And then separately, I think today is the last day of the Vice Chair for Supervision, Randy Quarles' term as Vice Chair of sup and reg. So the question is, how should we be thinking about how you are positioning for an environment where maybe these rules don't change, right, like the LCR, the SLR, other things that we had been hoping might have some changes in them. Should we be anticipating that in order to help deliver the growth that you're looking for? That we should anticipate more pref issuance going forward?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I think obviously, we're a little disappointed that we haven't seen some of the changes on the non-risk-sensitive size-based constraints that we'd expected. But we're still hopeful that, that will come soon. We know the staff is hard at work on the Basel III endgame and that's complicated stuff.", "And it may be the case that some of those things are connected. And our strategy on pref issuance has been to try to balance giving ourselves the capacity that we want to deal with the SLR constraint without overissuing and, therefore, being stuck with high-cost prefs that aren't callable for five years. So that's part of the reason why we're operating a little bit above our CET1 target right now and we're just going to continue to be nimble in that respect." ] }, { "name": "Betsy Graseck", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Next up, a question from Glenn Schorr from Evercore ISI. Your line. Please proceed." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thanks very much. So in the spirit of your thought on not overly focusing on the near term, I heard your comments on payment rates in cards, 4Q seasonality, optimism about revolving card balances. So is there an implicit comment within there about buy now, pay later and the impact it may or may not have? I mean, I'd love to get your perspective on how this old, but I guess new payment option might have on the card industry overall.", "Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. Thanks, Glenn. So yeah, BNPL, everyone is talking about it. It is funny how layaway is back in the e-commerce checkout lane.", "But -- and obviously, we're looking at it. Everyone is talking about it. And it's a moment for us as a company where even though for any given thing that's emerging, you can easily convince yourself that it's kind of not a threat. We're in a moment of taking all types of potential disruptions, especially fintech-y type disruptions quite seriously.", "And in the case of BNPL, it's obviously particularly high profile because of the growth that we've seen, although, it's a relatively small portion of the overall market. I'll remind you that we have our own very compelling offerings that speak directly to the installment payment experience in the form of My Chase Loan and My Chase Plan, which we get really good feedback on the customer experience there in terms of the kind of post-purchase experience. You can select eligible purchases on the app and then move that to the installment plan, if you want. But yes, we acknowledge that it is downstream of the point of sale, which potentially raises some questions about whether we should be looking at moving a little bit more upstream there.", "But even more generally, when you take a step back, what we're really trying to do in the consumer business here is think about what is the actual customer need that is driving the growth in BNPL. And how can we respond to it in a strategic, holistic way across all of our customers and not sort of too narrowly and too reactively just respond to BNPL? But it's obviously a thing that we're looking at and it's quite interesting." ] }, { "name": "Jamie Dimon", "speech": [ "I think it's another example of a fintech company. Because you saw it, a firm come out and it's no longer just about BNPL. They're going to have a debit card and a cash banking account. So these are all different forms of competition, which we have to respond to.", "And so that's why when we talk about like expenses, we will spend whatever we have to spend to compete with all these folks in our space." ] }, { "name": "Glenn Schorr", "speech": [ "I appreciate all that. Maybe one other comment or to get your thought on the right perspective to think about China and Evergrande. And what people care about most is, is there an expansion across border? Meaning, is this contained within their market? Is the funders that will have some marks within their market or do you see any domino effect in crossing borders? Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So look, obviously, everyone is looking at Evergrande. Let me start by just saying that for us, in terms of direct Evergrande exposure, it is absolutely de minimis. So that's one piece.", "As you would expect, we've also looked at sort of more indirect exposures in terms of the broad China property sector as well as exposures of financial institutions that we deal with to the China property sector. And in general, those exposures are all very modest. So we're obviously watching it closely and continuing to look for read across and do what you would expect us to do. But we're not terribly concerned right now about the impact on us.", "I think in terms of cross-border contagion, I don't hold my own opinion on this in particularly high regard. But it does seem like this was pretty well telegraphed by the Chinese authorities when they talked about their three red lines. So it's a process that's being managed. And I would say the better view right now is that it will be contained.", "But of course, it's the market so we'll see what happens." ] }, { "name": "Glenn Schorr", "speech": [ "Thanks for all that, Jeremy. Thanks." ] }, { "name": "Operator", "speech": [ "Next up, we have a question from Ebrahim Poonawala from Bank of America Merrill Lynch. Please proceed." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Good morning. I guess, just wanted to follow up on two themes that we discussed. One around fintechs and the regulatory changes, a lot of focus on the change in leadership at the regulatory agencies. Jamie, you've talked about in the past in terms of the regulatory arbitrage when you look at big tech, nonbank players.", "I think BNPL is a good example of that. Do you think as we have new leadership at the regulatory agencies, they are alert to this arbitrage? And do you think we see a climb down or is it too late for really them to create a framework that would level the playing field?" ] }, { "name": "Jamie Dimon", "speech": [ "I don't expect that there will be beneficial changes that help banks. And I think that we just have to compete with what we're -- the hand we're dealt and not expect anything like that. And I think that you're going to have some people clamp down more on banks and maybe some people regulate fintech based on products or services, something like that. But I'm not expecting any relief." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Got it. Yeah. And I was wondering if there would be increased scrutiny of the nonbank players relative to the banks, but point noted. And I guess, just on a separate question there, Jeremy.", "We didn't see any build in the CET1 when I look at the numerator. Anything going on there this quarter that impacted it? And with the stock where it is at 2.4 times tangible book, just you remind us of how important are buybacks here as opposed to just keeping some dry powder as the economy gets better." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I mean, the answer to how important buybacks are is that they're at the end of our capital hierarchy, as we often say, right? So organic growth, including acquisitions, sustainable dividend and only then do we look at buybacks. And in light of the SCB environment that we're in, where we don't have a Fed-approved buyback plan anymore and if we just simply have to comply with the minimums and BAU, that gives us quite a bit of nimbleness, which is an important thing to preserve in light of a world where we do hope for loan growth next year and where acquisitions are still potentially on the horizon. So nothing really going on this quarter other than a little bit of RWA growth in the denominator.", "And we're just really going to stay nimble there." ] }, { "name": "Ebrahim Poonawala", "speech": [ "But is there a case to be made, Jeremy, in terms of just holding some dry powder and excess capital given your macro outlook as opposed to buying back stock at current valuations?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. I think the valuations -- as the stock goes up, you're going to -- you should expect us maybe one day, buy less. And we don't need dry powder. We have an extraordinary amount of capital liquidity, I mean, extraordinary.", "And we earned $40 billion pre-tax a year. I mean how much dry powder do you need? We have $1.6 trillion of cash and marketable securities. We have 200 -- well over $200 million of equity. We can issue preferreds, we can issue debt.", "We can issue stock, if we had to do something. So I don't think we need dry powder. I think our capital cup runneth over where it is." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Noted. Thank you." ] }, { "name": "Operator", "speech": [ "The next one is from Steve Chubak from Wolfe Research. Please proceed." ] }, { "name": "Steve Chubak", "speech": [ "Good morning. So Jeremy, you provided some helpful detail on the drivers of loan growth by category. Just looking ahead, is your expectation that loan growth begins to keep pace with GDP or economic growth or is there anything that would actually justify more meaningful acceleration in lending activity, whether it's just greater pent-up loan demand, normalization of the card payment rates or something else?" ] }, { "name": "Jeremy Barnum", "speech": [ "Good question, Steve. But I think you're sort of potentially leading me into giving fairly detailed loan growth guidance for 2022, which I'm not really in a position to do. But let me see if I can answer this at a high level. I mean we've talked a lot about spend, which we believe in, driving card loans higher.", "So that's one piece. And the revolve story within that, as a function of the spend down in cash buffers, especially in our revolver -- the revolving segment of our customers. And obviously, as you know well, if you kind of think about our NII as the sum product of the NIM and the outstandings in the various loan categories, it is really disproportionately card that drives things. In the meantime, if you move a little bit away from consumer to the larger wholesale system, in a world where even if tapering starts relatively soon, if that plays out over roughly eight months at $15 billion of decrease a month, you still -- if you do the math, wind up with another $0.5 trillion of QE.", "So we are dealing with a system that has a lot of surplus liquidity. And so in that context, realistically, it's hard to imagine seeing a lot of wholesale loan growth at a minimum. But frankly, that's not really a big driver of performance for us. So I don't know if that helps, but it's a good question." ] }, { "name": "Steve Chubak", "speech": [ "No. Thanks, Jeremy. It absolutely helps. And just one clarifying question on the FICC commentary.", "You noted this quarter's result included an adjustment to liquidity assumptions in the derivatives portfolio. I'm assuming you could help unpack what that adjustment actually entails? What prompted it? And could you help size the impact in the quarter?" ] }, { "name": "Jeremy Barnum", "speech": [ "I could help unpack it, but it would take another 20 minutes, which we don't really have. It's just bog-standard liquidity evaluation-type stuff in the derivatives book in terms of -- as we revise our assumptions about what the potential transaction cost would be associated with transferring certain types of positions. It's normal-course stuff that just happened to be a little bit bigger. I think fixed income was down 20%.", "And I think without that, it would have been down 15%, so hope that helps." ] }, { "name": "Steve Chubak", "speech": [ "Very helpful. Thanks for taking my questions." ] }, { "name": "Operator", "speech": [ "Next question is from Matthew O'Connor from Deutsche Bank. Please proceed." ] }, { "name": "Matthew O'Connor", "speech": [ "Hey, guys. I was hoping to follow up on the capacity to deploy liquidity. And I guess just to kind of lean in a little bit. If we look at the growth in deposits -- and I know some of them are kind of considered noncore.", "But take out the loan growth and the growth in the securities book since COVID, you've got about an extra $500 billion of deposits. And how much of that do you think can be deployed into securities? And understanding that you expect loan growth to pick up, so that will go to some. But is there a way to size that $500 billion capacity in terms of bond securities?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I think there's a lot of factors that play into what the deployment decision is in any given moment. Obviously, as you said, loan growth. But also we will always make these decisions on a long-term economic basis, not for the purpose of generating short-term NII.", "And so when you do that, you have to think about capital volatility, drawdowns and, frankly, whether or not you see value. And that, if anything, is probably the biggest single factor right now, as I talked about earlier. It is true that the market has come a little bit more in line with our views, at least from a rate perspective and that may lead to a little bit more deployment, all else equal right now. But when you start talking about spread product, for example, in light of the liquidity environment that we're in and the QE numbers that I mentioned a second ago, that remains very, very compressed.", "And there's just not a lot of value there. So we're always -- we always try to be long-term, economically motivated there considering all the scenarios, considering risk management, considering the convexity of the balance sheet and looking at value and being tactical there. So that's really how I would think about that." ] }, { "name": "Matthew O'Connor", "speech": [ "Yup. I mean I understood on the near-term basis. But I think a lot of investors are sitting here saying, if the 10-year or really any part of the curve hits that magic point for you, what is just the capacity? So for example, if the 10-year gets to say 3% and you're confident it's not going to go to 5%, do you have $100 billion of capacity? Is it $300 billion? Just any way to frame it longer term, appreciating that it's not what you're looking to do at this moment at these levels?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. No, I get the question and ..." ] }, { "name": "Jamie Dimon", "speech": [ "We can easily do $200 billion." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. I mean I get the question. I get why you want to know. I guess I just feel -- think like for a company of our sophistication and given how carefully we think about this stuff, the idea of a particular target at which we would deploy a particular amount, of course, Jamie's right.", "But it's always going to be situational. It's always going to be a function of why the rate is where it is. I mean in your question, you alluded to it. It's like if the 10-year notes are at 3% and we're sure it's not going to 5%, but then where is the rest of the yield curve? What are the other options? What's going on in that moment? So it's -- there's -- we're always going to be situational and tactical about it." ] }, { "name": "Matthew O'Connor", "speech": [ "That's helpful. And then can I just squeeze in? You've announced a bunch of kind of what most of us would characterize as relatively small acquisitions, some this quarter and, obviously, looking back for the full year. Is there something -- is there a way you can kind of size the capital impact of that? I know most of the terms weren't disclosed individually. But any way to frame kind of the capital and financial impact? And then just lastly, remind us like what is the driving force when you look for a deal? Because some of the deals you kind of look at and you're like, how does that fit into broader J.P.", "Morgan Chase? Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, I think it's ..." ] }, { "name": "Jamie Dimon", "speech": [ "The capital impact in total isn't that big a deal. No, we're not going to disclose any more, nor is the immediate financial impact. And each one is different. So in consumer, Jeremy already said, it's more about lifestyle, travel, lounges, millennial, stuff like that.", "In asset management, it's products. There was tax-efficient products, ESG products, timber products, stuff like that. And then between nutmeg and C6 and stuff like that, that is the longer-term view about us trying to get positioned into retail overseas over 10 years if we can." ] }, { "name": "Matthew O'Connor", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Next one is coming from Gerard Cassidy from RBC Capital markets. Please proceed." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning. Jeremy, you were saying that when we were talking earlier about the potential SLR changes and such and we haven't seen anything in Quarles' leaving today. But you mentioned about maybe the Fed is focused on the Basel III endgame that's coming very soon here.", "Can you share with us, from your guys' perspective, what are you focusing in on with the Basel III final rules and regulations that could affect your growth going forward?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I think, I mean, the thing about the Basel III endgame is that you need to essentially deal simultaneously with the Basel floors, the Basel standardized floors and the Collins floor. So you need to simultaneously -- so from the perspective of the staff that's working on this stuff, they have a tough challenge to simultaneously put in place a U.S. rule, which is Basel compliant, while also complying with the Collins floor standardized RWA minimum.", "And so that's complicated and it's hard and it's quite technical. And that sort of explains why it's taking a little bit longer than we might have otherwise thought. In terms of the impact of that on our long-term growth, I mean, at a high level, it's unlikely to be significant. I think that the related point is whether or not there are some changes as part of that or contemporaneously with that to these sort of non-risk-sensitive size-based constraints, like G-SIB and SLR, where obviously, most prominently in the case of G-SIB, it's really getting pretty extreme in terms of the growth in the score for reasons that really have nothing to do with what the original design of the metric was and to a very significant degree, are driven by the expansion of the system that we've seen in the last 18 months.", "So that's why we believe that, that should be addressed as was contemplated in the original rule. And so across all of those potential changes, you could see us doing a little bit of optimization in response to those. You can imagine that Basel III endgame in terms of standardized and advanced and the impact on different products might make some things a little bit more capital efficient and others, a little bit less capital efficient at the margin. But we're a big, diversified company.", "We're pretty good at navigating this stuff. So when we have clarity, we'll make the necessary tweaks." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. Thank you. And then obviously, you and the industry have seen really good deposit growth on a year-over-year basis. I think your deposits are up 20% all in.", "You talked specifically about retail being the No. 1 market share in retail deposits. When the Fed ends QE, assuming it does sometime by the middle of next year -- and I'm not asking you guys to forecast where your deposits are going to be. But just higher level, should we anticipate that deposits could actually decline or no, that they are going to be so sticky, even with the liquidity that everybody carries, that we shouldn't really see a decline in deposits after QE ends, so let's call it, second half of next year?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I think there's a couple of factors in here. So let's, for the sake of argument, set RRP aside for a second and hold that constant. If you just look at the impact of QE on systemwide deposits -- we talk about tapering, but as I said earlier, tapering still involves another $0.5 trillion of system expansion between now and the end of tapering or rather between the start of tapering and the end of tapering.", "If the Fed follows the same type of trajectory that it followed last time, there would be an extended pause between the end of QE and the beginning of QT. And again, setting RRP aside for a second, it would only really be with the beginning of QT that you would expect the size of the system deposit base to start shrinking. And I think the timing last time, if I remember correctly, was something like 22 months between the end of QE and the beginning of QT. Now of course, RRP could bounce around and there could be other factors.", "But at a high level, that's how we're thinking about it." ] }, { "name": "Jamie Dimon", "speech": [ "And I -- I would just add my two cents. I think they'll have to go quicker than that and they'll have to reverse some of it. So you're talking about -- we're still going to increase deposits for a year and then there'll be a fairly large reduction over a two or three year period, which we should be prepared for." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next question is from Charles Peabody from Portales Partners. Please proceed." ] }, { "name": "Charles Peabody", "speech": [ "Good morning. I wanted to sort of get a progress report on your new headquarter building. Specifically, what's the move-in -- projected move-in date or has that been affected by the pandemic? Secondly, are there costs -- noticeable costs running through 2021 expense structure for that build out? And does that tick up noticeably when you move in? And then thirdly, what's the plan for unloading the properties that you'll be vacating? And how is that being affected by the current real estate market? Thank you." ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. So the plan is on schedule, move-in date, 20 -- I think 2025. There are no material expense. Of course, there's duplicate expenses and we have to sell the building and stuff like that.", "But there's nothing material to our shareholders we need to disclose. Operator, any other questions?" ] }, { "name": "Operator", "speech": [ "Yes, sir. That is coming from Andrew Lim from Societe Generale. Please proceed." ] }, { "name": "Andrew Lim", "speech": [ "Hi, good morning. Thanks for taking my question. And so you talked, Jamie, about how you're focusing on inflation. Just wondering if you could outline what you're looking at exactly metric-wise across your businesses to signal to you that inflation is actually materializing as a concern.", "And how would that pan out versus your expectations? And in terms of like how we deal with it, so if it does materialize as a concern, is there anything that you can do to try and protect the bank against inflationary forces there?" ] }, { "name": "Jamie Dimon", "speech": [ "Yeah. Well, I mean I think we should look at the big picture here, which I think it's always important. I mean two years ago, we were facing COVID, verging a great depression, global pandemic. And that's all in the back mirror, which is good.", "So by, hopefully, a year from now, there will be no supply chain problem. The pandemic will become endemic. And I think it's very good to have good, healthy growth, which we have. And I think it's -- be good to have unemployment at 4%.", "It's good that their jobs are open. I think it's going to waste window? And I think there's too much focus on -- and none of this changes how we run the business. Which we add clients all the time, consumer, card, auto, deposits, real estate, small business, large companies and stuff like that, which is really the underlying thing that drives J.P. Morgan.", "It's not whether they take the revolver from 25% or 27%. So having said all of that, yes and I'm not focused on inflation. We simply are pointing out, well, first of all, you have inflation. It's 4%.", "It's been 4% now for the better part of a couple of quarters. And in my view, unlikely to be lower than that next quarter or the quarter after that. The only question is, does it start to ease after that with supply chains and wages, more people looking for work or does it continue to go up? And of course, we prepare for probabilities and eventualities. And one of those probabilities is that it might go higher than people think, that they'll have to tamp down.", "I doubt that will happen before late 2022. In the meantime, I think it's unbelievable that we're getting out of this thing and have 4% unemployment. And you can have good growth with some inflation and that's OK. I think the people are always focusing too much on immediate concerns.", "If you have inflation of 4% or 5%, we're still going to open deposit accounts and checking accounts and grow our business. I also should point out because this is always in the back of my mind, of our $30 billion of revenues, $20 billion is subscription revenues, asset management, commercial banking, consumer banking which is pretty good, wholesale payments, security services, custody. And so we're pretty proud with the people who accomplished all this. If you look at the actual underlying numbers we're getting earnings per second, more customers, more accounts, more share.", "And at the end of the day, that is what drives everything." ] }, { "name": "Andrew Lim", "speech": [ "OK. That's great. So it seems like you're taking a benign view that it's a manageable -- it's not going to get out of hand." ] }, { "name": "Jamie Dimon", "speech": [ "No. No. It's the opposite. I'm telling you I don't -- no, it's the opposite.", "I'm telling you, I don't know. We're prepared for all eventualities. There may be a fat tail of inflation. And one of the things about our balance sheet -- you guys talked about liquidity and stuff like that.", "One of the fat tails a bank should be -- the banks should be worried about is high inflation and high rates. And have -- being very liquid protects us more against that than other things." ] }, { "name": "Andrew Lim", "speech": [ "Right. Got it. Thanks for the clarity on that. And just a short follow-on question really.", "Could you update us on the amount of excess provisions you've got versus your base case economic scenario? You've given that number in the past. And perhaps a bit of color also on how that base case has changed over the quarter, if it has indeed." ] }, { "name": "Jeremy Barnum", "speech": [ "Yeah. So I think the base case, the central case has probably actually gotten a tiny bit worse quarter on quarter in light of the revisions in GDP outlook. But as you know, the framework also involves looking at probability-weighted scenarios. And as I said in the prepared remarks, the sort of less extreme downside scenarios contributed a bit to the release this quarter.", "In terms of sizing the overall balance, again, as I said in the prepared remarks, they remain a little bit elevated relative to what they would be if we had this type of economic performance with none of the COVID-related unusual features, i.e., uncertainty about the virus as much as we are optimistic about that right now, or uncertainty about labor market conditions or the fact that even though a lot of the -- essentially all the federal-level unemployment assistance has now rolled off and most of the states have, too, there's still some forms of assistance. The mortgage foreclosure moratoriums, student loan stuff, rent moratoria, stuff like that, that don't roll off until later in the year. So there's a number of factors in the environment that are still unusual, which do contribute to slightly elevated reserves relative to what we would otherwise have. And as things play out, those will develop." ] }, { "name": "Jamie Dimon", "speech": [ "Jeremy, just to interrupt real quickly. I got to go because I'm out of town. I have meetings I have to go to, but you guys should continue. And folks, thanks for listening to us and we'll talk to you all soon." ] }, { "name": "Jeremy Barnum", "speech": [ "All right. Thanks, Jamie." ] }, { "name": "Operator", "speech": [ "And by that, we have no further questions waiting." ] }, { "name": "Jeremy Barnum", "speech": [ "OK. Thanks very much." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
JPM	2022-07-14	[ { "description": "Chief Financial Officer", "name": "Jeremy Barnum", "position": "Executive" }, { "description": "Wolfe Research -- Analyst", "name": "Steve Chubak", "position": "Analyst" }, { "description": "Chairman and Chief Executive Officer", "name": "Jamie Dimon", "position": "Executive" }, { "description": "Evercore ISI -- Analyst", "name": "Glenn Schorr", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "John McDonald", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Betsy Graseck", "position": "Analyst" }, { "description": "Seaport Global Securities -- Analyst", "name": "Jim Mitchell", "position": "Analyst" }, { "description": "Jefferies -- Analyst", "name": "Ken Usdin", "position": "Analyst" }, { "description": "Wells Fargo Securities -- Analyst", "name": "Mike Mayo", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Gerard Cassidy", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Erika Najarian", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Ebrahim Poonawala", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt OConnor", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning, ladies and gentlemen. Welcome to JPMorgan Chase's second quarter 2022 earnings call. This call is being recorded. [Operator instructions] We will now go live to the presentation.", "Please stand by. At this time, I would like to turn the call over to JPMorgan Chase's chairman and CEO, Jamie Dimon; and Chief Financial Officer Jeremy Barnum. Mr. Barnum, please go ahead." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, operator. Good morning, everyone. The presentation is available on our website, and please refer to the disclaimer in the back. Starting on Page 1.", "The firm reported net income of $8.6 billion, EPS of $2.76 on revenue of $31.6 billion, and delivered an ROTCE of 17%. Touching on a few highlights. We had another quarter of strong performance in markets, which generated revenue of nearly $8 billion. Credit is still quite healthy, and net charge-offs remain historically low.", "And there continue to be positive trends in loan growth across our businesses, with average loans up 7% year on year and 2% quarter on quarter. On Page 2, we have some more detail. Revenue of $31.6 billion was up $235 million or 1% year on year. NII ex Markets was up $2.8 billion or 26%, driven by higher rates and balance sheet growth.", "NIR ex Markets was down $3.6 billion or 26%, largely driven by lower IB fees and higher card acquisition costs, and markets revenue was up $1 billion or 15% year on year. Expenses of $18.7 billion were up $1.1 billion or 6% year on year, predominantly on higher investments and structural expenses, partially offset by lower volume and revenue-related expenses. And credit costs were $1.1 billion, which included net charge-offs of $657 million and reserve builds of $428 million, reflecting loan growth as well as a modest deterioration in the economic outlook. On to balance sheet and capital on Page 3.", "Let's start by talking about our plans for capital management over the coming quarters. The new 4% NCB will raise our standardized CET1 requirement to 12% effective in the fourth quarter, and the 4% G-SIB effective in 1Q '23 further raises this requirement to 12.5%. At Investor Day, we said that we expected SCB to be higher and made it clear that in the near term, share buybacks would be significantly reduced in order to build capital for the increased requirements. In light of the SCB coming in even higher than expected, we have paused buybacks for the near term.", "As we discussed at Investor Day and as we show at the bottom of this presentation page, our organic capital generation allows us to rapidly build capital in excess of future requirements with a current target of roughly 12.5% in the fourth quarter. Any access over the regulatory requirements offers us protection against a range of economic scenarios with room to deploy capital in line with our strategic priorities. We have a long-established track record of balance sheet discipline across the company, and this quarter's RWA reduction shows evidence of this discipline. Turning to this quarter's results, you can see that our CET1 ratio of 12.2% and is up 30 basis points from the prior quarter.", "RWA was down approximately $44 billion with growth in franchise lending being more than offset by the combination of active balance sheet management and the normalization of market risk RWA from the first quarter. CET1 capital was slightly down as earnings were offset by distributions and the impact of AOCI drawdowns in our AFS portfolio. Now let's go to our businesses, starting with consumer and community banking on Page 4. Before I review CCB's performance, let me touch on what we're seeing in our data regarding the health of the U.S.", "consumer. Spend is still healthy with combined debit and credit spend up 15% year on year. We see the impact of inflation and higher nondiscretionary spend across income segments. Notably, the average consumer is spending 35% more year on year on gas and approximately 6% more on recurring bills and other nondiscretionary categories.", "At the same time, we have yet to observe a pullback in discretionary spending, including in the lower income segments, with travel and dining growing a robust 34% year-on-year overall. And with spending growing faster than incomes, median deposit balances are down across income segments for the first time since the pandemic started, though cash buffers still remain elevated. With that as a backdrop, this quarter, CCB reported net income of $3.1 billion on revenue of $12.6 billion, which was down 1% year on year. In Consumer and business banking, revenue was up 9% year on year, driven by growth in deposits.", "Deposits were up 13% year on year and 2% quarter on quarter. And client investment assets were down 7% year on year, driven by market performance, partially offset by flows. Home lending revenue was down 26% year on year as the rate environment drove both lower production revenue and tighter spreads, partially offset by higher net servicing revenue. And mortgage origination volume of $22 billion was down 45%.", "Moving to card and auto. Revenue was down 6% year on year, reflecting higher acquisition costs on strong new card account originations and lower auto lease income, largely offset by higher card NII. Card outstandings were up 16%, and revolving balances were up 9%. And in auto, originations were $7 billion, down 44% from record levels a year ago due to continued lack of vehicle supply and rising rates, while loans were up 2%.", "Expenses of $7.7 billion were up 9% year on year driven by higher investments and structural expenses, partially offset by lower volume and revenue-related expenses. In terms of actual credit performance this quarter, credit costs were $761 million, reflecting net charge-offs of $611 million, down $121 million year on year, driven by card and a reserve build of $150 million in card driven by loan growth. Next to CIB on Page 5. CIB reported net income of $3.7 billion on revenue of $11.9 billion.", "There were a number of notable items this quarter, including net markdowns on certain equity investments of approximately $370 million was about $345 million reflected in payments and markdowns on the bridge book of approximately $250 million in IB revenue. Investment banking revenue of $1.4 billion was down 61% year on year or down 53%, excluding the Bridge book markdowns. IB fees were down 54% versus an all-time record quarter last year. We maintained our No.", "1 rank with a year-to-date wallet share of 8.1%. In advisory, fees were down 28%, reflecting a decline in announced activity, which started in the first quarter. The volatile market resulted in muted issuance in our underwriting businesses. Underwriting fees were down 53% for debt and down 77% for equity.", "In terms of outlook, while our existing pipeline remains healthy, conversion of the deal backlog may be challenging if the current headwinds continue. Lending revenue of $410 million was up 79% versus the prior year, driven by gains on mark-to-market hedges as well as higher loan balances. Moving to markets. Total revenue was $7.8 billion, up 15% year on year in both fixed income and equities against a strong quarter last year.", "In fixed income, elevated volatility drove both increased client flows and robust trading results in the macro franchise, most notably in currencies and emerging markets. This was partially offset by credit unsecuritized products in a challenging spread environment. In equity markets, we had a strong second quarter, and again, increased volatility produced a strong performance in derivatives. Credit adjustments and other was a loss of $218 million, largely driven by funding spread widening.", "Payments revenue was $1.5 billion, up 1% year on year or up 25%, excluding the markdowns on equity investments. The year-on-year growth was primarily driven by higher rates. Security services revenue of $1.2 billion was up 6% year on year, with growth in fees and higher rates more than offsetting the impact of lower market levels. Expenses of $6.7 billion were up 3% year on year, predominantly driven by higher structural expenses and investments, largely offset by lower revenue-related compensation.", "Moving to commercial banking on Page 6. The commercial banking reported net income of $1 billion. Revenue of $2.7 billion was up 8% year on year, driven by higher deposit margins, partially offset by lower investment banking revenue. Gross investment banking revenue of $788 million was down 32%, driven by lower debt and equity underwriting activity.", "Expenses of $1.2 billion were up 18% year on year, predominantly driven by higher structural and volume and revenue-related expenses. Deposits were down 5% quarter on quarter, driven by migration of nonoperating deposits into higher-yielding alternatives, which we expect to continue given the current rate environment. Loans were up 4% sequentially. C&I loans were up 6%, reflecting higher revolver utilization and originations across middle market and corporate client banking.", "CRE loans were up 3%, driven by strong loan originations and funding in commercial term lending and real estate banking. Finally, credit costs of $209 million were largely driven by loan growth, while net charge-offs remain historically low. And then to complete our lines of business, AWM on Page 7. Asset and wealth management reported net income of $1 billion with pre-tax margin of 31%.", "For the quarter, revenue of $4.3 billion was up 5% year on year, driven by growth in deposits and loans as well as higher margins, partially offset by investment valuation losses versus gains in the prior year. In addition, reductions in management fees linked to this year's market declines have been almost entirely offset by the removal of most money market fund fee waivers. Expenses of $2.9 billion were up 13% year on year, largely driven by investments in our private banking advisory teams, technology, and asset management as well as higher volume and revenue-related expenses. For the quarter, net long-term inflows of $6 billion were driven by equities.", "AUM of $2.7 trillion and overall client assets of $3.8 trillion, down 8% and 6% year on year, respectively, were predominantly driven by lower market levels, partially offset by net long-term inflows. And finally, loans were up 1% quarter on quarter, while deposits were down 7% sequentially, driven by seasonal client tax payments. Turning to corporate on Page 8. Corporate reported a net loss of $174 million.", "Revenue was $80 million versus a loss in the prior year. NII was $324 million, up $1.3 billion, predominantly due to the impact of higher rates. And expenses of $206 million were lower by $309 million year on year. Next, the outlook on Page 9.", "You will recall that at Investor Day, we expected NII ex Markets for 2022 to be in excess of $56 billion. We now expect it to be in excess of $58 billion, reflecting Fed funds reaching 3.5% by year end. We still expect adjusted expense to be approximately $77 billion and the card net charge-off rate to be less than 2% for 2022. So to wrap up, the company's performance was strong again this quarter in what was a complex operating environment.", "As we look forward, we are mindful of the elevated uncertainty in the global economy, but we feel confident that we are prepared and well-positioned for a broad range of outcomes. With that, operator, please open up the line for Q&A." ] } ]	[ { "name": "Operator", "speech": [ "Please stand by. And the first question is coming from Steve Chubak from Wolfe Research. Please proceed." ] }, { "name": "Steve Chubak", "speech": [ "Hey. Good morning, Jeremy. Good morning, Jamie. I wanted to start off with a question on capital targets.", "I don't believe you've provided an update on your firmwide CET1 target of 12.5% to 13%. And given the new higher SCB, future increases in your G-SIB surcharge to 4.5%, your regulatory minimum is slated to increase beyond 13% by 2024, which is also beyond the horizon reflected on Slide 3. And just given that high regulatory minimum, elevated SCB volatility in recent years, what do you believe is an appropriate capital target for you to manage from here over the long term?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, Steve. Good question. So obviously, you're right in the sense that we didn't talk about 2024 on the slide. And as you note, have two G-SIB bucket increases coming, one in the first quarter of '23 and the other one in the first quarter of '24.", "So we had worked all that out on Investor Day and talked about 12.5% to 13% target, which implies sort of a modest buffer to be used flexibly based on what we expected would be some increase in SCB. Obviously, the increase came in a bit higher than expected. So for now, we're really focused on 1Q '23. Of course, all else equal, you would assume that, that 12.5% to 13% for 2024 would be a little bit higher.", "But there is another round of SCB, and that's a long way away. And as you know, and as you can see, there's a lot of organic capital generation. So we'll kind of cross that bridge when we come to it." ] }, { "name": "Jamie Dimon", "speech": [ "And we intend to drive that SCB down by reducing the things that created it." ] }, { "name": "Steve Chubak", "speech": [ "Fair enough. And just for my follow-up on the loan growth outlook. Loan growth continues to surprise positively. Certainly, the tone, Jeremy, that you conveyed was quite constructive despite the challenging macro backdrop.", "But with companies just citing higher inventory levels, declining personal savings rates, growing inflationary pressures, whole list of potential headwinds that could negatively impact loan growth from here, I was hoping you could just speak to the outlook for loan growth across some of the different businesses? And what do you see as a sustainable run rate of loan growth over the medium term?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. So we've talked, as you know, Steve, about sort of a mid -- high single digits loan growth expectation for this year. And that outlook is more or less still in place. Obviously, we only have half the year left.", "We continue to see quite robust C&I growth, both higher revolver utilization and new account origination. We're also seeing good growth in CRE. And of course, we continue to see very robust card loan growth, which is nice to see. Outlook beyond this year, I'm not going to give now.", "And obviously, as you know, it's going to be very much a function of the economic environment, so --" ] }, { "name": "Jamie Dimon", "speech": [ "Yes. The only thing I would like to add is that certain loan growth is discretionary and portfolio-based, think of mortgages, and there's a good chance we're going to drive it down substantially." ] }, { "name": "Steve Chubak", "speech": [ "Fair enough. Thanks so much for taking my questions." ] }, { "name": "Jeremy Barnum", "speech": [ "Thanks, Steve." ] }, { "name": "Operator", "speech": [ "The next question is coming from Glenn Schorr from Evercore ISI. Please proceed." ] }, { "name": "Glenn Schorr", "speech": [ "Hi. Thanks very much. I wonder if you could just talk to how you balance it all? Meaning JPMorgan is always growth-minded. You underwrite for returns over the cycle.", "I get that. But given some of the potential bad stuff going on in the world that you've noted in some of the articles you've been in and at the conference, is there any point where that rougher outlook has you tightened the underwriting box to build capital and liquidity faster? Or do you think you can get there just through what you've laid out today on the buyback pause?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. No. So I mean, look, I think all of these things are true at the same time, right? So first of all, as you can see on Page 3, the organic capital generation enables us to build very quickly to get to where we need to be with a nice appropriate buffer on time, if not early. At the same time, as Jamie has noted, obviously, in this moment, we're going to scrutinize even more aggressively than we always do, elements or lending, which are either low returning or have a low client nexus or both.", "We do that all the time anyway. But of course, in this moment, we're going to turn up the heat on that a little bit. In terms of underwriting, as you say, we do underwrite through the cycle. I think we feel comfortable with our risk appetite and our credit box.", "And I don't think we expect any particular change there." ] }, { "name": "Jamie Dimon", "speech": [ "And the only thing I would add is that certain, obviously, risks that we take kind of price themselves. So if you look at our bridge book, it's smaller than it was because we price ourselves out of the market. And that was a good thing because a lot of people can lose a lot of money there, and we lost a little. And so we are very conscious of that kind of thing all the time." ] }, { "name": "Glenn Schorr", "speech": [ "I appreciate that. And did you all consider a CECL reserve and increasing the probability to the poor scenario in this quarter? And just curious on how you thought about that." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. But we didn't do it. And obviously, what we do in the future quarters will remain to be seen." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. And, Glenn, just remember that we did do that last quarter, right? So we already introduced a sort of skew to the outlook beyond what's implied by the market to reflect our own slightly more negative view. And in a sense, arguably, we were sort of early on that. So it really wasn't necessarily this quarter." ] }, { "name": "Glenn Schorr", "speech": [ "All right. Thank you, both." ] }, { "name": "Operator", "speech": [ "The next question is coming from John McDonald from Autonomous Research. Please proceed." ] }, { "name": "John McDonald", "speech": [ "Hi. Good morning. Jeremy, I was wondering if you could talk about the deposit trends you're seeing, the differences between commercial deposits, wealth management and retail in terms of flows and repricing pressures." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Great question, John. And I think you're right to break it down by the different segments because we are seeing different dynamics there. So on the wholesale side, you do see some lower deposits, some deposit attrition, and that is entirely expected and part of the plan in the sense that for client reasons, we had slightly higher appetite, especially in parts of the commercial bank for nonoperating deposits, knowing fully that our pricing strategy, as rates went up, was going to be to not pay up, and therefore, we expected the attrition from those -- from that client base.", "And so we're seeing that, and that's actually something that we want, all else equal, and it's playing out in line with expectations. You do see a little bit of a decline or a little bit of a headwind in wealth management. I think that's just seasonal tax payments being a little bit higher than usual. And then on the consumer side, we're really not seeing much at all.", "So that remains strong, not seeing any attrition there, and it's early in the cycle to really be observing much one way or the other from a pricing perspective." ] }, { "name": "John McDonald", "speech": [ "OK. And then as a follow-up, in terms of the updated NII outlook, you had talked about an exit rate in the fourth quarter of about $66 billion at Investor Day. Just kind of wondering what that looks like and what kind of fading benefit from rate ex you have assumed in your outlook." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. So the 66 number, if you want, kind of to put a number in, you can use something like 68, 68 plus, something like that. Obviously, we're annualizing one quarter. So there can always be noise in there, but that seems like a good number to us.", "That's consistent with the increase for the full year. And sorry, John, can you repeat your other question?" ] }, { "name": "Jamie Dimon", "speech": [ "2023." ] }, { "name": "John McDonald", "speech": [ "A good deposit [Inaudible]. Yes." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Yes. Yes. So in terms of '23, we had talked at Investor Day about how we saw upside into 2023 from that fourth quarter run rate.", "And that more or less remains true. There is some upside. Obviously, we're starting from a higher launch point, higher rates and less so after the CPI brand, but there have been moments where there were cuts in the 2023 Fed expectations. So that could have some impact on the dynamic.", "Obviously, this is all in an environment very volatile implied, but the core view of some upside from that fourth-quarter run rate into 2023 is still in place." ] }, { "name": "John McDonald", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from Betsy Graseck from Morgan Stanley." ] }, { "name": "Betsy Graseck", "speech": [ "Hi. Good morning." ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Betsy." ] }, { "name": "Jamie Dimon", "speech": [ "Hey, Betsy." ] }, { "name": "Betsy Graseck", "speech": [ "Jamie, you mentioned just on the SCB earlier that you intended to reduce it by reducing the things that caused it to rise. Could you give us a sense as to what you saw in the results that you got that drove that SCB up, because I talked to folks to say it's a black box. So it would be helpful to understand what you see as what the drivers were to that SCB increase." ] }, { "name": "Jamie Dimon", "speech": [ "First of all, it's public. So you can actually go see what drives it, the global market shock and credit loss and stuff like that. And we don't agree with the stress test. It's inconsistent.", "It's not transparent. It's too volatile. It's basically capricious arbitrary. We do 100 a week.", "This is one. And I need to drive capital up and down by 80 basis points. So we'll work on it. We haven't made definitive decisions.", "But I've already mentioned about we dramatically reduced RWA this quarter. We may do that again next quarter. We're probably going to drive down mortgages, and we'll probably drive that other credit too that creates SCB. So I could go into specifics on that.", "It's easy for us to do. You've seen us do it before. We're going to drive out non-IP deposits. it creates no risk to us, but as the G-SIFI and various things.", "And so we're going to manage the balance sheet, get good returns, have great clients and not worry about it. We just want to get there right away. I don't want to sit there and do [Inaudible] out. That's the rule.", "They gave it to us. We're going." ] }, { "name": "Betsy Graseck", "speech": [ "Got it. And then –" ] }, { "name": "Jeremy Barnum", "speech": [ "Hey, Betsy. Maybe I'll just jump in a little bit on the black box." ] }, { "name": "Jamie Dimon", "speech": [ "There's another very important point for shareholders. That number, that doesn't need remotely -- the stress loss doesn't even remotely represent what happened under that kind of scenario. And I'm not saying the Fed says it should or shouldn't. But I would tell you, we'd make money under that scenario.", "We wouldn't lose -- I think they had us losing $44 billion. There's almost no chance that that would be true. And I just -- and I feel bad for the shareholders because people look at that and say, \"Well, what's going to happen?\" And in by, there's good evidence. We didn't lose money after Lehmann.", "We didn't lose money in the great -- what just happened. We didn't lose money, great financial recession. The company has got huge underlying earnings power and consistent revenues in CCB, asset management, custody, payment services. And then we have some kind of fairly volatile streams.", "Now we've got the CECL, which obviously can go up or down quite a bit. But again, that's an accounting entry. And so we feel in very good shape. We just have to hold a higher number now, and we're going to go there." ] }, { "name": "Jeremy Barnum", "speech": [ "And Betsy, maybe I'll just comment briefly on the black box point because as Jamie noted, the SCB is quite volatile, and I think you see that across the industry, and it's -- you have to -- we feel very good about building quickly enough to meet the higher requirements, but with pretty big changes that come into effect fairly quickly for banks, and I think that's probably not healthy. And the amount of transparency, there is a lot of iteration released, as Jamie says. But since the SCB is really a quantity that gets measured to the peak drawdown period, and that information does not get released, it winds up being really very hard at any given moment to understand what's actually driving it. And that combination of suboptimal transparency and high volatility is really our central criticism, I guess, I would say.", "But nonetheless, you got capital general." ] }, { "name": "Jamie Dimon", "speech": [ "This got bad effects for the economy because, I just said, we're going to drive down this and drive down. It's not good for the United States economy. And the mortgage business, in particular, is bad for lower-income mortgages, which hurts lower income, minorities, and stuff like that because we haven't fixed the mortgage business, and now we're making it worse. There's no real risk in it, not a benefit to JPMorgan, but it hurts this country, and it's very unfortunate." ] }, { "name": "Betsy Graseck", "speech": [ "No. I hear you on all that. And the mortgage comment you made earlier was about shrinking mortgage growth rates or shrinking the balances of mortgages that you have on the books?" ] }, { "name": "Jamie Dimon", "speech": [ "The balance -- well, no. We'll originate but the balances in the books will probably come down. And look, we reserve the right to change that. But that's a portfolio decision.", "And if it doesn't make sense to own mortgage, we're not going to own them." ] }, { "name": "Betsy Graseck", "speech": [ "Yes. And would you reduce the buffer? I mean, in the past, Jamie, you've talked about, hey, as these required capital ratios increase relative to the risk in your business staying more consistent than you've said before, that you may operate with less of a buffer. Could you unpack that a little bit?" ] }, { "name": "Jamie Dimon", "speech": [ "We're going to keep a buffer -- I'm not even sure what the SCB means at this point. We're not going to go below any regulatory minimum. And if we have to, we'll just drive down credit more to where we got to create. It's a terrible way to run a financial system, and we owe you more on what we think that buffer should be because we have so much -- what I think is so much excess capital.", "It just causes a huge confusion about where you should be doing your capital. But keep in mind, one thing, we're earning 70% of tangible equity. We can continue doing that. The company is in great shape.", "We're going to serve our clients and manage the hell out of the rest of the stuff. We still think we have great businesses and stuff like that, and that's what we're going to do. Most of this stuff doesn't create any additional risk at all. It just creates capital." ] }, { "name": "Betsy Graseck", "speech": [ "All right. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from Jim Mitchell from Seaport Global Securities. Please proceed." ] }, { "name": "Jim Mitchell", "speech": [ "Hey. Good morning. Maybe just on expenses. If I kind of look at the first half with the slowdown in investment banking, I think you're annualized less than $76 billion, but you're still targeting $77 billion.", "Is that implication of just higher investment spend in the second half or just uncertainty around getting the pipeline completed or not and just assuming it might get done until we know better?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, Jim. Good question. We've looked at that, too. It's definitely more of the former than the latter.", "In other words, $77 billion is the number that we see right now and the number that we believe. And we can see in our outlook a bunch of factors driving up second half expense, including deal, M&A closing and adding to the run rate as well as continued execution of our investment plans, resulting in increased headcount, probably at a faster pace as we kind of have ramped up our hiring capacity and so on. So I wouldn't draw any conclusions about lower than $77 billion based on the first half numbers." ] }, { "name": "Jim Mitchell", "speech": [ "OK. Great. And then just maybe on credit. It continues to look, I guess, very good, whether it's on the consumer side or commercial side.", "Are you -- we don't really see it, but are you starting to see any initial cracks in credit or strains in the system?" ] }, { "name": "Jeremy Barnum", "speech": [ "Look, I think the short answer to that question is no, certainly not in any of our reported actual results for this quarter. The place that everyone --" ] }, { "name": "Jamie Dimon", "speech": [ "Excellent." ] }, { "name": "Jeremy Barnum", "speech": [ "Right. Exactly. Obviously, running still well below normal levels from the pre-pandemic period. But if you really want to kind of turn up the magnification of the microscope and look really, really, really closely, if you look at cash buffers in the lower income segments and early delinquency roll rates in those segments, you can maybe see a little bit of an early warning signal to the effect that the burn down of excess cash is a little bit faster there.", "Buffers are still above what they were pre-pandemic, but coming down, and that absolute numbers for the typical customer are not that high. And you do see those early delinquency buckets still below pre-pandemic levels, but getting closer in the lower income segment. So if you wanted to try to look for early warning signals, that's where you would see it. But I think there's really still a big question about whether that's simply normalization or whether it's actually an early warning sign of deterioration.", "And for us, as you know, our portfolio is really not very exposed to that segment of the market. So not really very significant for us." ] }, { "name": "Jim Mitchell", "speech": [ "Right. So prime is still holding up quite well? Thanks." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes." ] }, { "name": "Jamie Dimon", "speech": [ "Even better." ] }, { "name": "Operator", "speech": [ "The next question is coming from Ken Usdin from Jefferies. Please proceed." ] }, { "name": "Ken Usdin", "speech": [ "Hey, guys. Good morning. Just a follow-up on the point about managing the balance sheet and capital and RWAs. How do you think about your ability to manage the RWA output and dimensionalizing how, if at all, it might impact either the net income or outcome or the ROTCE outcome as you look forward?" ] }, { "name": "Jamie Dimon", "speech": [ "Just very roughly, we have a tremendous ability to manage it. I can think we do without affecting our ROTC targets and stuff like that. Obviously, it will affect NII a little bit and capital generation a little bit of stuff like that. But all told, we're going to imagine how it will be fine." ] }, { "name": "Ken Usdin", "speech": [ "Got it. OK. That's a fair point. And then just second one on cards.", "Card revenue rate continues to slip even with the NII benefit. Obviously, you've got the denominator increase in there, too, and spend versus land. Can you just help us understand the dynamics underneath Card revenue rate and where you expect it to go from here?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Sure. So on card revenue rate, we've said that we thought 10% was a reasonable number for the full year, and it's running a little bit lower right now. And I think the current level, but where is it, Michael? 9.6 or something is probably the right number for the full year at this point.", "And really, the difference is driven by a couple of factors. The main one is that while the growth in Revolve is basically still in place, our view that we would see normalization and Revolve balances happening toward early -- beginning of next year. The starting point of that did get slightly delayed by omicron by about six weeks. And so that, all else equal's a little bit the headwind relative to what we'd expected, but still obviously very robust." ] }, { "name": "Jamie Dimon", "speech": [ "Can you just add a little bit on -- because I know I'm harping on mortgage a little here, but I just want to explain it. Because -- if you go to Europe, OK, the capital held against mortgage is like a fifth what we have to hold here. And we can obviously manage that and standardize risk-weighted assets do not represent returns or risk. So there are a lot of ways to manage it.", "And we don't have the no-securitization market today. So our view would change if there was a securitization market might do something different. But by not owning it, buying it, sign it, hedging it, swapping it, there are a million ways to manage it without really affecting a lot of your risk of returns. And so it's unfortunate because I think this is all kind of a waste of time in terms of serving our clients.", "Our job is to serve clients through thick or thin, good or bad with what they need, how they need it. And now we spend all the time talking about these ridiculous regulatory requirements." ] }, { "name": "Jeremy Barnum", "speech": [ "Right. So, yes, and just to finish on card. So slightly lower NII just from the omicron delay. And that slightly better-than-expected new client acquisition is a driver there.", "And then there's some subtle kind of funding effects from the higher rate environment contributing to it as well." ] }, { "name": "Ken Usdin", "speech": [ "OK. Thanks a lot." ] }, { "name": "Operator", "speech": [ "The next question is coming from Mike Mayo from Wells Fargo Securities. Please proceed." ] }, { "name": "Mike Mayo", "speech": [ "Hi. Good morning." ] }, { "name": "Jamie Dimon", "speech": [ "Hey, Mike." ] }, { "name": "Mike Mayo", "speech": [ "Could you help me reconcile your words with your actions? After Investor Day, Jamie, you said a hurricane is on the horizon. By today, you're holding firm with your $77 billion expense guidance for 2022. I mean, it's like you're acting like there's sunny skies ahead. You're out buying kayak, surfboards, wave runners just before the storm.", "So is it tough times or not?" ] }, { "name": "Jamie Dimon", "speech": [ "Let me -- we run the company. We've always run the company consistently investing, doing this stuff through storms. We don't like pull in and pull out and go up and go down and go into markets, out of markets through storms. We manage the company, and you've seen us do this consistently since I've been at Bank One.", "We invest, we grow, we expand, we manage through this to and stuff like that. And so -- and I mentioned to all of you on the media call, but there are very good current numbers taking place. Consumers are in good shape. They're spending money.", "They have more income. Jobs are plentiful. They're spending 10% more than last year, almost 30% plus more than pre-COVID. Businesses, you talk to them, they're in good shape.", "They're doing fine. We've never seen business credit be better ever like in our lifetimes. And that's the current environment. The future environment, which is not that far off, involves rates going up, maybe more than people think because of inflation, maybe elation, maybe soft -- there might be a soft landing.", "I'm simply saying, there's a range of potential outcomes from a soft lending to a hard lending, driven by how much rates go up, the effective quantitative tightening, defective volatile markets. And obviously, this terrible humanitarian crisis in Ukraine and the war and then the effect of that on food and oil and gas. And we're simply pointing out, those things make the probabilities and possibilities of these events different. It's not going to change how we run the company.", "The economy will be bigger in 10 years. We're going to run the company. We're going to serve more clients. We're going to open our branch.", "We're going to invest in the things, and we'll manage through that. We do -- if you look at what we do, our bridge book is way down. That was managing certain exposures. We're not in subprime fundamentally.", "That's managing your exposures. So we're quite careful about how we run the risk of the company. And there was a reason to cut back on something we would, but not only we think it's a great business. It's got great growth prospects.", "It's just going to go through a storm. And in fact, going through a storm, we will -- that gives us opportunities, too. So I always remind myself the economy will be a lot bigger in 10 years. We're here to serve clients through a thick or thin, and we will do that." ] }, { "name": "Mike Mayo", "speech": [ "So clearly running the company for the next 5 to 10 years. If we have a recession in the next 5 to 10 months, how does technology help you manage through that better, whether it's credit losses, managing for less credit losses, expenses, more flexibility or revenues may be gaining market share? What's the benefit of all these technology investments if we have a recession over the next --" ] }, { "name": "Jamie Dimon", "speech": [ "Mike, I think we gave you some examples at Investor Day, for example, AI, which we spend a lot of money on, we gave you a couple of examples, but one of them is we spent $100 million building certain risk and fraud systems so that when we process payments on the consumer side, losses are down $100 million to $200 million. Volume is way up. That's a huge benefit. I don't think it wants to stop doing that because there's a recession.", "And so -- and plus, in a recession, certain things get cheaper, branches are enormously probable. Bank are enormously probably. We're going to keep on doing those things. And we've managed through recessions before.", "We'll manage it again. I'm quite comfortable to do it quite well. We stop starting on recruiting or training or technology or a branch, that's crazy. We don't do that.", "We've never done that. We didn't do it in '08 and '09. And then for [Inaudible] in terms -- yes." ] }, { "name": "Mike Mayo", "speech": [ "The only other thing is just market revenue is a lot weaker, right? I mean, the market outlook is worse. And so we know you've had a structural spending. So when all else equal, that would be a little bit less then." ] }, { "name": "Jamie Dimon", "speech": [ "But that's – yes. That's very performance based too. And again, Mike, the way I look at it a little bit in 15 years, the global GDP -- or 20 years, the global GDP, global financial assets, global companies, companies over 5 -- a billion dollars' worth will all double. That's what we're building for.", "We're not building for like 18 months." ] }, { "name": "Mike Mayo", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from Gerard Cassidy from RBC Capital Markets. Please proceed." ] }, { "name": "Gerard Cassidy", "speech": [ "Thank you. Good morning, guys. Jeremy, you touched on the deposit commentary a short while ago. Can you elaborate on QT and the impact that you've seen? Now granted that I know June was not full QT of $95 billion a month.", "But can you guys give us a flavor? And I think, Jamie, you mentioned that -- if I heard it correctly, that maybe $300 billion to $400 billion of deposits could outflow over time, I am assuming due to QT. But can you guys elaborate what you saw in June? Is it tracking the way you think it's going to be? And any further outlook for what the deposits could be over the next 12 months due to QT?" ] }, { "name": "Jeremy Barnum", "speech": [ "Gerard, so as you know, QT just started. So I think it's not the sort of thing where you can say I expect this exact outcome and then sort of track it sector by sector because you can see the clear impact on systemwide deposits, but that also interacts with RP and TGA and stuff like that. And so how that flows into the banking system and then to any individual bank across the wholesale and consumer segments is kind of a tricky thing. So it's early on that.", "But at a high level, in your comments to what Jamie said before are right. The story remains true, which is that depending on how QT interacts with RRP and loan growth, in particular, you could see some decline in deposits in the banking system, and we would see our share of that. But we would expect that to primarily come out of wholesale and primarily come out of the nonoperating and sort of less valuable portions of our deposit base. While in consumer, while you could, in theory, have a little bit of a headwind there, we feel pretty good about our ability to keep those levels pretty steady based on the strength of the franchise and the ability to take share." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. And then as a follow-up, I don't believe you guys disclosed the outstandings in the bridge book. But two questions. And, Jamie, you've been very clear about this for the last 10 years, how you've derisked the balance sheet, and you mentioned that already today.", "Can you just give us some color on how different it is today from '08, '09, just so investors know that it is meaningfully different. And second, what caused the write-down in the bridge book this quarter?" ] }, { "name": "Jamie Dimon", "speech": [ "So if you go back to '07, I think, the whole Street, bridge book was $480 billion. I think the whole Street bridge book today is under 100 or under 100." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. It's like 20%." ] }, { "name": "Jamie Dimon", "speech": [ "Our percent of that bridge book has come down substantially just in the last 12 months. And that's really just underlying loan by loan by loan, and you win some, you lose some. And if you guys look at high-yield spreads and stuff like that, bonds are down 6%. That's what you see.", "So you have some flex. You don't have some flex. And we're big boys. We know that, and there are write-downs of a couple of bridge loans.", "They're not huge. They're just -- I think they were in the investment banking line." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. It's in the IB revenue line, and there's a small amount in the commercial bank as well. But as you said, Jamie, and as Daniel also mentioned at Investor Day, I think we made conscious choices here to dial back our risk appetite and accepted some share losses in leveraged finance. So we feel good about where we are.", "We're still open for business for the right deals at the right risk upside on the right term, absolutely, but we've been careful." ] }, { "name": "Gerard Cassidy", "speech": [ "Very good. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from Erika Najarian from UBS. Please proceed." ] }, { "name": "Erika Najarian", "speech": [ "Hi. I just had a few follow-up questions. The first is on balance sheet management. Jeremy, the illustrative path that you set forth on Slide 3, did that include RWA mitigation? And as we think about the $58 billion-plus in updated NII guide, what kind of deposit growth does that assume? You noted that part of the SCB mitigation is to drive out nonoperating deposits.", "Just wanted to understand what the assumption was there as well, please?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes, Erika. Sure. So first point, you have to turn over your magnifying glass. But if you look at Footnote 5 on Page 3, you can see that right at the end of there, it assumes flat RWA in the projection.", "So -- and I think within that, who knows what the exact mix will be, and you've heard Jamie's comments on that. But if you look at the table above, you see that you've got the usual moving parts. We've got organic loan growth that we want, that's been profitable on its own or part of important relationships that we'd like to see continue to happen. Some of it is a little bit positive.", "We can't really control it. It moves up and down as a function of factors like VAR. And then there's the mitigation piece of it, which we're going to turn up the scrutiny quite intensely, as I said before, on lower returning, lower client excess or boat. So across those three bits, we'll see how it goes.", "But as Jamie said, we feel pretty confident here. In terms of deposits, at this point, deposit growth is probably less of a driver overall looking forward of the NII outlook. Our deposit outlook remains more or less the same that I said before and that we've talked about at Investor Day, which is we do expect to see some attrition in wholesale. We expect consumer to be relatively stable, and we'll see how it goes." ] }, { "name": "Erika Najarian", "speech": [ "Got it. And my follow-up question is for Jamie. Jamie, we've heard your caution about the economy. And I think there's a bigger debate on how the U.S.", "consumer is going to be impacted in light or in context of a downturn. The statistics that Jeremy laid out imply a pretty healthy starting point for the consumer that you bank. And the reserve build for loan growth in card and the less than 2% loss rate in card lead us to believe that your consumer is still OK. As you think about the various scenarios and you think about the realistic range of outcomes, how does the U.S.", "consumer perform? Because it feels like that's the big wildcard, and we've seen the journal term a job for recession. I just wanted to get your thoughts there." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. So, first, I just want to point out that on that chart, that's not a forecast for what it is going to be at the end of the quarter. So we're going to -- if you're going to pencil some of your miles, it's 12.5% on December 31, and it'll probably be 13% at the end of the first quarter. And because obviously, we use capital for a whole bunch of different reasons.", "And the consumer -- it's like a broken record, the consumer right now is in great shape. So even we go in a recession, they're entering that recession with less leverage in far better shape than they've been -- did in '08 and '09 and far better shape than they did even in 2020. And jobs are plentiful. Now, of course, jobs may disappear.", "Things happen. But they're in very good shape. And, obviously, when you have recessions, it affects consumer income and consumer credit. Our credit card portfolio is prime.", "I mean, it's exceptional. But again, we're adults in that. We know that if you have a recession, losses will go up. We prepare for all that, and we're prepared to take it because we grow the business over time.", "We're not going to just immediately run out of it. And so I think it's great the consumer is in good shape. And it sounds excellent that I'd like the fact that wages are going up and keep at the low end. I like the fact that jobs are plentiful.", "I think that's good for the average American, and we should applaud that. And so they're in good shape right now." ] }, { "name": "Erika Najarian", "speech": [ "Thanks for that." ] }, { "name": "Operator", "speech": [ "The next question is coming from Matt O'Connor from Deutsche Bank. Please proceed. The next question is coming from Ebrahim Poonawala from Bank of America Merrill Lynch. Please proceed." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Hey. Good morning. I guess just one for -- a couple of follow-ups, Jeremy. In terms of the markets have gone very quickly from pricing in a ton of rate hikes to potentially pricing in rate cuts next year, just talk to us like how that's informing your ALCO balance sheet management as you think about hedging downside risk from lower rates 12 to 18 months out? Like should we expect you to add duration or do anything synthetic to protect against lower rates?" ] }, { "name": "Jamie Dimon", "speech": [ "We're going to keep that to ourselves." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. Yes. But I don't know, maybe if you want a little bit of general color about how we're thinking about the portfolio. I do think -- yes, OK.", "I'll keep it brief. The -- on duration, I think at this level of rates, also with very quickly cash yields being roughly not that different from 10-year yields. The question of duration adding or not is just generally less important for us. Then the other piece of it is whether there's the opportunity to deploy cash into non-HQLA securities broadly into spread product.", "And obviously, the spread product is more attractive right now. But as we've been talking about a lot on this call, the priority right now is to build capital. So that will be something for later, I would say." ] }, { "name": "Jamie Dimon", "speech": [ "And I should just point out, the forward curve has been consistently wrong in my whole lifetime. We don't necessarily make investments based on the forward curve. And second, we've always told you that we use the portfolio and other things to manage the broad range of outcomes, not just to try to add NII. So if you said add NII next quarter, yes, we could do that.", "That would be managing the broad outcome of potential outcomes here, which is to protect the company through all possible outcomes." ] }, { "name": "Ebrahim Poonawala", "speech": [ "That's helpful. And just one follow-up on credit. I heard your comments on the consumer if we enter some version of a mild recession, like if you had to pick one or two areas, where do you think losses would be driven by? Is it on the commercial side? Is it CRE? Like how do you expect that downturn to kind of play out?" ] }, { "name": "Jamie Dimon", "speech": [ "Did you -- I think at Investor Day, you had a chart that showed through-the-cycle losses?" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes." ] }, { "name": "Jamie Dimon", "speech": [ "Yes. So, I mean, I would just go back to that and we show -- we think through-the-cycle, loss would be for credit cards, C&I and a bunch of other things. And obviously, through-the-cycle is an average, and you can kind of double that from -- OK." ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. And that showed exceptionally low losses in wholesale. So whether or not that's a prediction of the future or not, but yes." ] }, { "name": "Ebrahim Poonawala", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is coming from Matt O'Connor from Deutsche Bank. Please proceed." ] }, { "name": "Matt OConnor", "speech": [ "Hi. Sorry about that. I somehow got disconnected. Sorry if I missed this, but if we think about provisioning or reserving for a moderate recession, what's the best guess on how much that might be? I think for COVID, it was around $14 billion ex CECL.", "But obviously, you alluded to the consumer being better. The loan mix has changed. There's lots of puts and takes, but how would you frame kind of total reserve sales to moderate [Inaudible]." ] }, { "name": "Jamie Dimon", "speech": [ "Let me state very simply for you. In COVID, we got to 15% unemployment within three months. And in two quarters, we added $15 billion, which we can easily handle. That is clearly -- I was put that almost out of the worst case.", "It will clearly be a lot less than that. And you guys can look at the things yourselves. Every 5% is another $500 million or something like that, if you change your odds, and so on --" ] }, { "name": "Jeremy Barnum", "speech": [ "Yes. I mean, we think the current reserve, the current allowance, we think, is conservatively appropriate for a range of scenarios. And as you know, it's already kind of skewed to the downside and there are probably some other elements of slight conservatism in there. So we'll see how it goes.", "We feel that it's appropriate and conservative at this point." ] }, { "name": "Matt OConnor", "speech": [ "OK. And then separately, you've got about $14 billion of losses in OCI. Obviously, most of that flows back to capital as the bonds mature. What's kind of some good rule of thumb in terms of how quickly that comes back if rates stabilize here?" ] }, { "name": "Jamie Dimon", "speech": [ "10 basis points a year of CET1, yes." ] }, { "name": "Matt OConnor", "speech": [ "Right. 10 basis points, you said?" ] }, { "name": "Jeremy Barnum", "speech": [ "10 basis points of CET1 a year." ] }, { "name": "Matt OConnor", "speech": [ "Got it. OK. Thank you." ] }, { "name": "Jeremy Barnum", "speech": [ "After -- yes, after tax." ] }, { "name": "Jamie Dimon", "speech": [ "Basically, five years is -- it kind of bleeds back in over five years." ] }, { "name": "Jeremy Barnum", "speech": [ "Its weighted average life of four or five years, yes. So the good rule of thumb on constant rates is about 10 basis points of CET1 accretion a year." ] }, { "name": "Matt OConnor", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "At the moment, there are no further questions in the queue." ] }, { "name": "Jamie Dimon", "speech": [ "Folks, everybody, thank you very much, and we'll be talking to you in a quarter." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2021-07-22	[ { "description": "Vice President of Corporate Finance", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Executive Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Citigroup -- Analyst", "name": "Michael Ian Rollins", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon William Flannery", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew Niknam", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Philip A. Cusick", "position": "Analyst" }, { "description": "Bank of America Securities -- Analyst", "name": "David William Barden", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "", "name": "Unidentified Participant", "position": "Other" }, { "description": "Cowen and Company -- Analyst", "name": "Michael Elias", "position": "Analyst" }, { "description": "Raymond James & Associates -- Analyst", "name": "Richard Hamilton Prentiss", "position": "Analyst" }, { "description": "Wolfe Research -- Analyst", "name": "Jeffrey Thomas Kvaal", "position": "Analyst" }, { "description": "UBS Investment Bank -- Analyst", "name": "Batya Levi", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Q2 2021 Earnings Conference Call. Today's call is being recorded. And now at this time, I'd like to turn the conference over to Mr. Ben Lowe, Vice President of Corporate Finance. Please go ahead, sir." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Great. Thank you, Cody, and good morning, everyone. Thank you for joining us today as we discuss our second quarter 2021 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer. Today, the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com that we will -- that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and the actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors section of the company's SEC filings. Our statements are made as of today, July 22, 2021, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. Before I turn the call over to Jay, I want to mention that we will take as many questions as possible following our prepared remarks, but we plan to limit the call to 60 minutes this morning. So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and thank you, everyone, for joining us on the call this morning. As you saw from our second quarter results and increased full year outlook, we continue to generate significant growth in cash flows and dividends from the deployment of 5G in the U.S. We are experiencing the highest level of tower activity in our history, resulting in a year of outsized growth as we now anticipate 12% growth in AFFO per share for full year 2021, meaningfully above our long-term annual target of 7% to 8%. Our current 7% to 8% growth target was established in 2017 when we expanded our fiber and small cell strategy through the completion of our largest acquisition. This 7% to 8% growth target was an increase of 100 basis points from our prior target since we expected a diverse portfolio to increase our ability to consistently drive long-term growth. Since that time, the strategy has worked better than expected as we have grown our dividend per share at a compounded annual growth rate of 9%, with some years being driven by outsized growth in our fiber and small cell business like last year, and other years like this one being driven by higher growth in our tower business. This record level of activity is tied to the existing wireless carriers increasing their spend to add more equipment to tower sites and DISH starting to build a new nationwide 5G network from scratch. We expect this elevated level of activity to continue beyond this year and support future growth on our towers. While driving strong growth in our tower business this year, the initial focus by our customers on towers has also led to some delays in our small cell deployment, shifting the timing of when we expect to complete the nearly 30,000 small cells contractually committed in our backlog.", "When combined with zoning and permitting challenges as well as the previously disclosed Sprint cancellation, we now expect to deploy approximately 5,000 small cells in each of this year and next year with the remaining nearly $20,000 from our current backlog completed beyond 2022. This delay has not impacted our view of long-term attractiveness of small cells since the fundamental need for small cells continues and the unit economics remain in line with our expectation. With more than 50,000 small cells on air, we have already seen how important small cells are as a key tool used by the carriers to add network capacity by reusing their spectrum over shorter and shorter distances. We believe small cells will be an even more important tool going forward as the nature of wireless networks requires continued cell site densification to meet the increasing demand for data, especially as 5G networks are deployed. As a result, we believe these timing factors will not alter our long-term returns on our investments or our ability to deliver on our growth objectives. Dan is going to discuss our second quarter results and our expectations for the balance of 2021 in a bit more detail, so I want to focus my comments this morning on our strategy to deliver the highest risk-adjusted returns for our shareholders. One of the core principles of our strategy is to focus on the U.S. market because we believe it is the best market for communications infrastructure ownership, with the most attractive growth profile and the lowest risk. With that view in mind, we've invested nearly $40 billion in shared infrastructure assets that we believe are mission-critical for today's wireless networks and sit in front of what is expected to be a massive decade-long investment by our customers to deploy 5G in the U.S. As you can see on slide four, our tower and fiber investments are at two different stages of development and maturity.", "Our tower investment began more than 20 years ago at an approximately 3% yield, when we built and acquired assets that we could share across multiple customers. By providing a lower cost to each customer, we have leased up those assets over the years and generated compelling returns for our shareholders. As we have proven out the value proposition for our customers over time, our tower assets now generate a yield on invested capital of 11% with meaningful capacity to support additional growth. As we realize the wireless network architecture would need to evolve with 4G, requiring a network of cell sites that would be much denser and closer to end users, we expanded our shared infrastructure offering beyond towers, establishing the industry-leading small cell business in the U.S. It's encouraging that the business is already generating a current yield on invested capital of more than 7%, given the relative immaturity of these investments. To provide additional visibility into how our investments are progressing, we've updated our analysis of the cohort of five markets we introduced a year ago. Looking at a collective view of how these five markets have performed over the last year on slide five, growth from both small cells and fiber solutions has contributed to an incremental yield of 7% on the approximately $200 million of incremental net capital investment. Adjusted for the timing impacts associated with the large in-process small cell project, where capital investment has occurred in advance of the corresponding revenue and cash flows, the incremental yield is approximately 8%. This incremental yield resulted in a modest decline in the combined cash yield from 9.2% a year ago to 9% currently.", "This is in line with our expectations as we have invested in new small cells at a 6% to 7% initial yield that we expect to grow over time as we lease up those assets to additional customers. During the last year in these markets, we have added more than 500 route miles of new high-capacity fiber to support the deployment of approximately 2,000 small cells. Importantly, approximately 40% of the small cells deployed were co-located on existing fiber with the balance representing new anchor builds in attractive areas of these markets where we expect to capture future small cell and fiber solutions demand. We believe each of the markets shown on slide six provides a helpful representation of how our overall strategy is performing over time, given how different these markets are when it comes to the average life of the investment, the density of small cell nodes per mile of fiber and the degree of contribution from both small cells and fiber solutions. Generally speaking, we would expect markets that have a longer average investment life to have higher returns than those with less mature assets. This is true because we have more time to add customers to existing assets, which is consistent with our historical experience with towers, where we have, on average, added about one tenant -- one new tenant every 10 years. Similar to our experience with the movements in yield and tower investments over time, as we showed back on page four, sometimes the steady climb of yields on legacy investment is less obvious as we invest in less mature assets that bring down the overall market yield. This is certainly true of some of the cohort.", "Very much related to the average life of the investment is the density of small cells per route mile of fiber since, as in the tower business, the co-location of additional nodes on existing fiber is what drives the yields up over time. Consequently, we typically see a higher percentage of nodes co-located on existing fiber as the density of nodes increases. On the third characteristic, we believe the markets with both small cells and fiber solutions will ultimately have higher yields than those with only one of the two revenue streams. With this setup as a backdrop, I want to share a few observations that I think are important to highlight as we assess this data set on page six. Looking across the markets, you can see the longer average investment lives tend to correspond to higher yield. Denver has the least mature capital base and the lowest market yield, while Orlando has one of the most mature capital bases and the highest yields. In addition, the higher density of nodes per mile, which is generally correlated with the longer investment life and higher percentage of co-located nodes generates higher market yield. The financial benefit associated with co-locating nodes is apparent when looking at the incremental yield in Los Angeles and Phoenix. In the last year, about half of the small cells deployed across those two markets were co-located on existing fiber, resulting in a strong incremental yield. Meanwhile, Denver does not fit neatly into this framework, featuring the highest node density but the lowest yield. Part of the explanation is that Denver is a market where we spent more than we originally budgeted on our initial build activity, which weighed down the starting yield. Importantly, during the last 12 months, we achieved strong yields on incremental invested capital in Denver, increasing the market yield by 70 basis points.", "This is consistent with our experience more broadly in the small cell business as co-located nodes on existing fiber come at high incremental yields, driving attractive returns over time. And finally, looking at the financial benefit of having both small cells and fiber solutions leveraging the same asset base, you can see the markets with a meaningful contribution from both offerings are generally performing better. The best example to point to here is Philadelphia, where despite having a less mature capital base and lower node density than Phoenix, it is generating a similar yield on invested capital of nearly 10% due primarily to the higher contribution from fiber solutions. Our experience in Philadelphia also highlights another important point when assessing the performance of a portfolio of assets. Similar to what we've seen throughout our long history of towers, when you zoom in on a particular set of assets and focus on a short time period, the picture may not always be perfect. Over the last year, the market yield in Philadelphia has contracted by 60 basis points due to a combination of a lack of small cell activity as this was not a priority market for our customers and more muted growth from fiber solutions. Despite this, Philadelphia is still generating a very attractive yield on invested capital, and we believe our dense fiber footprint in this top market is positioned well to capture future small cell and fiber solutions growth. In summary, the combined performance of this cohort of market provides another point of validation for our strategy, with small cells and fiber solutions growth contributing to attractive incremental yields while we continue to make discretionary investments in new assets that will expand the long-term growth opportunity. Turning back now to our overall strategy.", "As has been obvious to all of us over the last 18 months, connectivity is vital to our economy and how we live and interact with one another. Our strategy is to provide profitable solutions to connect communities and people to each other. Our business is also inherently sustainable. Our shared infrastructure solutions limit the proliferation of infrastructure and minimize the use of natural resources. Our solutions help address societal challenges like the digital divide in underserved communities by advancing access to education and technology. As you've seen in our last two sustainability reports, we've enhanced our focus on ESG, which we believe will drive increased revenue opportunities from things like smart cities and broadband for all and lower operating costs in areas like tower lighting, electric vehicles and interest savings, which Dan will discuss in just a minute. Importantly, none of this is possible without a team at Crown Castle that embraces diversity and inclusion, ensuring that our employees and our business partners are empowered to help us serve our customers, connect our communities and build the future of communications infrastructure in the U.S. So to wrap up, we expect to deliver outsized AFFO per share growth of 12% this year as we capitalize on the highest tower activity levels in our history with our customers deploying 5G at scale. We expect this elevated level of tower activity to continue beyond this year. Our diversified strategy of towers and small cells has driven higher growth than expected as we have grown our dividend at a compounded annual growth rate of 9% since we expanded our strategy in 2017. And looking forward, I believe our strategy to offer a combination of towers, small cells and fiber solutions, which are all critical components needed to develop 5G will extend our opportunity to deliver dividend per share growth of 7% to 8% per year.", "And when I consider the durability of the underlying demand trends we see in the U.S. that provides significant visibility into the future growth for our business, I believe Crown Castle stands out as a unique investment that we believe will generate compelling returns over time. And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay mentioned, 2021 is shaping up to be a great year of growth for Crown Castle as our customers deploy 5G nationwide. The elevated tower activity drove strong second quarter financial results and another increase to our full year outlook, which now includes an expected 12% growth in AFFO per share. Turning to second quarter results on slide seven. Site rental revenue increased 8%, including 5.3% growth in organic contribution to site rental revenue. This growth included 8.6% growth from new leasing activity and contracted escalators net of 3.3% from nonrenewal. The higher activity levels also drove a $40 million increase in contribution from services when compared to second quarter 2020, leading to 15% growth in adjusted EBITDA and 18% growth in AFFO per share. Turning to slide four. With the strong second quarter and continued momentum, we have again increased our full year outlook, highlighted by a $30 million increase to adjusted EBITDA and a $20 million increase to AFFO. The higher activity in towers drove the majority of these changes to our outlook including an additional $15 million in straight-line revenue, a $45 million increase to the expected contribution from services and $15 million of additional labor costs. The lower expected volume of small cells deployed this year that Jay discussed earlier results in a $10 million reduction in organic contribution to site rental revenue, which translates to a 20 basis point reduction in the expected full year growth in consolidated organic contribution to site rental revenue to 5.7%.", "Our expectations for the contribution to full year growth from towers and fiber solutions remains unchanged at approximately 6% for towers and 3% for fiber solutions, with small cell growth now expected to be approximately 10% compared to our previous outlook of approximately 13% growth. Moving to investment activities. During the second quarter, capital expenditures totaled $308 million, including $19 million of sustaining expenditures, $60 million of discretionary capital expenditures for our tower segment and $223 million of discretionary capital expenditures for our fiber segment. Our full year expectation for capital expenditures has reduced to $1.3 billion from our prior expectation of $1.5 billion, primarily attributed to the reduction in small cells we expect to deploy this year. Turning to our balance sheet. We exited the second quarter with a net debt-to-EBITDA ratio of approximately five times, which is in line with our target leverage. Consistent with our overall focus on delivering the highest risk-adjusted return for shareholders, we have methodically reduced risk across our balance sheet over the last five years by reducing our exposure to variable rate debt in extending the maturity profile of our borrowings to better align the duration of our assets and liabilities. Specifically, since our first investment-grade bond offering in early 2016, we have increased the weighted average maturity from just over five years to nearly 10 years, increased our mix of fixed rate debt from just under 70% to more than 90% and reduced our weighted average borrowing rate from 3.8% to 3.2%.", "Consistent with that focus, we issued $750 million of 10-year senior unsecured notes in June at 2.5% to refinance outstanding notes maturing in 2022 and to repay outstanding borrowings on our commercial paper program. Additionally, in June, we amended our existing credit facility, extending the maturity date to June 2026 and incorporating sustainability targets that resulted in lower interest rates in the facility as we achieve specified sustainability metrics over the next five years. We believe this was the first time sustainability targets had been incorporated in a credit facility for tower company. Adding quantifiable sustainability metrics to our inherently sustainable business model that Jay outlined earlier highlights our commitment to delivering value to all our stakeholders. Stepping back and to wrap things up, we are excited about the record levels of tower activity as our customers deploy 5G at scale. We are capitalizing on those positive fundamentals and expect to deliver a great year of growth with AFFO now expected to grow 12% for the full year 2021, meaningfully above our long-term annual target of 7% to 8%. Our diverse portfolio of assets and customer solutions has performed better than expected since we meaningfully augmented our fiber footprint with a large acquisition in 2017 as we have grown our dividend per share at a compound annual growth rate of 9% over that time. Importantly, in some years like last year, our fiber and small cell business has driven that outperformance, while in other years like this one, our tower business is the driver. We continue to invest in new assets that we believe will allow us to grow our dividend per share at 7% to 8% per year going forward. This growth provides a very attractive total return opportunity when combined with our current approximately 3% dividend yield, and we believe our investments in new assets will extend this opportunity into the future. With that, Cody, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Absolutely. Thank you. [Operator Instructions] And we'll take our first question from Michael Rollins from Citi." ] }, { "name": "Michael Ian Rollins", "speech": [ "Thanks and good morning. Curious, if you could just unpack a bit more in terms of the change in the small cell target for 2021 and 2022, in terms of weighing the impact that the customer decisions had relative to the zoning impact and some of the issues you're experiencing just on that timeline to get small cells constructed. And then just a follow-up question, curious, in the supplemental deck, there were some additional straight-line that was highlighted into the quarter. And there is an extension or an increase in duration of average lease length for the non-big three national carriers. I'm just curious if you could unpack the activity that you're seeing just outside of what you've experienced from the big three national carriers in the context of what was in the deck and how that may come through in the future. Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. Good morning Mike. I'll take the first question. And then, Dan can address the second one. As we highlighted, there's three primary components of our decision to push out some of this activity beyond 2022. There's the customer prioritization, which we highlighted, the Sprint cancellation and then also the zoning and permitting challenges. Breaking that out by years, I would put the customer prioritization and some of the zoning and planning challenges as hitting us in 2021. And then, the Sprint cancellation in 2022 is the biggest impact there, along with some of the timing of the new nodes and those going out in years beyond 2022. Big picture, if I go back up to kind of what drives that and why are we seeing it. I would go back to past experiences as we've gone through technology cycles and upgrades, the network went from 2G to 3G, three to four. And now we're in the middle of this move from 4G to 5G. And the carriers go through a process of really prioritizing the sites that they're already on and upgrading those sites with the new technology. And in this case, it's a combination of new technology, and upgrading those sites with the new spectrum bands that they've acquired. And so what we've seen in these early stages of 5G is a real focus on getting those new spectrum bands out on macro sites. So there's been a reprioritization of the capital spend here in calendar year 2021 of moving toward getting those macros upgraded for 5G and be prioritizing in the near-term some of those small cells. So we think it's just timing, as I mentioned earlier, that they're just pushing out to the right. And obviously, when you look at our results and our outlook, we're seeing the push on that is going toward towers. So meaningful uplift on the services side and the tower activity and a level of elevated activity we really, frankly, on the macro tower side, have never seen in our company's history. And we think that's going to continue into 2022 as the carriers over allocate toward macro sites not only this year, but then next year. And then, we think it probably comes back to a more balanced activity level as we get into 2023." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. Mike, I'll hit your second question around the straight line increases and extension. As we've discussed before, those straight line increases happened a couple of ways. On the first-time install, you can see it where we get a 10-year contract. And that includes some straight-line impact, but -- or on an amendment where we go and add additional equipment on existing sites. We actually extend the term of the contracts or the leases at that point. We get additional straight-line for both of those things. So what I would say is the increase in activity that Jay just talked about, across both first-time installs and across the new amendment is causing a lot more activity and then more straight line to hit our numbers this year. And some of that is also having the impact you're talking about of extending the contracts, both within the large three national carriers, but also outside of that as other companies are increasing their activity, especially like we've talked about with DISH starting to deploy nationwide 5G network going forward. So, all of those things will add into both straight line and the extension of the contract life over time." ] }, { "name": "Michael Ian Rollins", "speech": [ "Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Thank you. We'll now take our next question from Simon Flannery from Morgan Stanley." ] }, { "name": "Simon William Flannery", "speech": [ "Great. Thank you very much. Great to hear the commentary on the macro business and the historical rate of activity. Could you just be a little bit clearer about what you mean by activity? Where are we today? Obviously, the services business is extremely strong. But what are you seeing in terms of signed leases? And when do you expect that these commencements to impact your numbers? And in particular, is there anything materially in your numbers this year for DISH? Thanks a lot." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Simon thanks for the question. Good morning. When we talk about activity, we're speaking specifically about applications for our towers. So in some cases, those applications are related to going on towers they're not previously on, then in some cases, those applications would be for amendments on sites that they're already co-located on. So, we mean it collectively in terms of total applications. I don't want to get specifically into which carriers we're getting the benefit from, but we're seeing it across the board on the tower side. Obviously, from the four carriers that everybody thinks about as well as the carriers that Dan was referencing that are outside of the large nationwide carriers, we're seeing activity increase there. And 2021 represents a pretty meaningful step-up from anything that we saw in the years prior to 2021. And as I mentioned before, we think that activity is going to continue into 2022 and will be reflected in our results. Obviously, big picture, as I spoke to the longer term, this diversification, I think, has really helped us. Last year, as we went into 2020, we saw an allocation away from towers and toward small cells. And small cells and towers really helped us as we looked at our growth rate last year. And this year, moving the other direction and an allocation more toward towers and one that we think continues into 2022 as the carriers focus on upgrading their macro sites. And I think -- and maybe this is kind of at the heart of your question around the activity. The carriers, it's very common for them in the -- through past technological upgrade cycles, and we think this will be true in 5G. They'll go back to the sites that they're already on and upgrade those sites for the new technology. That will drive activity. And then as they move toward densification activities, then we'll see more of that focused on small cells and then also some on the macro sites as they go on towers that they're not on currently. But we're in the cycle of the long cycle of upgrading to 5G, those early stages. They're focused on upgrading the sites that they're already on." ] }, { "name": "Simon William Flannery", "speech": [ "Great. And just one follow-up on the capex point. I know you're not giving 2022 guidance, but is it fair to think then given 5,000 this year, 5,000 next year, the discretionary capex should be similar to 2021?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. I mean I'm going to say yes to everything you just said there, Simon. We don't want to give into the guidance right now. We'll do that in three months. It's not that far from now, and we will get there. But yes, the capex does follow activity levels. So, we'll follow that along and give more specific guidance in October." ] }, { "name": "Simon William Flannery", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. We'll hear next from Matt Niknam with Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey, guys. Thank you for taking the question. First, just to go back on small cells. I'm just wondering, you highlighted three points in terms of what drove the lowered outlook for this year and next. I'm just wondering, is there a risk or are you starting to see more self-filled from the carriers taking a greater share of some of the newer small cells coming on there. And then secondly, I hate to go to 2022. But just given the strength in services, you've increased the outlook for services the second time this year. Any initial thoughts you can share in terms of how tower site leasing growth could be trending into next year just as you're seeing momentum on the tower side pick up? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yes, Matt. On your first question, I don't see it as a risk to small cells. One of the things that we have been a hallmark of the way we thought about capital investment has been a rigorous process where we consider how we invest capital. And that process that we go through analyzes where we think demand is going to be not in the near-term, but over the long-term for a particular asset. As we're investing in assets like on the small cell side, where we're putting assets in at an initial yield of 6% to 7%, we have to depend on and count on future lease-up of those assets over a long period of time. And so we analyzed the opportunity to invest in those assets based on what do we believe the long-term prospects for lease-up against those assets will ultimately be. There are plenty of places around the U.S. where I think small cells will be built, that our analysis will point to an answer that says that doesn't make sense for us to invest our capital there. We've tried to allocate our capital to the places that have the highest return and the lowest risk against that potential lease-up. And as we talk about the cohort and look at these markets, they have a lot of similar characteristics in terms of what's driving that co-location. And obviously, given the amount of co-location that we've seen, even in just those cohorts that we were talking about this morning, have a lot of data around what leads to that co-location. And so we're trying to make sure we allocate capital based on the lessons that we've learned thus far and where we think the future demand is going to be. Now that's going to leave a lot of opportunities, for somebody else to build small cells where based on our rigorous analysis, it's just not going to clear our return threshold. And so, I believe the carriers will build some of that.", "They may find other third parties to help build some of that. I think, in general, we have talked about publicly and I saw a public research report a few weeks ago that pointed to about half of the overall demand for small cells, we've constructed or built that. And the other half has been split between other third parties and the wireless carrier. I think as the market continues to grow, we're not so much focused on what is our percent share of the total market, but how are we doing in the particular markets where we're investing capital or have invested capital and are we seeing co-location that's going to drive long-term yield against those assets over the long-term. So it doesn't concern me. In fact, I think it points to the reality that there's going to be a lot of need for these small cells and there are going to be certain locations where it just doesn't hit our return threshold, and therefore, we won't invest capital there. On your second question around the 2022 guidance, I'm going to mostly beg off on that, other than to make the point that we try to make in our prepared remarks. I think there are -- the large portion of our business is our tower business. We're at an elevated level of activity in calendar year 2021. We think that continues into 2022. And as we assess kind of our long-term target of growing the AFFO per share at 7% to 8%, we feel good about where that target is set. We feel like we'll be able to meet that as we go into 2022. And the specific numbers about where that is and where it lands. We'll get into that next quarter, when we give you guidance for 2022." ] }, { "name": "Matthew Niknam", "speech": [ "That's great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll hear next from Phil Cusick with JPMorgan." ] }, { "name": "Philip A. Cusick", "speech": [ "Hi guys. I'm sorry to harp on this. I'm surprised that with all the carrier discussion of macro through the year and the long path to small cells, that something happened in 2Q that was a surprise on carrier prioritization to move away from that. Was there a particular event that happened? And the slower small cell trends and what you've highlighted as the better return from markets that get both fiber and small cell revenue, are you more interested in selling fiber to enterprise in the next year?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. Phil, I think on the first question, we're not surprised by the fact that the carriers would focus on the macro sites first in 5G. And obviously, they've done that in past cycles, as we mentioned. I think we were a bit surprised by, how much -- how quickly it moved and how they reallocated as quickly as they did. So we got close to the final stages on a lot of these nodes, and there was a capital allocation decision on their part to invest in the equipment around macro sites over some of these small cells. So again, I mean, we said it a couple of different ways, but we think it's just timing and doesn't have any impact on the long-term returns. So a little bit surprised, but I probably would have said the same answer last year, if you asked me about the macro tower business, a little bit surprised about how allocated they went toward fiber and small cells. And the movement in any given year in the moment, I guess, maybe could surprise us a little bit. But longer term, when I look at the underlying returns of the business and the unit economics and where the activity is, I think we're on track for what we overall would have expected. With regards to -- are we looking for better returns in the fiber business, on the fiber solutions side, obviously, we're looking to grow all the revenue streams. And so to the extent there's an opportunity there that materializes, we'll pursue it. And our sales team, I think, has done a good job coming out of the pandemic as the economy starts to open back up, we've seen good activity on that front, and they've done a really nice job as companies are starting to return to the office and seeing some opportunities there." ] }, { "name": "Philip A. Cusick", "speech": [ "Okay. Just a follow-up there. I mean so you talked about 10,000 this year, you've got a big backlog. How solid is that backlog in terms of timing and size? Is this sort of a goal over a multiyear period?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. The backlog is contractually committed. So if we show it to you, those are not nodes that we're talking about or having conversations -- just solely conversations with the carriers. Those are at the point where they're signed contracts with the various wireless operators. The discussions that we have with carriers and the opportunity for nodes would be above and beyond that contracted backlog that we disclosed." ] }, { "name": "Philip A. Cusick", "speech": [ "Okay. Thanks, guys." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Your next from David Barden with Bank of America." ] }, { "name": "David William Barden", "speech": [ "Hi, guys. Thanks so much. I just want to follow-up on Phil's question there. So Jay, you've talked about small cell build, nodes build being kind of a 24 month to 36 month project for new builds and add-ons. So if there's any reason to believe that the small cell business will accelerate in 2023, you would either have to know that or have to have visibility on that today in order to be preparing to kind of get that online in 2023. Could you kind of talk a little bit more specifically about the funnel and your conviction there about how this goes from 5,000 nodes a year back to the 10,000 or better? And then I guess the second piece is on the services side. Obviously, there's huge level of activity. Could you talk about how you're staffing that from a manpower perspective. Is it in-house? Is it contractual? Is that where the $15 million of higher employment expense is going? And is that going to stay with the company as long as this elevated service activity persist? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning, Dave. On your first question, yes, typically, our build cycle is about 24 months to 36 months. And when you think about where is the world going, it's an interesting year on the small cell side because while we're talking about the contraction of how many nodes we're actually going to put on this year, we signed the largest commitment of new nodes in the company's history just a few months ago. So when the carriers think about their deployment plans, they're not just thinking about them on a 12 month or an 18 month cycle. They're thinking about it over a much longer-term basis. So the 15,000 nodes that we contracted to build just a few months ago, that's in the backlog, and we're working with the customers around identifying exactly where those locations are and where they're going to be. And against that backdrop, I think we're still, as Dan and I both spoke to, the macro environment is very healthy today for macro towers, but the need for densification remains. And as we look at the 50,000 small cell nodes that we put in place, during 4G and see how those benefited the overall network, we think those dynamics are going to be at play in 5G, if not to a greater degree. And so the environment and where it goes, I mean, we'll give you guidance on 2022 next quarter. And as we get into years beyond that, we'll give more guidance as we get to it. But I think the macro environment would suggest that the fundamental view that we had about the need for small cells, complementing the macro sites that provide coverage in the market, those tenets of our strategy are intact. And that haven't seen anything that dissuades us from that longer-term view of where capital allocation will go from the carriers, the way networks will be deployed and then where good returns will be achieved by balancing the capital investment that we have between both towers and small cells. On your second question around staffing, yes, the majority of that cost is coming as we scale up for this elevated level of services. And much of that would be outsourced activity and costs in order to perform that work. There are components where we staff up internally. And then we need to scale that based on the level of activity. So if we were to see the revenues from the services business come down, then we bring back down the costs associated with it that are scaling up." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Jonathan Atkin from RBC Capital Markets." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you. I'm interested with all the demand -- kind of the leasing demand on macro sites and small cells for that matter as well, but for macro for the time being. Is there any -- are there any kind of long poles in the tent when it comes to possible constraints on the ability to actually deploy the equipment, whether it's your own services division or other contractors that are used to deploy the gear? Does that have any implication on your thoughts on book-to-bill as we sort of look into the second half of the year and next year?" ] }, { "name": "Jay A. Brown", "speech": [ "Hey, Jonathan, certainly, it's a tight labor market. So it's not without challenge. But we feel good about where we are and the activity that we're seeing on being able to deliver that level of activity. But it's a tight labor market and a challenge, but feel good about where we are and our ability to deliver on the numbers that we put out here." ] }, { "name": "Jonathan Atkin", "speech": [ "And then I apologize if this was asked earlier, but the source of the upside that you posted, kind of how broad-based was that? And do you see the kind of the variety of demand increasing as we sort of move into the second half of the year? Or is everybody kind of equally active in there, various mid-band and 5G deployments at this point?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. I would say it's broad-based across all of the wireless operators. There's a lot of work going on right now, as I mentioned before, to upgrade the existing sites and add additional spectrum bands and get new technology onto those legacy macro sites that they were on. So it's broad-based across all of the participants in the market. And then we're also seeing, as driven by some of the IoT stuff, new entrants into the market that are outside of the four nationwide operators deploying infrastructure in various regions around the country that's also benefiting macro site." ] }, { "name": "Jonathan Atkin", "speech": [ "And then finally, as it comes to kind of your lease contracts, is there any constraint that customers have in how they can use the spectrum, whether it's for their own retail operations, whether they want to lease it to other parties entering the MVNOs, that type of thing? How are you -- what are some of your exposures there in terms of how the customers can maybe use a spectrum in ways that don't give you the full economics? Or are you completely kind of immune from those sorts of arrangements?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Jonathan, that's been something that we've been careful about since the beginning of the company where we wanted to make sure there wasn't an opportunity to replace our role of being the shared infrastructure provider. And so our leases prohibit network sharing and using the spectrum in a way that would, in essence, replace our role in the ecosystem. So the carriers as we contract with them, they have the right to use their spectrum for their own use and for their own network. But if we get into things like network sharing, that would be a conversation they would need to have with us, and we would -- there's a revenue opportunity there. Now obviously, we'd be open to having those conversations. So to the extent that there was economic value and return for one of our customers certainly be open to entertaining that conversation, but I think it would come with additional revenues as it's not permitted currently." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll hear next from Colby Synesael with Cowen and Company. Please go ahead." ] }, { "name": "Unidentified Participant", "speech": [ "Hi. This is Michael on for Colby. Two questions, if I may. First, in the past two quarters, the tower network services gross margins have been over 30% versus around 15% in 2020. Do you expect to sustain those plus 30% tower network services gross profit margins through year-end? And then second, could you give us a sense of your willingness or openness to sell fiber assets in markets in which you don't expect to build small cells? Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure. This is Dan. I'll take that first question on service gross margin. We would anticipate that, that would continue through the end of the year. The increase in the service gross margin has a lot to do with the mix between which services we're providing. So we have a higher gross margin associated with what we would call preconstruction services around site acquisitions and permitting and getting the site prepared to accept any additional antennas on the tower. And then we have a little bit of a lower gross margin associated with the business of actually what we would call installation of putting the antennas on the tower. And right now, given where we are in the cycle and how we -- all the activity we see, there's a lot of that preconstruction services coming through, which is what's driving that incremental -- the higher service gross margin. And we would anticipate that continuing through the end of the year." ] }, { "name": "Jay A. Brown", "speech": [ "Michael, on your second question, it's a pretty theoretical question given the way that we've analyzed and invested in fiber. We've really focused on the markets that we think have the greatest opportunity for additional small cells long term and the wireless demand that was going to be there. So I guess in the theoretical, if one of those markets were to turn out not to have a need for small cells, I guess we would consider that. But when I look at the portfolio and where we've invested the capital, I think the likelihood of that is probably pretty low." ] }, { "name": "Michael Elias", "speech": [ "Perfect. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll hear next from Rick Prentiss with Raymond James." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Thanks. Good morning, guys." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Rick." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "A couple of questions. Makes sense, obviously, with the small cell pushout, the gross discretionary capex comes down. What about what your expectations are for prepaid rent received? I think you might have been originally thinking this year maybe $550 million. Should we be thinking that's maybe more like in the $300 million range as far as what you're going to receive?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. So going from growth to net capex is probably the easiest way to do that. We're about -- we think that now we're going to be in the neighborhood of $1.3 billion of growth where we were at about $1.5 billion in our prior expectations. Right now, we think we'll be around $900 million of net versus in the $1 billion range. And so the prepaid rent received comes down a little bit, but just exactly what you're talking about in line with what we see as the activity levels and where we are in the terms of building out those assets and getting the money back from our customers. So yes, it's coming down a bit." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Okay. And then the non-cash amortization of prepaid rent, that takes a little bit longer probably to change that needle or are we still thinking maybe up year-over-year from 2020 to 2021, maybe in the $550 million range? Is that a fair level?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. We think that -- yes, that's all very fair what you just said. And so we think the growth in our prepaid amortization is going to be about $40 million in total going from 2020 to 2021." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Makes sense. Sorry for all this accounting changes. There's a lot of moving pieces here." ] }, { "name": "Daniel K. Schlanger", "speech": [ "No problem." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "The change in the straight line, Michael, called it out a little bit. As you enter new leases with a company like DISH who's just now starting to deploy stuff, should we expect some future significant increases to straight-line adjustments as we look at the rest of 2021 and especially then in 2022?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. I'll speak more generically than just with DISH. It's as we sign new leases, we will have additional straight line as we recognize the escalators over those leases on a ratable basis as opposed to as they actually come in to escalate. So we kind of straight line everything as opposed to put those escalators in place over time. And that causes that straight line revenue to come in. And it is associated with leases. And as we discussed in the DISH specific -- in the DISH contract specifically, in order to get to that treatment, we need to have a lease, which means we actually need to go put equipment on to a site. So the timing of that will be more associated with DISH going on to sites as opposed to when we would sign a lease specifically. So we got to -- or sign an application or get an application, sorry, is when we actually get it on air and starting billing is when that straight line will come in. So you will see increases of that as we see more from DISH. And -- but I won't speak specifically to when we expect the DISH work to come. We have said that there's a pretty limited amount of that DISH work in our 2021 guidance. That's been true since we gave guidance last October. We still see a limited amount of it in 2021, and we'll speak more to 2022 activity in October." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Okay. And last one for me is augmentation capex for towers has been kind of coming down, but you've talked a couple of times about carriers going back to their existing locations first, putting more antennas and radios out there. Should we expect an acceleration of augmentation spending at the towers as we look into the future versus what we've seen, say, the last three quarters?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, not necessarily. That's based on what -- how much we have to modify the towers in order to accept the additional weight and wind loading of additional equipment. And what we've seen is just we have more based on the towers that don't require modification that has driven that number down. So yet another reason the tower business is one of the best businesses ever is we get to add all of those revenues without having to add capital to make it happen. And that's just a function of the business itself and the towers that we own." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Best business ever. I guess that also -- putting out mid-band spectrum, also probably smaller antenna size helps with that item?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "I wouldn't go specifically to which antenna band we had talked through. I would just say that -- like I said, there's additional capacity that we have on our towers, and we're utilizing that capacity and not having to spend money in order to add additional equipment." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Thanks, guys. Stay well" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Rick." ] }, { "name": "Operator", "speech": [ "Thank you. We'll hear next from Jeff Kvaal with Wolfe Research." ] }, { "name": "Jeffrey Thomas Kvaal", "speech": [ "Yes. Thank you very much for the question. I guess my first question is, I understand that you don't want to tell us too much about 2022, which makes a lot of sense, and we'll hear from that in a bit. I am wondering, though, if you can perhaps give us a flavor of how long we should expect this elevated activity to last, when it might translate into revenues and then how long those revenues might persist for you -- that elevated level of new leases should persist. Maybe that comparing to prior cycles would be a vehicle for doing that." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Jeff, I think -- I'm going to be careful because I don't want to get too far into really giving specific guidance around 2022. But as the tone and the activity would suggest that this elevated level of activity that we're seeing currently is going to continue into 2022. We have not spoken about what we think it will continue -- whether or not it will continue beyond 2022. I think big picture, if you look at the last decade, two decades of activity is there's a baseline level of activity that we have seen consistently in and out of cycles of deployment of new technologies that, in many ways, it's almost like maintenance capex that the carriers continually invest in their assets and that drives our top line revenue growth number from new organic leasing activity. And that has happened at the beginning of cycles, middle and toward the end of technology cycles. And I think that will continue. It underlines our long-term forecast of believing that we can grow the dividend 7% to 8% per year on a compounded annual basis for a long period of time. And everything we see in the environment today, as 5G is getting deployed suggests that, that long-term view is intact, and we feel really good about it. So how long it will last? We'll just have to wait and see as we get into 2022, we'll start to give you a view for '23 at that point. But elevated levels, certainly this year and next year compared to what we've seen over the last three to five years." ] }, { "name": "Jeffrey Thomas Kvaal", "speech": [ "Okay. That makes sense. And I guess now I won't ask when small cells might inflect as a result. So maybe instead, could I ask you, do you think the elevated levels are correlated kind of more with the transition to a new generation of technology or more toward the addition of incremental factor in which may or may not align with technology migration?" ] }, { "name": "Jay A. Brown", "speech": [ "Historically, it's been a combination of both. The best times to be in the infrastructure business over our history have been time when the carriers had a combination of new spectrum that they had gained either through acquisitions or through auctions at the FCC, new technology changes and enough cash flow or cash on hand on the balance sheet to be able to deploy that. And we're sitting at a period of time where those factors -- all three of those factors are true. They have fallow spectrum that needs to be deployed. They're engaging in new technologies that are going to lower their overall costs and bring more products to us as consumers. And at the same time, they have sufficient cash flows to pay for those deployments. So that's the -- those are the best of days to be in the infrastructure business. And we have multiple well-capitalized carriers who are in exactly that position with spectrum, technology and an ability to deploy it. And I think that points to why we've seen these elevated levels. You paused on your second question, and I would just circle back. I think it's a fair question to ask around, what is the timing of activity in the business. And one of the things that has held true for me, a truism about this industry is that you just can't predict with a lot of precision exactly when activity on a particular asset is going to see that lease-up activity. We often colloquially -- we talk about the fact that a tower adds about one tenant every 10 years. Well, in reality, that means that, that one theoretical tower adds a tenant in a year, and the other nine years, it doesn't add a tenant. And so looking at any short period of time can really mask what happens over a long period of time.", "The assets that we own, whether it's fiber or towers are located in places that we believe there's going to be a lot of need for the upgrade, both for densification and for coverage reasons and these new technologies are driving the demand on those assets. And if we look out -- rather than looking at a shorter period of time of a one or a two-year period of time and look out over 10 years or 20 years, ultimately, that's how we achieve our returns. It's stacking years upon years of good growth, consistent growth in that 7% to 8% that drive toward a larger overall total return and yield across all of the assets. And the portfolio nature of the assets means that in certain markets, we'll see activity, in certain assets, we'll see activity in a given year. And the next year, the activity and the capital will flow toward different markets and different assets. And over a long period of time, the whole portfolio gets the uplift that we see that -- I pointed to there; I think it was on slide four, around the uplift in towers over a long period of time. That's the portfolio effect. But if you were to graph any one tower, it'd be a lot choppier than the smoothness that you see even on page four." ] }, { "name": "Jeffrey Thomas Kvaal", "speech": [ "Thank you for the comprehensive answer." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Maybe we have time to take one more question this morning." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our final question from Batya Levi with UBS." ] }, { "name": "Batya Levi", "speech": [ "Great. Thank you. Two quick questions. One, could you talk a little bit about the fiber trends and what drove the sequential decline this quarter? And second question on the AT&T-DISH wholesale deal. How should we think about that in terms of the impact on overall activity that you were expecting from DISH? Is there anything you could say about the minimum requirements that -- that's maybe in the backlog right now? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On the first question, we've guided toward fiber solutions, the growth this year of being about 3%. Year-over-year, I think in the first quarter, we were up a little bit higher than what we saw in the second quarter. I think that's just timing, and I wouldn't point to anything that's fundamentally going on in the business. I think for calendar year 2021, we would expect by the time we're done, the growth rate will be about 3% year-over-year. And anything you're seeing in the quarter-to-quarter changes that is just timing differences and not indicative of anything fundamentally in the business. On your second question, I'll let DISH really speak to the value and benefit of what they've recently announced. So I don't know that I have a lot of comments there. Obviously, we have a big commitment from them. And we've got a lot of activity ongoing, working to get their network up and built and appreciate the trust and commitment that they've made to us and are excited to deliver what they've committed to us and we've committed to them to get on air for them as quickly as we can. So we're working hard toward that end, and I'll let them speak to the other components of their relationship." ] }, { "name": "Batya Levi", "speech": [ "Okay. Thank you" ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Thanks, everyone, for joining us this morning, and we look forward to catching up with you soon. And a special thank you to all of our employees. The 12% year-over-year AFFO growth is not done without a lot of hard work from a lot of folks and navigating through this pandemic and working in settings and in ways that were much different than our historical approach, our team has really done a terrific job. So I know many of them are listening this morning. I just wanted to say thank you as we close out. Thanks for all you've done and look forward to the balance of the year." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2019-04-18	[ { "description": "Vice President of Corporate Finance", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "President, Chief Executive Officer, Director", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Chief Financial Officer, Senior Vice President, Treasurer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Joshua Frantz", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "RBC -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew Niknam", "position": "Analyst" }, { "description": "Guggenheim Securities -- Analyst", "name": "Robert Gutman", "position": "Analyst" }, { "description": "BTIG -- Analyst", "name": "Walter Piecyk", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Tim Horan", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Q1 2019 Earnings Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Ben Lowe. Please go ahead, sir." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Thank you Cody, and good morning, everyone. Thank you for joining us today as we review our first quarter 2019 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer.", "To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, which we'll refer to throughout the call this morning. This conference call will contain forward-looking statements which are subject to certain risks, uncertainties and assumptions, and any actual results may vary materially from those expected.", "Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the Company's SEC filings. Our statements are made as of today, April 18th, 2019, and we assume no obligations to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the Company's website at crowncastle.com.", "So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and good morning, everyone. We delivered another great quarter of financial results, reflecting the significant demand for our shared infrastructure assets and the terrific execution by our team. Given the positive momentum we continue to see in our towers and fiber results, we are investing in our business to generate future growth while delivering dividend per share growth of 7% to 8% per year.", "With our strategy and unmatched portfolio of more than 40,000 towers and approximately 70,000 route miles of fiber concentrated in the top US markets, where we see the greatest potential demand growth, we believe we are uniquely positioned to translate growth in data demand and the growth in cash flows and dividends per share.", "As the volume of data delivered by both wireless and wired networks continues to grow, our customers are increasing the capacity of their networks by leasing additional access to our tower and fiber infrastructure assets, which in turn generates growth in our cash flows.", "As you can see in our 2019 outlook, this positive backdrop is resulting in higher levels of new leasing activity across all of our assets. On the tower side of the business, our customers are improving and densifying their networks by adding more equipment to existing leases and adding to new leases on our towers.", "The higher levels of tower leasing we experienced in the back half of 2018 has continued into this year, affirming our expectation for an increase in tower leasing this year as compared to 2018.", "With regards to fiber and further highlighting the strong demand for our infrastructure, we expect to nearly double the number of small cells we deploy in 2019 after installing a record number of small cells last year. Our strategy has positioned us to take advantage of the increasing activity by our wireless customers as they respond to the continued growth in data.", "To this end, we are excited about the significant investments we are making to build new fiber assets as we pursue this expanding small cell opportunity. By focusing our investment in high capacity fiber across the top markets, where we see the greatest potential demand for small cells, we believe we are extending the potential long-term growth in cash flows and dividends per share.", "Our fiber strategy utilizes the same playbook we used with towers, by sharing the asset across multiple customers. With our leading capabilities in fiber solutions, we have the ability to increase the yields on our fiber investments by growing cash flows from both small cells and fiber solution customers that require access to the same high capacity dense fiber assets in the top markets of the US.", "By sharing a common asset across a larger customer base, we are able to provide each of our customers with cost effective access to the critical infrastructure they need, while generating significant value for our shareholders over time as we lease our assets and generate cash flows.", "Consistent with our expectations, we continue to see very attractive returns on small cell investments, with initial yields of 6% to 7% for the first tenant. And similar to towers, we are seeing demand from multiple tenants on the same asset. In this case, fiber resulting in high incremental margins that increase the returns above our cost of capital on the second tenant with additional upside as we add more tenants over time.", "To date, we have invested approximately $13 billion of capital to establish fiber footprints in prime locations across the top US markets, where we see the greatest long-term demand. These investments are already yielding 8% and have significant available capacity to further increase the return as we add new small cell and fiber solutions customers. While those returns are great and justify the investment, I get even more excited when I consider how early we are in the digital transformation of the US economy and in the critical role our infrastructure will play.", "The current demand environment is largely tied to our customers investing heavily in their 4G networks to keep pace with the 30% to 40% annual data demand growth from existing technologies. While the investment in 5G is just getting started.", "Recent commentary from the White House and FCC that they are committed to ensuring the US wins the race to be the world's leader in providing 5G underscores our belief that the US is the best market in the world for infrastructure ownership. We believe 5G has the potential to significantly increase the demand on communications networks by moving beyond simply connecting millions of people to potentially connecting billions of devices in the future. The size of the opportunity will likely attract significantly more investment in networks over time from both existing operators as well as potential new entrants that will require access to network infrastructure at scale.", "While we continue to underwrite our investments to attract -- to generate attractive shareholder returns based on our exist -- based on existing applications and technologies, we believe the network infrastructure needed to support 5G will dramatically increase the demand for our tower and fiber assets over time.", "It is truly an exciting time in our industry. And in many ways, it reminds me of several other points in time over the past two decades, as we are currently benefiting from the significant ongoing investment in today's networks, while also looking forward with great anticipation of what lies ahead. How exactly the investment in 5G ultimately transforms the way we live and work is yet to be determined. But if past is prologue, I suspect most are underestimating the magnitude of the change and the corresponding opportunity for us.", "With our unmatched asset base and expertise, I believe Crown Castle is in a great position to play an important role in the next chapter of this industry.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning everyone. As Jay discussed, we delivered another quarter of solid growth and we remain excited about the positive long-term industry fundamentals that are creating significant demand for our unique portfolio of communications infrastructure.", "Turning to slide four of the presentation, you can see we had a great quarter with site rental revenues increasing 6%, adjusted EBITDA increasing 8% and AFFO increasing 9% when compared to the same period a year ago.", "Turning to page five, we are maintaining our full year outlook for site rental revenues, adjusted EBITDA and AFFO. At the midpoint, the expected organic contribution to site rental revenues from 2018 to 2019 represents approximately 6% growth year-over-year compared to 5.6% for full year 2018. The higher expected growth this year is driven by higher levels of new leasing activity for both towers and small cells with consistent year-over-year contribution to growth from fiber solutions.", "It's worth highlighting that historically speaking, the second quarter represents the low watermark, with respect to quarterly AFFO during the year. This is primarily caused by certain seasonal expense items that tend to be higher in the second quarter relative to the first quarter, including cash taxes and repair and maintenance expenses, which impacts both sustaining capital expenditures and operating expenses.", "From a balance sheet perspective, we continue to improve our financial flexibility. In February, we issued $1 billion of unsecured notes with 10 year and 30-year maturities utilizing the net proceeds to repay outstanding revolver borrowings. By taking advantage of favorable market conditions, we were able to proactively lock in attractive long-term interest rates and extend the weighted average maturity of our outstanding debt to approximately six and half years.", "Additionally, following the close of the quarter, we established a $1 billion commercial paper program that we intend to use as a short-term funding source. This program provides the potentially lower cost option relative to our revolver, while increasing our flexibility by tapping into another pool of capital. As we have previously stated, we intend to finance the business with approximately 5 turns of leverage longer term, consistent with our commitment to maintaining our investment grade credit profile.", "So in closing, our first quarter results were in line with our expectations and we believe we remain well positioned to generate approximately 7% growth in AFFO per share in 2019.", "Looking further out, we are excited about the current investments we are making in new assets that we believe will extend the long-term opportunity to generate compelling returns for our shareholders with a combination of dividends and growth.", "With that Cody, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. (Operator Instructions) We'll take our first question from Simon Flannery with Morgan Stanley. Please go ahead." ] }, { "name": "Simon Flannery", "speech": [ "Thanks very much. Thanks very much. Good morning. Turning to the small cells, you talked about the -- the increased pacing in the small-cell build this year, perhaps you could just get into a little bit more detail about where you are on that trajectory in the 10,000 to 15,000 range and what specifically is happening to help you achieve that? And any more color you could provide on how the lease up of the -- the initial builds is going? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Simon." ] }, { "name": "Simon Flannery", "speech": [ "Good morning." ] }, { "name": "Jay A. Brown", "speech": [ "On your first question, we are on pace as we talked about to be able to put the number of small cells on air this year of about double what we did in 2018, that activity is ramping through the -- through the course of 2019 such that by the end of 2019, we think we'll put about double the number that we had in '18 on air.", "Yeah, it's going as expected. We had -- obviously this represents given the timeline to build these of 18 to 24 months, this is the culmination of work that's been ongoing for some period of time. So we've already built the organization to be able to handle that level of activity and a lot of the activity around -- required in order to get that many small cells on air has taken place in past periods. So we feel pretty good about where we are.", "On the data points around what we've seen with lease-up, consistent with what we've been talking about over the last couple of years, we're continuing to see proof points in a number of different markets, where we have acquired fiber from whether it's FiberNet, or Lightower or other acquisitions that we've done over time, we've seen that fiber begin to lease up for small cells.", "And then the assets that we have built specifically for small cells, we've continued to see lease up on those assets that's in line with our expectation of being able to exceed our cost of capital with that second -- second tenant and then continued upside as we share the asset across customers into the future.", "As we've talked about and I think this is reflective of our results, given the opportunities that we see in small cells to invest further capital, a significant portion of the activity that's ongoing for small cells is the continuation of building new assets or immature assets. We're putting those on air at somewhere in the neighborhood of about a 6% to 7% initial yield on invested capital. And given the opportunities and the data points that we've seen that these assets are going to lease up over time when we build them in the best markets, we're continuing to expand and grow the pie. So whether it's margin expansion or return on capital, we're basically constantly diluting the legacy mature portfolio -- maturing portfolio with new assets that come in, in that 6% to 7% initial yield and lower margins than assets that have been on air for quite a period of -- quite a period of time. And given the scale with which we're doing the new activity and expanding our footprint, that has a far more significant impact to our financial results frankly than the lease-up does." ] }, { "name": "Simon Flannery", "speech": [ "And how do you think about expanding, you talked about best markets but going beyond your existing markets to newer markets, is there any opportunity there?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, the vast majority of the activity would be focused on the top 30 markets currently in the US, that's the focus of the wireless operators. So the vast majority of our capital is, we're supporting them and building for them. It's really focused in those top 30 markets.", "Based on both their public comments and some activity that we've seen, we think this is going to go well beyond the top 30 markets and be impactful to at least the top 100 markets. And if the returns stay where -- based on what we've seen in the top 30 markets, we're happy to continue to follow them in the markets beyond the top 30. But at this point, the vast majority of our capital investment would be focused in the top 30 markets and that would go for both the nodes that we have on air as well as nodes that we have one and are under contract and we're in the process of beginning to build that will come on air over the next couple of years." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks so much." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And Simon, it's Dan. And just to follow up a little bit on that, as Jay said, if the returns are there we're going to continue to invest in the other markets as we continue to push out small cells and our customers do, but as we've said for a while now, we don't see a huge opportunity for acquisitions to help us down that path. We think most of that will be organic type of builds in those markets. We may see some tuck-in acquisitions, but the majority of what we see is the new build will be through spending our own capital and building out new assets." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "Thank you. And we'll now take our next question from David Barden, Bank of America." ] }, { "name": "Joshua Frantz", "speech": [ "Hey, guys. It's Josh in for Dave. Thanks for taking the question. Just a few if I could. Can you breakdown the growth in the quarter within fiber solutions in the small cell part of the fiber segment and maybe any drivers there? And then the growth you're expecting within those pieces for the year. And then is there any seasonality within small cells when you can actually put nodes up winter over summer or something like that that we should be aware of? Thanks." ] }, { "name": "Daniel K. Schlanger", "speech": [ "So taking that first question, Josh. Thanks. The breakdown of revenue in the quarter is similar to what it has been historically between fiber and small cells at about 75% fiber and 25% small cells. Importantly though, as we look out over the course of 2019 consistent with keeping our guidance very similar where we are is -- where we were before is that the growth in small cells we anticipate would be between $70 million to $80 million in new leasing activity and -- on the fiber side it will be between $160 million to $170 million, which is consistent with what we said previously. So we see the growth rates be very similar to what we have been expecting.", "With respect to seasonality, there's nothing that's really seasonable -- seasonal about deploying small cells, it really comes down to when we can get everything through the municipalities permitted zoned and then construct it. And that as Jay pointed out earlier, takes 18 to 24 months on average, but that can range beyond 18 on the low end and beyond 24 on the high end. So it really just depends on when all of that gets done when small cells nodes get put on air." ] }, { "name": "Joshua Frantz", "speech": [ "Thanks. And is there any drivers in the fiber solutions side that you could call out in terms of growth in the quarter specifically?" ] }, { "name": "Jay A. Brown", "speech": [ "No. I think as Dan mentioned, as we look at the calendar year 2019, we have the same expectation for how the year will play out if we did -- we did previously, and I wouldn't, I wouldn't point to anything seasonal in that business." ] }, { "name": "Joshua Frantz", "speech": [ "Got it. Thanks for taking the questions." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. We'll now move on to Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks. So if we look at your full year guidance, you are obviously implying that there will be acceleration, you had 5.7% organic contributions to growth this quarter and I believe the midpoint on average for the year is at 6%. I'm just curious as we think about what drives the acceleration, I would guess, it was probably ramp in small cells, but if there is more nuance color you can provide on that, that would be very helpful." ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think we've got acceleration happening across the business, Brett. if you look at our numbers as Dan just mentioned, year-over-year, we're expecting about $15 million more of new leasing activity on towers as compared to 2018. And on the small cell side, there's about $20 million more, so that's impacting the fiber segment.", "Year-over-year, the growth numbers on fiber solutions are masked a bit by the acquisition activity, but there's meaningful more revenue from fiber solutions in calendar year '19 compared to '18. But I wouldn't point to necessarily another acceleration beyond what we've talked about here. As we look at the full year, it's up, it's up meaningfully from 2018 toward the elevated end of what we saw at the end of 2018 and fourth quarter results, and we're seeing that kind of activity continue into 2019.", "We do think as I made the point in my comments, we don't think this is a short-term change in the activity given what's happening in the landscape and the focus of the carriers of continuing to deploy it for 4G, given the growth they are seeing in data networks. We think we're in a period of time where we are going to see some sustained maybe elevated levels of tower leasing activity and drive toward small cells. And then the long-term aspects of that we think is at least extending the runway of growth in the business as the next leg of technologies and opportunities are on the horizon." ] }, { "name": "Brett Feldman", "speech": [ "Got it. And if I could just follow-up on something you were talking about earlier. I think you had said that the small cell deployments you are targeting for this year within scope of what you were logistically capable of doing. I'm curious, do you think you're sort of at a run rate in terms of the level of small cell deployments, just because that means you're finally gaining some operating leverage in the business, if you're not scaling up your G&A anymore?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. So I think if the level of activity were to stay similar to what we're going to undertake in 2019, then yeah, we've scaled the organization to be able to do that and we'll see the benefit of operating leverage there. As I would think about operating leverage, the vast majority of margin expansion in our business -- you can look at the tower model and see the same dynamic.", "The vast majority of the expansion of margin happens as we have a stable asset base, and then, we add tenants to that stable asset base over time. And then you see really steady growth in margins.", "In the case of small cells, given the amount of activity that's really related to expanding the portfolio, even though, there are components of the portfolio from years ago that we had built, that's relatively small compared to the amount of new activity that's coming on where we're building new markets. And therefore, the margin expansion or the leveraging of the cost structure in essence to the assets -- asset base, you don't see that reflected in the margins as quickly as what you do or as directly as what you do on the tower side.", "We're seeing it in pockets as we look for data points to test our assumptions to see whether or not the business is developing as we would expect. But I think we're going to continue to see margins. They want to expand as quickly on the fiber side, as we continue to put -- as I've discussed earlier in the call, continue to put immature assets into the mix, those new assets have lots of growth potential. But initially, they basically dilute the margins down." ] }, { "name": "Brett Feldman", "speech": [ "All right. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. And we will move on to our next question from Jon Atkin with RBC." ] }, { "name": "Jon Atkin", "speech": [ "Thanks. So real quick on MLAs. I wondered, if you could maybe just sort of review for us of your MLAs that kind of encompassed macro towers. How many are holistic arrangements where your revenue growth is mostly fixed irrespective of tenant activity level versus framework agreements, where your revenue growth kind of flexes in relation to leasing activity? And then maybe in addition on the MLA topic, how many include small cells as a component of that? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, John. On the first part of your question, we -- as you know, we are very hesitant to talk about the kinds of contracts that we signed with customers and who those customers are. So I'm going to kind of -- I'll beg off of your question, I think in terms of the specificity with what you're asking it. I think as you look at our leasing activity though more broadly, the mix of activity that's driving new tower leasing -- on the tower leasing side is about 50% is new installs on existing assets. And then about 50% is amendment activity.", "So in terms of revenue, incremental revenue growth that we're experiencing across the portfolio, that's the drivers. From a pricing standpoint, as we agree with customers around what the activity is going to look like, and how we price that. The majority of the activity that we see on the tower side, both for new installs, as well as amendments, we've agreed with our customers around what the price component looks like.", "So they'll come back and tell us how many antennas or lines or other things or space they need at the base of the tower, and we would have agreed a fee schedule with them that would cover basically all of the assets. But each of the customers, depending on the spectrum bands that they're using, the markets that they're using, they would be varying levels of commitment on the tower side as to how much activity they've committed to related to that. But the pricing has been mostly fixed.", "On the small cell side, we really have not done that in any way with wireless operators. Those contracts as we've talked about on past calls, it's highly dependent upon the cost structure of the asset by market. So while in towers, there is a national -- there's in essence a national pricing schedule that we can agree with the carriers. We've got to get very granular on the small cell side to understand the mix of aerial versus buried fiber, the regulatory fees or processes in a given market and that can change pretty dramatically, what the pricing schedule is with the carrier, depending on the market and where in the market their desire is for small cell.", "So there is not a way to do that easily on a national basis, so we basically need to go market-by-market, and agree pricing at that level." ] }, { "name": "Jon Atkin", "speech": [ "Can you -- just as a corollary and you could maybe answer it later in the call if you don't have it handy, but a year ago, what was that mix that you indicated for this most recent quarter between new installs and amendments? And then kind of further down on the small cell, quick question, can you maybe give us a sense of the pipeline and how concentrated it is by customer, is it like 30-30, 20-20 or 40-30, 20-10? Or how would you kind of characterize the the diversity of the demand?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. On your question about a year ago, maybe Dan or somebody can grab that number, but I believe it was about 60% amendments, 40% new installs. We were between 60% and 65% amendments over the last -- really longer than a year ago, if you go back probably 24 months to 36 months, and it was pretty steady. We're about two-thirds of the activity was being driven by amendments, and one-third by new installs. So we've seen a little bit of an of an increase in new first-time installs relative to amendments in more -- in more recent periods.", "With regards to the pipeline, we're continuing to see activity across all four of the wireless operators. So there is a good mix of small cell activity from all of the operators, and it varies by market as to what their focus is, but we've got significant activities under way from each of the big four." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And Jon, as we discussed -- as we have disclosed historically, we're about 65,000 small cells on air and under development. And that was true at the end of last quarter. It's true again at the end of this quarter, it's just moved a little bit from what we said last quarter about 50-50 between on air and under development. Now about 35,000 on air and 30,000 under development or in the pipeline. As we put more nodes on air, and didn't have substantial bookings in this quarter, but that was not unexpected, just given the pace of bookings that we had through last year and sometimes they are lumpy.", "So it doesn't speak to any change in activity levels or what our expectations are going forward. It's just a shift right now between on air and under development." ] }, { "name": "Jon Atkin", "speech": [ "And then last one from me. I think you alluded to it in the question Josh asked, but e-rates and kind of seasonality, it sounds like you didn't really see much, but I wondered if you could sort of confirm that? And then, what's the competitive dynamic for e-rate? Is it basically highly competitive or less so and very much dependent on your routes? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, I would say the same thing as I did to Josh about the seasonality. There is some seasonality as those contracts come up and schools look at what their fiber needs are going to be for the next school year depending on the timing at which they do that, there can be some seasonality in that. Given the size of our business though, that's really a very small component, so while some elements may have a little bit of seasonality to it. I think at the overall, It just does not impact the financial statements.", "Similar on your competitive question, similar to what we've seen in all of the infrastructure businesses, having assets in the right location is most of the time what drives the answer to how competitive the space is. And the same thing is true in fiber. So generally speaking, there are limited number of providers, who can provide high capacity, dense urban fiber and depending on where our routes are, and where our fiber is, we're going to have a high likelihood of winning some of that business to the extent that we don't, then it's maybe a part of the market where we are not competitive and may choose not even to bid, because the economics just won't reflect an appropriate return." ] }, { "name": "Jon Atkin", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll now take our next question from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hi. Thanks for taking my questions. Now (ph) to put a finer point on an earlier question, if we assume a reasonable growth rate and revenue share for small cells, it looks like fiber solutions revenue was flat or down sequentially this quarter and that's after it looked like it have been flat or down sequentially two quarters ago. Is that correct? And is there anything we should be aware of here?", "And I guess more generally can you describe your degree of confidence in the longer term mid-single digit growth outlook you've laid out for fiber solutions, not for 2019 which you've reaffirmed, but the outlook beyond that?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, Nick. The growth rate of fiber solutions in the first quarter was lower than what our 5% long-term growth rate is. But we still think that, as we mentioned, and as Jay mentioned about 2019, we still think we'll get to that 5% or mid single-digit growth rate and still have confidence that beyond that, we'll be able to make that happen. There is nothing specific that happened in the quarter. It is not -- it's not something that gives us a lot of concern at all, because it's just -- it's timing of when bookings happen, when things go on air. It's not something that changed obviously the outlook for 2019." ] }, { "name": "Nick Del Deo", "speech": [ "Okay, got it. And then Sprint has talked about having deployed almost 20,000 small cells on Altice's HFC plans. There are obviously puts and takes associated with using coax rather than fiber, it's probably pretty, pretty cheap to put up. If we eventually see the other cable operators strike analogous arrangements with other carriers, do you see this being relevant for your small cell business?" ] }, { "name": "Jay A. Brown", "speech": [ "I think I would -- just stepping back Nick broadly, when we look at the amount of spectrum that's laying silo in the hands of operators and the spectrum that is likely to come to market over the next, next coming decade based on what the FCC has talked about, there is going to need to be a significant amount of deployment activities. And I suspect that both the wireless operators as well as cable companies, there maybe other entrants into the market that want to have network elements beyond just to we would think of today's zoning networks and they are going to look across the -- across the board at opportunities to use infrastructure and are going to need to use a number of different types of facilities in order to deploy that spectrum.", "So when I see things like what you're mentioning, I think that will be one of the elements that are used in order to fill the need for spectrum deployment. But I believe the pie is going to be so large that it's not going to be detrimental to our growth rates or expected growth rates that those kind of things are going to -- those kind of things are going to happen.", "I think it's somewhat analogous to I remember back years ago when we were kind of moving from 2 to 2.5G, 3G and people are really concerned about what WiFi was going to do to our business, and there are a lot of fears that WiFi was going to completely offload the need for the deployment of spectrum on towers, and the growth has more than overcome that. So the growth in the demand on the networks, and at the same time, our customers are going to look for the lowest cost provision to deliver network resources to the consumer to meet the needs.", "So I think what you've highlighted is one of the -- one of the ways that they will, they will look for way to supplement their network deployments. But I think it's just one component of it. And I don't, I don't believe that will be impactful to our long-term growth rates." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And just to piggyback on that a little bit. As they looked at -- as our customers look to deploy network as inexpensively and efficiently as possible. That's where we come in, because we're able to share the asset among all the customers and share those economics. That is exactly the value that we bring as to be able to deploy all that fellow spectrum in the most efficient way possible, which is why we're so excited about the future is that we think we have the right assets in the right places to allow our customers to meet the increasing demand over time with the least expensive and the most efficient manner." ] }, { "name": "Nick Del Deo", "speech": [ "Got it. Thanks guys." ] }, { "name": "Operator", "speech": [ "Thank you. We will now take our next question from Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Yeah. Hey guys. Good morning." ] }, { "name": "Jay A. Brown", "speech": [ "Hey, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "Can you hear me OK?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. We can." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. Good morning. Hey, I want to follow-up on a couple of questions. Your answer back on Jonathan's question about the nodes. Jay, I think you mentioned that you want to -- you're thinking that you could do 2X what you did in '18 as far as nodes on air . Can you remind us how much you did in '18 just so we kind of have a framework?" ] }, { "name": "Jay A. Brown", "speech": [ "We did about 7,500 in 2018. So we expect to be in the ballpark of about 15,000 in 2019." ] }, { "name": "Ric Prentiss", "speech": [ "That's great. And Dan you mentioned seasonality, I appreciate that, 2Q usually is the low quarter because of cash taxes and the ability to do maintenance. Some other seasonal ones, (ph) we had a question on your services business in first quarter was really strong as far as gross margins, but the guidance as far as what services would contribute in 2019 didn't change. How should we think about, is it that it's going to fall off in the second part of the year or is there something contractual or are you just being conservative, how should we think about the services business?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, well, first, I just want to remind you that when we talked about our fourth quarter services business, we said there was about $5 million that pushed off due to timing. So you can see that, that could hit in the first quarter. So I don't think that we -- in our guidance going forward, we do not anticipate a slowdown necessarily, what we anticipate is a continuation of the type of activity that we see and have seen as Jay mentioned, on the tower side.", "So we think it's going to be continuing activity. We're excited about it and it really is timing as what you're seeing more than anything." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. That makes sense. And then also, there was a little spike up in corporate SG&A in the first quarter, is that a good run rate or what was going on there? Is there anything out of -- kind of unusual out of period there?" ] }, { "name": "Jay A. Brown", "speech": [ "There are a few things that we're not going to call out to take and tie that probably pushed up a little bit, but the reason that we're able to maintain our guidance over the course of 2019 as we anticipate to be where we thought we were going to be last quarter. So everything we think is in line with what we had anticipated before. So nothing really substantial one way or the other." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And last one from me. When you think about keeping your balance sheet balanced and funding the capital program that you mentioned that you guys are excited to keep rolling out fiber would build versus buying acquisitions. How do you think about debt raising versus equity raising as far as funding the capital program. I think you've said, this year it's going to be debt. But how do you think about that given where interest rates might be headed or where your stock price is at?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. So what we look at is, we are committed to maintaining our investment grade rating, which we think takes about 5 times leverage. So what we're trying to do is maintain that 5 times debt to EBITDA target or close to it as we can. And which means that if we can grow our EBITDA and have sufficient leverage capacity associated with that, that can cover our capital program and that's what we're going to do.", "If we then have a capital program that is in excess of our cash flows in our EBITDA leverage growth or leverage capacity growth, then we'll go out and sell equity. For 2019 what we anticipate is that the EBITDA growth will lead to leverage capacity that will allow us to fund our capital program with debt and that doesn't change just because our stock price is somewhere or is not.", "And when we look forward though, as we see more capital commitments come, we'll have to do that calculus again and determine whether the EBITDA growth will allow us to spend the money and utilize debt to spend for that capital or whether it will require some equity.", "But generally speaking, we're trying to minimize the amount of equity we issue. So keeping that 5 times debt leverage is where we're headed. And to the extent that we get to the point where we want to sell equity or need to sell equity to maintain that 5 times leverage then we'll try to do it at the highest price possible and limit the number of shares we put out." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense. Appreciate the color, guys. Have a good day." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ric." ] }, { "name": "Operator", "speech": [ "Thank you. And we'll now take our next question from Colby Synesael with Cowen and Company." ] }, { "name": "Colby Synesael", "speech": [ "Great. Thank you. Two questions if I may. One is just a housekeeping item, on CapEx. I think last quarter you guys had indicated that you expect to spend roughly $2 billion and to some of the commentary on this call seems to focus on continuing to push forward with investment and I'm curious if that's still the expectation.", "And then I guess to that point as it relates to capital raising and debt and equity and all that good stuff. When I look at your debt financing that I think that you'll need for this year, assuming a target of maintaining that 5 turns of leverage, even what they do that I look at your interest expense, it seems like your guidance for the year seems low. I mean, even if you take the first quarter at $168 million, that's $672 million annualized versus your guidance of $687 million to $732 million. What would drive the interest expense up to the levels that you're still assuming in your guidance? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "On the first question around CapEx, we're not changing our outlook for 2019. So we still think that we'll be investing about $2 billion of capital in the calendar year. My comments around our desire to continue to invest are more forward looking than just 2019 and are reflective of the environment that we're seeing and the actions that our carriers are taking against the shared infrastructure that we've built both on the fiber and tower side, and we are continuing to pursue and look for opportunities on that front.", "And as we've mentioned, because the build schedule is so long, 18 to 24 months in those cases to the extent that there was a change in the trajectory of capital needs, you'll see that show up in our commentary around what the pipeline is, and how many nodes are to come. If that were to change meaningfully, then I think we were trying to determine Colby around the trajectory, and is there growth there, then we would, we would let you know as early as we could around, here's where we think the trajectory on capital spending is going to go. But for 2019, we don't need to make any changes. We think it's going to be about $2 billion in the calendar year." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. And Colby on the interest expense, I'm going to try to answer your question, but I'm not sure I got it completely. So jump back on and ask if I miss it. But there are a lot of assumptions to go into that interest expense forecast, including timing of debt raises, what we use on revolver, how we term it out, what the interest rate is going to be. So all of that is baked into our best guess of what interest expense will look like.", "And that is what is reflected in our guidance. And I -- what I couldn't tell us whether you're asking why it was too high or too low. So..." ] }, { "name": "Colby Synesael", "speech": [ "It seems to (multiple speakers) if I look at the $168 million that you just did in the quarter and simply annualize that you get to $672 million in the range for your interest expense guidance which obviously impacts our AFFO is $687 million to $732 million. And even if I assume you raise debt with the assumption you maintain something around 5 turns of leverage, it still seems difficult to get to that $687 million to $732 million range." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. Okay. So I understand your question. What I would say, again is, it's just, it has a lot of assumptions that go into that and that's why we give a range. We think that range is appropriate for what we anticipate our funding sources will be to pay for the capital expenditures we have in 2019." ] }, { "name": "Colby Synesael", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll now take our next question from Matthew Niknam with Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey, guys. Thank you for taking the question. On the small cell business, so I'm just curious, is the FCC small cell order that came out late last year, is that helping you streamline the timing for deployment at least on the margin from the traditional 18 months to 24 months you talked about in the past? And if not today, when do you anticipate this 18 months to 24 month window shrinking over time?", "And then just secondly on leasing activity, any meaningful contribution on the site leasing front you'd call out from non-traditional customers, so sort of beyond the big four wireless carriers in the quarter? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Matthew, on your first question around the benefit of the FCC order, it has been beneficial primarily, because it has given more certainty around cost and timing of navigating the local municipalities. So it has been helpful on that front, particularly in markets and locations, where there was an absolute blocker that had been put up by local municipalities. The FCC order has been very helpful and starting to move some of those locations off of an absolute prohibition of getting it done. So it's been helpful on that front.", "As I've mentioned though in past calls on this topic, I would not anticipate that the timeline of building nodes would shorten considerably from what we've seen 18 months to 24 months of timeline to build small cells. Even with the FCC order, there's still a significant amount of coordination, that has to happen with the local municipalities, as we work to deploy small cells in the public right of way.", "And I don't see anything on the horizon that's likely to shorten that deployment schedule by a meaningful amount, if I look at the nationwide average of 18 months to 24 months. So I would not assume that that happens.", "From a pragmatic standpoint, the amount of activity that we're seeing in small cells as we talked about the doubling of the number of nodes that we're going to put on air, that puts tremendous pressure at the regulatory level of local municipalities to process applications and also on the utility side. So in some cases, we've seen while the FCC order has been very helpful, there is another long pole in the tent in terms of just sheer volume and the amount of volume that we're now trying to push through at the municipality level for application approvals and through utilities bringing power to these locations in order to get small cells on air.", "So the amount of activity that we have seen and have staffed up for is not -- there is not necessarily the same correlation at the local municipality and utility level to process applications. So that's certainly a challenge of the overall system.", "On the leasing front, you want to?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. So the contribution of non-traditional customers, I think what we've said and we try not to talk specifically about customers is that we are seeing some demand coming from pockets other than the big four carriers that is driving some of our demand right now and it's something that we think will continue and we're excited about." ] }, { "name": "Matthew Niknam", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll now take our next question from Robert Gutman with Guggenheim Securities." ] }, { "name": "Robert Gutman", "speech": [ "Hi, thanks for taking the questions. You said there was limited new small cell bookings in the quarter, but I don't know if you provided the breakout of the -- I think it was $87 million of new leasing between the three respective segments. And I was wondering that out of the small cell backlog, I'm not sure if you've provided the -- sort of the breakout of what proportion are second tenant builds versus initial builds?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. So what I was speaking to is our -- as I said before, the total number of small cell nodes on air and under development remained about 65,000. It's just the shift happened from about a 50-50 split between the two into more being on air for about 35,000 on air and 30,000 under development. And that we -- what that means basically is that there wasn't a huge number of bookings in the quarter.", "As we look out and Jay said there's a lot of anticipation of continuation of bookings, because the pace of activity has not changed very much. And so we're excited about what the future looks like and part of that is because to your second question around what is new anchor builds versus co-location. It remained about the same, about 80% anchor build and 20% co-location or somewhere in that general vicinity, because we're continuing to build out both within the markets that we have and then expanding within those markets into new geographic regions of those markets.", "So what we're excited about with that is all that does is provide new assets that we believe over time will be the driver of what Jay was talking about earlier of incremental margin once the asset does stabilize. So we are happy with that proportion of anchor build remaining in that 70%, 80% range. It really hasn't changed for a while now." ] }, { "name": "Jay A. Brown", "speech": [ "Robert, just to pick up on Dan's point, which is I think really helpful context to some of the things I was making comments around earlier around the continued building out of new markets and areas of the market. If you take roughly and I'm not trying to pin the number down exactly, but if you take about 20% of the activity that we'll see in calendar year 2019 on small cells going on air, that means in the neighborhood of about 3,000 co-locations are going to happen in calendar year 2019.", "If we go backwards, three to four years, you're talking about, well over half of the total nodes that we put on air in those years are now in the form of co-locations. So we're seeing the legacy assets that we have continued to grow the amount of co-locations that are going across them. But as we talk about scaling and continuing to -- as we are in calendar year 2019 or expect to in 2019, doubling the amount of activity that 20% of co-locations, the percentage is a lie to you because the numbers we're growing is so large in terms of the amount of investment that we're making.", "But the number of proof points that we have that the co-location model is working is increasing significantly far more than just talking about the percentages to breakout between co-location and new leasing would suggest." ] }, { "name": "Robert Gutman", "speech": [ "Great, thanks. And any color on fiber versus micro tower in the new leasing number for the quarter?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. We're going to break that out quarter-by-quarter. Just the color is that for 2019, it remains the same at that the $70 million to $80 million on small cell and $160 million to $170 million on fiber solutions." ] }, { "name": "Robert Gutman", "speech": [ "Got it. Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Thank you. We'll now move on to our next question from Walter Piecyk with BTIG." ] }, { "name": "Walter Piecyk", "speech": [ "Thanks. Hey, if you have a customer on the small cell that has LTE and then they add a 5G power (ph) is that an amendment or a or a new lease-up? And if it's an amendment, what's -- what typically the percentage add from what they were paying for the original 4G small cell?" ] }, { "name": "Jay A. Brown", "speech": [ "Walter, probably the best way to describe it and this is generalities, because there could be cases where this answer is -- would not be the case. I don't mean it to be blanket (ph) of 100%. But generally speaking, that would look like a brand new tenant on the small cell system. The types of equipment that we expect to see in 5G would result in them using up an another entire slot on the -- in the cabinet. And so it's likely that is -- that it would look much more like a full tenant than it would look like an amendment. And so economically, when we talk about adding the second tenant exceeding -- basically get into the place where we're exceeding our cost of capital. That's the way the economics would followed, generally speaking." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And also..." ] }, { "name": "Walter Piecyk", "speech": [ "Right. So the deployment that I saw, it was -- it was basically taking a slot on a lamppost. So for sure, they were taking a slot where another carrier would have been, right? So there has to be a new lease." ] }, { "name": "Jay A. Brown", "speech": [ "Exactly right." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And it also is taking another pair of fiber. So with a lot of the capital being in the fiber, it really is based on the fact that we're utilizing that shared asset again and that's what's driving the economics." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. And then when we think long-terms in terms of trying to size the market and number of cells -- small cells, obviously extremely early stage at 15,000 a year. And Jay, you and I've talked in the past about whatever -- much larger number on an annual basis. What do you think we should think about in terms of a 30-foot elevation whether it's LTE or 5G in terms of fee or meters of coverage when we're trying to size the number of small cells that will exist in a market." ] }, { "name": "Jay A. Brown", "speech": [ "I think it's hard to answer that question because of the way these things I think will likely get deployed by municipality, how much space do they take up will be driven by a lot of local market dynamics around how many feet can you put on a different pole, how tall are their poles, what area inside of the market are they deploying them." ] }, { "name": "Walter Piecyk", "speech": [ "Sorry to interrupt. Jay, I meant, I meant feet of coverage, not feet on the lamppost, feet of the coverage of what the small cell reaches?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, probably, I think what we're seeing today would look something like a city block in most, in most cases as the coverage that you're getting out of it, in dense urban areas you're really covering the streets in between buildings and maybe some in-building coverage. As you get to more of the suburban deployments, you might cover a little bit more than a few hundred yards, but not much more than that, that's about the limitation of what you're going to use small cells to cover." ] }, { "name": "Walter Piecyk", "speech": [ "Right. So a city block, I think typically unless you're talking about the big avenues in New York are about 350 feet, does that sound about right?" ] }, { "name": "Jay A. Brown", "speech": [ "That's about right. (Multiple Speakers)" ] }, { "name": "Walter Piecyk", "speech": [ "Yeah. Sorry." ] }, { "name": "Jay A. Brown", "speech": [ "I was just going to say it might be a little longer than that in some suburbia. But generally speaking, that's a pretty good measure." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. And just one last quick question. In the last six months, have you gotten any inquiries from infrastructure investment funds for a possible acquisition of the Company?" ] }, { "name": "Jay A. Brown", "speech": [ "I'm not going to comment specifically on any potential deals out there. I think if you look at our investor mix, you've seen a couple of things over the last several years. One is we've seen more real estate investors come toward the space. I think as time has passed and we've been able to tell the story across the industry with our other two public peers, I think that has helped and has attracted some real estate money. And then infrastructure funds around the world as they've looked at various businesses, again, the other two public peers being able to tell the story of the nature of our business has attracted more capital.", "So I think as a proportion of overall capital in our firm, it's grown -- it's grown in terms of the infrastructure investors and real estate investors." ] }, { "name": "Walter Piecyk", "speech": [ "Great. Thank you very much." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We will now move on to our next question from Batya Leva -- Levi with UBS." ] }, { "name": "Batya Levi", "speech": [ "Great. Thank you. First on, can you provide an update on enterprise churn, what you're seeing there? And I believe you mentioned that you would lean toward building fiber versus buying assets. Can you provide more color on that, is that the change in valuations or type of assets that you see available.", "And on the macro side, can you remind us how much churn do you expect from the acquired networks this year.? And does that all come off next year? And one final one tenants per tower ticked down slightly 2.1. Is it just rounding? Anything to call out there. Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. Thanks Batya. Again, if I missed one just come back and ask. But on fiber solutions churn we still anticipated to be in the high single digits and believe that's generally where it was for the quarter, building versus buying fiber, that's really not anything to do with valuation. It has to do with, when we look out and look at the universe of potential acquisitions, the ability to meet the criteria that we utilize for purchasing fiber, it has diminished over time, because we bought a lot of the assets that we're really interested in. So what we're looking for is high capacity fiber that has a lot of density in market, in the top 25 or 30 markets in the US, and they're just not that many -- there are not that many targets out there that we would be interested in that meet all those criteria.", "So it has very little to do with valuation and much more to do with strategic fit with our goal of putting small cells on fiber in the top markets in the US. From a macro standpoint on the churn from acquisitions, we had about our churns in the 1 to 2% range is about 2% this year, but half of that is from the acquired network churn. And we believe that most of that will be done through the course of 2020. It's just that because it happens through '19, there will be some rollover effect of that acquired network churn into 2020. And then the tenant per tower going from 2.2 to 2.1, it really is rounding, but it also, just to remind you, it doesn't take into account amendments. So it is not a real great measure of the activity we see on our towers as we've been talking. The activity we're seeing is increasing as our customers are spending to keep up with data demand. And that is driving significant new leasing, which is a better measure of what that -- of what the activity levels are on our tower business." ] }, { "name": "Batya Levi", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We will now take our next question from Tim Horan with Oppenheimer." ] }, { "name": "Tim Horan", "speech": [ "I guess, Jay, there's some concern out there that the small cell radiuses are not going to be big enough to kind of support the cost for the small cell or that we're not going to be able to kind of generate incremental revenue from 5G or whatever deploying. Obviously you're making a pretty big bet here, any thoughts on that?" ] }, { "name": "Jay A. Brown", "speech": [ "I think the challenge that the carriers are trying to solve is the amount of data traffic that's going across -- going across their networks. Towers are the most cost-effective way for them to deploy infrastructure and to broadcast spectrum, but those towers -- A tower will lose its effectiveness in terms of geographic coverage and capacity at certain areas inside of the coverage area of that tower get tapped out by high usage. So they use small cells to basically underlay underneath the geographic coverage of towers to offload some of the -- offload some of the data traffic demand in order to return the tower to its full effectiveness.", "So to isolate the economics on a single small cell really misses the broader point. The best analogy in terms of the design of the RF is to think about the towers as overhead lighting inside of the building and small cells are putting lamps, where you're focusing light in a particular area. And the combination of that obviously balances the light inside of a room. The same thing is true on the RF side in terms of balancing the spectrum inside of a general geographic coverage area. And so the radius frankly is not as important as is the small cell capable of offloading some of the traffic from the macro site in order to return it to its maximum effectiveness, and they deploy small cells in order to most cost effectively use their macro sites." ] }, { "name": "Tim Horan", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We will now take our final question..." ] }, { "name": "Jay A. Brown", "speech": [ "And we have time for one more question." ] }, { "name": "Operator", "speech": [ "So we'll take the final question from Spencer Kurn with New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. Thanks for squeezing me in. So I've got a question on small cells. Last week Verizon struck a deal with the city of San Diego to utilize their municipal infrastructure to deploy small cells and fiber throughout city. When I look at your fiber math, it looks like you have a lot of fiber in San Diego. So it seems like Verizon is kind of circumventing you in one of your key markets. Is this a concern for you or how do you sort of frame this type of activity in the context of achieving your targeted returns with your fiber investments? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. You bet, Spencer. Broadly, the amount of activity that's going to be needed based on what we think data growth is going to happen and then as we move toward 5G is there's going to be -- need to be a significant number of small cells that are deployed in order to meet the -- meet the demand. We certainly don't expect that we're going to be the sole provider of all small cells in the US. And so at the moment, we think we're somewhere in the neighborhood of about 50% of all the small cells being deployed. Crown Castle is about 50% of that overall activity. But we don't have any expectation that we're going to continue to main that kind of market share given the likely growth in the overall market and demand for it.", "At the moment, self-performed by the carriers would make up the majority of that other 50% that we're not doing. And we would expect that the carriers will continue to do that. I think you'll see over time that firms will go in and do deals with cities and municipalities in order to make deployments easier or faster at certainly not the first or only deal that has been done on that front. There are a number of transactions like that, that we have done with municipalities, where we've gone on -- gone in and worked with them in order to gain access to the infrastructure in the public right of way. And I think it's just good business to do it that way. We're all working collaboratively with the local municipalities in order to deploy small cells.", "So when I see those kind of things and I think it's indicative of the overall broader market and the need for the deployment of infrastructure. But it frankly doesn't concern me in terms of impacting what we think our returns are or our growth rates. I think it's much more indicative of what the overall market growth and opportunity is." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. That's really helpful. Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Well, thanks everyone for joining us on the call this morning. I appreciate the questions and look forward to talking to you next quarter." ] }, { "name": "Operator", "speech": [ "Thank you. That does conclude today's conference. Thank you all for your participation. You may now disconnect." ] } ]
CCI	2022-07-21	[ { "description": "Senior Vice President Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Phil Cusick", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt Niknam", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Q2 2022 earnings call. Today's conference is being recorded. At this time, I would like to turn the conference over to Ben Lowe. Please go ahead, sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Paula, and good morning, everyone. Thank you for joining us today as we discuss our second quarter 2022 results. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer, and Dan Schlanger, Crown Castle's chief financial officer.", "To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions. And actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors section of the company's SEC filings.", "Our statements are made as of today, July 21, 2022, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. with that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Ben, and good morning, everyone. Thanks for joining us on the call. As you saw from our second quarter results and updated full year outlook, the strength of the US market continues to stand out. We are seeing the benefits of a strong leasing environment as we support our customers' growth initiatives with their deployment of 5G.", "This activity drove 6% organic revenue growth in our tower business in the first half of the year, which we believe will meaningfully continue through the remainder of the year. And as a result, it's resulting in higher operating performance relative to our expectations at the beginning of the year. In addition, we expect to double the rate of small cell deployments next year compared to the 5,000 nodes, we expect to put on air this year to meet the growing demand from our customers as 5G networks require small cells at scale. Looking further out, I believe our strategy and unmatched portfolio of 40,000 towers, a 115,000 small cells on air or under contract and 85,000 route miles of fiber concentrated in the top US markets have positioned Crown Castle to achieve our long-term annual dividend per share growth target of 7% to 8%.", "Dan will discuss the financial results and updated outlook, so I'll focus my discussion on our strategy to deliver the highest risk-adjusted returns for our shareholders by growing our dividend and investing in assets that will generate future growth. To that end, we are focused solely on the US because we believe it represents the best market in the world for wireless infrastructure ownership, when considering both growth and risk. As you saw in the release, to better reflect our strategic focus on the US market, we are changing our company name from Crown Castle International Corp. to Crown Castle, Inc., while our ticker will remain CCI.", "As you can see on Slide 3, the demand drivers for our infrastructure have been strong since the early days of the wireless network investment in the US. We have benefited over time from persistent growth in mobile data that has required hundreds of billions of dollars of network investment by our customers. During the 2G deployments in the mid-90s, wireless operators invested approximately $125 billion over eight years to enable wireless voice services nationwide. As network and handset technology rapidly improved, that investment cycle gave way to the development of nationwide 3G, which enabled basic mobile Internet browsing that consumes significantly more data than legacy voice services.", "Over the next eight years or so, wireless operators invested approximately $200 billion, both to deploy new spectrum on existing cell sites and deploy thousands of new cells, in order to add to the network capacity, needed to keep pace with the substantial growth in mobile data. The virtuous cycle continued with network investment and technology innovation, allowing our customers to meet the increasing demand for mobile data that US consumers are willing to pay for. As we entered a new decade in 2010, wireless operators began deploying nationwide 4G that delivered a step function change in how fast data is transferred from cell sites to mobile devices. This innovation led to the development of data-rich applications and use cases that were simply not possible with 3G networks, including mobile video, e-commerce and social media platforms, which drove another step change in mobile data demand.", "Over that decade, wireless operators invested approximately $325 billion to develop their 4G network and mobile data demand increased by a factor of 96 times during that same period. As a result of the quality of the network and the user experience enabled by this level of investment, US consumers have used their wireless devices more and more, and they have been willing and able to pay for that improving mobile experience. In turn, the US wireless operators have taken the cash flows generated from their customers and invested even more in their networks and the cycle continues. The combination of this persistent growth in mobile data and the value we deliver to our customers by providing a low-cost shared infrastructure solution has enabled us to consistently generate growth through various macroeconomic cycles.", "As you can see on slide four, our business has a long track record of delivering growth through periods of US economic expansion and contraction. Similar to past generational network upgrades, we expect 5G to drive sustained growth in our tower business, as our customers upgrade existing cell sites and add new sites to our 40,000 towers. We also believe 5G will be different as it will require the deployment of small cells at scale to increase the capacity and density of wireless network, as more spectrum deployed across existing macro towers will not be sufficient to keep up with the growth in mobile data demand. As a result of the requirement to build out this denser network, we believe the duration and magnitude of 5G investment will likely exceed prior cycles, further extending our runway of growth.", "With this view in mind, we have invested $16 billion of capital in high-capacity fiber and small cells that are concentrated in the top US markets. That capital is yielding more than 7% today. And with more than 60,000 contracted small cell nodes in our backlog, including a record number of colocation nodes, we expect the yield to increase over time, as we put those small cells on air. To put this in perspective, our tower investment began more than 20 years ago at approximately 3% yield, when we built and acquired assets that we could share across multiple customers.", "As we have proven out the value proposition for our customers and leased up our tower assets over time, those assets now generate a yield on invested capital of 11.5%, with meaningful capacity to support additional growth. To provide investors with additional visibility into how our fiber segment investments are progressing, we have updated the analysis we have provided each of the last two years, outlining the activity and returns for five specific markets. Looking at the collective view of how these five markets have performed over the year -- over the last year on slide five, growth from both small cells and fiber solutions has contributed to solid returns, with yields that are largely consistent year over year. The performance across these markets demonstrate our ability to generate strong overall returns, as we co-locate additional customers on our fiber assets, while also investing capital to build new assets and expand the long-term growth opportunity.", "To that point, we are seeing co-location at scale with solid returns. Across our entire fiber business, about a-third of the small cell nodes we have deployed since the beginning of 2018, have been co-located on existing fiber with returns that are consistent with the targets that we have communicated. Looking at how well our overall strategy is performing. Since 2018, we have increased our consolidated return on invested capital by 160 basis points to 9.5%.", "Returned nearly $9.5 billion to shareholders through our dividend that has increased at a compound annual growth rate of approximately 9%, while also investing $7 billion of capital into attractive assets that we believe will support the future 5G build-out and contribute to dividend growth in the future. I believe that combination highlights how compelling and differentiated our strategy is. We provide investors with the most exposure to the development of next-generation networks with our comprehensive offering of towers, small cells and fiber, a pure-play US wireless infrastructure provider with exposure to the best growth and the lowest risk market, a compelling total return with a current yield of 3.5% and a long-term annual dividend per share growth target of 7% to 8% and the development of attractive new assets that we believe will extend our runway of growth. When I consider the durability of the underlying demand trends we see in the US that provides significant visibility into the anticipated future growth for our business.", "The deliberate decisions we have made to reduce the risks associated with our strategy and our history of steady execution, I believe Crown Castle stands out as an excellent investment that will generate compelling returns over time. Before I wrap up, I did want to draw your attention to one other announcement that we made yesterday. We released our 2021 environmental, social and governance report and we also launched a new ESG website as a part of our effort to provide timely and accessible ESG disclosures. Our business is inherently sustainable.", "With our shared infrastructure solution supporting connectivity that is vital to our economy, while limiting the proliferation of infrastructure and minimizing the use of natural resources. We continue to build an inclusive and diverse community at Crown Castle and are committed to further improving the impact we have on the communities in which we operate with specific goals to be carbon neutral in Scope 1 and 2 emissions by 2025 and meaningfully increase our addressable spend with diverse suppliers by 2026. We hope you find these new disclosures and the website helpful. And with that, I'll turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, and good morning, everyone. As Jay discussed, 5G deployments continue to create a strong operating environment and are driving another year of solid growth for us. Results for the second quarter were in line with our expectations, so I want to start by discussing our updated expectations for full year 2022. Turning to Page 8.", "Our outlook for 2022 site rental revenues and AFFO remains unchanged while we increased the outlook for adjusted EBITDA by $20 million. The increase to adjusted EBITDA reflects a $20 million increase in the expected contribution from our services business as we continue to capitalize on the consistently high levels of tower activity. In addition to updating our 2022 outlook for strong operating performance, we also reduced our expectations for full year sustaining capex and cash taxes by $25 million as we focus on operating the business as efficiently as possible. These positives do not flow through to AFFO, additional AFFO growth in the year due to an increase in expected interest expense of $45 million.", "This $45 million increase reflects the significant increase in interest rates we have experienced over the last few months and incorporates the now higher forward curve on our $3.3 billion of floating rate debt. As a result of these changes, our AFFO outlook remains unchanged. In light of the increasingly uncertain macroeconomic and rate environments, I'd like to review our approach to capital allocation and balance sheet management. Our first capital allocation priority is to return the majority of the free cash flow generated by our business to our shareholders through a quarterly dividend with future dividend growth tied to future growth and cash flows.", "Our second priority is to invest in assets that meet our underwriting standards and generate expected future growth, and we fund those discretionary investments with external capital in a manner consistent with maintaining our investment-grade credit profile. When we underwrite these investment opportunities, we set our hurdle rates based on an assessment of our long-term cost of capital to align with the long-term nature of the assets we're investing in. Our underwriting assumptions contemplate a rate environment that approximates a long-term average interest rate, but we expected the increase in rates to happen over a few years versus the move we've witnessed this year that happened over a matter of months. As a result, the current rate environment does not impact our long-term cost of capital or our desire to continue to pursue investments with the return profiles we have consistently discussed with investors, since we believe those returns will significantly exceed our cost of capital.", "Having said that, the pace at which rates have normalized will present some near-term challenges. As you can see with the $65 million increase in our 2022 outlook for interest expense, when compared to the outlook we established last October. Our last capital allocation priority, if we have excess capital after paying our dividends and investing in new assets is to return that capital to our shareholders through share repurchases. Turning to the balance sheet.", "We ended the second quarter in a very good position with 4.9 times debt to adjusted EBITDA and currently have approximately nine years of weighted average term remaining, 85% of our debt tied to fixed rates and limited maturities through 2024. Additionally, we continue to focus on ensuring we have sufficient liquidity to meet near-term debt maturities and fund our discretionary capital expenditures. We believe we have accomplished that goal by amending our credit facility in early July to increase the revolver capacity to $7 billion, leaving us with nearly $5 billion of available liquidity. So to wrap up.", "We're excited about the demand we're seeing across our shared infrastructure offering as our customers deploy 5G at scale and the best market for wireless infrastructure ownership. We believe we have sufficient capital to invest in new assets to take advantage of the densification of communications networks required to meet the future data demand growth spurred by 5G. And we believe our comprehensive set of solutions across towers, small cells and fiber, which are all necessary to build next generation wireless networks will allow us to deliver on our long-term growth target of 7% to 8% annual dividend growth per share, sorry, annual growth in dividends per share. With that, Paula, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] We'll take our first question from David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey guys. Thanks so much for taking the questions. I guess a couple, if I could. First, Jay or Dan, is this big step-up in revolver capacity, should we be reading something into this about maybe your view as to the potential for opportunities to acquire new portfolios increasing as maybe the rate environment, other thing maybe put some pressure on potential sellers? Is that the reason why we wanted so much capacity available? I guess the second question would be, could you kind of just give us your thoughts now on the wisdom of having 15% of the debt variable rate and kind of you're thinking about that now? And then I guess the last piece is something that obviously we've been talking about since you shared new disclosures around the amortization of prepaid rents, obviously, the accounting amortization of that is going to fall through time.", "But presumably, it's falling because new prepaid rents, cash coming in the door is also falling. And just how should we think about that informing your outlook for maintaining 7% to 8% dividend growth annually? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Thanks. Good morning. I'll take the first question and I'll let Dan speak to the second two questions. On your first question around the revolver, no, there's no read-through here in terms of what we're seeing on the acquisition front.", "We've been really consistent about our view of particularly fiber assets over the last several years. that the vast majority of the additional assets that we will own over time will likely be as a result of assets that we build. As we assess the landscape, we don't see an opportunity to acquire assets at scale that meet the criteria of dense urban footprints with high-capacity fiber that will be used for small cells. So the increase in the revolver is more, as Dan spoke to balance sheet management and gives us some more flexibility as we think about funding upcoming capex over years as well as navigating through any debt maturities that may come in.", "So, no read through there on the acquisition side." ] }, { "name": "Dan Schlanger", "speech": [ "Hey. I'll take the next two, Dave. The first of which, on the 15% variable debt. There's always a balance that we try to strike between how much certainty do we have in that interest expense line item and the ability to take advantage of short-term debt that is less expensive than long-term debt.", "We believe around this 15% range is a good strike of that balance where we get to take advantage of the lower cost of capital that comes with having shorter or variable debt. And we believe that we can withstand as we've seen in our 2022 outlook, the ability or the consequence of having debt increase in the period. And I think as most of us have seen and understand the rate at which the interest rates have increased in 2022 has been the fastest rate of interest rate increases in the last 50 years. So, even in that period, we were able to withstand having 15% debt and still maintain our AFFO outlook.", "So we think we're in a good balance at this point between fixed and variable debt. On your last question of prepaid rent amortization, I think the last thing you said was as prepaid rent amortization goes down, does that impact our dividend growth? The answer to that question is I don't believe so because we sized the dividend based on the cash flow generation of our business in the period that we're talking about. And that prepaid rent amortization doesn't increase cash flow in that period. So we believe we will still have the opportunity to grow at 7% to 8%, even if we have amortization coming down over time, which you can see in the schedule that we've added to our supplement.", "But I do want to take a step back and just talk about prepaid rent amortization, more is what is driving it and why it's important to us. And it is an economic trade that we and our customers make at the time of building assets for them. When we put capital into our assets even in the form of new assets or modification of existing assets, we get reimbursed for a portion of that capital from our customers. That reimbursement and accounting gives rise to a deferred revenue that we have to amortize over the course of the remaining life of the contract.", "And that is what prepaid rent amortization is. But what you can see in that is that our customers are paying for some of our capital, and that is true economics that we are receiving. And therefore, we, as an industry overall, decided the best way to try to reflect that economic trade was to include the amortization within the definition of AFFO. But because we know that it isn't exactly clean one way or the other, however, we figured it out, we, as Crown Castle, wanted to give as much information around that prepaid rent amortization as we could which gave rise both to the tables that are in our supplement that show in-period amortization, in-period prepaid rent received and over the next five years, what that amortization is going to look like over time.", "And we hope that, that gives investors the ability to make whatever decision on how to judge within the AFFO calculation, prepaid rent amortization. But I just wanted to make sure everybody understands there's a true economic trade that's happening where we're getting benefit, and we want that to be reflected in our financial statements." ] }, { "name": "David Barden", "speech": [ "Thanks, Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "And moving on we'll go to Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Thank you very much. Good morning. I just wanted to follow-up with a couple of things from the AT&T earnings call. The first thing they said was that, they had pulled forward their 5G build.", "They are now at 70 million POPs covered with mid-band by the mid-part of this year, six months ahead of schedule. So my question around that is just where are we in this sort of mid-band 5G build-out cycle? Are we kind of plateauing now still accelerating? We're seeing some of the carriers with capex peaking this year. So how do you see that looking over the coming quarters? And then turning to your fiber business, you've talked about the small cells. Thanks for the disclosure again.", "What's going on, on the enterprise side, on the traditional fiber? Again, AT&T was warning about business wireline pressures, although a lot of that was some of the legacy revenue streams that I think you're less exposed to. But any color there would be great." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Simon. Thanks for the questions." ] }, { "name": "Simon Flannery", "speech": [ "Good morning." ] }, { "name": "Jay Brown", "speech": [ "On the first question, I wouldn't speak specifically to any one of our customers. But broadly, when you look at what's happening on the tower side of our business, we're in the middle of a multi-year acceleration of activity, which has been driven by 5G and the deployment of largely 5G equipment across sites that they were already co-located on for 4G or prior generations. And across the whole industry, across all of our customers, I should say, we think that acceleration continues through at least the balance of this year. I don't want to get into giving guidance for 2023 and what we expect activity there to be.", "But we think, as I alluded to in my comments, there's a very long runway of activity from 5G build-outs and trying to pick the years where they're the highest over a long period of time, frankly, has proven to be very difficult for us over a long period of time. What we have been very capable of capturing is that opportunity over a long period of time. And I think that's -- the comments that I made around what we've seen in the past on 2G, 3G, 4G, and now 5G, it's, I think, something that we're going to continue to see for tower growth for years to come. Each of those cycles, as I mentioned in my comments, has increased the total amount of capex for the carriers.", "And I think we'll see a similar thing play out in 5G as you already see a very large amount of capital that's been spent on 5G. And as I alluded to, I think we've just scratched the surface on what that's going to look like. So that's on the tower side, and I think it bleeds into the small cell side as the carriers have started to really increase the amount of focus as they densify their network and need small cells as a part of that. And we're obviously seeing that acceleration as we talked to.", "This year, we'll do about 5,000 nodes on air. And next year, we expect to do 10,000 on air. So really excited about what the growth is going to mean and certainly don't feel like we're coming toward the end of the build-out of 5G. On the second question around what we're seeing in the enterprise fiber business, we expect this year to grow the top line for enterprise fiber about 3% and haven't really seen any change there.", "You mentioned this in your comment, which I would echo that our business really has not been very susceptible to movements in economic cycles historically. The vast, vast majority of the services that we provide are to large enterprises, to government institutions, healthcare universities. And we do very little of small and medium businesses and do nothing direct to consumers. So we just don't see volatility and haven't seen historically the kind of volatility that many fiber businesses see through economic cycles.", "So I would not expect the current economic conditions to really impact our view of seeing about 3% growth this year." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks a lot." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks for taking the question. I was hoping you can maybe give us some insight in terms of like the nature of the leasing activity on your towers. And what I mean is, if I was just guessing, I would assume that the large majority of the leasing on your towers is your carriers deploying recently acquired mid-band spectrum on sites where they already colocate. And so I'm curious if that's actually the case, or maybe we misunderstand what's driving leasing? And then I know this is a bit of a guess, but whenever they do complete the process of putting their mid-band on sites that they already operate, it's obviously at a much higher frequency.", "And so presumably, they're going to look to densify. Do you have visibility that they're going to look to do that by putting equipment on towers they don't currently have any equipment on, so it could lead to more amendments, or are you thinking it may be more of a small cell project? Any insights you have about that, I think, would be appreciated. Thank you." ] }, { "name": "Jay Brown", "speech": [ "Yeah. Good morning, Brett. Thanks for the question. Yes.", "To your question about are we seeing a lot of spectrum being added to existing sites. That is the most cost-effective way and has been for years for the carriers to increase the capacity inside of their network. So to the extent that they have -- spectrum they haven't used from -- and have acquired and they're deploying that spectrum across the sites. And obviously, under the nature of the contracts that we've negotiated with them, they get the benefit of using the infrastructure.", "We get the benefit of increasing revenues associated with that. Obviously, we have another customer who is deploying a brand new nationwide network in the case of Dish, and we're actively engaged in doing that work. So that's happening as well. So I wouldn't limit it solely to new spectrum going on existing sites, although that is a driver of the activity.", "Typically, as has been the case with past generational upgrades, the densification that comes from additional macro sites as traffic increases, this is kind of a second layer of activity. So we have some of that. But frankly, most of the activity is on sites where they're already co-located on and they're adding additional equipment to those sites already. So that would be the bulk of the activity.", "And more broadly, on the densification question that you raised, there will be some densification in the network that happens from additional towers that will be filled in. But as we have talked about extensively on these calls and in other situations, a big portion of that densification really cannot be accomplished with macro sites. They can't be any closer together and there's nowhere to build them. Most of that densification, particularly in dense urban areas, we believe is going to come from small cells.", "And that's consistent with the large commitments that we've received out of both T-Mobile and Verizon and the activity that we see underway across the top markets in the US, where they need to densify their network and they're doing so in large part with the use of small cells. And the traffic that we see going across those small cells is significant. So these small cells that are being deployed, it's working to densify their network and reuse that spectrum again and again over smaller areas, which is the core of how the shared infrastructure model has worked for 25 years. The opportunity to deploy equipment on shared assets that we own drives the ability for the carriers to provide more capacity to the network, which gets consumed by the users, and we're seeing that at play in small cells.", "So portends good things over the long period of time as those 5G networks densify beyond the initial activity." ] }, { "name": "Brett Feldman", "speech": [ "OK. Thank you." ] }, { "name": "Operator", "speech": [ "And next, we'll hear from Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, everyone." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "First, thanks for the disclosure. I've been a big advocate on removing prepaid amortization rent from AFFO. So I really appreciate you guys laying out at exhibit. I want to come back to one of David's questions.", "What are the underlying assumptions on what kind of prepaid rent you'll receive over those time frames? Because clearly, that's a great thing when your customers want to pay you to help fund capital. But just couple us understand what maybe the underlying assumption is for what kind of prepaid rent you'll receive this year, I think you were thinking maybe $400 million." ] }, { "name": "Jay Brown", "speech": [ "That is right. It is $400 million. And as you pointed out, the amount of prepaid rent we receive will be dictated by both the amount of capital we spend, therefore, the activity that we see and the negotiations that we have with our customers and how much they are going to foot of that and those are ongoing discussions at all times. So, there's nothing I can point to that would say, it would be significantly different than the $400 million that we see in 2022.", "But then there's also not a specific forecast we can give on that at this point." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Second question. I appreciate you guys emphasizing nodes on air, 5,000 this year, 10,000 next year. Is that a gross or net number? I know at one point, there was a thought that you would have maybe 5,000 nodes come off here next year with the T-Mobile Sprint thing." ] }, { "name": "Dan Schlanger", "speech": [ "That's our gross number. That's the number that we're going to build this year and next year. And you're right, we did mention when we did the T-Mobile transaction earlier this year that we expect to see some churn in small cells. They have the ability to remove about $45 million of Sprint small cells.", "We think a majority of that will happen in 2023. So, the net number will be lower than that 10,000. And as we get into giving guidance for next year and then as we get into the year, we'll update the numbers, obviously, as we go from there." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense. And can you update us as far as how many nodes on air you have now? And any change in the trends as far as how much outsourcing carriers are doing as far as self-performing small cells versus outsourcing it to third parties?" ] }, { "name": "Jay Brown", "speech": [ "Yes. On air, we're north of 55,000 now. And so, on track this year to put on air 5,000 total for the full year, as I mentioned. In terms of broadly the activity and the conversations, I think there are two things that are at play that are consistent with the way we thought the business would play out.", "One is that, the shared solution is a much lower cost deployment than for people to build it themselves, exactly the same dynamic that we saw in towers where it was not the most cost-effective way for each carrier to build their own towers. They shared assets. And as the tower model developed and there was a third-party owner, the carriers co-located on those towers rather than continuing to build their own infrastructure in places where there was a shared solution because it was so much more cost effective. The same thing is playing out with small cells.", "To the extent that there's a third-party owner that's either willing to put up capital or there are existing assets there, that the carriers can use, that's the most cost-effective and timely solution, and we're seeing significant co-location as a result of that dynamic. There are also -- the second thing I would mention about this, there are also places where we will choose not to put capital to work because we don't see the opportunity to drive returns that are sufficient to cover our cost of capital and beat our opportunity costs. So, there are places in the United States where ultimately, we're choosing not to put capital and the carriers will build it themselves because there's not an economic -- at least in our view, not an economic opportunity there to deploy a shared infrastructure model. So I think in large part most of the activity will be – will end up on third-party shared infrastructure.", "We feel like we're very well positioned to capture that and certainly, in the dense urban markets in the US, that's true. As it moves out beyond those dense urban markets, well, then we'll study carefully whether or not it makes sense for us to deploy the capital. But we'll see carriers continue to use their own capital to deploy some markets." ] }, { "name": "Ric Prentiss", "speech": [ "Appreciate it. Stay well." ] }, { "name": "Jay Brown", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And moving on, we'll go to Jon Atkin with RBC." ] }, { "name": "Jon Atkin", "speech": [ "Thanks very much. So I was interested in getting a little bit of a more breakdown on the Fiber segment. And you talked about enterprise there's education, there's financial services, various other categories. And just any trends to call out that you're seeing this year? And then any kind of macro impacts on those drivers within Fiber solutions that you see coming on? And then secondly, as you think about prospective Fiber and small cell deployment, any color around the mix of major versus minor league cities and where you see yourself kind of expanded?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Thanks, Jon. Good morning. On your first question, there's no trend lines that I would really call out.", "As I mentioned, most of the activity that we're doing, whether it's for very large enterprises, government, financial institutions, universities, those have been relatively stable through economic cycles. And so I really wouldn't call out any trends that are changing in the business. We think we'll grow that business about 3% this year and the activity across the various segments in that business is relatively similar. The one thing I probably would call out in the business is, as we've continued to operate it.", "And as the market starts to -- as the market develops toward 5G, I think the opportunities that we're seeing where there's a convergence between wireline and wireless have created some opportunities for us on the wireless side for potential tenants that are outside of the big four wireless operators. And we think that's where we really shine as a company in terms of being able to capture some of those opportunities. And that would be relatively new as 5G has been deployed and people start to deploy and think about uses of spectrum in ways beyond what people more traditionally think about that. And that has been beneficial, and we think there's more opportunity in years to come on that front.", "On your second question around the mix of capex between major and minor league markets. I mean the bulk of the capital that we spent to date, and I think this will continue to be true, we'll be in kind of those top 30 to 50 markets in the US. That's where the densest populations are, obviously, and where the majority of growth in data traffic is occurring. And so most of the capital and focus is continuing to occur around building out those markets and handling the growth in data traffic and the densification that's needed in those networks.", "Once it gets beyond kind of those top 30 to 50 markets, there's really disparate outcomes around whether or not the dynamics in the market makes sense for small cell deployments. And for our interest in investment in deploying those small cell markets. So I think as far as we can see in the next several years, I think we're going to be mostly focused on spending the capital in the top markets." ] }, { "name": "Jon Atkin", "speech": [ "And then I'm interested in the backlog conversion within small cells and how much of the pace of that is dictated around when the carrier just sort of gives the green light to kind of continue with the process around provisioning versus your own ability to use or maybe there's other factors that I haven't identified. But pace of backlog conversion how can that change going forward? You talked about the 5,000 to 10,000, but maybe to put a finer point on what are the factors behind that and converting that into revenues? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Yes, Jon. You've correctly identified the two most important characteristics. One is the coordination with our customers and the timing with which they're receiving equipment and wanting to put those sites on air and the identification of exactly where those nodes are going to be located. That's an important part in the early planning stages of the process.", "And then the second part is navigating through the various municipality and utility requirements in order to deploy the small cells, which has a big impact on the time line of how long between once we and our customers agree on the exact locations that they want has the biggest determinant of how long does it take to put those on air. So I wouldn't call out anything in terms of a change there. We're working closely with our customers. They're obviously anxious to get the sites on air.", "There's been a lot of work that's been done on the planning associated with deploying small cells, and that has increased with our expected doubling of activity going into 2023 as well as all of the activity that's going on behind the scenes, us working on municipality and utility coordination in order to ensure that we're able to construct those and grow them as we go into 2023." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. And Jon, this is Dan. Just one other point of clarification there is with that coordination with the customers that we go through one impact it has is whether they ultimately decide to go on systems where we've already built small cells or whether we build greenfield and that will have an impact on how fast we can then put them on air. So the more that they decide to go to co-location, the faster we'll go through the backlog, the more they decide to go greenfield.", "It will take longer." ] }, { "name": "Jon Atkin", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Phil Cusick with J. P. Morgan." ] }, { "name": "Phil Cusick", "speech": [ "Hi, guys. Thanks. I was going to dig into exactly that. What do you see in the proof points for that runway for that acceleration in 2023? And does it make sense that, that 10,000 in 2023 will be mostly second half weighted?" ] }, { "name": "Jay Brown", "speech": [ "Yes. Good morning, Phil, certainly, the activity and proof points are the pre-work that's being coordinated with the carriers. And in order for us to turn on sites in 2023, at this point, we basically have to have them identified and be working on getting them constructed. So we've got a lot of visibility on what nodes we believe we'll be able to turn on in 2023.", "So beyond that, I don't know that there's much else to mention, the coordination activities and the work that has to be done with municipalities is ongoing associated with that. So we've got to continue to do that well. But most of the activity around identifying exactly what sites those are has already occurred. So we feel good about where we're going to come out 2023." ] }, { "name": "Phil Cusick", "speech": [ "And does that 2023 10,000 look more sort of co-location versus the new footprint?" ] }, { "name": "Jay Brown", "speech": [ "Well, there's going to be a mix of co-location and new. We've talked about we've transitioned from several years ago of being almost exclusively new builds, but we'll have a combination of new builds and co-location. As I mentioned in the comments, since 2018. When we look at total nodes, we've added, we're about a third of the total nodes have been co-location.", "And as we get into next year and start to give you more specificity, we'll be clear about what we see from a co-location versus new build in where those are occurring." ] }, { "name": "Phil Cusick", "speech": [ "Thanks. Last thing from me. Should we assume that, that $45 million in revenue from Sprint goes away at the beginning of the year, or are there indications that they might sort of stretch that out." ] }, { "name": "Jay Brown", "speech": [ "Are you referring to my reference to the churn on small cells?" ] }, { "name": "Phil Cusick", "speech": [ "Yes." ] }, { "name": "Jay Brown", "speech": [ "Yes. What we've indicated previously is that we expect in 2023, a majority of that $45 million to occur, but we haven't been specific about exactly when in the year it would occur. So as we get toward October and we give guidance, we'll be more specific about the impact on our 2023 numbers. But there's, at risk, about $45 million of annual run rate, and we think the majority of that occurs in 2023." ] }, { "name": "Phil Cusick", "speech": [ "Thanks, Jay." ] }, { "name": "Jay Brown", "speech": [ "Yes." ] }, { "name": "Operator", "speech": [ "And next, we'll hear from Michael Rollins with Citi." ] }, { "name": "Michael Rollins", "speech": [ "Thanks, and good morning. Two questions. First, earlier on the call, you mentioned that the performance was better than you originally expected. And just curious where you may be seeing that in some of the organic leasing numbers or if that's something that potentially comes through in the back half of the year? And then just secondly, in terms of capital allocation, just back to that topic, how do you think about over time when you think of cash AFFO per share growth, do you want, over time, to create more flexibility and coverage of that over time, or do you like the current payout that's been over the last few years on cash AFFO per share that's been close to 100%." ] }, { "name": "Jay Brown", "speech": [ "Sure. Good morning, Mike. On your first question, the comments around the business has performed a little better. Certainly, from a tower standpoint, over a multiyear basis, we're well above the average of historical.", "And we're in the middle of a multiyear acceleration around the activity and growth in towers. And a little bit of movements inside of the year. But the real call out we were trying to make in our comments and the adjustment to the full year outlook was around services. And that's a combination of we've captured a little bit more of the activity, so capture rate has gone up a little bit and then better economics than what we expected has been the big driver of kind of operating performance that we were adjusting the outlook for in the numbers that we provided last night.", "On your second question around how we think about the payout, let me start big picture and then we can talk about -- I'll make some comments about any given year. Big picture, as we've talked about our guide of believing we can grow the dividend at 7% to 8% per year over a long period of time. In order to come up with that statement, we're looking at what we believe the two most important assumptions in that, what we believe around those two assumptions. One assumption is what do we think the leasing activity is going to be over a long period of time.", "And then the second key assumption is what is the impact of interest expense against that. Those are the two most impactful to our long-term model. And on the leasing side, when we look out over a long period of time, we see tremendous growth coming from 5G. That's going to benefit us both on the tower side and on the small cell side as the networks densify, so a lot of activity, both for towers and small cells over a long period of time and growing over a multiyear basis that gives us a lot of top line comfort that we're going to be able to drive that bottom line result over time.", "The part of that, that we've also talked about is some of the offsets to that growth as T-Mobile acquired Sprint. We've talked about the churn that we expect in 2025. There's about $200 million of churning off Sprint sites in 2025. And then the comments I was just making a couple of minutes ago, on small cells related to Sprint, are some offsets to that.", "So we're considering the offset against what we think is really a long-term growth at the top line. So that's the driver of one of the two assumptions on the top line growth, I feel like we're in a great environment for that. The second assumption that's really critical to what we think about long-term growth is our expectation around interest expense. And Dan made some comments in his prepared remarks that alluded to this, but we had an assumption over a long period of time that we would see interest rates come back to a more normalized level than where we've been with just historically incredibly low interest rates that we've been able to capture and take advantage of on the balance sheet.", "In the short term, those long rates have accelerated at a pace at a historically high pace. So our long-term model assumed that we would revert more to a more normalized average level of cost and expense. And we have accelerated into that -- closer to that average expense at a rate much faster than, I think, anybody previously expected. So over the long term, that has almost no impact to our model or our expectations of growth.", "Over the shorter term, when it moves up that much, well, it has an impact to our 2022 interest expenses we put into the guide. And then it has, obviously, an impact as we think about what happens in 2023, depending on where interest rate assumptions are. So as we think about any given year, we take those broader assumptions, what do we think about growth, both for towers and small cells against any movements in interest expense and underlying rates and use that the balance to come out with where we believe kind of in the near term or shorter term periods of time where that cash flow is going to be. That gets us down to, I think, kind of the heart of your question of how do we think about the payout over time.", "Our view is that the cash flow that's generated from the business, we should be returning that to shareholders. and then we'll finance any capital expenditures that are needed because the opportunity to invest that capital comes with returns well in excess of the cost of the capital and allows us flexibility to think about it to ensure that we're appropriately getting returns on the capital that we're taking from shareholders and debt holders to finance those activities. So we like the discipline of paying out the cash flow playing out the cash flow in the business. So hopefully, that's helpful to your question around how we're thinking about it.", "Nothing has changed on that front. I still think the best approach is to be disciplined and pay out the cash flow. And then as we look at any given year, we'll look at the ins and outs and be thoughtful about how we adjust the dividend from current levels. And last thing I'll say is when we give guidance in October, as has been our practice, we would expect to make that dividend adjustment as we have in past years in the same way that we've done in past periods.", "And the next time we're talking we'll likely be talking about the adjustment we're making to the dividend as well as the update for our 2023 outlook." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "And moving on, we'll go to Matt Niknam with Deutsche Bank." ] }, { "name": "Matt Niknam", "speech": [ "Hey, guys. Thanks for taking the questions. Just two, if I could. First, on discretionary capex.", "So as you get closer to 2023, seeing we have better visibility on the new notes that come on air. How should we think about a presumable increase in discretionary capex relative to this year's low $1 billion range? And then secondly, we've talked about a lot about some of the moving parts for 2023, whether it's amortization of prepaid rent, Sprint small cell churn, some rising interest rates, we can extrapolate. I know you're going to give guidance for 2023 in October, and I don't want to jump the gun, but is there any maybe initial framework or just range you can provide in terms of how you're thinking about AFFO per share both next year relative to that traditional 7% to 8% you've talked about in the past? Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Hey, Matt. It's Dan. I'll take the first question on discretionary capex. Yeah, we're going to be one is to one to one is to two range in 2022.", "And as we've discussed, we believe that there will be an increase in the amount of the number of small cells that we're going to put on air in 2023 over what we're putting on air in 2022. Generally speaking, that will come with more capital. The amount more capital will depend on all the things we were talking about previously about the discussions with our customers when the small cells will go on air, how many will be colocated versus new builds. So we don't have a way of framing that yet.", "But like you mentioned in your question, as we get to October, we'll give more definition around what that 2023 capital could look like, although we would expect just given the acceleration in the number of small cells that it will be higher than what we've seen in 2022. And in terms of your second question around our initial framework for AFFO per share growth, I think you answered part of it is we're going to give guidance in October. And you hit on a lot of the aspects that may have an impact on that 2023 growth. It's the continuation of the growth trends we've seen in our business, both on the towers and small cell side.", "And then how the impacts will shake out between all the things you mentioned, interest expense and AFFO, the prepaid rent amortization. But we've given a lot of that context to date. There's nothing more that we can point to now until we get to October, and I think give you all of the information that you're looking for." ] }, { "name": "Matt Niknam", "speech": [ "That's great. Thanks, Dan." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey. Good morning, guys. Thanks for taking my questions. First, Jay, a few minutes ago, you talked a little bit about the potential for non-traditional or new tenants on your towers.", "Were you suggesting that your assessment of the likelihood of one of those potential customers becoming a real customer in coming periods is higher than you might have thought a year or two ago, or was there not really a change in your view there?" ] }, { "name": "Jay Brown", "speech": [ "Good morning, Nick. I think my comment was specifically toward the value that we're seeing created by having a comprehensive offering of fiber, small cells and towers. It puts us in conversations with customers or potential customers that I don't think we would have identified without the more robust product offering. And so yes, I would say there are some customers that we have bumped into, and we think we'll get the benefit over time that we would not have anticipated.", "I don't know that I would go all the way to where you went to in terms of significant -- are we talking about -- this is -- that any one of those customers is going to end up looking like one of our big four customers. I don't -- I think the likelihood of that, at least at the moment is relatively low. However, the combined activity is meaningful to our growth. And I think over the long-term, we're going to see people enter this space and deploy wireless networks that will have a combination of small cells and towers that will be additive to our growth rate." ] }, { "name": "Nick Del Deo", "speech": [ "OK. OK. Appreciate that clarification. And then maybe a second one on small cells.", "You always note that you price small cells based on yield. When you sign small cell deals, is the pricing based on the cost you estimate at the time the deals are signed, or is it based on realized costs, or maybe stated a bit differently, if the cost to deploy small cells ends up being higher than you initially modeled for whatever reason, is that a risk you bear or does the customer bear that risk? I'm just trying to think about any cost inflation risk associated with your large small cell backlog?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Thanks for the question. So the way we would negotiate with customers would be based on the cost of deploying in various markets. So if you took a market and the cost was relatively low, the price to deploy that market to the customer would be lower than the price being at a higher cost or more dense area.", "And so the cost is variable to the customer ultimately based on the cost of deployment, which is how when we talk about yield at the way that we price that, we've got to have security in terms of ultimately, once we get to the point where we're actually building the nodes to know we're going to be secure on yield, not thinking about it as a fixed price otherwise those yields, obviously, those yields would be at risk at that point." ] }, { "name": "Nick Del Deo", "speech": [ "OK. So just to be clear, if the cost of a node in a particular market to which a customer is committed, if it ends up being more expensive to deploy there than you initially expected, you're suggesting the customer ultimately pays more to compensate for that?" ] }, { "name": "Jay Brown", "speech": [ "Well, I think there's a continuum, right? So when we signed customer agreements and they make large commitments to us over time, we're not bearing the risk of inflation if that's the way you're thinking about announced contracts that we've talked about. Once we get to the place where we've committed with a customer that we're going to build a node, and we've told them what the cost of that associated, if we're not good at actually operating and constructing that node, then that risk is ours, that's operating risk. So depending on where in the continuum we are, we could have potential risk if we haven't done a good job estimating and pricing the activity. But we've been very good at that and have good visibility into where the costs have gone and our operating teams have done a terrific job of operating those budgets to the levels that were underwritten." ] }, { "name": "Nick Del Deo", "speech": [ "OK. OK. Got it. Thank you, Jay." ] }, { "name": "Jay Brown", "speech": [ "Did that answer your question?" ] }, { "name": "Nick Del Deo", "speech": [ "Yes. Yes, it did. Thanks." ] }, { "name": "Jay Brown", "speech": [ "All right. I think we have time for one more question." ] }, { "name": "Operator", "speech": [ "Thank you. And that will come from Brandon Nispel with KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "OK. Great. Thank you for taking the questions and squeezing me in. I was hoping to ask on the organic growth guidance.", "Could you talk about the variability in core leasing activity from 1Q which was $92 million to 2Q, which was $75 million. And where really do you expect to exit the year? And hopefully, you can sort of outline that in terms of towers versus the small cell and fiber business? Then similar question on churn, you guided to $185 million for the year, but you're only at $81 million year-to-date. Where do you expect churn to finish the year at? Thank you." ] }, { "name": "Dan Schlanger", "speech": [ "Sure. Let me take the first question first. The variability from Q1 to Q2. Excuse me.", "As we pointed out last quarter, we had some non-recurring items that hit Q1. When you normalize for that, the organic growth is relatively flat. And there are going to be some increases and decreases on a quarter-to-quarter basis, which is why when we talk about our business, we talk about the yearly growth. And in 2022, we're seeing what we believe will be 6% organic growth for our tower business.", "And that's generally consistent across the year. So you can see what that exit rate will look like is pretty consistent with the amount that we see in each of the first two quarters be normalized for those non-recurring items. With respect to churn, as you know, most of the churn in our business is a result of our Fiber Solutions operations. And we do expect some of that churn to increase over the course of the year, but we believe that the 3% overall growth rate will maintain, as Jay has spoken to a few times on the call.", "And that's, again, a lot of timing around that churn because that's a faster velocity business because things just happen faster. So there can be some changes period to period. But again, we like to look at that as an overall one-year type of look. And we see the growth bookings and churn very much in line with what we had in our outlook.", "So around high single-digit churn, which means the low double-digits gross bookings to get us to the 3% net growth in the fiber solutions business." ] }, { "name": "Brandon Nispel", "speech": [ "If I could just follow up real quick on that, Dan. Did you say 6% net organic growth for towers? I thought the previous guide was maybe 5%. And I guess, are we picking up an extra point on the growth side or on the churn side? Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Got it. Overall, that our growth in the tower business is around 6%, and that is no change from our previous outlook." ] }, { "name": "Brandon Nispel", "speech": [ "OK. Thank you for clarifying." ] }, { "name": "Jay Brown", "speech": [ "OK. Thanks, everybody, for joining us this morning, and thanks to our team for doing a great job through the first half of this year. We look forward to finishing 2022 strong. And laying out our guidance for 2023 the next time we're together in October.", "Thanks so much." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2019-10-17	[ { "description": "VP of Corporate Finance", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "President, CEO & Director", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Senior Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "", "name": "Unidentified Speaker", "position": "Other" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "JP Morgan -- Analyst", "name": "Richard Choe", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "RBC Capital Markets. -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "Citigroup Inc, Research Division -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "", "name": "Unidentified Participant", "position": "Other" }, { "description": "Cowen and Company -- Analyst", "name": "John Blackledge", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Rick Prentiss", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "UBS Investment Bank, Research Division -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "Guggenheim Securities -- Analyst", "name": "Robert Gutman", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Tim Horan", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Q3 2019 Earnings Call. Today's conference is being recorded.", "At this time, I would like to turn the conference over to Ben Lowe. Please go ahead, sir." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Great. Thank you, Samantha and good morning everyone. Thank you for joining us today, as we review our third quarter 2019 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer.", "To aid the discussion we have posted supplemental materials in the Investors section of our website at crowncastle.com, that we'll refer to throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the Company's SEC filings.", "Our statements are made as of today, October 17, 2019, and we assume no obligations to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com.", "So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and good morning everyone. We delivered another quarter of strong financial results that reflect the significant demand we are seeing for our shared infrastructure assets. I believe our strategy and unmatched portfolio of 40,000 towers and 75,000 route miles of fiber, concentrated in the top US markets has positioned Crown Castle to generate growth in cash flows and dividends, both in the near-term and for years to come.", "Steady execution against this strategy is resulting in consistent dividend growth. As we increased our annualized common stock dividend by 7% to $4.80 per share, in line with what we believe our AFFO per share growth will be in 2020.", "Over the last five years and inclusive of the increase we announced yesterday, we have grown the dividend at a compounded annual growth rate of approximately 8%, while investing heavily in assets that we believe will generate significant growth over the long-term.", "Dan will discuss the results for the quarter and the full-year 2020 outlook in a bit more detail. So I'm going to focus my comments this morning on two key points. First, new leasing activity across our business is expected to be higher in 2020 than in 2019, including activity in our Tower business remaining at the highest level in more than a decade.", "And second, I'm excited about the long runway of growth for Crown Castle as 4G investment remains robust and the deployment of 5G is just getting started.", "On the first point in 2019, we are seeing a significant acceleration in tower leasing, as our customers add capacity to their wireless networks in response to the rapid growth in mobile data traffic. The current demand environment is largely tied to our customers investing heavily in their 4G networks to keep pace with 30% to 40% annual data demand growth.", "As you can see in our outlook for 2020, we expect the elevated level of tower leasing to continue into next year. As 5G becomes a reality and wireless networks expand from connecting everyone to connecting everything, we believe new use cases will develop, that will generate significant long-term demand for our infrastructure. With towers remaining at the core of the wireless networks.", "As I think back on my time at Crown Castle over the last 20 plus years, there have been significant advances in the broader wireless industry. Like the rapid deployment of technology that has taken us from tracking mobile penetration rates and voice minutes with 1G to the current 4G unlimited data plans that feed a seemingly insatiable demand for data from consumers.", "And now the industry is in the beginning stages of what is likely to be the next decade long investment cycle, with the deployment of 5G, which brings with it the promise of a step function change in the role that wireless networks will play in supporting the digital economy going forward.", "While technologies have changed, there has been one constant. The significant and sustained demand for tower assets in the US. This steady growth has been driven by increased data traffic and investment to maintain and improve the wireless user experience. With continued strong data growth, we believe the carriers will respond to pressure on their networks, as they have over the last couple of decades by leasing access to our infrastructure.", "In addition, future networks will need to be significantly more dense than current infrastructure can handle, which brings me to my second point. I see a long runway of growth in front of Crown Castle, as our customers continue to invest heavily in their 4G networks to keep pace with data demand growth from existing technologies, while the deployment of 5G is just getting started.", "We are at the very beginning of what the World Economic Forum has deemed the Fourth Industrial Revolution. The first use water and steam's power to mechanized production; the second used electric power to create mass production; the third used electronics and information technology to automate production; and the fourth will be the digital revolution that leads to long-term gains and efficiencies in productivity, and impacts almost every person and every industry.", "The fourth industrial revolution is closely tied to the deployment of 5G, which will allow for billions of devices to be connected and communicating in real-time. This level of connectivity is unprecedented and will require a network that is denser and closer to end-users than has ever been the case.", "We saw this change in network architecture begin with 4G, driving us to expand our shared infrastructure beyond towers and build the leading industry small cell business in the US. We believe creating this unique portfolio has increased our opportunity to deliver long-term growth and dividends per share by tapping into the same underlying demand trends that make US towers so valuable.", "The extension of our strategy utilizes the same playbook we used with towers by sharing the asset across multiple customers. In the case of small cells, fiber is the critical shared asset. We have rapidly scaled our small cell business to where we are today with 70,000 small cells on air or under construction, and we believe we are still in the very early innings.", "According to CTIA the number of small cells deployed in the US is expected to increased nearly tenfold from 85,000 at the end of last year to 800,000 by 2026. Against that backdrop, we see tremendous opportunity to increase the returns on our fiber investments over time by adding new small cell tenants to existing fiber networks, as we're doing today.", "We also see a path to further improve our small cell returns by sharing the fiber asset across a larger addressable market of customers that require high bandwidth connectivity including large enterprises, healthcare institutions and government agencies.", "When I look at the entire opportunity in front of us, I see we are generating a 9% recurring yield on the $37 billion of capital that is invested across our 40,000 towers and 75,000 route miles of fiber. With the lease-up, we have driven over the past two decades, we are now just over two tenants on average per tower. In a similar vein, with an average investment age of just three years, we have less than a small cell -- one small cell tenant equivalent across our fiber networks, giving us a long runway of growth, as we have significant capacity to add more tenants to our assets over time.", "So to wrap up, the growth we are seeing in our business reflects the positive underlying fundamentals driving demand for our infrastructure, including the continued growth in mobile data on existing 4G networks, and the early stages of our customers developing 5G networks.", "With our unmatched asset base and expertise, operating in the best market in the world for communications infrastructure ownership, I believe Crown Castle is in a great position to capture these substantial long-term opportunities and consistently return capital to shareholders through a high quality dividend that we expect to grow 7% to 8% annually.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay and good morning, everyone. As Jay mentioned, we delivered another great quarter of results that sets us up to finish 2019 on a strong note and provides a solid foundation for 2020. Our third quarter results were positively impacted by higher services contribution and lower sustaining capital expenditures than we had expected. So this is just timing related. So our full-year expectations for both remain unchanged.", "During the third quarter, we also continue to improve our financial flexibility by taking advantage of favorable market conditions to proactively lock-in attractive long-term interest rates and extend the weighted average maturity of our outstanding debt to nearly seven years. We finished the quarter with leverage of 5 times debt-to-EBITDA, which is consistent with our investment grade credit profile.", "Turning to our full-year 2019 and 2020 outlook on Slide 5 of the presentation. There are few items I would like to highlight. First, the 2019 outlook remains unchanged from our prior outlook. Second, the 2020 outlook assumes the proposed merger between T-Mobile and Sprint closes prior to the end of the first quarter 2020. And lastly, in 2020, relative to 2019, we expect a similar contribution to growth from towers, a consistent number of small cell deployments with approximately 10,000 nodes constructed and consistent contribution to growth from fiber solutions.", "Also, please note the 2020 outlook reflects the impact of the mandatory conversion of preferred stock that we anticipate occurring in August 2020. The conversion will increase the diluted weighted average common shares outstanding for 2020 by approximately 6 million shares and reduce preferred stock dividends paid by approximately $28 million when compared to 2019.", "In addition, we increased our annualized common stock dividends per share by 7% from $4.50 per share to $4.80, tracking the expected growth in AFFO per share.", "Moving to Slide 6, we expect approximately $245 million of growth in site rental revenues from 2019 to 2020 at the midpoints, consisting of $285 million of organic contribution to site rental revenues, offset by a change in straight-lined revenues for approximately $40 million. With these expectations, we anticipate consolidated contribution -- organic contribution to site rental revenues of approximately 6% in 2020, consisting of 5% organic growth from towers inclusive of 3% contribution from escalators, offset by 2% churn, 15% organic growth in our small cell business, inclusive of 1.5% contribution from escalators, offset by 1% churn, and 3% organic growth from our Fiber Solutions inclusive of 9% churns and no contribution from escalators.", "As it relates to the expected tower churn in 2020, the 2% remains at the high end of our long-term 1% to 2% range, as the last of the acquired network churn is expected to occur in late 2019, having an impact on 2020 financial results.", "Turning to Slide 7, I'd like to briefly walk through the expected AFFO growth from 2019 to 2020 of approximately $210 million at the midpoints of outlook. The growth is primarily driven by the organic contribution to site rental revenues growth of approximately $285 million at the midpoints, which is partially offset by an approximately $90 million increase in cash expenses. This increase in expenses is a combination of the typical cost escalations in our business, including lease escalations and cost of living adjustments and the direct expenses associated with new leasing activity.", "The balance of the changes relates to the expected contribution from network services and other items that are primarily related to changes in financing costs. To support this growth, we expect our overall discretionary capital expenditures in 2022 to be around $1.7 billion or around $1.3 billion net of capital contributions from our customers. Based on our expected cash flow growth and the incremental leverage capacity that growth will generate, we believe we can finance this level of spending without issuing equity.", "In closing, we are excited about the positive growth trends driving demand for our tower and fiber assets. Looking forward, we believe we're in a great position to continue delivering on our annual dividend growth target of 7% to 8%, while at the same time, making significant investments in our business that we believe will generate attractive long-term returns and support future growth.", "Before taking questions, I want to address one other item. As you saw in our 8-K filed yesterday, we received a subpoena from the SEC in September requesting certain documents from 2015 through the present, primarily related to our capitalization and expense policies for tenant upgrades and installations in our services business.", "Additionally, we have previously provided information to the SEC relating to certain of our service related vendor transactions, which are not material in amount. The subpoena requires us to produce certain documents, but is not defining that any violation of law has occurred. We believe our long-standing capitalization and expense policies are appropriate, and we'll of course cooperate fully with the SEC including in connection with their review of those policies.", "With that, Samantha, I'd like to open the call for questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator Instructions] Our first question will come from Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you very much. I appreciate it. So, just following up on the SEC. Do you have any sense on timing of when you've got to get back to them and when you might hear some more clarity around what exactly they're looking for here? And then on the outlook for next year, you talked about the small cell business being similar to this year. Any more clarity around your ability, maybe to revisit an acceleration, clear up some of the zoning and other issues to get -- If it's not next year, at least in the outer years to back to that sort of 15,000 type number over time? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning. Simon. On your first question, we don't have any indication of timing. So as Dan mentioned, we'll fully cooperate with the requests that have been made of us, and we'll work through the process as appropriate. On the second question around small cells. We do think -- we talked about extensively on the last quarter call, we're seeing a meaningful amount of delays from both municipalities and utilities in certain jurisdictions around the country where we're trying to deploy small cells, which has caused the timeline, expected timeline to extend from what we had previously seen around 18 to 24 months to now a range of about 18 to 36 months. And we're working that on a number of different fronts, in terms of trying to come up with the [Indecipherable] on how do we do that more quickly and work through the process more quickly with municipalities and utilities, but I don't have at this point any update or more positive perspective.", "I think we still believe as we sit here today that the timeline is going to be18 to 36 months and the activity that we're giving for 2020 on the call this morning reflects that timeline of 18 to 36 months, and to the extent that we do have some breakthroughs on that front will certainly update you.", "On the backlog we did, as we talked about, that is upto 70,000 small cells in the backlog. So we put about 2500 on roughly during the third quarter and then we took on some new orders, so the total pipeline and constructed small cell nodes went from 65,000 to 75,000 from second to third quarter of this year." ] }, { "name": "Daniel K. Schlanger", "speech": [ "All right. Thank you.", "Yeah, just to be clear that number 70,000 are the ones that are on air and under development, which is around 40,000 on air and 30,000 under development, which as Jay mentioned, you can see that we added to both of those numbers in the quarter. So we had some bookings in the quarter that I think are indicative of what Jay was talking about earlier, which looking at the big picture of all this it does feel like -- and we're a little frustrated about it too that it's taking longer to put these on air, than we would have anticipated at this point. But we're really in the early innings of this whole rollout of small cells and really haven't gotten into 5G, so what we're looking at is how can we make this business sustainable and scale it because we believe the activity levels are there and will continue to grow and we think we're making progress on that front. But as Jay mentioned, there are going to be some hurdles we need to get over and we're working really hard to get over them." ] }, { "name": "Simon Flannery", "speech": [ "Thanks a lot." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Philip Cusick with JP Morgan." ] }, { "name": "Richard Choe", "speech": [ "Hi, this is Richard for Phil. I wanted to get an update on your current thoughts around incremental opportunities around data centers, and towers and nodes and along with that alternative connectivity solutions such as directly connecting Crown at One Wilshire to other networks and bypassing meeting room? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, I think at this point that is the strategy that we've undertaken is the core of our focus. So we're focused on the components of the network-related to towers and fiber, particularly around small cells. We think that the vast majority of the opportunity is going to lie in those two areas as the world goes through what I talked about in terms of the fourth industrial revolution. We have, as you know, we've made some investments around edge data centers in Vapor and we're continuing to watch that space. We think there is opportunity not only to create potentially a lease up business by utilizing the space at the very edge of the network, which we would have as a result of our investments in small cells and towers but it also gives us a perspective on kind of where the world is going.", "So at this point, I really don't see data centers playing a significant role and our long-term strategy. We think the opportunity for us really relies around towers and in the use of fiber for small cells and then utilizing that same asset for, as I mentioned in my comments, for other customers like hospitals and universities and other users that need high-bandwidth fiber." ] }, { "name": "Richard Choe", "speech": [ "All right. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks a lot for taking the questions. I've got a few , but I guess the first one would be on the Sprint/T-Mobile merger assumption. Could you kind of talk us through how you landed on choosing to assume it closed in the first quarter and kind of what does it contribute to the guide incrementally if it didn't happen at the quarter or happen at all? Thanks ." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. I think -- we needed to make an assumption, obviously as we went through the guidance portion and based on the approvals of the of the DOJ and the FCC of the transaction, we believe the industry is operating under the assumption that the deal is going to close in the first quarter of next year. I think as we think about the business and as we sit down to do the outlook each year in October for the following year I think it's important to keep in context how our business operates and how it works. We often times talk about how few inflection points we have in the business and the reason for that is because how -- because of the amount of visibility that we gain into the business. If we think about the 2020 outlook and talk specifically about kind of the leasing component of that. It's a combination of three components as we sit down and try to figure out what we're going to do for the year. One, it would be the leases that have commenced during 2019 that are contributing to our results in calendar year 2019, but didn't contribute to the full year of 2019. So as we go over into 2020 we get a full 12 months contribution from all of those leases that were signed and commenced during calendar year 2019 that adds to growth.", "The second component would be leases that we signed during 2019, but they won't actually turn on until 2020. So those leases are committed, they're signed, we know when they're going on air roughly, and that would be the second component of how we lay out the outlook. And then the third component and the smallest component of the contribution to growth in any given year is the leases that we'll sign in the next calendar year, in the year that we're giving guide to and some component of those leases that are signed next year, those will commence in the second half, in all likelihood toward the second half of next year, that's a relatively small component of the guidance.", "So, one of the things that we used to say, and we haven't talked about it in the long time, but still true, in any given year when we get to this point of thinking about the next year of our guide around site rental revenue growth, a very significant percentage of the 6% growth that Dan was speaking about in his comments, we already have visibility to and in many cases more than half of that is probably already signed by customers or is already producing revenue, in our statements today. And we'll get the benefit of a full-year of it next year. So that's on the site rental side.", "And then on the services side, as we start to think about it, there's two components of the services business. There's the installation component, where we're project managing the work for carriers and that benefits from all of the leases that have been signed in this year that will get installed next year and then some component of what gets done in 2020 that we don't have visibility to yet but leases that we think we signed.", "And then the last component would be around pre-construction work that we do or what we often call site development services. And that is pre-work that's done. So we would be doing the site development services today for leases that are going to go on in 2020. And then we'll do some work in 2020 for pre-construction work. The construction work won't even be done until 2021. So when we look at all of those elements, it gives us a tremendous amount of visibility into the business, which is why we guide in October of every year for the next calendar year because significant portions of it are known today.", "So, and I know you asked specifically about how we think about, Sprint/T-Mobile, Dave you followed us for a long time. So we don't like to talk about specific customers and don't want to do that on the call. But that's how we've built up our outlook in any given year, and we did that consistently for 2020 as to what we've done in prior years.", "And then to put a finer point on it. We thought for sure someone would ask us, what did we do with the Sprint/T-Mobile merger. And so the assumption that we made was that it goes on in the first quarter, but I think the explanation more broadly of how we think about the outlook and what drives that outlook should help folks understand kind of the visibility that we have toward that outlook. And then to the extent that there is a development broader in this space that changes -- forces us to need to change the assumption that we've made here, we're happy to come back and give you that update to our outlook when it occurs or when certain development necessitates us revisiting our assumption." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Just to add one point of clarity of that, David, is that as Jay mentioned, the three components that can add to new leasing activity in the subsequent year that we're giving guidance for and that last one he talked about, leases that we would sign in the year and put on in the year that would impact the financial statements in '20 that's the smallest piece, and that's what we would be talking about if there were a significant change in either the timing or outcome of the T-Mobile and Sprint merger. It's what we would be signing next year and would go on air next year. So that's like you said, it's a smaller portion of what could impact new leasing activity from the tower side." ] }, { "name": "David Barden", "speech": [ "Awesome, and thanks for that guys. And I guess maybe a second question would be just on the small cell lease-up side. So you've been talking about kind of 2019 and 2020 kind of look at roughly similar in terms of no deployments presumably. And then the leased up in revenue terms is also pretty similar.", "I was wondering why the leasing incremental revenue on the small cell business wouldn't be higher because if you're going to deploy the same amount this year as you did last year. But you've got the opportunity to lease-up last year's systems for incremental tenants, we should be seeing kind of a revenue acceleration in dollar terms rather than flat. Is there something I'm missing in that equation ?" ] }, { "name": "Jay A. Brown", "speech": [ "I don't think you're missing anything in the equation, David. I think what is happening is the timing of the new nodes going on air in 2020 is back-end loaded, which results in not having as much contribution to the new leasing activity in the year, but we believe that will over time come into play." ] }, { "name": "David Barden", "speech": [ "Okay, got it. All right. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you, our next question will come from Jonathan Atkin with RBC Capital Markets." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks. Couple of questions, so as you laid out the components of guidance for 2020 in these different buckets. Where do MLA's play a role is that strictly in the escalator or is there a part -- portion of that in leasing ? And then related to guidance and David Barden's question, I guess just to kind of put a finer point on it. You do -- it sounds like you do assume some modest amounts of integration-related CapEx in 2020, is that correct ?" ] }, { "name": "Unidentified Speaker", "speech": [ "On the, MLAs component. And you know this, Jonathan, but just for the broader audience oftentimes the term MLAs it's used to describe agreements that we strike with the customers where they make committed levels of activity to us. Oftentimes, those are over a multi-year periods of time. We generally do not assume and have not assumed anything with regards to this outlook, with regards to new customer agreements in our outlook for 2020. So it's business as usual, if you will, in terms of how we're contracting with customers and the activity that we've baked into that outlook.", "I'm not sure I understand your question on the second one, could you rephrase that or ask it a different way?" ] }, { "name": "Jonathan Atkin", "speech": [ "Yeah, yeah. If two carriers were to emerge before March of 2020, presumably they would embark on some integration-related CapEx that might lead to elevated amendment revenues, let's say, as one carrier deploys 2.5 [Phonetic] and then the other deploys lower, different spectrum is going to get cross pollinated onto the different sets of fixed assets. So that could lead to maybe a little bit of a higher pace of amendment revenues next year.", "So the question is, is that -- it sounds like that's contemplated in your guidance, but to Dan's comment, it's the smallest part of your guidance, is that a fair characterization ?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. I think, obviously, as we noted, we are assuming that the T-Mobile/Sprint merger happens in the first quarter and I think broadly the industry is working and thinking under that assumption. The pause that I would have, and I think consideration of this that's important is in the activity cycle of the deployment of what's coming. And obviously, when you listen to Sprint and T-Mobile, talk about the rationale for the merger and you listen more broadly to all of the players in the space. The capital spending is going to start to transition here in the next 18 to 24 months from largely being focused on 4G to 5G and those activities while they will start in the next 18 to 24 months really in earnest. This is going to be a decade long, we believe, investment cycle that will go through with the carriers. And I'm trying to put a really fine point on which quarter of that activity actually starts in and what the scale of that activity is -- we have proven I think to ourselves over 20 years of trying to do this, but it's nearly impossible for us to be that precise. And so we generally talk about the business, think about the business, manage the business over kind of a year, year plus cycles. And I think as we get into 5G. I think what you will hear us talk significantly about is that the wireless carriers will go out and touch the sites that they're on already and upgrade that technology toward 5G. And commensurate with that some of the comments that I made, I think you will also see them increase the density, particularly in the top 30 markets in the US where there's greater density of users in order to provide 5G and 5G is going to require a greater density of the network. We think that will really benefit small cells. And then the last phase of it will be a densification around the macro sites, where you see carriers come back and try to find opportunities to put in additional antennas and lines in macro sites that they're not on existing. So I do think -- to your point, I do think, you're right that we'll see in the early stages, kind of amendment activity to existing leases. But I think that's going to happen over a very, very long period of time, I think decade, rather than trying to put a finer point on a quarterly outcome." ] }, { "name": "Jonathan Atkin", "speech": [ "And then lastly, related to new business, that there may be auctions that take place perhaps in the C-band at some point in the first part of next year and then unrelated to that there'll be the sort of mandated fourth network that gets built out as part of DOJ's approval of the deal. So I wondered how much -- what are the timelines to sort of contemplate and do we see any of that in 2020 around C-band deployments and then maybe a mandated fourth network deployment or was that not part of what you were thinking when you gave your initial outlook ?" ] }, { "name": "Jay A. Brown", "speech": [ "I think as we think long-term about the network, certainly we would expect that the FCC will continue to go down the path of trying to make additional spectrum bands available. I think they have been really clear and all of the research has shown that despite the significant amount of investment that's going to happen around densifying the networks, there is not enough capacity in the existing spectrum bands to meet the demand that's going to come both from consumers and industry around the deployment of 5G. So I think we will see -- the C-band is an example of that, I think there are multiple other examples that are being talked about in terms of coming to auction. But I think even beyond what's contemplated today, I think we're going to see over the next decade additional spectrum bands freed up and come to market, and as those bands get freed up, the absolute best thing -- the best place to be as an infrastructure provider is when there is a combination of new spectrum being deployed or spectrum that has previously been fallow, and that ends up in the hands of a provider, whether that logo is known to us today or otherwise. And then that provider then has either an incentive as mandated by the FCC to get it deployed or has a business interest and an economic desire to get that spectrum deployed and when those two things come together and opportunity to -- and capital to invest in the network along with new spectrum bands, that goes really well for our industry and has for a long period of time. As we contemplate the guidance that we're giving this morning, we're not assuming that there are additional spectrum bands that are given in the next 12 months, as we think about 2020, back to my earlier point around what contributes to that, that would really have to be known today and we would already have leases to the extent that with any of those things that I'm talking about now, that would be very small and frankly pretty much inconsequential to our guide. But I wouldn't dismiss that in terms of the long-term benefit that those things are going to bring to our business, we think those are significant, and if we think about the upside from the investment that we've made around fiber and our long-standing assets that we have on towers, both of those assets are going to benefit significantly, as additional spectrum bands are deployed over the long-term." ] }, { "name": "David Barden", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Michael Rollins with Citigroup." ] }, { "name": "Michael Rollins", "speech": [ "Hi, good morning. Just going back to the SEC inquiry. Is the accounting that you use for tenant upgrades and installation similar or the same as your competitors and do you know if they've also received a similar request. And then maybe just moving over to the network services business more broadly. How would you look at the potential for the gross profit that you're generating from that business to be similar or greater over time to the current level? And is there a framework that you use to sort of measure what that might look like relative to the underlying activity for leasing within the financials that you report? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On your first question, I can't speak to the accounting of our peers or whether or not they've received a letter. On the second question around services gross profit over time. Historically, this is basically tracked leasing activity in the tower business. The amount of services that we perform are really small outside of the tower business. So virtually all of the gross profit that we have comes from the tower business. And as I mentioned in my earlier comments, there are two primary things that we do for the wireless carriers in the services business, and I'll do this sequentially not in order of scale. The first thing that we do for carriers would be, what we would call site development services, those would be things that are pre-construction. There are things like site acquisition, application fees, and other things that we do prior to actually beginning the construction process for a new tenant, and whether that new tenant is an amendment to an existing lease or a brand new installation on the tower, we will do some of that work for them pre-construction. That represents, I think in 2018, that represented about 40% roughly of the total services activity that we had. The 60% which would be the second component of it, is the project management of actually installing their equipment on our sites.", "And in that regard, we're providing project management services to tenants as they are wanting to install the equipment, whether it's again amendments or brand new leases.There have been occasions over time where the growth in our gross profit has been a function of us capturing greater percentages of the activity. In periods where activity in towers was relatively light, if you go back historically, lighter than levels today. At times, people will come into that business and they will bid the price and the margins really tightly and will walk away from some of that business because they just don't see margins in it.", "In periods of time where activity is more robust there are times when we capture a higher percentage of it. So it generally tracks activity, but not perfectly. So if you look at the increase in services gross profit over the last several years, you can basically track that to our continued increase in activity around tower leasing activity. And as we've mentioned a couple of times this morning, we're, in 2019 and we think we'll be again in 2020 in terms of tower leasing activity, we're at the highest level we've seen in more than a decade. And so our services business is obviously tracking with that." ] }, { "name": "Jonathan Atkin", "speech": [ "And it seems like in 2019, you may have gotten a little bit of a multiplier on that gross profit growth relative to the -- gross profit growth network services relative to the movement if we measure activity by just the internal leasing dollars. Is that fair? Or is there more to unpack to try to get at the change in activity relative to the change in gross profit?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, there is a bit of it, that's why I made my comments about this -- it's not single dimension. We did benefit from 2018 into '19. We've captured a higher percentage of both pre-construction work as well as installation work. So we've grabbed some market share there during 2019 relative to 2018. So it's a combination of the activity and a little bit higher market share." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Colby Synesael, with Cowen and Company." ] }, { "name": "Unidentified Participant", "speech": [ "Great. This is John on for Colby. Thanks for taking the questions. Within the fiber business can you talk about the bookings trends you witness in the third quarter versus maybe the second quarter. And do you believe there's some potential that the 3% growth for 2020 could ultimately prove conservative? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, we saw the business continue to perform well in the third quarter, it obviously came in line with our expectations. You saw from the numbers that we gave on a incremental basis in 2020, our midpoint of growth $165 million compared to $150 million in 2019 of that larger asset -- of that larger revenue base, the growth is still 3%, which is where we guided. I think our outlook for that and guidance around it, as we've said a couple of times this morning, is that 3% we feel good about that. We believe we can sustain that over a long period of time.", "And, we're doing everything we can to increase it. As I look at the quality of the fiber and where it's located and the opportunities there, that fiber is running right past a significant addressable market that I believe our fiber could provide services to. And I think as we get better at the business, I'm hopeful that we will be able to increase it and see an opportunity. Our 2020 outlook is a balanced view of what we think the best thing that could happen to us, the worst things that could happen to us and trying to weigh a number of different assumptions around it. And as we get into 2020, if we figure out a way to do a little better in the business we will certainly update you." ] }, { "name": "John Blackledge", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Rick Prentiss with Raymond James." ] }, { "name": "Rick Prentiss", "speech": [ "Good morning, guys." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning." ] }, { "name": "Rick Prentiss", "speech": [ "A couple of questions if I could. Jay, I think you mentioned that the change in the straight line adjustment for 2020 looks like about maybe $40 million improvement there. We have been expecting maybe more like $100 million change there. Looks like T-Mobile now is more like six years versus five years. But how should we think about that change that also, as we look into maybe '21, are we expecting a bigger change from straight line adjustment as we go from '20 to '21, and get that to be a positive adjustment since cash is so important to look at?" ] }, { "name": "Jay A. Brown", "speech": [ "So, Rick, let me take that one." ] }, { "name": "Rick Prentiss", "speech": [ "Sure." ] }, { "name": "Daniel K. Schlanger", "speech": [ "The -- what adds to that straight line, as you know, is extension of current leases and signing new leases. And we believe that the combination of those two activities will lead to an additional $40 million straight line revenue. Can't really -- I can't really speak to your expectation of $100 million compared to that number, but we believe that what we've captured in there is a new leasing activity that we expect in our guidance, in our outlook. And then included in that, like I said, is the extension of current leases to the extent that that happens.", "And looking into 2021, we are giving guidance for 2020, now. So we can get into that when we start talking about 2021 and how it all may lookout. But right now we're talking about, as we mentioned at the midpoint, around $40 million for 2020." ] }, { "name": "Rick Prentiss", "speech": [ "Sure. In the supplement, you do give a little extra detail, but obviously it's a static picture, as far as what the adjustment between book and straight line. So that's kind of where we had gotten the early indication on 2020 and thinking on 2021. So that's what I'm just trying to get. I know you don't give guidance on '21, but you do provide that supplement, some extra kind of color." ] }, { "name": "Jay A. Brown", "speech": [ "That supplement, as you pointed out is a snapshot in time, as of our business. That relates to our business, as of September 30, 2019, and it will move depending on what happens with the business, as we signed new leases and extend new leases. So that's why we give it, because we want to give as much detail we can. But looking into the future, we want to give that, as part of our outlook, not as a static picture." ] }, { "name": "Unidentified Participant", "speech": [ "Sure, OK. Second question is, amortization of prepaid rent. It looks like the amortization of prepaid rent went up maybe about $25 million from 2018 to 2019. As we look into 2020 guidance, should we assume a similar increase of maybe $25 million, more or less, just trying to think of what the amortization of prepaid rent contribution in for 2020?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. First, that's about right, it's in that neighborhood from 2018 to 2019. And we believe that going into '20, it'll be a little higher, but not anything that would be material." ] }, { "name": "Rick Prentiss", "speech": [ "Okay. And then the last one. Dan, you mentioned on churn, on the tower side, be up at that 2% level in 2020, because of kind of wrapping up the acquired network churn late '19. How much dollars are left in there. So we just kind of get a sense of what that is, as we get to the finish up '19 and into 2020 on a dollar basis?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, what we've seen now is that, we think we've taken almost all of it at this point and it will just be the flow through from the activity that we've already seen going into the remainder of this year and then into 2020. And it's most of the difference between our -- what will be normalized at 1%, and where we are now at about 2%. And therefore, as we get into the back-end of 2020, we think that number of incremental churn will come down and will get closer to the lower end of our 1% to 2% long-term guidance." ] }, { "name": "Rick Prentiss", "speech": [ "Makes sense. So long-term, more or like 1% what you're seeing in the historical, as in any other acquired network et cetera?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "I think that's fair. It's within that range. And we'll be on the lower end of that range, as opposed to higher in that range." ] }, { "name": "Rick Prentiss", "speech": [ "Great. That helps. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hi, thanks for taking my questions. Dan, can you walk us through the mechanics of what gets expensed and what gets capitalized in the services business?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure, Nick. I want to take a step back and just talk about that generally, as how we think about capitalization and what we do, and I think this is -- what any company does, but it's basically looking at what are the expenditures that add to the long-term value of an asset can generate future revenues on an asset. Anything that does that, we will capitalize. To the extent that we are making expenditures, that for instance are more maintenance in nature, but do not add to the long-term revenue generating potential of that asset we will expense it." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Are you capitalizing -- so does that mean you're capitalizing costs incurred for the services business to PP&E? Like tower improvement?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Nick, like I said, we capitalize the cost of that add to the long-term nature of the asset. And I think you can appreciate that given where we are with our discussions right now, we don't want to get into a lot more detail here." ] }, { "name": "Nick Del Deo", "speech": [ "Okay, understood. Maybe switching gears then, one on the small cells front. As we think about the lengthening installation time frame. Are there any exit clauses in customer contracts, if you're not able to deliver the small cells in the given time frame? I recognize that they may not choose to exercise them because waiting might be a better option than exiting. I'm kind of curious if they are?" ] }, { "name": "Jay A. Brown", "speech": [ "I'm sure they have an exit should we not perform appropriately under the contract. But these are committed contracts. So to the extent that we're performing appropriately, we're not on the hook based on certain barrier like municipalities and utilities that would make the timeline very, very long. So I think as we talk about the contracted base of small cells that we have, we don't view those at risk as long as we can get them on air at some point." ] }, { "name": "Nick Del Deo", "speech": [ "Okay, got it. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Batya Levi with UBS." ] }, { "name": "Batya Levi", "speech": [ "Thank you. Couple of questions. Just going back on the guidance given that you're expecting a similar organic growth in macro next year, and this includes a small amount from new leases that could be signed when the deal closes. Can you provide more color on what type of activity you think actually could slow down to make it for that difference? And maybe any thoughts on commercial availability of CBRS, if you're seeing any increased activity from the carriers, as they deploy that? And a final question on the discretionary CapEx. It looks like it's a little bit lower versus '19. Can you talk about what's driving that reduction?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On the first point, I really don't want to get into a specific customer guidance around what we expect in calendar year 2020. We've tried to frame this in a way that's helpful and shows relatively minimal amount of activity that would happen in 2020, and how that would flow through to the guide that we've given. So I'm not sure I can add much color to that. We certainly assume that during 2020, we'll see new macro leases across the portfolio and across the industry, and those will have some contribution in 2020. But those leases will frankly have more meaningful contribution to our 2021 results. On CBRS, we are watching that activity, there is some event, but it's not material to the results today. We don't expect that it will be material to our results in 2020 and the outlook that we're providing. Initially, I think most of the CBRS activity appears to be focused in building. So we're seeing some of that in the venue opportunities that we have and they -- and that may contribute there, but it's really small at this point, and not a material driver of the business." ] }, { "name": "Daniel K. Schlanger", "speech": [ "On the discretionary capital Batya, the reduction really is to -- is related to what we believe will -- it will take to put on air, all of the assets that we believe will generate a new leasing activity that we have coming into 2020, and we believe that's just lower in 2020 than it is in 2019. As you know there was a step-up in activity going into 2019 and we're leveling out a bit in 2020, and the result of that is a slightly lower capital expenditure profile than what we're seeing in '19." ] }, { "name": "Batya Levi", "speech": [ "Okay, one just follow-up. Can you give us a rough split of the fiber and small cell revenue base, as we exit the year. Is it more or like 80% fiber 20% small cell?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes it's closer to 70% Fiber, 30% small cell going into 2020, then it's 80%, 20%." ] }, { "name": "Batya Levi", "speech": [ "Okay, got it. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Robert Gutman with Guggenheim Securities." ] }, { "name": "Robert Gutman", "speech": [ "Yes, thanks for taking the question. The site leasing -- fourth quarter site leasing revenue implied given year-to-date progress and even at the high-end of full-year guidance, it seems like the fourth quarter implication is pretty flat versus third quarter, just a hair higher. As we think about fourth quarter usually being seasonally stronger. So can you talk about -- a little bit about the timing through the year there, and maybe pull into that a little bit about, we -- how you see order activity in the second half of the year versus the first half of this year?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes, happy to answer that question. We had, maybe a reasonably strong third quarter, as we think about historically the activity in Q3 was stronger. So I would just -- I would chalk that up to timing, obviously we're not changing our full-year outlook for 2019. We did expect Q3 to be really strong relative to the full-year. And so to the extent you're noticing a little bit of movement between Q3 and Q4. We believe that to be just timing." ] }, { "name": "Robert Gutman", "speech": [ "And what about the pace of new order activity in the second half of the year versus the first half of the year?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, the second half of the year leads right into our 2020 Outlook.So the leasing in the bookings that we're doing in the second half of this calendar year does flow into leases that are turning on in 2020 to the extent we don't get them on air at the end of 2019. So I think a good read through for particularly second half activity of '19 that is you can get a good proxy for that by looking at the outlook for 2020. So when we make comments in 2020 to say that the leasing activity in '20 looks substantially similar to that of 2019 in terms of change in our reported revenue growth. That's really a proxy for what's happened for the second half of 2019. So say all that to say second half of 2019 activity is at the highest levels we've seen in a decade, except for the periods in the second half of '18 through the beginning of '19. So it's been incredibly strong and really hopeful as we go into '20." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And as you remember, Robert, we have increased our new leasing activity expectations earlier this year-- increasing level of activity through 2019. So we believe that this higher level activity we're seeing now will continue." ] }, { "name": "Robert Gutman", "speech": [ "Great, thanks. And on the incremental small cell orders , how much of that is new builds versus second tenants. The breakout proportionately?" ] }, { "name": "Jay A. Brown", "speech": [ "Similar to what we've seen over the last several quarters . So we're still seeing the predominant amount of the activity is coming from new locations where we're going to extend fiber of the plan, but we're seeing co-locations in that mix as well to the tune of about 30% to 40% of the activity is coming in co-locations and about 60% to 70% would be new extension of the fiber networks that we have in place. The activity continues to be focused in the Top 30 markets of the US, so there is some marginal activity outside of that but certainly this increase that we're talking about this morning. That's coming in almost entirely in the Top 30 markets." ] }, { "name": "Robert Gutman", "speech": [ "Great, thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Tim Horan with Oppenheimer." ] }, { "name": "Tim Horan", "speech": [ "Thanks, Jay. Maybe just asking I'm sorry , guys . Thanks, Jay maybe just asking the question a little differently on Sprint, T-Mobile, dish. Do you think that merger ends up changing the trajectory of revenue at all over the next five years for -- does it improve it, does it keep things relatively the same, but does it hurt. I mean I know there's a million moving parts. And then secondly, are you seeing much interest from the cable companies yet or do you think their engineering wireless networks at this point?", "And then lastly are the municipalities and utilities are they improving on their ability to kind of process all the orders here for small cells or when do you think that improvement comes where we get to a good run rate again? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. I think to your question around longer-term the driver of our business is really data traffic growth, which I referenced a couple of times in my comments and I think regardless of the logos, the number of logos, who owns what spectrum. I think that what drives our business and the investment in the infrastructure goes to what is the data traffic opportunity. And if our assumption is right around the coming of 5G and the amount of infrastructure that's going to be required for that, I think our business is going to perform really well regardless of the outcome there.", "There may be some short-term changes that we're talking about on a quarter-to-quarter basis depending on what the ultimate outcome of the industry structure is, but the long-term trajectory of revenue growth, we believe that is a very favorable environment and that's why we -- when Dan and I are having these kind of conversations, that's why we spend so much time trying to focus around the dividend and our dividend growth of 7% to 8%. Inside of that range of 7% to 8%, we're taking into consideration a number of different outcomes, whether it's movements and activity around leasing as well as changes in interest rate environment and other things. We're trying to look out over a really long period of time. And so how do we think the business will perform over a long period of time and that drives us to talk about kind of the dividend growth of 7% to 8%.", "And to your question, looking at the longer term of kind of what does it look like over the next five years or so. I would say, I think our view around dividend growth of 7% to 8% encapsulates the number of different industry structures, deployments of new technologies, different spectrum bands and we believe it will be really favorable.", "On your second question around cable companies, again I'm going to beg-off on that. Because I really don't like to talk about specific customers. I think more generally as we move toward 5G, there is a mix of a lot of customers that are starting to look at the need for infrastructure and how they could own wireless networks in ways that go beyond what we've historically seen, and we've seen leasing from players outside of the 4 big operators in the US this year and that activity has been up compared to prior year. So we've benefited from some leasing outside of the big 4 operators, I think as we move toward 5G you're likely to see that continue.", "And then your last question around the municipalities and utilities. We're certainly working really hard to try to get there. There have been a number of governmental entities that have been helpful on that front. Obviously, the FCC has worked really hard to try to put out some guidance and some rules that are intended to give clarity to the timeline and the amount those rules have been helpful in a lot of cases, but we also run into utilities and municipalities that just fail to comply with the orders and the rules of the SEC.", "A number of states have undertaken activities and to try to help this activity and so we're up to mid 20s in terms of number of states that have passed legislation that enables our ability to deploy this with committed timelines and committed cost structures. And there are a number of other states that we're working on at the state level. In general though, I would say, as we talked about kind of the operating components, how long it's going to take us to deploy these -- all of those changes and opportunities, they really haven't changed our trajectory of how quickly we think we can deploy these. Ultimately, though, I mean just going all the way back to kind of where we started in the conversation in my prepared remarks. This business at its most basic level is a significant investment of capital upfront to own an asset that can be shared and that's sharing occurs over a very long period of time.", "And the timing, while we certainly are working on it and we want to deliver for our customers a small cell nodes absolutely quickly as we can, ultimately as we think about looking at the business and whether or not it makes sense for us to won the shared asset and what the returns are, we're less focused on the exact timing of when we can get the small cell nodes on, and much more focused around what's the addressable market and what's the opportunity there? And we have found by running the tower business over a long period of time that the patient steady execution of adding tenants to that shared asset over a long period of time is how you can effectively drive great returns on the investments that we've made and we're really focused on how do we do that cost effectively and thoughtfully and then position ourselves really well with our customers to be the go-to-provider because we can provide them with a low cost solution that they can count on. And that's what we're focused on day-in and day-out to run the business as well." ] }, { "name": "Tim Horan", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question will come from Spencer Kurn with New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. Just a couple of questions but on small cells, you talked about your new leasing revenue being back-end weighted, I was wondering if you could provide a little bit of context on the cadence of new leasing activity that you expect in the guide for towers and fiber?" ] }, { "name": "Jay A. Brown", "speech": [ "Those are generally flat across the 2020 outlook, Spencer. There is no significant change from first half to second half." ] }, { "name": "Spencer Kurn", "speech": [ "Okay, got it. Thank you. And then on CapEx. I was just wondering if you could put a finer point on where you expect the lower CapEx to come from, whether its towers, small cells or fiber in 2020?" ] }, { "name": "Jay A. Brown", "speech": [ "It's in the fiber, small cells arena, Spencer. Towers is going to be relatively similar and then building the asset out for the fiber and small cell business is what we're spending a little less money on in '20 than we did in '19." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. And then just lastly on small cells have you -- you've historically talked to a win rate of around 50% of the market and in the meantime, it feels like we've seen more growth from carriers building small cells themselves or cable companies talking about adding CBRS or WiFi to their own infrastructure. So I was just wondering if you could update us on your perspective of the competitive landscape anything changed, are you seeing better win rates, or they are remaining stable? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah you're correct in that our historical experience has been, we've won what we believe to be about 50% of the opportunity that's been available in the market. And the small cells that have been deployed we believe we've won about 50% of that activity. We're certainly not underwriting, as we think about the long-term returns in the business, we're not underwriting that as what we believe will be a significant growth in the amount of activity. I quoted the CTIA stat in terms of a 10-fold increase in the number of small cell nodes between now and 2026, we don't assume that we're going to continue to win 50% of the activity. We believe we'll win a very high percentage of the activity that happens in the areas where we have existing fiber and to the extent that there is activity outside of where we have fiber today, then it will just be an investment decision around whether or not we would like to continue to expand the business and that goes back to kind of my comments on a couple of questions go around how are we thinking about running the business. We're focused on how do we grow the dividends per share over a long period of time. And to the extent that we continue to expand the base and follow the carriers in the markets beyond what we have today that will really be an investment decision around what do we believe the returns are, the initial returns, plus the opportunities for future growth there. And to the extent that the return structure stay similar to what it is today I think we'll continue to do that. If it changes, then we'll evaluate that capital at that point, but we're not underwriting an assumption there.", "To your question around self-perform, we believe it is the most likely, if Crown Castle is not building the small cells the most likely scenario is that the work is being self performed by the carriers. Again, similar to kind of the tower industry in the earlier days where there were a few providers who were building a bunch of towers, but the curious were also self-performing. There are locations that we choose not to build small cells and build fiber and in those cases, oftentimes the carrier is going to do it themselves. There are other cases where we would potentially be interested in doing it, but the carriers decide that they want to self-perform. I think the scale of what's going to be needed around small cells over the coming decade is you're going to have some of all of that and more and so I think we'll continue to see the carriers self-perform and build a significant number of small cells themselves. And I think we will do really well in the places where we've chosen to build fiber and capture lease-up opportunities against that fiber to drive our returns." ] }, { "name": "Spencer Kurn", "speech": [ "Great, thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Maybe we'll take -- given the time maybe we'll take one more question." ] }, { "name": "Operator", "speech": [ "Thank you. Our last question for today's presentation will come from Brandon Nispel with KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "Awesome. And thanks for squeezing me in. Wanted to follow up on Robert's question on bookings activity specifically on towers though, is the backlog of business signed, but not commenced up year-over-year and maybe just provide some color from a year-over-year and quarter-over-quarter perspective in 3Q? And then I have a follow-up question." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, just to clarify, Brandon, you're asking third quarter of 2019 over third quarter of 2018?" ] }, { "name": "Brandon Nispel", "speech": [ "Yes." ] }, { "name": "Daniel K. Schlanger", "speech": [ "I think from -- you can piece together, especially from how we've talked about the new leasing activity being higher in '19 than '18 and then increasing it during '19 from our original outlook and expectation. That it has been building over time and that hasn't included into the third quarter and we believe that as Jay has mentioned a few times at this activity level in towers, which is the highest we've seen in a decade will continue into 2020. So it has been increasing and we think it will continue around this pace going forward." ] }, { "name": "Brandon Nispel", "speech": [ "Got it. Then on the small cell business you guys called out 1% churn and small cells. Why is that happening? It's a pretty new in the last couple of years, I'm you just curious why there is any churn in that business at all? Then on the escalator for the small cell business is 1.5% sort of the best that you guys do and does that cover your cost inflation in that business longer-term? Thanks." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure. The churn of about 1% -- I know this may not be a totally satisfying answer, but they're going to be times when there are certain nodes that just aren't performing in a way that is appropriate or that somehow we want -- that our customers don't want at one particular point or one particular location. And a 1% churn level now, I think you can take it to say that it's pretty deminimis and not something that I think is indicative of anything other than there are just certain times where nodes get churned off. With regard to the escalator itself the 1.5%, as we've talked about historically, there has been somewhat of a thought process split. It's not in the contract, but I thought process between the escalation on the node portion and the escalation on the fiber portion, where the fiber portion doesn't get an escalator. The node portion, which is approximately more -- it's like more of the tower business does get an escalator. And as we've kind of worked through that we've gotten to the point where the escalator is on average about 1.5% in the small cell business. We don't think that that will go up over time. No, I don't think it will get better than that, for that dynamic I just spoke of is that fiber generally doesn't have an escalator associated with it, and I'd say that's a significant portion of the build. And as far as cost escalations, there aren't really many cost escalations within that small cell business once we, just like in the tower business, once we have the asset in place, it is in place and we believe that because of that what really will drive the incremental revenue -- incremental returns and ultimately the incremental gross margins associated with small cell business will be lease-up as we add those at higher incremental returns and margins then the anchor build is added.", "So what we'll see, we believe is increasing returns and margins over time as we lease up the assets and the escalator recover any cost increases that we seen in the underlying business." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thanks for taking the question." ] }, { "name": "Unidentified Speaker", "speech": [ "Thanks everyone for joining us this morning. We're obviously incredibly thrilled with the results in the third quarter. I want to give a shout out to our employees who have done a terrific job delivering for our customers, during 2019 thus far and we are looking to finish out the year strong and we're obviously really excited about the long-term opportunity that's in front of us, as we turn the page from largely focused on 4G and I think as we get into 2020 there will start to be even greater conversations around the opportunity in 5G and what it's going to mean for our business. We think it's going to be great, thanks. So, thanks for joining us this morning. Look forward to catching up with you soon. Bye-bye." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2020-07-30	[ { "description": "Vice President of Corporate Finance & Treasurer", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "Chief Financial Officer, Treasurer & Senior Vice President", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "President, Chief Executive Officer & Director", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Phil Cusick", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Rick Prentiss", "position": "Analyst" }, { "description": "Cowen. -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Tim Long", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Tim Horan", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the Crown Castle Q2 2020 Earnings Call. Today's conference is being recorded. And at this time, I'd like to turn the conference over to Ben Lowe. Please go ahead." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Thank you, Vicki, and good morning, everyone. Thank you for joining us today as we review our second quarter 2020 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer. To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, which we will refer to throughout the call this morning. This conference call will contain forward-looking statements and discussions of hypothetical scenarios, which are subject to certain risks, uncertainties and assumptions, and actual results may vary materially from those projected or presented during this call. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings.", "Our statements are made as of today, July 30, 2020, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com.", "So with that, let me turn the call over to Jay. Thanks, Ben, and thank you, everyone, for joining us on the call this morning. As you saw from our results, we delivered another quarter of positive results that were in line with our expectations. And we maintained our guidance for 2020 growth and AFFO per share of 7% to 8%, consistent with our long-term growth expectations. I believe our strategy and unmatched portfolio of more than 40,000 towers and approximately 80,000 route miles of fiber, concentrated in the top U.S. markets, have positioned Crown Castle to generate growth in cash flows and dividends per share, both in the near term and for years to come. Following an industry slowdown in tower activity late last year, we were seeing activity on towers begin to increase, and we continue to anticipate a significant step-up in industry activity in the second half of this year as our carrier customers invest to improve their existing networks and as 5G starts to ramp. While the full rebound in activity on towers is occurring a little bit slower than we've previously expected, we remain on track to generate at least 7% growth in AFFO per share and see potential for our AFFO per share growth to be above our expected 7% to 8% target going into next year. Dan will discuss the results and our expectations for the balance of 2020 in a bit more detail. So I want to focus my comments this morning on our strategy to maximize long-term shareholder value while delivering attractive short-term returns. As many of you know, shareholder engagement has always been a priority as we continue to execute on our strategy. Over the last several weeks, we have engaged in productive conversations with many of our shareholders, and I very much appreciate the feedback we received and the thoughtful exchange of ideas during those discussions. Through those interactions, we heard broad support for our overall strategy, including our continued investment in towers, small cells and fiber and our overall approach to capital allocation and our dividend policy. We also heard that you, as owners of the business, are looking for more visibility into how our strategy is performing. And with that in mind, we've taken steps this quarter to increase the disclosure around our small cells and fiber strategy. We look forward to hearing your feedback about the additional information provided and welcome ideas for other disclosure we should consider going forward. Turning to our strategy to maximize long-term shareholder value, we believe we have positioned the company with the right assets in the right markets with leading capabilities to deliver value to our customers and generate shareholder returns for years to come. Focusing on slide three, we have invested nearly $40 billion in shared infrastructure assets that we believe are mission-critical for today's wireless network and sit in front of what is expected to be a massive decade-long investment by our customers to create the next generation of wireless networks. As you can see, our tower and fiber investments are at two different stages of development and maturity. Our tower investment began more than 20 years ago when we built and acquired assets that we could share across multiple customers, providing a lower cost to each customer while generating compelling returns for our shareholders over time as we leased up those assets. As we have proven out the value proposition for our customers over time, we have leased up our tower assets, so they now generate a yield on invested capital of approximately 10%. More recently, we realized that wireless network architecture would need to evolve with 4G, requiring a network of cell sites that would be much denser and closer to the end users. With that in mind, we expanded our shared infrastructure offering beyond towers by building the industry-leading small cell business in the U.S. Because small cells really developed during the 4G investment cycle, we are much earlier on when it comes to our small cell and fiber investments, with approximately 90% of the approximately $14 billion of invested capital having been deployed in the last five years. Given the immaturity of these investments, it's encouraging that the business is already generating a current yield on invested capital of more than 7%. As you can see on slide four, the extension of our strategy into small cells was based on how similar the two business models are. Both small cells and towers have the same underlying demand driver of wireless data growth and the same core customers. They both have a high initial cost that is ultimately shared across multiple customers that lowers the capital and ongoing operating costs to those customers while generating returns for shareholders through the long-term lease up of those assets. They both have 10-year initial contract terms with escalators that meet or exceed annual churn rates, and they have similar barriers to entry. On the tower side, the strategy has created significant value for shareholders and still has a long runway of growth as we believe towers remain the most cost-effective way to deploy spectrum, making them critical to next-generation wireless networks. As you can see on slide five, the returns and ultimate value realization for towers has taken decades to play out. We started with initial returns in towers of approximately 3% and grew those yields to nearly 9% over six years as we increased the tenancy and cash flows on a largely static asset base. We then had the opportunity to double down on our investment strategy, which diluted the overall yields to approximately 7% as we added less mature assets to the portfolio, and it took us another five years to get back to the more than 9% yield. As the business model and strategy continue to prove out, we decided to double down again with the T-Mobile and AT&T tower acquisitions, once again diluting the consolidated yield as we nearly doubled our tower asset base by adding less mature assets that came with a lower initial return. Once again, it took us about six years to return to 9% yields on the overall portfolio. In all, it has taken us 20 years to move our returns from 3% to the 10% levels we see today. As I reflect on my 20-plus years here at Crown Castle, having lived through this journey with our shareholders, there are several important observations when I look at this slide. First, what is largely taken for granted today by most investors that the U.S. tower business is one of the best business models ever was not a widely held view in the earlier years of development. Even as we were proving out the business by adding several hundred basis points of yield to the early investments, I can remember answering questions about the long-term return potential of the business, the negative free cash flow profile and when or if we would that would inflect and the potential negative impact of carrier consolidation, just to name a few. Second, the increase in yields occurred over a long period of time and only when we maintained a static asset base. However, if at any point, we had stopped investing in new assets to focus on driving the yields up, we would have missed out on significant value creation. Although similar to our tower investment profile, we expect small cells will have a different yield progression, since we are making organic investments to construct less mature small cell assets as opposed to purchasing tower assets, which should result in a more gradual increase in returns as opposed to the large ups and downs you see on this page related to towers. And third, a significant portion of the ultimate value realization from towers came much later once there was little to no remaining debate in the market about how good the U.S. tower business actually is. The significant multiple expansion seen on this slide is a good indication of how that debate was ultimately decided over a long period of time. Turning to our small cell and fiber strategy. We are generating a 7% yield on approximately $14 billion of invested capital today. We have legged into our small cell and fiber investment over the last decade concentrated, as I mentioned before, in the last five years as our conviction in the value creation opportunity increase, including seeing returns on early investments increase as we co-locate new small cell customers on existing fiber assets. As I mentioned earlier, we expect the yield on invested capital and fiber to have a more gradual increase over time relative to what we've experienced with towers as we make additional organic investments in new small cell and fiber assets. To give additional visibility into how our organic investments are progressing, on slide six, we've identified five markets that we will discuss today in greater detail and we'll update on an annual basis during our second quarter call. These five markets should provide a helpful representation of how our overall strategy is performing over time, given how different these markets are when it comes to the scale of the investment, the revenue mix between small cells and fiber solutions, the node density and the contribution from acquisitions. Let me make a few observations within these markets I would like to draw to your attention. Los Angeles provides an important proof point that increases our confidence that our strategy is working. More than 70% of the invested capital is associated with several acquisitions, including NextG, Sunesys and Wilcon, at an initial return of less than 6%. Since that time, we have added more than 200 basis points of yield to the overall invested capital base by adding customers and cash flow to the nearly 7,000 route miles of fiber, with most of the growth coming from adding small cell customers. The returns in Philadelphia are also encouraging, with a current yield of approximately 10% as a result of combining fiber solutions and small cells on the same assets, which gives us a great opportunity to meaningfully increase returns as we continue to add small cells to the fiber over time. Although the nodes per mile is the highest in Denver, the majority of the investment in activity to date has been for anchor small cell customers. The 5.5% yield is lower than we would typically expect from small cell anchor builds due to some higher costs that we incurred during construction, which were beyond what we had initially estimated. Looking at Phoenix, the nearly 12% return is higher than we would typically expect with a node density of just two nodes per mile, which is primarily driven by a combination of some co-location that has occurred in the market as well as the contribution from small cell venues. And to the last market on the page, we believe Orlando is a key market to review. The very first investment we made around our small cell strategy was in Orlando more than a decade ago. We built this initial system for one carrier, and we're able to subsequently lease it up to other carriers over time. This initial system has also benefited from both amendments and increased density for evolving technologies. We think Orlando provides a clear example of what a fully leased-up or stabilized market can look like. The capital we invested now yields nearly 20%, which is where we believe all markets can get with the level of lease up we think is possible in the future. Again, we think it will be helpful for you to see how these markets develop over time. So we plan to revisit these same markets each year to give you visibility into how their returns and operating performance evolve. Some of these markets will likely show yields increasing over time as we co-locate additional nodes on existing fiber, while others may show decreasing yields for a period of time as we expand our fiber footprint, mainly growing outside of the urban cores to cover the entire market where small cells may be. Zooming back out, we believe our small cell and fiber strategy provides a compelling risk reward opportunity for our shareholders. As you can see on slide seven, with 30% to 40% anticipated annual growth in data demand from current 4G applications and the additional demand that we expect to be generated by the deployment of 5G networks, we believe the long-term addressable market for small cells will be very significant. Based on industry estimates, the total number of small cells on air in the U.S. could be over one million by 2024. And we don't think it stops there. As a reminder, our base case underwriting has always assumed we add one additional tenant equivalent at 4G densities of approximately two to three nodes per mile over a 10-year period. And we believe 5G has the potential to drive network densities well beyond our underwriting assumptions. Considering the combination of 5G network requirements and the higher spectrum bands that will be available to meet future mobile demand, we believe node densities approaching 20 nodes per mile could represent an achievable upside scenario longer term. slide eight helps to illustrate just how compelling the risk reward opportunity could be for our small cell strategy, all other factors being held constant. The purple line on this graph is an illustrative representation of possible total shareholder value in 10 years, with the only major change in the assumptions being no densities increasing as you move from left to right on the chart. The light green shaded area on the chart illustrates where we could be on that curve if we sustain the current growth profile of the business, which we believe we can achieve based on 4G densities. We believe the value for shareholders could potentially be two times higher based on these assumptions. As small cell densities increase moving left to right, you can see our the potential our small cell strategy could result in the value for shareholders being four times higher in 10 years, even with only seven nodes per mile on average. As we just went over, we believe ultimate 5G densities could be significantly higher than that, potentially approaching upwards of 20 nodes per mile over the long term. Going the other direction, if the current volume and mix of small cell co-location activity do not increase from current levels and fiber solutions growth were to decelerate, we believe the potential downside is fairly muted, as shown on the graph, when compared to the potential upside. Similar to when we made our first investments in tower assets, nobody can predict exactly how these things are going to play out over the next two decades. In any case, though, we believe that having the right shared communication infrastructure assets in the midst of significant wireless data growth that is driving network investment can lead to tremendous yields on invested capital. With small cells being that kind of infrastructure asset, we are excited when we assess the potential upside in proportion to the potential downside. We see limited risk and huge potential reward, which increases our conviction that this is the right strategy to pursue. So to wrap up, we believe that our strategy to maximize long-term shareholder value is compelling and straightforward. We are 100% levered to the largest and best market in the world for owning communications infrastructure assets. We are positioned to enable and benefit from the wave of investment our customers are expected to make over the next decade to build out 5G and meet the growing demand for wireless data. We are investing for the future. While delivering a compelling near to medium-term total return with a high-quality dividend, we expect to grow 7% to 8% per year, and we believe our strategy offers shareholders significantly potential more upside than downside. And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. We delivered another quarter of positive results that were in line with our expectations, reflect the resilience of our business during this period of unprecedented uncertainty in the broader economy. We are seeing activity on towers begin to increase, and we continue to anticipate a significant step-up in industry activity in the second half of this year, as our carrier customers invest to improve their existing networks and as 5G investments start to ramp. However, the full rebound in activity on towers is occurring a bit slower than we previously expected, which could impact our expected service margin contribution during the remainder of 2020. Despite the potential for some tower activity to occur later in the year or even potentially flip into 2021, we remain on track to generate at least 7% growth in AFFO per share this year.", "Because we see the situation as a delay and not a reduction in activity, we believe there is the potential that AFFO per share growth will improve and be above our 7% to 8% per year growth target as we move into next year. Turning to slide nine of the earnings presentation. We experienced another quarter of strong top line results that included 5.6% growth in the organic contribution to site rental revenues, driven by 9.4% growth from new leasing activity and contracted tenant escalations, net of approximately 3.8% from tenant nonrenewals. The revenue growth was offset by lower services contribution compared to the same period last year, resulting in more modest growth in adjusted EBITDA and AFFO per share. The lower services contribution was in line with our expectations and tied to the slowdown in tower activity that began in the fourth quarter of last year and carried through the first half of this year.", "As I mentioned, we anticipate a significant increase in industry activity in the second half of this year as all our carrier customers invest to improve their existing networks and as 5G investments begin to ramp. Turning to page 10. We are maintaining our full year outlook for 2020. At the midpoint, this represents approximately 5% growth in site rental revenue, 6% growth in adjusted EBITDA and 9% growth in AFFO year-over-year compared to 2019 and includes approximately 6% growth year-over-year in organic contribution to site rental revenues. Focusing on investment activities. During the second quarter, capital expenditures totaled $414 million, including $24 million of sustaining expenditures and $383 million of discretionary capital investments across fiber, towers and small cells.", "Additionally, we returned significant capital to our shareholders during the first quarter, with our quarterly common stock dividend totaling approximately $500 million or $1.20 per share, representing growth of approximately 7% on a per share basis compared to the same period a year ago. We were active on the financing front during the quarter, meaningfully improving our financial flexibility by opportunistically raising $3.75 billion in senior unsecured notes across two separate offerings, with a weighted average maturity in coupon of approximately 17 years and 2.8% to refinance existing debt. Following those refinancing transactions, we have nearly $5 billion of undrawn capacity on our revolving credit facility and no meaningful maturities until 2022. In addition, we finished the quarter at 5.6 times debt to adjusted EBITDA.", "We remain committed to our investment-grade credit rating and anticipate a glide path back to our target leverage of approximately five times by the end of 2020 based on the expected EBITDA growth through the year. Finally, I wanted to make sure you saw that we included some additional disclosures in our segment reporting in our press release and in the supplemental earnings materials we posted to our website. During the recent shareholder engagement Jay mentioned earlier, we received feedback that it would be helpful if we provided more visibility into the composition of our fiber segment. With that in mind, starting this quarter and going forward, we are providing a breakdown of our fiber segment revenues between small cells and fiber solutions as well as additional details around the composition of revenue within the fiber solutions business line.", "As you can see for this quarter, our fiber solutions business grew 3% over the same quarter in 2019, and our small cell business grew 17%, both in line with our expectations. We have also provided return metrics, both by segment and for the consolidated business in our supplemental earnings materials. We hope this additional disclosure aids in your ability to analyze our business going forward. So to wrap up, our second quarter results were in line with our expectations, and we believe we remain well positioned to generate at least 7% growth in AFFO per share in 2020, with the potential for growth to improve next year. Looking further out, we believe our ability to offer towers, small cells and fiber solutions, which are all integral components of communications networks, provides us the best opportunity to generate significant growth while delivering high returns for our shareholders.", "With that, let me turn the call back over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Well, before we take questions, I wanted to speak to the separate press release we issued yesterday. We heard your desire for us to enhance our corporate governance and have outlined the enhancements our Board is making on this front, including instituting a mandatory Board retirement policy. Specifically, the Board began a process two years ago focused on near-term refreshment to advance its objective of adding highly qualified independent, diverse individuals with relevant experience and expertise to oversee our strategic execution and continued value creation. The Board has determined to phase in the implementation of the mandatory retirement policy to provide a transition period for the five current Crown Castle directors who are over the age of 72.", "This phased implementation will result in three of our current directors not being renominated for election in May 2021 and an additional two current directors not being renominated for election in May 2022 at our annual meetings of shareholders. The collective advice, oversight and wisdom of these directors have been significant drivers in the creation of Crown Castle's unmatched portfolio of towers, small cells and fiber. On a personal level, I'm grateful to these directors for their mentorship, their support and their friendship throughout my career here at Crown Castle. There is no way we could have executed on our strategy that has created so much shareholder value over the last 20 years without their leadership. On behalf of all of our shareholders, I'd like to thank them for their tireless work in helping to create what Crown Castle is today.", "The Board has hired a leading search firm to assist with its search for independent directors who bring the right mix of skills, diversity and relevant experience to help our Board further drive sustained value creation. Also, as noted in the press release, the Board is committed to reviewing the company's executive compensation program to ensure it continues to align with the interest of all our shareholders and industry best practices. We are certainly grateful for the feedback our shareholders have provided for us on our corporate governance and believe these actions demonstrate our Board's desire to be responsive to that feedback.", "And with that, Vicki, I'd like to open the call for questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And we will take our first question today from Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you, very much, good morning and thanks for all the additional disclosure. Two, if I may. One on fiber solutions. Could you just talk about the activity in the business? It looks like still growing around that 3%. Any impacts you're seeing from COVID?", "And then on the return point on the small cell. Perhaps it would be helpful if you could just go through your capital budgeting process and how you think about setting your capex plans and your return hurdles just to put that through the filter to get those sort of long-term targets? Any sense on that process would be great." ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Simon. On your first question around the fiber business, similar to what we talked about last quarter. As you can see from the disclosure, the majority of our customers are carriers and large enterprise, specifically in the financial, healthcare and education sectors. So we have seen very little to no impact from COVID in the business there. It hasn't impacted either the gross revenue growth or churn. So things have basically come in where we expected them to. In total, in the business, less than 5% of the revenues are coming from small or medium businesses. There are as I mentioned last quarter, we have had some customers request the delay in installation of new services that they've limited access to their facilities. But that hasn't really had any material impact. So there's no change to our overall guidance, no change to the revenue growth or churn profiles there on the fiber side.", "In terms of our return process, how we go about allocating capital internally, we have a really rigorous process that we go through for each of the investments that we make. And some of the materials that we're laying out here this morning of showing co-location and returns over time are things that we've looked at historically to evaluate different markets and how carrier behavior looks. And given, obviously, the nature of the business, because we're putting up a significant amount of initial capital, one of the things that's most important to that evaluation is what do we think the future demand for the asset will be. So as we noted on the fourth page there, you can see the returns initially when we go and build an initial system, generally, we're investing that capital somewhere in the neighborhood of about a 6% to 7% initial yield on invested capital. So the first thing we look at is are the terms in line with that expectation. And then it really comes down to an evaluation of what we think the future growth around those assets will be.", "As you've heard us talk about, we're primarily focused in the top markets in the U.S. We think that is where the preponderance of the capital will go, both our capital as well as the carrier investment, as the networks densify and move toward 5G. And we think that sets us up for long term sets us up for terrific returns in the business in order to deliver great returns for shareholders. So it's a combination of making sure we get the terms right out of the gate financially and then assessing what we think the future lease-up is going to be. And last thing I would just say on this point. We're in this business because we think it generates a lot of returns for shareholders over a long period of time. And there are plenty of RFPs in the market that so far, and I think this will continue to be the case, where we decide not to participate because either we think the economics aren't appropriate out of the gate, where we think the potential for lease-up and long-term economics just don't make sense and don't make the business look like a tower business ultimately.", "So that's the framework through which we're evaluating our capital investments and plan to continue on that path." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you. Very helpful." ] }, { "name": "Operator", "speech": [ "Next is David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks so much for taking the question. So Dan, I guess the first one is on the guidance. Looking at the first half versus the second half, the math implies a pretty substantial acceleration in EBITDA, just to get to the low end, let's just say, roughly 7% sequentially accelerated from the 2% we saw in 1Q. And then when you look at what that math implies, you kind of land it around 9.45% or so for the fourth quarter EBITDA that we annualize that over the low end, and all of a sudden, growth is accelerating to the 9% level in 2021. So could you kind of help us understand kind of where that conviction that you can kind of see this acceleration comes from? That's the first question.", "And then I guess the second question, Jay, thank you again, I think that everyone's going to welcome the additional disclosures here. You've kind of historically talked about carrier self-perform as the biggest competitor in the marketplace. Could you talk about how, as you think about the pan as carriers are building out their own facilities in markets, that kind of erodes the opportunity to get colocation in those markets. So how big is this opportunity for you as you think about it from a capital budgeting standpoint?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure. I'll take the first question. Thanks, David. On the guidance, as you pointed out, there is a significant ramp from the first half to second half. And we've been talking about that since we gave our outlook and certainly said that when we were talking through the first quarter. We have seen an increase in activity, as we indicated, as Jay and I talked about in our prepared remarks. And we think that it is leading to what we see as a significant ramp in activity and ultimately, our cash flows and EBITDA generation going into the second half. But as you pointed out, it is a pretty big ramp. We've seen the beginnings of all of those activity and those applications coming in. But as we talked about, they pushed out a little bit from what we expected.", "So we do think that we'll likely be on the lower end of our guidance. But what it does show and what we were alluding to a few times, too, was that if that comes to be and filters through the way we expect it to, that we see a lot of that momentum going into 2021. And when we give our guidance next quarter, we'll confirm what we think that will ultimately be and how that will play out and what it will look like going forward, but we think there's a chance that it is going to be above our 7% to 8% longer-term growth rate target. So we feel good about the activity levels around the business right now, even if they are just happening a little bit later than what we would have expected when we started and gave guidance in October." ] }, { "name": "Jay A. Brown", "speech": [ "On your second question, Dave, around the carrier self-perform and the impacts to the business, first thing I think I would start with is just sort of fundamental to the product offering that we have to the carriers. We're providing a low-cost solution to the carriers. And as has been proven out with towers over a long period of time, the carriers are thoughtful about how to lower their overall cost of network. And they have moved to a shared solution on the tower side because that's the lowest cost for deploying the network. We believe the exact same thing is going to happen with small cells. In fact, the solution that we're offering to carriers is basically 50% reduction in their overall costs over time as them owning it themselves. And over time, they've proven to be thoughtful allocators and diligent around costs, and we think they'll come to us as a result of being able to save meaningfully on the network deployment side.", "That also means, though, that we're not going to do it all. And so when I look at the carriers self-perform and the comments that they've made about their need to deploy and build their own small cells, the reality is we will not be able to offer or have an interest in offering a shared solution everywhere in the U.S. that small cells are needed. Our strategy has been pretty clear from the beginning that we're focused on the top markets in the U.S. and dense urban and suburban areas, where we think there's going to be significant co-location over time. And that doesn't mean we're going to build fiber everywhere for the carriers. So there are going to be places where they need to build it in order to provide to us, as consumers, a ubiquitous solution. As I look at the total addressable market where our fiber is going, I believe we're in a sweet spot thereof. We're likely putting this capital based on what we believe will happen over a long period of time in the places that are going to have a disproportionate amount of future demand for small cells.", "So as we've shown in the fiber markets laid out on the page there, so far, we've been able to allocate that capital into places where there is has been future colocation, and we think there will be plenty of addressable market in the future to continue to drive those returns and achieve really attractive outcomes for shareholders. On the last point around capital budget, one of the benefits of this business is you get long visibility. Whenever we commit to customers that we're going to go out and build nodes for them, there's about a two to three year build cycle. And so you can look at the nodes that we have in process as a proxy for what capital deployment is going to be for the next two to three years, because we've made those commitments to customers at that point once we've signed up the nodes.", "So one way, and we talk about this every quarter of kind of the total pipeline, and Dan walked through it in his comments, if that pipeline starts to change, then there could be a point where it goes up or down relative to overall demand. But that gives you quite a bit of lead time in terms of what we think capital spending is going to look like." ] }, { "name": "David Barden", "speech": [ "Okay. Great. Thank you there." ] }, { "name": "Operator", "speech": [ "Our next question will come from Phil Cusick with JPMorgan. Please go ahead." ] }, { "name": "Phil Cusick", "speech": [ "Hi, guys. Thanks. Can we just dig a little bit into that slower ramping activity? Is there any of this, do you think, due to COVID at the municipal level? Or is this more carrier demand not getting started as quickly as you expected? And has there been any inflection there as we've come into July?", "And then second, Jay, if we can go back to that one million small cells like 2024 that you mentioned. Remind me where you are now and what the pace of carrier conversations look like? You haven't announced a major new small cell award in quite a while. And given the long build cycle, I don't know how we get to a that big of a number by 2024 without a pretty big ramp near term?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. On the first question, I think we've talked about this going all the way back to October of last year when we first gave the guidance. It's very difficult to be super precise as to when inflection points and activity happen in the business. And given that this is a recurring business, once we sign up the lease, it stays for a very long period of time. It becomes less important to be to figure out exactly which quarter a certain lease ends up in. And I would describe the activity and the pushout as nothing other than slightly different than what we anticipated when we gave the guidance in October of 2019. But in terms of overall activity and what the carriers are focused on, and I think this is reflective of the statements that they've made they've been making publicly, we see no change in behavior activity long term that has any meaningful impact into our long-term growth rates around towers or small cells. So we think it's purely just timing.", "And as Dan mentioned in his comments, where that is most pronounced in our numbers is not really in the recurring components of the business, but in the services component of the business, where we do some preconstruction work for the carriers. And depending on when that hits, if it slide s into 2021, then obviously, we don't get the benefit this year. So more so around that preconstruction work on the services side and no real change in activity from the from our expectations of what the carriers will do, just a slight change in timing.", "On your second question around the awards of small cells. Our experience has been over time that the carriers award small cell nodes in large bulks. And this is very different than kind of the tower historical experience where towers are leased one single tower at a time. And it's very rare in the tower business to have an entire market deployed at one time. But because of the nature of small cells being integrated and connected with fiber, they tend to look at either entire markets or large sections of a market, and we've won awards on that basis. So and we've continued to win awards and the total number of nodes has continued to go up, but we haven't signed any major ones in the last couple of quarters. We don't view that as a change in the business. We think it's just reflective of kind of the natural timing and ebb and flow that we'll see over time.", "So I don't I think we will continue to see some lumpiness in that, and the tower business may be a little steadier in terms of the way leases are signed, but there's just a little bit of difference in terms of how the carriers think about those network deployments." ] }, { "name": "Phil Cusick", "speech": [ "Yes. It's just that one million in four years is a pretty big delta from what are several hundred thousand industry today. It sounds like there may be conversations about future rewards happening at least, if not those awards coming anytime soon?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think there is no question that from the comments that we're making as well as industry estimates as well as what the carriers are thinking that we believe we're right on the doorstep of a significant increase in this activity over the coming years. And I think all of the industry estimates would suggest that, that ramp is coming significantly. I think there's probably some debate today as to how many actual small cells there are on air. So the math there would put the total small cells on air north of 200,000 today, but growing to one million over five years, which indicates that we're sort of right at the early stage of seeing significant increases over the next coming years." ] }, { "name": "Phil Cusick", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "We'll go to Rick Prentiss with Raymond James." ] }, { "name": "Rick Prentiss", "speech": [ "Thanks. Good morning, guys. First, hope you and your employees are doing OK through COVID-19 difficulties." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Ric." ] }, { "name": "Rick Prentiss", "speech": [ "I want to, again, echo, thanks for the fiber versus small cell revenue split. We would love to get the third quarter 2019 and fourth quarter 2019 numbers before they actually get reported out in 2020, that would help us. But as you think about disclosure, some of the shareholder comments out there had also been what about breaking out maybe a little more disclosure on KPIs, such as new lease activity, escalators and churn. Do you envision providing those breakdowns at the segment level, fiber solutions, small cell. Tower versus just aggregate?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. Rick, I think what you saw us do is take what we think was a meaningful step in trying to add disclosure to how our strategy is playing out over time. And you can see that what we've given in terms of the revenue of fiber solutions versus small cells versus towers, you can line up to get to what the net growth rates are in each of those businesses. And as we discussed, they're right in line with what we told people had expected. And what we're trying to do is provide a long-term view of how this business will play out and what to look at over time and how we think about it. And the way we think about it is really in this type of the market analysis that we went through.", "And it won't move on a quarter-to-quarter basis. That's why we're going to update it annually to show you kind of what we think is a reasonable estimate or a reasonable expectation of how these things can move over time. It will be very difficult to try to do that on a quarter-to-quarter basis. So what we've done at this point, we believe, gives really good insight into the business and how it is playing out and how we think about it. And we think that, that hopefully is sufficient. To the extent that there are other things that investors would like to see, we would absolutely take that feedback and take it into consideration and think through it about whether we want to do that going forward." ] }, { "name": "Rick Prentiss", "speech": [ "Okay. How about can you update us as far as how many nodes are on air or in backlog or what that total is? Jay, you mentioned there's been a couple of nodes, but not many, but it certainly helps if we also know kind of what's happening with the nodes." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure. We're at a little over 45,000 nodes on air and around 25,000 nodes in the pipeline. So overall, a little more than 70,000 nodes on air in the pipeline. That's not significantly changed from last quarter. So like we mentioned, we haven't made significant bookings in the quarter, but we did put some on it." ] }, { "name": "Rick Prentiss", "speech": [ "Makes sense. And then, Jay, I think your comment is exactly right to feel about maybe small cells are more lumpy or I'd even call it chunky versus towers is more consistent. As we think about the next couple of years from the carriers, could there be a little more shifting to macro tower versus small cells as we see T-Mobile focus on the merger integration of Sprint, the C-band auction comes out and maybe companies like Verizon might want to participate. So the I would think one of the other lumpy, chunky aspects could be where carrier capex is getting focused on any given year or two over a 10-year period. Is that fair?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes, I think that's possible. There will be some movement there. I think what we'll see as we move into both the end here of 4G densities and into 5G, I think you're going to see a mix of what we've seen historically with the migration from 1G to 2G, two to three and three to 4. Across the tower portfolio, I think you're going to see the carriers go through and add the 5G technologies. A lot of that will incur on existing sites. As they think about how to densify the network, we think disproportionately on the densification side, they're going to need to use small cells in order to get to that densification.", "So I think each carrier and by market will be making judgments around kind of the increased or upgrading of their network to 5G and using the existing assets to do so, as well as the mix of the necessity to improve and increase the density of the network, and that probably goes toward small cells. I think that we will see some continued lumpiness on that front. I also think that it will not be kind of across the nation the same answer. So as we look at it on a market-by-market basis depending on the spectrum bands that they have, the capacity inside of those spectrum bands and what they're trying to accomplish, I think we'll see some pretty significant variation market-by-market as to whether or not the share of wallet is going toward macro sites or small cells." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And I think, Rick, just one addition to that. One of the reasons we're excited about the position we're in is that whether the carrier spend tilts toward towers or toward small cells in any given period, we are the beneficiary of that. And we think that having a solution-based offering as opposed to a product-based offering of we can help with networks is just a better place to be, as these networks will become more converged and the spending patterns of our customers are going to have to be more nuanced and nimble. And we think we're in a just a really good position to be part of that conversation at a much more meaningful level across the board." ] }, { "name": "Rick Prentiss", "speech": [ "I guess, it's safe to say you're not going to put out like five year plans to different segments of the business?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "No, that's not our intention at this point. Like I said, though, we'll take feedback and understand where people want us to go. What we're trying to do, as I mentioned a second ago, is really provide the type of information that we look at to assess whether the investments we're making are making sense or not. And that's really where we landed is you're seeing a lot of the information that we look at in order to make sense of what these markets and what these investments are doing. And you'll see that progression over time in a way that I think addresses the underlying question of whether this business is working or not. A five year plan is obviously very difficult to make happen in a public context. But also, it's a set of assumptions that clearly won't come true. They may be directional. And we did those with our guidance and with our 7% to 8% target. So we think we're kind of right in line with what the core ask has been from the feedback and engagement we've got with our investors." ] }, { "name": "Rick Prentiss", "speech": [ "Yeah. Appreciate it. Stay well, guys." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Ric." ] }, { "name": "Operator", "speech": [ "Next question is from Colby Synesael with Cowen." ] }, { "name": "Colby Synesael", "speech": [ "Great. Thank you. Two, if I may. First off, I think your fiber capex, including small cells and then the fiber solutions business was $1.4 billion in 2019. Can you remind us or tell us what the guide implies, your expectations are for that in 2020? Just broadly, how you see that playing out over the next few years? One can make the argument, at least we potentially made the argument that given the significant investment in the last five years, you could potentially be in a position to sustain similar types of top line growth in your fiber business even at lower capex profile. I'm just curious how you think about that.", "And then secondly, and I apologize for going back to this, but can you give us some color on what your services business looked like in the month of July? And I'm getting a lot of questions, and I'm sure other analysts are as well in terms of just investors really trying to get some more color on how you feel confident in maintaining your guidance for the back half of the year. And whether or not that's evident with what you're already seeing in July? Or does it still assume some significant ramp beyond what you're already seeing beyond what you're actually having in terms of conversations, and it's still somewhat of a hope opposed to real hard conviction?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. Thanks, Colby. On the first question, our guide for 2020 is about $1.2 billion of capex in the fiber business for both fiber solutions and small cells or fiber segment. And with your question on lower capex to sustain growth, it really is going to be predicated on how much colocation versus anchor builds we can have and whether we're building out additional portions with markets we're in or whether we're leasing up on the markets that we already have. And you can see that in some of our market analysis, something like Los Angeles, where we're actually adding a significant amount of yield, 230 basis points of yield over the 3.7 years that we've had these assets and a lot from the acquisition from the time of acquisition until now. That's more because of the co-location that's happening.", "And if we do that, yes, capex will come down. If we continue to build out markets, which we think, as Jay pointed out, is a good investment as long as they continue to meet our investment hurdles and the lease-up, we believe, is a reasonable assumption going forward, then that the capex intensity may be where it is now for a period of time. But much like the tower business, once we maintain a stable asset base and slow down that capital, we believe that is when the yields will expand significantly. It's just hard to tell from where we sit today when that might happen. Given the substantial ramp that we're looking at and what Jay alluded to a minute ago in the 5G build-out of small cells, it's just hard to know if it's going to take a few years or not for that stability in the asset base to happen and how that happens and where it happens, at which location.", "So we'll like I said, we'll give guidance in three months about what 2021 will look like. And hopefully, that will give another data point to inform what you're thinking on. But yes, there's potential that our growth rate can sustain and we bring capex down. There's also potential that our growth rate could expand and then we bring capex up, depending on the level of activity that we see coming." ] }, { "name": "Jay A. Brown", "speech": [ "On your second question, Colby, around what would we look at when we give the guidance. Certainly, we look at a number of factors. One of those factors is what is our most recent activity. And to your question, we definitely looked at the activity that we saw in July of this year as we consider what we were going to do with our outlook for the full year. We also look at what is our application volume for the year as well as the conversations that we're having with carriers and the activity that appears to be coming. So it's a wholesome look in terms of all of the various factors that one would look at in order to try to figure out where we believe the activity is going to go. And I think in the comments that both Dan and I have made in our call and as you saw in the press release, I think we're trying to point to the fact that we see every indication of an environment where activity and traffic is increasing and being exactly precise as to when that services activity of preconstruction work will show up. We do think it's we're going to start to see a meaningful increase in the second half of this year and then carry over into 2021." ] }, { "name": "Colby Synesael", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "And we'll go to Tim Long with Barclays." ] }, { "name": "Tim Long", "speech": [ "Thank you. Appreciate your time. One question, one follow-up, if I could. First, could you just give us a little update on edge compute, and you've got the deal with Vapor IO. So any developments there? And any change in outlook?", "And then secondly, on the fiber business. I appreciate those target cities. Probably a difficult one to answer, but could you just give us a little color on how yields are different in markets kind of based on competition of fiber assets? I'm assuming some places are much less competitive and such more so. So what kind of a factor does that play into yields in some of these larger cities?" ] }, { "name": "Jay A. Brown", "speech": [ "You bet. On your first question around edge compute, I mean we continue to see a significant amount of value and opportunity around that network or access edge, as we've described it, which really requires a combination of fiber and network integration. And Vapor has our investment in Vapor has continued to give us a pretty good view as to where we think the world is headed on that front. We're operational in about four markets today, and we're building out a number of other markets. It's not material to our overall results today, and I don't expect it will be in the near term, but I do believe edge compute is another example of why, as Dan mentioned in one of the questions earlier, this combination of providing a network solution to the carrier, the combination of towers and fiber gives us a really unique view as to where networks are developing and where the opportunity is.", "And edge compute is one of those that it's not in our model, it's not in our guidance for this year, and we're not thinking about necessarily a big impact in 2021. But over time, it's a way of adding additional revenues and cash flow to these assets that are really core to their network. They carry our customer network, and we believe there's opportunities that will result in higher yields on the investment that we've made as a result of the wholesome product offering that we have when we're talking with our customers. On the markets, what I would tell you is it's from a competition standpoint, we have a very, very high win rate when we have existing fiber in the market. So as we go back and look at RFPs that have been issued by our customers in the markets where we already have existing fiber, we win a very, very, very high percentage of those RFPs as a result of having an asset that's there. That asset being present means that there's a shorter time to deploy for the carriers, which is attractive. And it means the shared solution that I was speaking to in terms of cost savings to the carrier is present.", "And so the competition doesn't really affect our yields. The discipline that we have around the requirement to be able to invest capital is in place, whether the regardless of the situation at a market-by-market basis. So if we're able to invest capital in the 6% to 7% initial yield and we think there's significant opportunity in the future and it's the market that we're not in, well, then that market is attractive to us and something we would potentially pursue. If those characteristics are not there and that it could be competition or any other number of factors, then we may just pass on the RFP as we do frequently. In the places where we do have existing fiber and there's the opportunity to do colocation, I think the market analysis shows this and our practice in other places has shown this. We have a very high win rate when those RFPs are rolled out in places where we have existing fiber." ] }, { "name": "Tim Long", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "We'll now go to Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "When you originally gave your outlook this year before COVID, you had talked about some of the challenges at gaining the approvals you needed from municipalities and utilities to deploy small cells. And so just kind of limiting you to a maximum of 10,000 node deployments per year. I would imagine that COVID hasn't made that any easier. And if you sort of go back and think about the outlook you have for small cells, it seems like the funnel could theoretically increase significantly. Are you concerned at all that if these roadblocks aren't knocked down, you actually won't be able to accelerate the business as the demand backdrop improves? And then also, do your customers, the carriers have any advantages that you don't in terms of being able to move more quickly at a municipal level? Or do you all sort of operate within the same set of processes?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. On the first question, and I know many of our employees listen to our quarterly calls, and I've just got to tell you what a tremendous job they have done, both on the tower and the fiber side managing through COVID. We have about 1,200 employees who are engaged in operating roles out in the business. And all throughout COVID, they have continued to perform at an extraordinarily high level working with municipalities and utilities in order to deploy nodes. And we've had a number of wins even in the midst of COVID. So the day-to-day work, yes, it looks a little different as a result of COVID. But I think I'm so proud of our team who have not made excuses for the challenges that have arisen as a result of COVID, but have figured out ways to navigate in the new environment.", "And we don't know how long we're going to be in this environment. So our role and job for our customers is to figure out a way to navigate and get their network on air. And thus far, I think the team has done a tremendous job of that, and I have full confidence they'll be able to continue to navigate those challenges. On the customer side, I don't believe there are any advantages that our customers have at the market level working through those utilities and municipalities relative to us. I believe some of the work the FCC has done has set forth some standards and guidelines around pricing and terms that benefit everybody in the market. And obviously, our interests are completely aligned with that of our carriers. To the extent that we can get them on air on a lower cost solution than them building against themselves, they want us to do well.", "And the same is true for us in the places where we're not building fiber and they're having to self-perform. It's in both of our best interests to work together to figure out ways to navigate at the local municipality and utility level, and we frequently work together in order to accomplish that. So I think there's shared interest rather than a competition on that front. Doing it well goes better for everyone." ] }, { "name": "Brett Feldman", "speech": [ "And just to clarify, it does seem like at least right now in the midst of all this, you still have been able to generally meet the deployment goals you've set out earlier this year. Is that fair?" ] }, { "name": "Jay A. Brown", "speech": [ "No, that is fair. That's what we've we set the targets ahead of time, and we've learned to navigate in the new environment that we're in and believe we can continue to do so." ] }, { "name": "Brett Feldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And Michael Rollins with Citi is next." ] }, { "name": "Michael Rollins", "speech": [ "Hi, thanks. Good morning. A couple of questions. First, on the strategic side of the fiber business. Can you give us an update on the strategy around market exposure? I think in the past, you talked about top 25 markets being the larger focus for the company. I'm curious how that stands today and how you see that evolving over the next few years. And then just a question about some of the new disclosures. So I think we've learned from a lot of the companies that we cover that there are many different ways to define return on capital. And so I'm curious if you could unpack the philosophy within Crown with what you included in the calculation and maybe some of the things that you didn't include in the calculation, whether it be SG&A for the fiber solutions business, maintenance capex or the adjustment to add back, I think, some labor costs in that fiber return calculation?" ] }, { "name": "Jay A. Brown", "speech": [ "Michael, on the first question, and I'll take that one and then I'll let Dan take the second one. We are as you correctly stated, we have been focused and have spent the majority of the capital in the top 30 markets in the U.S. We think that will be the biggest driver of long-term lease up around small cells. And so there's no change in terms of our overall view of where capital continue to go and where we think investment by the carriers will be primarily as we move from 4G into 5G. I certainly believe the carriers are going to be going to markets beyond the top 30 markets, and there may be occasions where we choose to make investments and pursue opportunities as we move beyond market top 30 markets in the U.S. We'll make those decisions on the same basis that we got us into the top 30 markets in the U.S. That is around what are the initial returns on capital and then what do we think the lease-up opportunities are around that capital over the long term and do they meet our internal hurdles of driving long-term shareholder value. But I think you should expect, we'll continue to be mostly focused on kind of those top markets, top 30 markets here in the U.S." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. And Michael, on your second question on our return on capital definitions. What we're trying to provide with that is a view of what we think a more normalized return will be over time when we're not investing so heavily in the building out of assets. So what we did is we try to be very clear on these on the calculations we've done, so people can look at them however you want to look at them. But the way we think about it is what would be our yield on the asset if we were to operate the asset as it is today? And those indirect labor costs, which I think is the biggest adjustment we made, are people who are working on building out our fiber assets over time and therefore, not part of the ongoing operating cost structure that we think will be required in order to maintain that asset base for the long term.", "And we thought that burdening currently the return with what is going on in order to build new assets is not exactly a is not representative of what we think the asset is yielding as it sits today. Thinking about it a little differently. It's like including acquisition costs in an ongoing basis. It just doesn't really provide the insight into what the long-term return aspects will be of the business. What we're trying to do in giving all of that detail and in providing the calculation itself is to give away how we think about these things and why we think about these things. They give you the ability to look at it however you want to look at it. So we're, again, happy to take feedback on this is kind of our shot at what we think is the right way to look at it and how it is internally how we look at it. But we will be happy to take feedback and think through if there are other ways that more closely align with what investors would like to say." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "We'll now go to Spencer Kurn with New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey. Thanks for taking the question. So I have a question on colocation that you've seen in small cells. You've made it pretty clear that the yields and returns you can generate along small cells are largely a function of node density. And you talked about deploying anchor builds with two to three nodes per mile. But if we look over the last couple of years, we haven't really seen those levels of lease up. I think in 2019, you added around one node per new fiber mile. And for the business to really inflect, I think we would need to move toward higher nodes per mile deployed in the future. So I was just wondering if you could comment on why we haven't really seen the levels of node density for anchor builds, at least that you speak to in the reported figures so far?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Spencer. And I think this is where the five markets that we laid out are so helpful, right? Because you can look at Orlando, where we've got 19% recurring cash yield on invested capital, and we're at about 2.5 nodes per mile. And then you look at Denver, and we're at 3.8 nodes per mile and we're at a 5.5% yield. So the metric that you're referencing in terms of density of nodes is an input that we look at, and we certainly watch what is our density of node. But we're much more focused on what is the return on invested capital, what's the return on that capital that we've invested and driving that return over time.", "And as you look at the whether it's the whole portfolio, as you look at these individual markets at points in time, you're going to see some movement there that if all you zero in on is just one single metric nodes per mile, you'll miss the broader picture of what's happening in terms of return and yield. And the way we're negotiating contracts with customers, whether it's colocation or anchor builds, we're negotiating those contracts based on a return on invested capital. So the metric is interesting. And certainly, it's something we track and we look at, but we're much more focused on the financial returns than we are a singular metric around nodes per mile because it's not necessarily the best predictor.", "I think you can look at the tower business on the slide where we laid out tenants per tower. And you can see that dynamic playing out in tenants per tower as well, where people would say, obviously, in the tower business, you want to watch how many tenants are on each tower, and that's the best predictor of returns. And it is a good predictor of returns, but it's not a perfect correlation. You can see in the tower business, we've been able to grow yield on those assets without a direct correlation to a change in tenancy. And I think the same thing has played out thus far in small cells and will continue to play out. So the driver will be this big wave of demand, which will drive density across of nodes per mile. But we're watching carefully the financial returns and think that's the best predictor of it." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. And just one more question, if I may. Big question I get is about small cell pricing upon renewals. And the concern is that unlike a tower, we've got very few no competition. With fiber, you've got competitors pretty close by. And so I was wondering if you could comment on pricing trends that you've seen around renewals, whether you're able to continue escalating the nodes at the original contract rate? Or have you seen any signs of pricing pressure?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Spencer. As you can see on the slide, slide four, when we talk about the escalations and the contractual terms and churn and other things, we've seen no difference in the small cell business relative to towers. As contracts have come up for renewal, they've been renewed at a rate that is in line with where towers are, if not a little bit higher. We've seen no roll-off of tenants. And this goes to the critical network nature of these assets. The carriers are putting in these small cells and locations in order to offload traffic off of the macro site in order to improve their network. And just like on macro sites, they're mission-critical to their network. And they're designed in order to help that network perform better.", "So as we get to renewal, the carriers have invested significantly around the exact location where that node is and have added additional nodes and macro sites in order to provide a solution to the consumer that is ubiquitous. And as they come up for renewal, there's nothing about that renewal that, frankly, we think will change the necessity of the location that they've picked and then design their network around the rest of the network. The other point I would make about small cells and pricing and towers that I think is helpful and certainly has played itself out as you think about the returns and the yields here.", "One of the things that our carrier customers have desired as we've gone down the path of small cells is they've desired to put in additional capital upfront beyond just us putting up 100% of the capital as we deploy small cells. And if you look at the math, as Dan was walking through earlier in terms of total capital that we'll spend this year of about $1.7 billion and prepaid rent that the carriers put in of about $600 million upfront, so on a net basis, we're putting in $1.1 billion of capital. In essence, you can think about that as each carrier customer goes on, they're paying for 1/3 of the infrastructure an upfront capital or some component of that upfront capital, which means from a competitive standpoint, over time, as renewals come up, they've already reduced the capital base and therefore, the market rent, if you will, is already embedded in the upfront investment that they've made. So our assets sitting there, our net investment of the assets sitting there is at a price well below what a market price would be if someone were to have to go and overbuild it or try to put in new fiber or put in a new small cell.", "And that dynamic, I think, also is helpful. I don't believe it's solely the driver historically. I think it's much more like towers in terms of network design. But if you want to do the practical math associated with it and think about how does it play out over time, the entry point for somebody else coming to market, we're sitting there with an asset that's priced significantly below what the cost of deploying a new asset there would be. And we think, over time, that gives even greater strength to the fact that at renewal, we'll see very high renewal rates for a long period of time." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. It's a great plan. Thanks." ] }, { "name": "Operator", "speech": [ "Next is Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey, thank you for letting me in. I appreciate disclosures and look forward to see how the stats evolve over time. Just having it aside, if you're willing to publish the historical data for those five cities for 2018, 2019, I think folks are finding them interesting just we have initial time series to work with. Jay, you've emphasized that it's hard to put together a specific long-term fiber forecast. Since the business is in its early stages, and there's a wide variety of potential outcomes from here, I think that all makes sense. How do you then judge whether or not the fiber strategy has been a success sort of in a bigger picture sense? Is there some yield that you have in mind five or 10 years out that you'll reflect upon and say, yes, the strategy worked? Are you saying that it's so past dependent that you can't currently define what's going to count as a good outcome looking ahead?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think the simple measure upon which we measure the entire business is, are we growing the dividend, which is from a payout standpoint, tied to our operating results. Are we growing it in line with the target that we've laid out? three years ago, we told the market as we did the investment in Lightower that we would raise our long-term growth rate from 6% to 7% in terms of dividend and AFFO per share growth on an annual basis. We're going to increase it to 7% to 8%. And over the last three years, we've delivered that dividend growth tied directly to operations at the 8% level, increasing the dividend by about 26%, 27% over that period of time. I think that is the best measure of value over time as to how the business is doing.", "As we laid out on page eight, Nick, I think this is the way to think about what are the potential value opportunities here around small cells? So if you believe kind of the total addressable market that we lay out on page seven and the opportunity there, to the extent that we capture the fair share of that addressable market across the assets that we own, we believe we have an opportunity here to outpace our projected growth rate over a 10-year period of time of 7% to 8% and potentially do much better than that. And conversely, if things don't go as well, then we've shown some of the downside there. And as we look as that, as that as we look at that graph, and it's something that we've done as we look at analyze our own investments and how are we positioning the overall firm, the thing that continually strikes Dan and I about this is how assymetric the reward versus the risk is here.", "And we believe the business will play out 4G going into 5G densities, and all we've had to underwrite is 4G densities, and we've positioned ourselves for significant upside. And as owners of the business, we look at this and think this is a great place to be. We're leveraged toward the upside. We're leveraged toward where the world is headed. We're staying relevant with our customers because this is where their networks and their deployments need to go. So we've positioned the company for future growth. And we've positioned that growth with limited downside risk if we're wrong. Certainly, we're in the business because we think it will create long-term potential value. If at some point, the scenario comes out that, that doesn't play itself out, then we'll pivot away and make a different decision. But all everything that we're seeing as we laid out on this call this morning and this sort of reward versus risk trade, we like where the business is positioned and think it gives a lot of optionality to the upside with limited downside risk.", "And in the in between, between now and the long term, how do we measure the performance? The way we measure the performance is what we were showing on the five fiber markets that we laid out. These are the things that we're looking at internally day in and day out. We look at the performance at the market level to see whether or not is the strategy playing out? Are we seeing colocation that's driving yield? And as we look at each of our markets as representative as represented by these five markets on the page, we are seeing that, and that emboldens the confidence that ultimately, if we do it well in the micro, ultimately, that will show up in the macro, and that leads to sort of an outcome that shows up on page eight." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Got it. Thank you, Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Okay." ] }, { "name": "Operator", "speech": [ "We'll go to Batya Levi with UBS." ] }, { "name": "Batya Levi", "speech": [ "Great. Thank you. A couple of follow-ups. I think the small cell construction capex in the quarter was down sequentially slightly, but the nodes you brought down were minimal in the quarter. Can you help us reconcile why there is a difference? And if we should still expect the 10,000 build for the year?", "And a second question on the revenue per small cell node. It looks like it came down on an annual basis. Is that a function of a lower contribution from prepaid rent? And how should we think about revenue per node for the anchor tenant incremental nodes versus a second tenant that you're adding?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. On the first question around small cell capex, it wouldn't be too tied to quarterly movements around our capex. Obviously, we're doing work on nodes that will be turned on in the third quarter and the fourth quarter and subsequent periods. So I don't think that math is going to give you a real good indication of the cost. Our general cost per node has stayed at around that $100,000, including cost of fiber, and the real estate cost of building a note, and we haven't seen that really changing at the market level. We do believe that we will continue to deploy about 10,000 nodes in calendar year 2020. Your last question there around revenue per node. I think this is one of the things that's helpful about laying out these five markets, as you can back into the math around contribution in each of those markets.", "We price this business on a yield basis. So there's not a we're not thinking about it necessarily on a revenue per node. We think about it as a return per node or a yield on a dollar of invested capital. So the pricing is going to be determined market-by-market or quarter-by-quarter, if you were laying out the numbers there are going to be determined based on where do we turn nodes on and what was the underlying costs associated with building those nodes, and that will impact our revenue per node. So revenue per node is not a metric that I would point you toward as being indicative of how the business is performing, better off looking at how yields on invested capital are going." ] }, { "name": "Batya Levi", "speech": [ "Okay. Got it. Thank you." ] }, { "name": "Operator", "speech": [ "We will now go to Brandon Nispel with KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thank you for taking the question, very quick. Dan, can you help us understand what was the quarter-over-quarter or year-over-year change in the backlog that's signed, but not commenced new leasing so far in 2Q? And maybe help us understand where that would have been and where that should go in the second half of the year?", "Second, really on DISH. I mean, I know it's not in guidance, but what would it take in your view for DISH to be an incremental 50 to 100 basis points contribution to your growth in the next couple of years?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, Brandon. I'm sorry, I missed your first question. I didn't quite follow it. Could you just restate that? I'd really follow that." ] }, { "name": "Brandon Nispel", "speech": [ "Yes. I guess what I'm curious about is what your backlog looks like in terms of signed but not commenced new leases. How that trended from a quarter-over-quarter and a year-over-year standpoint? And really help us figure out and help us understand where that should go in the second half of the year because that will help inform our assumptions for 2021." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, sorry about that. I got it now. The backlog is relatively consistent year-over-year as we look at it right now. What we do expect as we see the activity levels picking up in the back half that the backlog will increase. And as applications come in to add more to the tower side of the business, that those will lead into 2021. So we would expect the back half of the year to have more activity, more leasing and more backlog as we look into the end of the year and then into 2021." ] }, { "name": "Jay A. Brown", "speech": [ "Brandon, on your second question around DISH. Obviously, they've made significant commitments to the regulators around what they're going to deploy and have been very public about their intention to build a nationwide network. And we are focused on being a terrific partner with them and working hard to ensure that they're able to meet those targets that they've set out for themselves over the next couple of years. And as we get into the impacts to future years, I think I'll wait until October to give you some view of what we think the impact in 2021 is going to be. But we're zeroed in and making sure that we're being responsive to what could be a significant customer over the next few years as they build out a nationwide network." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Thank you. Maybe we have time to take one more question, this morning." ] }, { "name": "Operator", "speech": [ "And our final question will come from Tim Horan with Oppenheimer." ] }, { "name": "Tim Horan", "speech": [ "Thanks, guys. Could you give us a breakdown on percentage of fiber capex that's for geographic expansion? And where do you think you are in the geographic expansion for the top 30 markets?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. I think generally, what I would tell you is about 70% of the activity that we see on fiber side with small cells are anchor builds. So think about that as geographic expansion. It very well may be in the top 30 markets, but it's in portions of the market that we don't have fiber existing. And then about 30% of the activity is going to be in places where we already have existing fiber and we're colocating. So that's not a perfect correlation to the actual capital dollars because co-locations obviously require far less capital. But in terms of activity, if you're trying to get a sense of how much of the activity that we have going on is new market expansion, and I would put into that new market expansion really the markets that we're already in, where we're investing and expanding the plan inside of those markets as compared to going on existing fiber is probably the best indication of that." ] }, { "name": "Tim Horan", "speech": [ "Yes. That's great color. And then, Jay, what gives you the confidence that the small cell demand will be there? Only because it's been the growth has been a little bit below investors' expectations and T-Mobile's engineers seem to be a little discounted with small cell. Verizon seems to want to build their own. I mean what gives you the confidence that, look, the demand is going to be there? These million nodes, we have a lot of visibility on it. Because you obviously have 10 times more visibility than we do on the outside." ] }, { "name": "Jay A. Brown", "speech": [ "I think there's a few things that are confidence building around that front. One is we firmly believe in the necessity of it. So as we look at data traffic growth that's occurring in the market, there is not a solution for that for meeting that growing demand from the consumers by solely using macro sites in order to meet that demand. So there is a tailwind of growth tailwind to the growth that is going to continue to drive the need for additional investment in infrastructure. And small cells are the next best, most cost-effective way for the carriers to solve that challenge of growing demand on the networks. Second thing that gives me a great deal of confidence that the business is going to work is that the carriers are very good at managing the cost structure of their network.", "And we have watched over the last 20 years as the carriers have migrated their entire network onto other people's towers as a result of it being a much lower cost solution than owning it themselves. So in the places where they can significantly lower their costs, as I mentioned earlier in the call, they can lower their cost of deployment by about 50% by using our infrastructure versus their own cost of ownership. That cost savings is meaningful and significant and they're thoughtful allocators of capital and managing their income statement, and I think that ultimately will carry the day. As I said in my prepared remarks, obviously, no one can accurately predict exactly how much is going to be needed.", "But if thematically, you believe in the U.S. that a decade and two decades from now, people will use wireless networks in greater ways than what they do today, then you basically believe that there's going to be an increase in traffic. And the assets that we own, both towers and small cells, are standing in front of that growing demand. And I think the infrastructure assets will do really well over a long period of time as a result of positioning themselves right in the midst of a big macro trend that's going on in the world. And that's those two reasons give me the most confidence that this strategy is right and that we're going to deliver terrific shareholder returns over the long term.", "So I really appreciate everyone joining us this morning. Thanks for the time, and we look forward to the conversations and the feedback over the coming days. Thanks so much." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]." ] } ]
CCI	2022-04-21	[ { "description": "Senior Vice President Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt Niknam", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Phil Cusick", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Sami Badri", "position": "Analyst" }, { "description": "LightShed Partners -- Analyst", "name": "Walter Piecyk", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Greg Williams", "position": "Analyst" }, { "description": "Green Street Advisors -- Analyst", "name": "David Guarino", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Q1 2022 earnings call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Ben Lowe, senior vice president of corporate finance.", "Please go ahead, sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Cody, and good morning, everyone. Thank you for joining us today as we discuss our first quarter 2022 results. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer; and Dan Schlanger, Crown Castle's chief financial officer.", "To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and the actual results may vary materially from those expected. Information about potential factors, which could affect our results, is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today, April 21, 2022, and we assume no obligation to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. With that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Ben, and good morning, everyone. Thanks for joining us on the call. As you saw from our first-quarter results yesterday and our increased full-year outlook, the strength of the U.S. market continues to stand out.", "We are seeing the benefits of a strong leasing environment as we support our customers' deployment of 5G. As a result, we expect to deliver another year of 6% organic tower revenue growth in 2022, once again leading the tower industry in the U.S. I'm also excited about the progress our team is making to scale our small cell capabilities to accelerate the pace of deployments from approximately 5,000 nodes we expect to deliver this year to more than 10,000 per year starting in 2023. Looking further out, I believe our strategy, an unmatched portfolio of more than 40,000 towers and approximately 115,000 small cells on air or under contract and 80,000 route miles of fiber concentrated in the top U.S.", "markets, have positioned Crown Castle to generate 7% to 8% growth in dividends per share for years to come. Dan will discuss the financial results and increased outlook, so I'll concentrate my comments on our strategy to deliver the highest, risk-adjusted returns for our shareholders by growing our dividend and investing in assets that will generate future growth. Consistent with our long-held view, we remain focused on the U.S. because we believe it represents the best market in the world for wireless infrastructure ownership when considering both growth and risk.", "As you can see on Slide 3, this strategy has produced tremendous results for shareholders with a combination of significant growth and a high-quality dividend. Since the establishment of the 5G standards and the start of the associated network upgrade in 2017, we have delivered double-digit annual AFFO per share growth, which, when added to our approximately 3% dividend yield over that same time period, generated returns of approximately 14% per year to our shareholders, which has led the tower industry over this time period. Our growth has been driven by our customers investing $30 billion to $40 billion annually in their network, with the deployment of more spectrum and cell sites to keep pace with the rapid growth in mobile data demand. Because the market fundamentals are so compelling, the U.S.", "market continues to attract an outsized amount of capital investment by network operators. According to industry estimates, wireless operators in North America are expected to account for more than 30% of global mobile network investment through 2025, which is staggering when you consider those same operators address less than 5% of the world's population. This outside investment in the U.S. is understandable when you look at the fundamentals in the U.S.", "relative to other markets. As you can see on Slide 4, the amount of data consumed monthly per user and the ability for wireless operators to charge for that data consumption, therefore, justifying further investments, are significantly higher in the U.S. This slide illustrates the virtuous circle that has developed in the U.S. wireless market and that we believe is sustainable over the long term.", "Over the last couple of decades, U.S. carriers have invested hundreds of billions of dollars to develop wireless networks, which has created a platform for innovation and ubiquitous connectivity. As a result of the quality of the network and the user experience, U.S. consumers have used their wireless devices more and more, and they have been willing and able to pay more for that improving mobile experience.", "In turn, U.S. carriers have taken the higher cash flows generated from customers and invested in their networks, and the cycle continues as evidenced by U.S. carriers investing more than $200 billion into their networks, including spectrum and capex over the last four years. We believe we are best positioned to benefit from this virtuous cycle in the U.S.", "with towers, small cells, and fiber, all of which are necessary for the deployment of 5G. With the three established network operators and a new intranet scale in DISH, all upgrading and developing nationwide 5G networks, the fundamentals in the U.S. market are as positive as I can remember during my 20-plus years at Crown Castle. We have invested more than $40 billion of capital to date in towers, and more recently, small cells and fiber that are mission-critical for wireless networks to pursue this opportunity.", "We are currently generating a 10% return on our total invested capital, with the opportunity to increase that return over time as we add customers on our tower and fiber assets and grow our cash flow. To that point, we are seeing significant demand for our infrastructure solutions with our customers upgrading thousands of tower sites for 5G while also preparing for the next phase of network densification that will require tens of thousands of small cells as reflected in our record backlog of 60,000 small cell nodes. Importantly, we benefit from these superior growth trends while being leveraged solely for the favorable dynamics in the U.S. wireless market.", "As compared to international markets, we believe the U.S. not only has the best growth profile as I just discussed, but it also has the lowest risk, resulting from a supportive market structure that incentivizes carriers to spend on improving their networks as they compete on network quality, resulting in less churn on our assets, no exposure to loss of value from foreign currencies and social and governmental policies that are stable and supportive of improving connectivity and expanding broadband access. Because we believe the U.S. has both greater growth potential and lower risk, we are focusing our investments solely in the U.S.", "We have an unmatched portfolio of assets that is producing growing cash flows by providing access to existing and new customers that are building 5G networks, and we are investing in new small cell and fiber assets that our customers need for their wireless networks, which we believe increases our ability to capitalize on 5G growth trends. As a result of these actions, I believe Crown Castle offers shareholders a unique opportunity to benefit from the deployment and development of wireless networks in the U.S. In the near to medium term, we expect to, once again, deliver the highest tower revenue growth rate in the U.S. with 6% organic growth, and we are preparing for an acceleration in small cell deployments beginning in 2023 following the recent inflection in demand from our customers.", "Longer term, we believe we are the only communications infrastructure company positioned for the future of 5G networks that will require network densification with small cells at scale. By continuing to invest in small cell and fiber assets, we believe we will be able to extend the runway of 7% to 8% annual growth in dividends per share. When I consider the durability of the underlying demand trends we see in the U.S. that provides significant visibility into the anticipated future growth for our business, the deliberate decisions we have made to reduce the risks associated with our strategy, and our history of steady execution, I believe Crown Castle stands out as an excellent investment that will generate compelling returns over time.", "And with that, I'll turn the call over to Dan before we take some questions." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay mentioned, we are encouraged by the continued high activity levels we are experiencing, which are driven by our customers' 5G upgrade and densification initiatives. Starting with our first-quarter results on Page 5, we began the year on a very positive note, with AFFO per share growth of 9% and adjusted EBITDA growth of 22% that were driven by strong demand from our customers. As I mentioned last quarter, we are now reporting organic revenue growth exclusive of the impact of prepaid rent amortization or what we refer to as organic contribution to site rental billings.", "In the first quarter, we generated 6% core organic revenue growth, driven by more than 9% from core leasing activity and contracted escalators, net of approximately 3% from nonrenewals. Revenues were also positively impacted by approximately $15 million from items not expected to recur in 2022, with approximately $10 million in fiber solutions and the balance in towers. Turning to Page 6. I want to briefly walk through the increase to our full year 2022 outlook.", "As a result of higher tower activity levels, we are experiencing -- we are increasing our expectations for site rental revenues by $40 million due to higher expected straight-lined revenues as well as increasing the expected contribution from our services business by $20 million. These changes result in a $60 million increase to adjusted EBITDA, while the outlook for AFFO remains unchanged because the higher straight-lined revenue does not contribute to AFFO, and the additional contribution from our services business is offset by a $20 million increase in expected interest expense resulting from higher interest rates. Turning to Page 7. Expected organic growth to site rental billings remains unchanged at 5% for the full year 2022, consisting of approximately 6% growth from towers, 6% growth from small cells, and 3% fiber solutions growth.", "Because organic growth to site rental billings is a new metric, we have included a comparison of this metric to our previous organic growth in site rental revenues on Pages 10 and 11 of our supplemental materials. Turning to the balance sheet. We finished the quarter with 4.8 times debt to adjusted EBITDA, approximately nine years of weighted average term remaining, a weighted average interest rate of 3% and 85% of our debt tied to fixed rates. We expect our discretionary capex to be approximately $1.1 billion to $1.2 billion for the year or $700 million to $800 million on a net basis when factoring in $400 million of prepaid rent contributions from our customers.", "We are managing the balance sheet so we can continue to pursue investment opportunities consistent with our strategy that we believe will add to long-term dividend growth while reducing the overall risk profile of the business to further enhance the value created for shareholders over time. With that in mind, we were able to opportunistically access the bond market during the first quarter to increase our financial flexibility while locking in attractive, long-term cost of capital. As a result, we finished the quarter with more than $3 billion of available liquidity under our credit facility and only $750 million of debt maturities over the next 18 months. So to wrap up, we have invested over $40 billion in mission-critical network infrastructure assets in the U.S.", "to position ourselves to take advantage of the favorable growth and risk profile of the best market in the world for communications infrastructure ownership. We are excited about the demand we are seeing across our shared infrastructure offering as our customers deploy 5G at scale. We expect to, once again, generate industry-leading organic tower revenue growth in the U.S., and we believe our comprehensive set of solutions across towers, small cells, and fiber, which are all necessary to build wireless networks, will allow us to deliver on our annual target of 7% to 8% growth in dividends per share. And with that, Cody, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] We'll take our first question from David Barden with Bank of America. Please go ahead." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks so much for taking the questions. So I guess the first one, Jay, since you called them out, DISH being a new carrier at scale, could you elaborate a little bit on what you mean when you say that -- I think that when we look at the national carriers, each probably spending something on the order of $10-plus billion on the networks in the next year or two. I'm wondering if you could give us a picture of kind of how you see DISH unfolding relative to them as a contributor to potential growth directionally in 2022, '23.", "And then just, I guess, a question, Dan, on the $15 million onetimer, you didn't call it out as a moving part in the AFFO guidance. I think that's because maybe that onetimer was already included in your outlook for 2022 when you set it. I wonder if you could kind of elaborate a little bit more on what it is and why it got called out now as opposed to not being called out previously." ] }, { "name": "Jay Brown", "speech": [ "Thanks for the questions. On the first question around DISH, we have obviously seen a significant commitment from them as they've committed to go on 20,000 of our towers nationwide. So in terms of behavior, that's a significant number of our sites, nearly half the sites that we have in the U.S., they have a commitment to go on. So that's significant in terms of the scale of the commitment that they've made.", "And then as we look at the activity that we're working on them with, they're certainly behaving as a company that we would expect would get to nationwide coverage. So it's been a really long time in the U.S. since there has been a new nationwide deployment of a network from scratch, and the activity that we're seeing from DISH is consistent with their desire to build out nationwide." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. And David, to address the second question on the $15 million onetime or nonrecurring in the first quarter. As I mentioned in the prepared remarks, it's $10 million in the fiber solutions business and $5 million in towers is related to network integration activities that are going on around T-Mobile and the Sprint consolidation. And we expected that to happen over the course of 2022, and it was therefore included in our guide.", "We just didn't expect it all to happen as quickly as it did and hit the first quarter. And the reason we called it out now is we didn't want people to think that that was part of our growth that could be annualized for the year and then look like our year was going to be better than we expected it to be. So we wanted to make sure everybody understood that while it was expected for the full course of the year, we didn't want it to be a first-quarter event that would be recurring every quarter and how people are thinking about 2022." ] }, { "name": "David Barden", "speech": [ "And, Dan, just a quick follow-up. If I was looking at the new leasing guide, $230 million to $270 million now adjusted for the elimination of the amortization of upfront capex, is that midpoint $250 million a good starting point for thinking about 2023? Or does that $250 million have the $15 million of nonrecurring stuff in it, and so the reality is it's actually $235 million?" ] }, { "name": "Dan Schlanger", "speech": [ "No. I think $250 million is a good starting point for 2023. We have nonrecurring revenues in our business on a consistent basis. We just -- so it's kind of a weird nomer, but they're just small.", "And so it's not something that we're going to call out every time we give the guidance. It's just in this particular case, we wanted to make sure that you understood that it happened faster. So it didn't really impact overall what 2022 is going to look like." ] }, { "name": "David Barden", "speech": [ "OK. That's helpful. Thank you so much, guys." ] }, { "name": "Dan Schlanger", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you very much. Good morning. There was a helpful chart looking at the U.S.", "in a global context. Perhaps just layer in the impact of fixed wireless. We saw some really good numbers out of T-Mobile earlier this week. Have you seen any change in behavior from the carriers about maybe accelerating densification to address that opportunity? And perhaps just a little bit more color on the capital raise and the comments about looking for incremental investment opportunities.", "How are you thinking about what you're going to be spending that on over the course of the year?" ] }, { "name": "Jay Brown", "speech": [ "On the first question around fixed wireless, we're certainly seeing the behavior of the carriers, and I've talked publicly T-Mobile did this week, as you mentioned, about the opportunity there. I would put that in the broader category of the speeds that we're seeing with 5G and the very low latency opens up the opportunity for a vast variety of new applications and innovation. And I think, ultimately, 5G -- this is where 5G becomes so important as a platform for future investment. And in order to fully realize the value of that, the applications have to come.", "And so fixed wireless, I think, is one of those applications that's using the 5G spectrum that's really pretty compelling, again, with the high speeds and the low latency of the network and what we'll be able to accomplish. So it is a driver. And I think as we talk about things like the need for fiber in the network as well as small cells, network densification in order to get to that ubiquitous experience for the consumer is just critical. And so we think we're going to be through a multiyear growth and densification activity from the carriers as they build out 5G and then densify the network based on the expected growth in traffic that's coming across that network.", "So I think we're really well-positioned for where they're headed and excited to see some of the early returns and applications that 5G is enabling. On your second question around our capital spend, everything that we do goes through a really rigorous process internally of evaluating what we think the return on every dollar of capital is going to be. And so we're focused -- as we talked about in both Dan and my comments, the majority of the capital spending at the moment is focused around fiber and small cells in particular, as we're building small cells for the wireless carriers. We think it's going to remain in that category for a number of years to come.", "And we're evaluating those opportunities to invest in fiber and small cells around what we believe the long-term lease-up will be for those assets. So picking the locations where we have a carrier committed to go initially as our anchor tenant and then choosing to go into places where we think there's going to be additional lease-up, and therefore, additional return on that capital, that will ultimately drive returns to our shareholders, much like what we've done in the tower business for years and years. So the way we're thinking about the capital spend and the opportunity is that it's growing, and we'll update you on the scale of that in the years to come. But as I mentioned in my comments --" ] }, { "name": "Simon Flannery", "speech": [ "Is that an existing metros or in new metros?" ] }, { "name": "Jay Brown", "speech": [ "No. The majority of what we're doing now is still in the top 30 markets, the NFL markets. What we see at the moment is mostly opportunities in the top 50, top 100 markets in the U.S. As it expands beyond that, we'll just have to look at what the returns are in those markets and what the opportunity for lease-up is to determine whether or not it justifies capital investment." ] }, { "name": "Dan Schlanger", "speech": [ "Simon, let me hit on one of the questions you asked on the capital raise itself. I think you were equating that with investment opportunities. We -- whenever we look at our balance sheet, we look at long term versus short-term, fixed versus floating, all those things. What we did earlier this year in the first quarter was term out some of the borrowings on our revolver by accessing long-term capital at a fixed rate.", "And that was -- and then part of that also was to pay down some debt maturities that were coming due in the next 12 to 18 months, just to prepare ourselves for a rising interest rate environment, not to prepare ourselves for incremental investments that we saw coming." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you, Dan." ] }, { "name": "Operator", "speech": [ "We'll hear next from Matt Niknam with Deutsche Bank." ] }, { "name": "Matt Niknam", "speech": [ "Hey, guys. Thanks for taking my question. So we've heard each of the national carriers, I know they're investing very aggressively right now, but I think each have telegraphed capex declines, either starting in 2023 or '24. So with that in mind, I'm just wondering how you think about Crown Castle's ability to continue delivering on that 7% to 8% AFFO per share growth target over the next several years in light of these, at least, contemplated capex clips that are coming? And then on the services strength that you called out and the increased outlook this year, just wondering if you can shed any light on whether it's a single carrier that drove the upside or whether the strength is a little bit more broad-based?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Thanks for the questions. On the capex around network improvement, I think I would step back and look at what has been invested by the carriers. I made reference to the fact that over the last four years, they've invested over $200 million -- $200 billion in both capital spending for network deployment as well as the acquisition of additional spectrum.", "That's about half and half roughly between investment in new spectrum and investment in capex. And most of that spectrum that's been acquired has been acquired inside of the last 12 to 18 months. So there's a significant amount of investment that the carriers have made in spectrum. And the absolute best environment for us as the infrastructure provider with the carriers is times when they have fallow spectrum, new spectrum and capital in order to deploy that spectrum.", "And so as we look at the long-term opportunities here for deployment of additional network resources by the carriers, we think the environment sets up really nicely for an extended period of time and a long runway of growth. And so when we look at our 7% to 8% growth in the dividend over the long term, we're obviously looking at a number of different scenarios as to how it plays out. But the length of time that we believe it will take as the carriers build out 5G is a very long period of time. So we think about it in terms of decades more than we think about it in terms of quarters or a year or two.", "And so we think the environment sets up nicely for an extended period of time of us being able to build on our dividend growth of 7% to 8%. I will mention, we talked about this last quarter just briefly here that we have -- in 2025, we have the tower churn of about $250 million related to the T-Mobile agreement. And so in that one year, we do expect that the 7% to 8% -- we won't get all the way to 7% to 8% in that year. But other than that, in the environment that we're in, we think there's plenty of investment that will continue to run the network in order for us to be able to drive that 7% to 8% annually.", "On your second question around services, it's broad-based. We're seeing an uplift in terms of activity around the tower business across the board from all of our carrier customers. And as I mentioned in my comments, the environment is very attractive with all three of them deploying and DISH in addition to that. So --" ] }, { "name": "Dan Schlanger", "speech": [ "Just wanted to clarify one thing. Jay said $250 million in 2025. It's $200 million. So before everybody starts to spin up on that, it's $200 million.", "And there has been no change since we announced it last time." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Yes." ] }, { "name": "Matt Niknam", "speech": [ "Dan, you took away the next follow-up which I had, so great. Thank you. I felt its coming." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, everybody." ] }, { "name": "Dan Schlanger", "speech": [ "Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "Hi. First, appreciate more disclosure in the supplement on the prepaid -- amortization of prepaid rent history on Page 18. It's an item I'm always interested in. Two questions along those lines.", "Obviously, amortization of prepaid rent had grown from '19 to '20 to '21. We're expecting it kind of flattish year over year from '21 to '22. It then shows drops in '23, '24, '25, '26. I assume part of that is just you don't have new contracts coming in.", "But are we thinking that the amortization of prepaid rent should drop down into more like the $300 million to $400 million level? Or is there new business expected maybe to come in that would keep it up elevated?" ] }, { "name": "Dan Schlanger", "speech": [ "Yes. Ric, I'll take that. First, I'm glad that you like the new disclosure. We do try to respond when people give us some of that input, and that's what you're seeing with this -- the concepts that we're throwing in now.", "We do get new business, and therefore, get contributions from our customers that add to prepaid rent amortization over time. It's just that we had so much of that historically, especially in our tower business, that the amount rolling off is bigger than the amount that's being added on, which is why you're seeing a reduction over time in prepaid rent amortization in those years that you're talking about. We do not anticipate spending enough money in our tower business to make up for that in those years just because the demand for the amount of increased activity on our towers isn't such that we would have that much capital to spend. But that, I think, is just ultimately a sign of a really good business that people were willing to pay for all of the upgrades we did a long time ago.", "And what you're seeing now is a tremendous increase in the revenue and cash flow generation on the assets without any incremental capital going in, which is why you're seeing the returns and yields on the tower business growing as fast as they are on a year-over-year basis." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And the line of no good deed goes unpunished, any thoughts of being able to break out that amortization of prepaid rent then between tower and small cell, fiber as you think about into the future to help us kind of model the different segments and your growth rates." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. And as you know, we do it on an actual basis to try to give you a lot of sense for what that is. And we -- as we've talked about now with the concept of billings as opposed to revenues and then putting the prepaid rent amortization into other, you can get a lot of that information. We give a lot of that information for the current year.", "We're not going to break it out for every year going forward." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Related question, the prepaid rent received, I think you called out you're expecting it probably to be about $400 million this year. Any thoughts into the future -- just not asking for an actual forecast, but '18 and '19, it was more like $600 million. Now it's in the $400 million range.", "Any thoughts on where that might head over time? Is $400 million a better number? Is $600 million a better number as you think about what that contribution back to you might run at?" ] }, { "name": "Dan Schlanger", "speech": [ "As Jay mentioned earlier, a lot of the capital that we're spending right now is on our fiber and small cell business, and therefore, a lot of the contribution is happening in that business. As we ramp up, the nodes that we'll be putting on air, we've talked about it will likely lead to an increase in the capital that's associated with that. And I think that would potentially come with additional capital contributions. So I can't tell you that $400 million is the right number or $600 million is the right number because it's really going to depend on how quickly those -- that capital ramps up and how much we're going to get back from our customers.", "But there's no set level that I would say is something that you can expect. It's really tied to the amount of capital that we're spending to invest in our assets." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense. One more for me --" ] }, { "name": "Jay Brown", "speech": [ "Yes. Ric, I know you --" ] }, { "name": "Ric Prentiss", "speech": [ "Yes, go ahead, Jay." ] }, { "name": "Jay Brown", "speech": [ "Yes. I was just going to go back up to a 40,000-foot level when we think about straight-lining the benefit of receiving some of the upfront capital from the customers and how we think about it. That upfront capital from customers ultimately is in essence offsetting our capex demand in any given year. And one of the reasons why when we talk about the story and what we think the long-term prospects of the business are, we spend so much time talking about the dividend per share growth because we're looking at the cash flow capability of the entire enterprise over a long period of time.", "And so as we think about managing capital, investment of capital, the questions that you're asking are in essence like an offset to the initial investment that we make. And then we're thinking about what is that going to mean over a long period of time in terms of actual cash receipts in future periods and what are the impacts of that of dividends. And so we're providing the disclosure, I think, to try to help everyone reconcile from the financial statements through the metrics. But as we talk about it and think about what the opportunity for return is, we tend to go back all the way down to the bottom line of dividends because we think it's the best predictor of what long-term shareholder value creation is and moves us away from trying to do all of the ins and outs." ] }, { "name": "Ric Prentiss", "speech": [ "Makes great sense. We love cash. We love returns. We love dividends.", "Last one quick one probably on me is the interest rate update as far as interest expense up by $20 million versus prior guidance. What's your assumption now baked into -- what do you assume interest rates are going to be that trigger that? Or what was the delta that caused that change? And obviously, interest rates continue to be fairly volatile." ] }, { "name": "Dan Schlanger", "speech": [ "When we -- the assumption is the forward LIBOR curve. And what that impact really is, is the 15% of our debt that is floating rate debt and how much that LIBOR curve impacts that 15%. So when we gave guidance in October to now, that LIBOR curve is up between 100 and 150 basis points." ] }, { "name": "Ric Prentiss", "speech": [ "Great. That helps a lot. Thanks, guys. Continue to stay well." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Ric." ] }, { "name": "Operator", "speech": [ "We'll hear next from Jon Atkin with RBC Capital Markets." ] }, { "name": "Jon Atkin", "speech": [ "Thanks very much. A couple of questions. One is you kind of beat estimates on core leasing revenues, but absent the straight-line adjustments, you kind of maintained the guidance. So I just wondered what leads to kind of your parent incremental caution on the rest of the year for site leasing.", "And then the second question is, as we think about fiber solutions, so ex small cells or just kind of classic fiber light tower and those sorts of revenue streams, what are the -- how is that trending? How is your outlook difference in terms of things that you see greater opportunities for and maybe areas where you don't see as much growth ahead?" ] }, { "name": "Dan Schlanger", "speech": [ "Yes, Jon, I'll take the first one. I'm not sure I got the full extent of your question. So if I don't answer it directly, will you just ask it again? But we kept the core leasing going forward because we think that the demand in our business is going to be very similar to what we anticipated in October. The beat in the first quarter was mostly due to those nonrecurring items, which is why we called them out.", "If you remove that from the tower business, the growth in site rental billings was around 6% for the quarter, and that's what we're expecting for the year. So I don't think there's a change in that at all. And it will result in kind of similar growth in the tower business going forward as the year lays out. Did that answer your question?" ] }, { "name": "Jon Atkin", "speech": [ "In terms -- putting percentages aside, but looking at the volume in dollars of the amount that you beat, even if you were to include the onetimers, it seems like that would flow through to your outlook going higher. But absent straight-line adjustments, your outlook stayed the same. So within dollars, not percentages, I'm not nitpicking here, but it does appear that implicitly, the guide is just a bit more cautious." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. I actually think the guide is not cautious. We're really excited about the level of activity that we see coming in and the growth that we're seeing in our business. And what we've talked about is an industry-leading growth in the tower business.", "We don't guide on a quarterly basis. So it's hard to reconcile to the number you're talking to. But -- and the reason we don't guide to a quarterly basis is that we really do think about this business, as Jay talked about, in terms of decades, not quarters. So the best we can get to is about a year.", "And what we're seeing, again, is just a robust level of activity that's leading to tower-leading growth. And we're -- we actually don't feel like it's conservative. We feel like it's a really good outlook going into 2022, and we're maintaining it because we see that activity level continuing." ] }, { "name": "Jay Brown", "speech": [ "Yes. On your second question, Jon, around -- I'm sorry, did you want to ask Dan another question on that?" ] }, { "name": "Jon Atkin", "speech": [ "No, no, fair point. And then I was going to listen to you. Sorry to interrupt, go ahead." ] }, { "name": "Jay Brown", "speech": [ "No worries. On your second question around what we're seeing from a fiber solution standpoint, we continue to think that we'll grow that business in and around that 3% level on a year-over-year basis. We've seen good opportunities in the space, and I feel like the team has done a great job continuing to run that business well. And it creates a great base of assets as we've seen for us to be able to add small cells to those assets.", "And so back to my comments earlier around the way that we think about capital spending, that fiber investment that we've made, both in terms of acquisitions as well as what we've built, is based on what we believe will be future lease-up for small cells. And the activity that we've won thus far as well as activity that we see the carriers investigating that will lead to future business, we believe, looks like the assets are really well-positioned for that. So business is performing well, and the opportunity for lease-up is intact." ] }, { "name": "Jon Atkin", "speech": [ "Anything -- and then lastly, anything on MLAs to sort of call out as things kind of roll off? Or just anything in general around MLAs that you've announced in the past we should be mindful of that might change in the future?" ] }, { "name": "Jay Brown", "speech": [ "There's nothing to call out in the quarter or that we believe will be in the guide for 2022." ] }, { "name": "Jon Atkin", "speech": [ "Right. Thank you." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey. Good morning, guys. Jay, you mentioned in your prepared remarks that scaling your small cell deployment capabilities to get from 5,000 nodes a year to 10,000 plus in the coming years is really a focus for you guys. Can you talk about some of the specific steps you need to take and the areas you need to beef up to build up that deployment capability? And maybe comment a bit on the degree to which any associated costs are baked into your '22 outlook." ] }, { "name": "Jay Brown", "speech": [ "Sure. Part of the scaling activity, frankly, is us going ahead and doing work in this year for nodes that we will turn on next year. And so it's a reference to the activity that's ongoing while the nodes won't turn on in calendar year 2022. The work that we need to do in order to prepare to turn them on in '23 is under -- is already underway, and we feel good about our ability to get above that 10,000 nodes in 2023 and for years beyond that.", "We believe, generally speaking, that the scale of folks that we have in the organization are sufficient to meet the backlog that we have currently. Should that grow beyond and accelerate even further, we'd have to revisit the cost structure. But in general, we believe the cost structure, as laid out in the guidance, is sufficient to handle that level of volume." ] }, { "name": "Nick Del Deo", "speech": [ "OK. OK. Great. And then you have a prepaid rent question kind of to follow up on what Rick was asking about earlier.", "When do you typically receive prepaid rent for small cells relative to the on-air date? And do the large-small cell contracts you've signed over the past year or so contemplate prepaid rent contributions consistent with history? I'm just trying to understand how prepaid rent for these new nodes is going to flow through your financials as the installation cadence picks up?" ] }, { "name": "Jay Brown", "speech": [ "And generally speaking, the prepaid rent would be received in and around when they're installed. So when we're counting them as on-air in the metrics that we're giving you, the prepaid rent would come in commensurate with that. In terms of how we structure the recent agreements and what we're seeing, we haven't seen any change in the pricing of the way that we've transacted with carriers. Keep in mind that generally, these things are priced on a return basis, and we've seen the pricing hold over the many years that we've been in the business now.", "The pricing in the new nodes that we've recently contracted is consistent with that." ] }, { "name": "Nick Del Deo", "speech": [ "OK. Great. Thanks, Jay." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We'll take our next questions from Michael Rollins with Citi." ] }, { "name": "Michael Rollins", "speech": [ "Thanks, and good morning. Two questions, if I could. The first, in the past, the team has outlined that your tower locations skewed more urban, and that would be an advantage for colocation, whether it's C-band or DISH deployments. I'm just curious if you can give us an update on how that might be playing out through your financial performance and your leasing performance and if there's a way to quantify the advantage for Crown, whether it's timing or in share.", "And then just as a separate topic, you have fiber, you have towers. Is there a path for Crown to take a more aggressive and active role in building out metro data centers or O-RAN hubs to go after carriers, clouds, and enterprise for this emerging mobile edge compute opportunity?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Thanks for the questions, Mike. On your first question, I think the activity as it has historically, whenever there's an upgrade to a new technology, it tends to -- the dollars tend to be spent in the areas that are the most densely populated in the U.S. first.", "And we've certainly seen that trend in -- as 5G has started to be deployed. I think that's one of the reasons why we have industry-leading tower revenue growth at 6%. I also think it's indicative of what we're going to see on the small cell side. The vast majority of the investment that we've made in fiber and small cells has been in those top 30 markets in the U.S.", "It's the locations where we believe the vast majority of the capital will be going for the densification efforts, at least in the near to medium term. And over the long term, we think those assets, much like towers have in those urban areas, the investment will skew toward that urban activity and future densification. So some of the best assets are in those dense urban areas. We think we'll see a similar thing with fiber and small cells that we've seen historically with towers and are experiencing as we move into 5G already with the tower footprint.", "On your second question, we certainly believe that there's an opportunity around edge data centers and have positioned ourselves several years ago with our investment in Vapor to take advantage of that opportunity. I would put that in the category of -- that's an upside case for us. If data traffic gets to the point where edge data centers become a meaningful component of the overall wireless network, an upside case in our investment in small cells and fiber. We did not underwrite that in our base case nor are we underwriting it day to day as we invest in fiber and small cells.", "But if you're a believer that ultimately, there's going to be so much data traffic in the network that these metro data centers or edge data centers are going to be necessary for wireless, we're going to be in the upside outcomes for our small cells and fiber. And so we're certainly positioned well for that opportunity. And I would say, today, it seems more probable that that's a likely outcome than what we would have said several years ago, but it's not in our base case underwrite as we think about what the growth and returns will be on the assets. But there are certainly some signs as referenced earlier in some of the questions -- in the question around fixed wireless that would suggest maybe that opportunity is growing and becoming more likely.", "And I would start first with the benefit we're going to get out of fiber and small cells as a result of that. And I think we're really well-positioned vis-a-vis the fiber and our investment in Vapor to benefit if we get all the way to the upside cases where these edge data centers are necessary and critical components for the wireless networks." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "We'll hear next from Phil Cusick with J.P. Morgan." ] }, { "name": "Phil Cusick", "speech": [ "Hey, guys. Just a summary, and I apologize if you pressed a few of these already. But as you think about the activity through this year, do you expect activity to be ramping through this year? It sounds like it. And then do you think that can be maintained next year? Or are there other carriers that are sort of going to be coming down, do you expect?" ] }, { "name": "Jay Brown", "speech": [ "Phil, as we think about any given year, and I think we've talked about some on the call as we've tried to point to some of the onetime items in the first quarter. When we think about the guidance and the outlook on an annual year-over-year basis because we think it's the best way to look at the business, as we get further into the back half of the year, maybe we can be a little bit more descriptive about the ramp in activity and what we're seeing is falling into the first half versus the second half of the year. But in general, this is shaping up to be a pretty normal year in terms of the way the activity is loaded into a calendar year. I don't want to really get into giving guidance for 2023.", "We typically or historically have done that in October, and we would expect to do that again this year. So we're two calls away from giving you an outlook for 2023." ] }, { "name": "Phil Cusick", "speech": [ "I guess. Thank you." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Sami Badri with Credit Suisse." ] }, { "name": "Sami Badri", "speech": [ "Hi. Thank you very much for the question. Could you provide any color on what level of activity that may be falling outside of your MLA structures with the carriers?" ] }, { "name": "Jay Brown", "speech": [ "Sami, there's always some of this activity that we're doing that will fall outside of the MLA structures. We talked about this a little bit last quarter. The carriers historically, as we've worked with them, will give us a base level of commitment of areas that they know for sure that they're going to deploy, but there's always activity -- has been historically always activity that has fallen beyond and outside of those agreements. So probably not going to get to the place where we reconcile that down to the agreements versus what we're actually seeing.", "But there is activity that falls outside of that both in the tower business, the small cell business as well as the services business. So we have more activity than was contemplated. As we talked about, that's continued to grow as we've gone into this calendar year, and excited about what the implications are to our results for the year." ] }, { "name": "Sami Badri", "speech": [ "And then some of these MLAs were signed quite a bit -- quite some time ago. When you look at 2022 and 2023, is it becoming increasingly likely that there's a lot of business activity that falls outside of these MLA structures that I think the majority of the investment community actually thought was going to be more in scope to the MLAs? Has there kind of -- has there been a big change or at least something incremental than what a lot of maybe people internally at Crown have thought and have seen?" ] }, { "name": "Jay Brown", "speech": [ "I think I want to be careful. Again, we'll talk about 2023 guidance as we get into October. Broadly though, if you look at what's happening in terms of demand for 5G networks, the devices being available and the way consumers are using them, the benefit of lower latency and higher speeds are driving more traffic. And we think that is a trend that we will see continue for multiyears into the future.", "And it's what gives us confidence that our 7% to 8% growth in the dividend is going to continue for periods beyond just the near term. So we think we've positioned ourselves in a place where we own the assets that are going to be necessary for that 5G deployment with both towers and small cells and certainly see opportunities that could drive beyond our 7% to 8% growth. But we'll wait until we get to those periods to start to give you more specific guidance around when and if that activity shows up." ] }, { "name": "Sami Badri", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Walter Piecyk with LightShed." ] }, { "name": "Walter Piecyk", "speech": [ "Thanks. Jay, I wanted to go back to your comments on, what do you call it, I guess, this is the traditional enterprise fiber stuff, fiber solutions, I guess, is what you call it. You talked about 3% growth, but it looks like growth was more elevated in the first quarter. Can you talk about kind of what the components are there? And are you just basically being conservative in terms of your 3% growth outlook? Or is my math just wrong?" ] }, { "name": "Jay Brown", "speech": [ "Your math is not wrong. We were elevated in the first quarter. Again, we give the guidance on an annual basis based on the timing of certain things, the ins and outs that happen over the course of the year. We mentioned last quarter that as a part of the -- some of the integration work, we would expect about $10 million of churn in that business in the back half of the year.", "So that will have an impact on how the business runs for the balance of the year and will bring us back into a little bit lower. So that will be in the back half of -- we think it will be kind of midyear or back half of the year as we spoke to last quarter. But all in all, the business is performing as we would expect in and around that 3% growth. And importantly, it becomes kind of a base of return and yield on that fiber asset that -- upon which we can add small cells.", "So proud of the team and how they've done managing the business. And most importantly, in terms of what drives the return on that asset over the long term, obviously, the small cells have started to show up in significant scale, and using that same fiber asset will drive the returns and the yield on the assets." ] }, { "name": "Dan Schlanger", "speech": [ "And Walt, the only other thing I would add to that is that there was -- sorry, go ahead." ] }, { "name": "Walter Piecyk", "speech": [ "No, no, no, go ahead. Go ahead." ] }, { "name": "Dan Schlanger", "speech": [ "The only thing I would add is that the $10 million of onetime that we talked about in fiber solutions hit in the first quarter. If you back that out, I think that probably gives you a better baseline from which to do the math that you're talking about and see what the growth rate looks like. And you'll see that that is closer to around that 3% than what -- just on the face of it, the numbers look like for the first quarter." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. And then when you just look at that business, just a qualitative question, are you seeing any interest from fiber overbuilders that -- like smaller guys, private equity funded or venture funded, that are looking for some of your strengths in order to take fiber to the home? Has that been an element of your business that you've seen yet that's been picking up or is different than historically?" ] }, { "name": "Jay Brown", "speech": [ "I would say there are some opportunities where we can use our fiber as backbone for some of those builds that would go into places that would not be core to our business. We have seen some of those opportunities and have captured some of those. They're tangential really to the places where we would have fiber for government, enterprise, universities, the kind of the core of our fiber solutions business, or the places where we would typically be building small cells. But our network can be a backbone component of the build into more residential areas, and we've seen some of those opportunities." ] }, { "name": "Walter Piecyk", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Greg Williams with Cowen." ] }, { "name": "Greg Williams", "speech": [ "Great. Thanks for taking my question. First one, just on small cells and the capex next year. How many new nodes are you building in 2022 and 2023? You mentioned the 5,000 installs and then the 10,000-plus installs, but how many new actual physical nodes versus colocation on existing nodes? Second question is just on your MLA structure, in particular as it's concerned with Verizon.", "They're accelerating their C-band deployment. It looks like their BC category might come in a little sooner. Will you be able to recognize incremental revenues and EBITDAs from that? Or it's structured in the MLA where that sort of spend and that sort of higher activity is already baked in?" ] }, { "name": "Jay Brown", "speech": [ "On your first question, the nodes that we'll put on air in '22 and '23 are a mix of anchor build and colocations. And we'll get into -- as time passes, we'll continue to give you the capex update in both this calendar year and 2023. But I think for planning purposes, you should think about as a mix of activity as what we have done historically. And we've talked about this in prior quarters, but we would expect capex to ramp as we're ramping toward higher volume of activity.", "One other thing, and I think you understand this, Greg, from the way you asked the question. But when we're talking about nodes, we're not making -- we're not distinguishing nodes that are the anchor-built node versus the colocated node. We would refer to both those, the initial node as well as the colocated node, as a small cell node. So those 5,000 would be a mix of both anchor and colocated nodes when we talk about 5,000 in 2022 and more than 10,000 in 2023.", "On your second question around the MLA structure and the activity that we're seeing, that's probably a level of detail beyond what we want to go in terms of discussing the way customers are thinking about their builds and activity. Generally, I refer to my prior comments around there's a significant amount of committed activity over multiyears that we have from our customers, and we believe there will be activity beyond those committed levels that we'll see from the carriers as they build out their 5G networks. Operator, let's take maybe one more question." ] }, { "name": "Operator", "speech": [ "We'll take our final question from David Guarino with Green Street." ] }, { "name": "David Guarino", "speech": [ "Thanks. So Crown Castle was mentioned in the news last month about expressing interest in a tower portfolio in India. And I know you probably don't want to comment on market rumors, which is fine. But could you maybe talk about -- does your team underwrite international acquisitions internally? And then also, if you could just share your openness to international expansion, if that's changed at all in the past few quarters?" ] }, { "name": "Jay Brown", "speech": [ "Thanks for the questions, David. I think I'd refer you to the comments that I made at the opening of the call. We're focused solely on the United States and the opportunities that we see in the U.S. We believe it has the most attractive growth profile in the world as well as the lowest risk.", "And for the reasons that we -- I laid out at the beginning of the call, we think the vast majority, if not all, of our investment will be allocated here in the U.S. The growth prospects as 5G is -- are being deployed are incredibly attractive and believe the returns from that investment of capital are just going to be terrific for shareholders. So we think it's the best place in the world to be putting capital and investment and believe that the dynamics of the U.S. market because of that virtuous cycle that I was referring to of consumers are willing to pay for it and the operators are continuing to invest the capital in greater ways and they have a lot of spectrum to continue to do that.", "So I think we're looking at multiyear growth in the U.S. with lots of opportunities. So we're focusing the capital, whether it be for builds or acquisitions, we're focused solely in the U.S. market.", "So thanks for the questions, and thanks for everyone joining us. Did you have a follow-up? Thanks, everyone, for joining the call this morning, and just want to say thank you to our team who have done a terrific job as we launched off into 2022 here. Well done in the first quarter and look forward to catching up with all of you in the balance of the year. Talk soon." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2019-07-18	[ { "description": "Vice President, Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Senior Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Raymond James & Associates, Inc. -- Analyst", "name": "Richard Prentiss", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Jonathan Charbonneau", "position": "Analyst" }, { "description": "MoffettNathanson LLC -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "J.P. Morgan -- Analyst", "name": "Philip Cusick", "position": "Analyst" }, { "description": "Oppenheimer & Company -- Analyst", "name": "Tim Horan", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Second Quarter 2019 Earnings Call. [Operator Instructions]", "At this time, I would like to turn the conference over to Ben Lowe, Vice President of Corporate Finance. Please go ahead, sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Todd, and good morning, everyone. Thank you for joining us today as we review our second quarter 2019 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger Crown Castle's Chief Financial Officer.", "To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, that we'll refer to throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and actual results may vary materially from those expected.", "Information about potential factors, which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today, July 18, 2019, and we assume no obligations to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com.", "So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and thank you, everyone, for joining us on the call this morning. We delivered another quarter of great financial results that exceeded our expectations and reflect the significant demand we are seeing from our shared infrastructure assets.", "I believe our strategy and unmatched portfolio of more than 40,000 towers and approximately 75,000 route miles of fiber concentrated in the top US markets has positioned Crown Castle to generate growth and cash flows and dividends per share both in the near term and for years to come. Due in large part to the increasing demand we are seeing across our tower assets, we are increasing our full-year 2019 outlook and now expect to grow AFFO per share by approximately 8%, which is at the high end of our longer-term target of 7% to 8% annual growth.", "Dan will discuss the results for the quarter and the increased outlook in more detail. So, I'll focus my comments this morning on two key points. First, tower -- current tower leasing activity is our highest in more than a decade, which we expect will carry into next year. And second, our small cell business is delivering compelling returns at scale.", "On the first point, we are seeing a more significant acceleration in tower leasing this year than we previously expected, with broad demand from each of our largest customers as they deploy additional cell sites and spectrum in response to the rapid growth in mobile data traffic.", "We now expect new leasing activity on towers to be approximately 30% higher when compared to the level of leasing last year, with activity in the back half of the year exceeding the growth generated year-to-date. And I believe the current level of activity will continue as our customers respond to data traffic growth on their 4G networks while also embarking on the deployment of 5G.", "According to a recent report from Ericsson, data traffic per smartphone in North America is expected to increase from seven gigabytes per month in 2018 to nearly 40 gigabytes per month by 2024, representing the highest rate of data consumption in the world and a compound annual growth rate of more than 30%.", "Additionally, as 5G becomes a reality, new used cases will develop that require wireless networks to connect not only people and their phones, but also billions of things. The expansion of the uses of wireless networks will require ubiquitous, low latency, high-speed connectivity, which we believe will extend demand for our towers for many years to come. In addition to towers remaining a crucial element of the future, networks will need to be significantly more dense than current infrastructure can handle, which brings me to my second key point.", "As you see on the map on slide four, we invested early and at scale to build and acquire fiber in the most densely populated markets, where small cells are being deployed and demand is expected to be the greatest. Said another way, all the gray space you see on the map where we don't have fiber is intentional.", "Turning to slide five. This strategy is delivering compelling results. The small cell projects summarized on this slide are in the process of being completed. While the projects included in this data set are not finished, some of the nodes within those projects are on air, while other nodes are in various stages of construction.", "In total, this analysis represents approximately 75% of the 65,000 nodes we have on air or under construction and represent the most recent data points for measuring returns. When these projects are complete, we expect to have invested just over $2 billion of capital, both to build new systems for anchor tenants and to co-locate new small cells on existing fiber networks.", "These projects are expected to generate a recurring yield of approximately 8%. The blend of first tenant economics in the 6% to 7% range and co-location economics of approximately 20%, which is consistent with our disciplined underwriting requirements. As the data shows, similar to the development of the tower business, we are seeing significant demand from multiple customers for the same asset, which results in co-location economics. The small cell co-location on existing fiber accounts for nearly 30% of the incremental cash flows we expect to generate from these projects, but only 10% of the incremental capital investment.", "This operating and capital leverage is very much like what the tower business has exhibited over time. And we believe our strategy of investing early in fiber for small cells will pay off in much the same way that our early investment in towers continues to. And whether we have built or acquired the fiber, we are seeing co-location economics as we add small cell customers to the existing fiber.", "To that end, approximately 75% of the co-location activity is coming from the markets where we acquired the fiber in recent years. While our levels of activity, initial yields and lease-up economics are all very encouraging, the significant increase in the volume of small cells being constructed is straining the response times for municipalities and utilities who are not complying with the FCC orders, resulting in longer construction timelines than we previously experienced.", "As a result, we are seeing construction timelines averaging 18 months to 36 months, which is longer than our prior average of 18 months to 24 months. Due to the elongated construction timelines, we now expect to deploy approximately 10,000 small cells in 2019, which is at the low end of our prior expected range of 10,000 to 15000 in this year, but it's approximately 30% more than what we delivered all of 2018. In the new term, we expect the delays to reduce our 2019 new leasing activity from small cells by approximately $5 million. Longer term, we do not expect the extended timelines to impact our overall growth or our returns.", "Taking a step back and reflecting on where we are with our fiber and small cell strategy, it is remarkable to me how much progress we have made in a relatively short time frame. What began about 10 years ago with measured investments intended to explore the small cell opportunity has accelerated over the past five years as the scale of the opportunity and the business model have come into focus. As a result, we sit here today as the clear leader in the small cell industry with approximately 75,000 route miles of high-capacity fiber concentrated in top markets.", "More than 65,000 small cells on air or under construction. More than $13 billion of invested capital, generating a recurring yield of approximately 8%. And a robust pipeline of small cell projects that will add to the returns on our current fiber asset base, while increasing the longer term opportunity as we expand with new anchor builds.", "As we look ahead, we see tremendous opportunity to increase the returns on our fiber investments over time by adding small cell tenants to existing fiber networks as we're doing today. Along these lines, our experiences at the same fiber necessary to support small cell customers can serve large enterprises and government agencies who require high bandwidth connectivity.", "As such, we see a path to further improve our small cell returns by sharing the fiber across these customers. This is similar to our approach with towers, where the vast majority of the economics are driven by the wireless carriers. But we also work hard to increase the returns on our towers by sharing the asset with others.", "As shown in our 2019 outlook, we now anticipate fiber solutions revenues to grow approximately 3%, or approximately $15 million lower than our previous expectation. As you would expect, we prioritize activities related to our long-term strategy of adding small cells to our fiber, including integrating recent acquisitions into a single operating structure and platform. And consequently, we lost some sales momentum in this business. While we want to generate as much revenues from these sources as possible, we continue to believe that the growth from small cells will be the primary driver of future return on our fiber investments.", "So to wrap up and moving back to the collective outcome. 2019 is shaping up to be another great year for Crown Castle, with AFFO per share growth now expected to be at the high end of our longer-term 7% to 8% target. We see the growth in our business reflecting the positive underlying fundamentals, driving demand for our infrastructure, including the continued growth in mobile data on existing 4G networks and the early stages of our customers developing 5G networks.", "With our unmatched asset base and expertise, I believe Crown Castle is in a great position to capture these substantial long-term return opportunities and consistently return capital to shareholders through a high-quality dividend that we expect to grow 7% to 8% annually.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay discussed, we delivered another quarter of very good growth, reflecting the strong demand for our unmatched portfolio of towers, small cells and fiber assets.", "Turning to slide six. You can see we had a great quarter with site rental revenues increasing 6%, adjusted EBITDA increasing 12%, and AFFO increasing 14% when compared to the same period a year ago.", "On page seven, you can see that at the midpoint, we are increasing our full-year outlook for site rental revenues by approximately $3 million, for adjusted EBITDA by approximately $41 million and for AFFO by approximately $43 million when compared to our prior outlook. Our AFFO guidance for 2019 implies approximately $5.94 per share, representing 8% growth compared to 2018 and an increase from our prior outlook of 7% growth.", "The increase to full-year 2019 outlook for site rental revenues, adjusted EBITDA and AFFO primarily reflects a higher expected contribution from straight-lined revenues and an increase in the expected contribution from services, both of which relate to higher expected tower activity in 2019 as compared to the prior full-year 2019 outlook. The increase in full-year AFFO also reflects reduction in expected full-year financing costs.", "Turning to page eight. We now expect between $245 million and $275 million of organic contribution to site rental revenues, reflecting an increase in the expected contribution from towers, offset by lower expected contribution from both small cells and fiber solutions.", "New leasing activity is expected to contribute between $345 million and $375 million to organic contribution to site rental revenues, which is approximately $5 million lower than our prior outlook. At the midpoint, new leasing activity consists of $140 million from towers compared to $125 million in our prior outlook, $70 million from small cells compared to the prior $75 million and $150 million from fiber solutions compared to the prior $165 million.", "Turning to page nine. You'll find our 2019 outlook for components of AFFO growth. The increase in full-year outlook for AFFO growth reflects the increase in the expected contribution from services tied to higher tower activity and a reduction in expected full-year financing costs resulting from lower interest rates and recent financing activities.", "These improvements are offset by the reduction in organic contribution to site rental revenues and additional expenses, primarily related to incremental incentive compensation tied to our improved outlook. From a balance sheet perspective, in the second quarter, we continued to improve our financial flexibility and liquidity by increasing the commitments under our revolver to $5 billion and extending the maturity date on our credit facility to a new five-year term.", "As we have previously discussed, we intend to finance the business with approximately five turns of leverage longer term, consistent with both our commitment to maintaining our investment-grade credit profile in the level at which we finished the second quarter.", "So in closing, our second quarter results exceeded our expectations, leading us to increase our full-year guidance for 2019 across site rental revenues, adjusted EBITDA and AFFO. We continue to believe our ability to offer towers, small cells and fiber, which are all integral components of communications networks, provides us the best opportunity to generate significant growth while delivering high returns for our shareholders.", "With that, Todd, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] We'll take our first question from David Barden of Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks so much for taking the question. I guess a couple. First, the services business was really strong this quarter. I was wondering if you could call out anything that you thought was kind of a, maybe a recurring driver or a one-off driver of that business activity in the quarter and kind of maybe some thoughts on how it kind of plays out for the year.", "And then the second piece is just on the other side of it. You kind of called out the fiber services piece. I think there was a cogent explanation for small cells, maybe kind of being tougher because of the utilities and the municipalities being strained to kind of come to terms with the volumes. But fiber business seems to just kind of keep getting a little weaker. This time it was bookings. And I was wondering if you could kind of give us some color on what the game plan is for their business. Is it secular forces? Is it sales problems? Is it, I don't know, SD-WAN? If you could kind of like elaborate a little bit on what's going on with that business, it would be great. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Dave. On your first question around the services business being strong, I think that's the best reflection of what we're seeing in terms of the tower leasing activity that we talked about. If you look at the activity, we're talking about for full-year 2019, we're up about 30% year-over-year. That's the direct reflection of that [Phonetics] what happens inside of the services business.", "If you look at it year-over-year and the first half of the year, I think it's up almost 50% year-over-year. So the tower activity is indicated by the results on the services side. And as we said historically, we think that activity will match leasing activity. And so if we stay at an elevated level of leasing activity, then the services business, we would expect would continue to do so. And our outlook for the year sort of reflects that.", "On your second question around fiber solutions, I made reference to this in my comments. But as we went through the acquisition activities, we initially focused on making sure we got the assets integrated and purpose-ready for our long-term strategy of small cells. I think, given that we've gotten that behind us, it's certainly appropriate for a little more attention to be paid on the sales side around fiber solutions. But I really don't believe that long-term this is the best indication of value in that business. The way that we underwrote the investment in fiber was based on our view around small cells and the need for this kind of fiber to be available for small cells.", "Fiber solutions revenues support some level of return there, but the long-term returns and the driver of long-term returns are going to come from the wireless business and be driven by small cells. And as I look at the environment for that today, it's healthier, more robust and better visibility than what we had, frankly, when we were making these fiber investments over the last several years. So from an underlying thesis around fiber, I think we feel like we're in a better place today than we were several years ago when we made the investments and certainly have a lot more data points to support that view as we were talking about in the 75% of the 65,000 nodes that we have on air or under construction." ] }, { "name": "David Barden", "speech": [ "Great. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Simon Flannery of Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks very much. Good morning. On the tower leasing, could you give us a little bit more color around where you're seeing this strength? I think you said, it was fairly broad-based. Anything from beyond the big four carriers? How is the mix between colo and amendment activity? And then the -- sort of are you seeing this in suburbia and rural areas? Is it very broad-based. Any color around what the big themes driving the new activity is? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Simon, good morning. On the drivers there, we're seeing that across the board from the wireless operators and their activity is a mix of densifying the network, improving their network and deploying additional spectrum. Given the nature of our assets, which are more focused in the metro markets than rural, we're seeing that activity happen in the metro market. That may be just by virtue of the nature of our assets and our bias toward being in the metro markets in terms of the location of the current asset base.", "We've seen the increase in activity come from both first-time install as well as amendments. Both of those boats are rising with the tide. So the mix has stayed relatively similar to what we've seen over the last couple years. We're at about 40% first-time installs and about 60% -- 60% of the activity being driven by amendment. And that's pretty similar to what it's been over the last several years.", "To your question, around outside of the wireless carriers, yes, we are seeing some increase there, but the majority of the driver here is continue to be the wireless operators and we're benefiting from a little bit of activity outside of those wireless operators, makes up about 15% of our overall activity, 85% coming from the wireless carriers." ] }, { "name": "Simon Flannery", "speech": [ "Great. And so you're -- and just to be clear, you think your second half leasing activity will be ahead of the first half? So, you'll exit the year kind of accelerating from the full-year number." ] }, { "name": "Jay A. Brown", "speech": [ "That's correct." ] }, { "name": "Simon Flannery", "speech": [ "Yeah. Great. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Brett Feldman of Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks for taking the question. The statistics you've been giving us 65,000 small cells that are on-air or in the backlog. It's been a pretty stable number now for the last two quarters, which implies there has not been a lot of new booking activity through the first half of the year off of what had been fairly active in 2018.", "So, I was hoping maybe you can just help us understand what the demand environment is like. What the small cell opportunity funnel looks like as you go into the second half? And should we expect that there will be a pick up in bookings as we move through the remainder of the year? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, Brett. Good morning. As you've seen in the past, the activity of new bookings is very lumpy. They come in very large scale projects with a number of nodes that take, as I was talking about in my earlier comments, long period of time to construct. So as I look across the horizon, there are a ton of opportunities that we see for continuing to add bookings.", "But the amount of work that goes into even preparing and designing to get to the place where we have bookings is a pretty significant period of time. And that activity is as robust as we've ever seen it. We're seeing activity from all of the carriers as they look at deploying small cells and I think -- I think we will at some point see that overall number continue to increase." ] }, { "name": "Brett Feldman", "speech": [ "Is there any change in the environment in terms of your customers, particularly your largest ones deciding to do more of this in-house? Or is it really just the timeline factor that you outlined?" ] }, { "name": "Jay A. Brown", "speech": [ "It's just the timeline factor that we've outlined. We haven't seen any movement toward greater self-perform than what we've seen historically. We continue to believe that broadly at the market, we're capturing about 50% of the total activity and of the total small cell activity. And the balance of it would be done mostly in self-perform and then some components of third-party providers." ] }, { "name": "Brett Feldman", "speech": [ "Great. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Richard Prentiss of Raymond James." ] }, { "name": "Richard Prentiss", "speech": [ "Thanks. Good morning, guys." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning." ] }, { "name": "Richard Prentiss", "speech": [ "Hey. Want to follow-up on a couple of Brett's question as well. Can you update us as far as roughly how many of the nodes you have on-air versus how many are in the backlog?" ] }, { "name": "Jay A. Brown", "speech": [ "We're a little under 40,000 nodes on-air and then the balance would be in backlog, Rich." ] }, { "name": "Richard Prentiss", "speech": [ "Makes sense. And then with the slip out from the 18 months to 24 months to be 18 months to 36 months, how should we think about the bulk of that backlog pacing it into beyond '19 into '20 and '21?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. I think based on what we're seeing at the moment, the best guidance I could give you is to expect that we'll put about 10,000 nodes on-air annually or 2,500 roughly per quarter, which would suggest that the backlog that we have now carries us through 2020 and 2021. And so it gives us really good visibility around revenue growth in small cells over those couple of year period of time. And the work that we're doing around attracting new bookings would be related to revenue growth in 2022 and beyond." ] }, { "name": "Richard Prentiss", "speech": [ "Makes sense. And then also I noticed this quarter, I think there was a sequential drop quarter-to-quarter on the fiber small cell operating cost. Is there anything seasonally there? Or is it something to do with the weaker sales bookings on the fiber side? I'm just trying to think as we look at the gross margin side on fiber small cells as a segment." ] }, { "name": "Jay A. Brown", "speech": [ "No. I think there's not a lot to be gained from trying to compare those two directly, Ric. As you pointed out -- yeah, there's going to be some lower cost with lower bookings, but that's not going to be a huge driver of the business. I think what I would say is, there's always going to be timing for when cost come-in and when revenue comes in, that will move margins around a little bit. But I think overall, what we think is that the margins that we're providing in that market, in that business right now are ones that we think will continue overtime with small fluctuations here and there. But I don't think you can take anything from the sequential movement to give a sense for what could be extrapolated into a long period." ] }, { "name": "Richard Prentiss", "speech": [ "And final one for me. I think, Jay, you mentioned the straight-lined adjustment or it might have been Dan mentioning the straight-lined adjustment did modify in the quarter. Was that really just the new leasing activity? So, I'm just trying to think as we look out into '19 and '20, what we should be thinking about straight-line? We're probably looking at straight-line flipping colors at some point." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. It's actually combination of the new leasing activity and extensions on current leases that we have. So, it's a combination of things we've talked about in the past as well, Ric, just continuing. And because the activity continues to accelerate, we're continuing to see an acceleration of that straight-lined revenue." ] }, { "name": "Richard Prentiss", "speech": [ "Okay. Thanks, guys." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Colby Synesael of Cowen and Company." ] }, { "name": "Jonathan Charbonneau", "speech": [ "Great. This is Jon on for Colby. Thanks for taking the questions. Within the small cell business, you noted longer construction time frames, especially in the top markets. Are you starting to see demand beyond those very top markets? And then within the fiber solutions business, are you seeing any notable change in the demand environment there or from competition? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, Jon. On your first question, what I would say is the vast majority of the activity and conversations are continuing to happen in the top 30 markets in the US. It's where we've invested, thus far, the vast majority of the capital. Frankly, you could probably even narrow it down to the top 10 markets. The vast majority of the capital would be investments in the top 10 markets and it continues to be the biggest focus around the need to densify the networks and bring small cells on-air. So the focus continues to be there. We expand out beyond the top 10, top 30 markets. There is some limited amounts of activity in those markets, but not meaningful in terms of margin opportunities or investment of CapEx.", "I think, longer term, as I listen to what the carriers are talking about their networks, depending on which carrier is talking about their networks, they talk about top 100 and in some cases, all the way out to the top 250 markets in the US. So, I think you're going to see the need for small cells well beyond the top 30 markets in the US. And ultimately, whether we decide to play in that market will be determined based on the returns and what we believe the co-location opportunities are around fiber and markets beyond the top 30. At this point and as we've talked about the pipeline, we've got several years worth of visibility where we know the activity is going to be coming in the top 30 markets.", "So, I think at this point, that's the majority of the focus. But to the extent that there was future opportunity beyond those top 30 markets and we thought the returns were going to be similar to what we've seen thus far, it will certainly be something we would be willing to look at and study and see if it makes sense for incremental investment.", "On your second question, I really don't think the demand for the service has changed at all. I think it's much more an issue of our own focus and attention toward making sure we have the asset right for its long-term intended use than what we think is the primary value driver." ] }, { "name": "Jonathan Charbonneau", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Nick Del Deo of MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hi. Thanks for taking my question. First, Jay, again, on fiber solutions, would you argue that the prior 5% long-term target for growth you've laid out is still appropriate if we look beyond this year? I mean, you kind of said that you don't think current performance is indicative of its potential and demand hasn't changed. But you also kind of downplayed the growth outlook for non-wireless solutions, so it just wasn't clear to me how that all shook out." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure, Nick. I think what I would tell you is, it may come back to a level of 5% at some point in the future, but we're not willing to predict that as the outcome. Our focus in the business around small cells is the long-term driver of the business, and we think that's the most appropriate place for us to spend our time talking about the long-term prospects of the business. As much revenue as we can get from fiber solutions, it obviously makes sense to do so because it adds to the returns around the fiber. But we're trying to be really clear about what we think the long-term driver of the returns are and why we made the investments that we did.", "As I look at where the business is performing relative to our underwriting assumptions, our underwriting assumptions, we're tracking right on where our underwriting assumptions around these assets were. So, I think publicly we had indicated that we thought we were going to be a little bit higher than even what our internal underwriting assumptions were. But in terms of the focus and what we think the opportunity is, we're -- I would suggest that investors look at the business as we guided this morning to a growth of about 3% in the business. And if we're able to improve it from there, we'll certainly let you know once we've done it. And don't think it should impact how you think about the long-term returns around fiber." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Got it. And then on the small cell front, are there reasons to think that municipalities and power companies are going to spend the money to staff up, so they can work through small cells request at a pace consistent with demand? And to the extent that your overhead cost might not be aligned with the lower installation rates you're forecasting, are there any opportunities to trim those costs?" ] }, { "name": "Jay A. Brown", "speech": [ "One of the great benefits of the FCC order is that it requires the municipalities and the utilities to timely respond and deal with these -- with both the permits and the process of applications for installing in the right-of-way. So -- and the mechanism around the fees that we paid for that, reimbursed the municipalities and the utilities for the reasonable costs associated with managing that activity regardless of the level of volume.", "And so I think folks should read my comments as -- and they're intended to say, the municipalities that are complying with the FCC order have done a great job of doing that. In a number of markets, that has helped the process, but there are still some municipalities and utilities out there that have been resistant to complying with the FCC order. And I think we're in the process of both working through that with the local municipalities, as well as working closely with the regulators to make sure that it's handled appropriately.", "I wouldn't look beyond that toward kind of G&A or staffing or anything else as causes or reasons for it. I think the long-term outcome we're hopeful will be that this is somewhat temporary and that, ultimately, you'll see municipalities and utilities fall in line with what the FCC order is. And that will come back to a more normalized timeline around these activities. And if that happens, we'll come back and update you on it. But based on what we're seeing currently, I think the 24 -- the 18 months to 36 months is probably the right timeline." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And Nick, I think one of your questions was around our own overhead and whether the reduction going down to 10,000 node per year range would change that. I would just call your attention, what we had before was 10,000 to 15,000 range, so we're on the low end of the range, but still within the range of what we thought was appropriate for the cost structure we have.", "Of course, to the extent that we can reduce our cost structure because there is lower activity or there are places we can get more efficient, we will be looking to do so as aggressively as we possibly can. But I wouldn't expect that in the base case because this is within the range of outcomes that we were expecting for the year." ] }, { "name": "Nick Del Deo", "speech": [ "All right. Understood. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Michael Rollins of Citi." ] }, { "name": "Michael Rollins", "speech": [ "Hi. Good morning. First, can you just give a little bit more context on the change in straight line within the 2019 guidance? And second, can you give us an update on your outlook for discretionary capital spending with the changing outlook on small cell deployment and fiber revenue growth? Thanks." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure. So, Mike, as I mentioned before, the change in straight line really is a combination of new leasing activity which causes new straight line and then the extension of current leases, which also causes an extension of the term and therefore, an increase in the straight-lined revenue. Both of those are related to increased tower activity. And as we've seen in the first couple or in the first quarter and the last quarter of 2018, those extensions and those amendment, I note that new leasing activity has caused us to continue to increase the straight-lined revenue because the activity levels are increasing more than what we had anticipated. And so we are excited about that because I think it's just like Jay said about services as an indication of what's going on with the tower leasing overall.", "On discretionary CapEx, we think it will remain consistent with what we said before. About $2 billion of CapEx in 2019 is our expectation and continues to be, on a net basis, around $1.5 billion. And the reason for that is most of the capital that we spend comes well before we are putting in a node portion of the small cell builds. And so we're continuing to have to do that and continuing to do that work now even though some of the time frame has been elongated, a lot of that has been on the back end. So, we anticipate making progress on the projects at the pace that we were anticipating and expecting from a capital perspective for 2019 as we were on our prior outlook." ] }, { "name": "Michael Rollins", "speech": [ "Thanks very much." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Batya Levi of UBS." ] }, { "name": "Batya Levi", "speech": [ "Great. Thank you. On the fiber solution side, can you provide a rough split of the $150 million incremental revenues you expect this year in terms of wireless driven versus enterprise driven? And second question on the guidance. Can you remind us whether it includes for Sprint activity this year?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. On the first point of $150 million, that part is on the fiber business itself and so all of that $150 million is related to our fiber solutions business not wireless customers." ] }, { "name": "Batya Levi", "speech": [ "Right. In terms of the fiber backhaul for wireless nodes as opposed to pure enterprise business, if you split it that way." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. We don't split it that way and largely because a lot of that business is a similar business. Although I would say that within that fiber business, the majority of it is enterprise, a vast majority for it is enterprise and not in the wireless backhaul. What we've said in the past is about -- to give you a little bit more color is, about 50% of that business is generally with enterprise customers and 50% is with carriers as we would call it or larger customers that have more backbone type of needs than what I think that you're trying to get to is enterprise versus that backbone is about 50-50." ] }, { "name": "Batya Levi", "speech": [ "Right. Okay. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Batya, on your second question around Sprint, we don't comment on specific customer or their activities. So, we'll let them speak for themselves in terms of what they're expecting to do with their network." ] }, { "name": "Batya Levi", "speech": [ "Okay. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Philip Cusick of J.P. Morgan." ] }, { "name": "Philip Cusick", "speech": [ "Hi. Beating this fiber bookings a little more, recognizing that fiber is still hitting your underwriting goals, are there regions or verticals that aren't really holding up on the bookings side? Or I wonder if you become more wary of the sort of contract or revenue mix in fiber?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think -- I think, Phil, what I would say is there's opportunity there. We haven't really seen the market change, which I was trying to make a point to just a minute ago. We went into this process of making these fiber acquisitions over the last several years. The way we underwrote the investment and thought about the opportunity was driven from our macro view of the need for small cells and what that would portend over time.", "Now, obviously, given the way fiber had historically been utilized, it was built originally solely for the use of, in many cases, the enterprise and fiber solutions revenue that you're asking about. So, that's a relatively new business to us.", "So it wasn't the driver for which we underwrote. So if I were to go back and look at kind of our underwriting assumptions and try to match those to your questions around, which components are doing better or worse than what we initially expected, that's probably a level of granularity and focus that, frankly, we just -- we didn't aim toward that when we were going through the process. We were focused much more on a range of outcomes around what we thought was going to happen in the wireless business.", "And as I referenced in my comments earlier, the environment for that today is more robust and healthier than the environment in which we underwrote the fiber, the fiber investments initially with regards to small cells. So, I'm not trying to sidestep your question other than to honestly tell you that, that's really, frankly, not where we spend a lot of time trying to analyze, and so trying to make the comparison. I don't know that there's much of a comparison to be made there." ] }, { "name": "Philip Cusick", "speech": [ "I think the -- and the reason that we are, I was just going to say that. I think the reason we're spending so much time on it is not because, again, that the fiber into small cell opportunity is not a good one. But I think a lot of us have been maybe concerned that as you bought a lot of fiber revenue, that was existing, that you may over time not exercise that as much and that the growth there may end up dragging you more than sort of the mid single-digits that it had originally been. And so, I think this is -- some of us are concerned that this is the first step of sort of de-emphasizing that revenue growth that may drag the top line for a while." ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think it's fair to ask the question and to wonder about what the long-term prospect is going to be. And as I said in the same way that we would think about on towers, obviously, we want to drive revenues outside of just a big four wireless operators, if all of the activity which makes up about 15% from the non-wireless carriers on towers was to dry up, that would impact our growth rate on towers and the same thing is true around fiber solutions.", "So, I don't need to -- I don't mean to dismiss the question as irrelevant. It's not just the primary focus of the investments that we made, and therefore, it has a lesser focus in terms of the way we think about operating the asset. While at the same time believing that every dollar that we get there is beneficial to ultimately the returns around fiber and therefore, it does warrant the appropriate level of attention and focus to make sure we're maximizing the opportunity there." ] }, { "name": "Philip Cusick", "speech": [ "Understood. If I can, one more quick one. Given the restrictions are coming from the sort of the approval side, is 10,000 small cells a year a good guide going forward? Or do you see any shift that municipalities would be able to approve these more quickly in the future?" ] }, { "name": "Jay A. Brown", "speech": [ "I think it's a good guide in terms of how you think about our model over the next couple of years with the bookings that we have and backlog currently. So, I would guide you toward the 10,000 number in the short term. Longer term, the reason why the FCC order was put in place was to facilitate the deployment of 5G in the United States. And our belief in terms of the macro opportunities around small cells is far greater than what's happening currently. And I think you're going to see the overall pie associated to market sizing of the need for small cells to grow pretty significantly over the coming years as networks transition from 4G to 5G.", "And so municipalities and utilities are going to have to figure out a way to use the benefit of the FCC order, which provides for the cost associated with scaling this up. They're going to have to get to the place where they facilitate that in order for the US market to stay competitive and for the deployment of 5G. And I suspect they will. Obviously, the FCC has been responsive and has been really thoughtful in terms of the way they've drafted the order. And in the places, I should at least tip my hat to the places that have complied with the FCC order, it has really helped.", "It's helped in terms of the deployment of small cells and you could see in our own activity deploying 10,000 small cells thereabouts in 2019. That's about 30% higher than what we were able to do last year. Some of that is a direct result of some of these municipalities and utilities that are complying with the FCC order, which we find to be really encouraging. So, I suspect over time we'll see broader embrace of that and compliance with it and I think that would be helpful." ] }, { "name": "Philip Cusick", "speech": [ "Thanks, Jay." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Tim Horan of Oppenheimer." ] }, { "name": "Tim Horan", "speech": [ "Thanks, guys. Jay, is there any thinking or talks with the municipalities that have more shared fiber infrastructure? Because I mean, digging up these roads kills the structural integrity and getting power is very difficult than putting cell sites on the street lamps and everything else out there. Are you having any of those kind of conversations? Because one of the reasons Verizon is also building out really aggressively and just digging up these roads time after time again just doesn't make any sense." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. That's certainly one of the areas that we look for is that there is existing conduit that can be used to pull fiber through or other opportunities or ways to do it with minimal -- as minimal an impact as possible inside of these municipalities. And ultimately, the municipalities and the utilities, we are working hard to be good partners with them and figure out ways to reduce the amount of impact in the community.", "As you look at small cells across the country and go market-by-market, the types of poles that we deploy them on, the type of structure that we deploy, where we put the cabinets, the sizing of the cabinets, the sizing of the antennas and other things is often tailored to the aesthetic desires of the local municipalities. And so a component of it is aesthetic that we're working with them on.", "Another component or some of the things that you're referring to is, are there ways for us to deploy this kind of infrastructure and minimize the amount of impact in the community? We're incented to do that because it lowers our cost when that's available. So to the extent that there are ways to do that, we're certainly looking for ways to be smarter and faster about how we're both spending the time and investing the capital." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And the other thing, Tim, that I would point out is, the core to our business is shared infrastructure. And we believe we are in the best position to put that infrastructure in one and share it across as many customers as we can. As Jay was pointing out, with the focus on small cells, we can reach multiple of the wireless customers, but also with a focus on providing fiber solutions, we can add customers that same fiber infrastructure. And we think we're in the best position of any company to do that. And if the municipalities really are focused on trying to limit the times that a street is dug up, they're allowing a third-party provider who can share that asset as many times as possible to be the provider of that asset, is likely the best outcome for everybody involved." ] }, { "name": "Tim Horan", "speech": [ "No, you're preaching to the choir on that. I guess the question is that the cities really recognized that. And have any cities implemented a policy like that other than like New York City with Empire City Subway?" ] }, { "name": "Jay A. Brown", "speech": [ "I don't know that I would put it in the -- adopted a policy. But do we work with municipalities to do that? Absolutely. And there are occasions where we found ways to do that." ] }, { "name": "Tim Horan", "speech": [ "Well, I guess lastly, in this regard. I mean, Verizon says they're building out aggressively. They want owners' economics that's key to their 5G strategy. Do you try to coordinate with them and not build in the areas that they're going to or vice versa? Yeah. Any thoughts on that would be great." ] }, { "name": "Jay A. Brown", "speech": [ "Well, as I mentioned earlier in my comments, about half of the overall activity that's happening in the market, we think we're accomplishing and the other half is largely being accomplished through self-perform by the wireless operators. Similar to the tower business, we don't see people overbuild assets. So, once an asset is there, those fastest and lowest-cost means by which to deploy infrastructure like small cells is to use the existing assets and that's the way we're seeing the business develop. I think we would continue to see it go that way.", "I certainly don't expect that we're not going to build all of the miles of fiber that are going to be required in the US for the deployment of 5G and small cells. There's going to be a number of players in this space, including the wireless carriers who are going to build significant amounts of fiber and probably share that among themselves at some point." ] }, { "name": "Tim Horan", "speech": [ "I guess what I was asking that 50%, is that hopefully occurring in locations where you're not building? It's like where you are building, you are getting like a 100% of the small cells?" ] }, { "name": "Jay A. Brown", "speech": [ "Right. I mean, what I would point to is, again, back to kind of the tower example. As infrastructure is in the market and there is opportunity there, existing infrastructure is preferred over trying to build new infrastructure on top of existing infrastructure. This is very early days of what's going to need to be build for small cells across the country. And so I think you can see the flow of capital to areas that are not currently covered. And therefore, the investment to build new fiber build areas that don't have any existing fiber, whether that's fiber that we built or somebody else built." ] }, { "name": "Tim Horan", "speech": [ "Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our last question from Spencer Kurn of New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. Thanks for taking the question. So, maybe just to ask a question on the tower side. Can you just provide a little bit more color around your updated guide for new leasing activity on towers? You're targeting $140 million at the midpoint today. Could you shed some color on how that paces throughout the year? I'm just trying to understand if guidance implies similar level of growth as the second quarter or if you're expecting a further acceleration in the back half of the year." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, Spencer, on the revenue guide, we are expecting more activity in the second half than what we saw in the first half, so there's an acceleration in the back half of the year. I think that's somewhat similar to what historically we've seen, where in our business the back half of the year tends to be more loaded than the front half. So, we are expecting an acceleration relative to the first half of the year and the second half." ] }, { "name": "Spencer Kurn", "speech": [ "Thanks. And then just one follow-up on the comment you made in your prepared remarks. You talked about 4G activity and 5G activity driving a strong tower growth -- strong growth on towers over the next couple of years. Could you just elaborate on how you see 5G playing out on towers versus small cells? Love to get your thoughts on that. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. I think -- I think what we will see is a combination of two things running parallel. First is the carriers build out, upgrading their networks. They will tend that they have done in past migrations of technologies to go to the places where they already have existing technology to upgrade equipment to the new technology. So, I would suspect we'll see significant amendment activity at sites where they go out and deploy additional antennas and line and amend their existing equipment to make it 5G ready. I think we'll also see in places where the carriers have additional spectrum that they have acquired, where they will put what would feel like to us as new installations in order to deploy that equipment.", "In addition to that, I think you're going to see some places running parallel with that in the initial stages is infills because of capacity constraints, which will flow toward investments in small cells. So the areas that we've already put fiber in the ground have fiber in dense urban areas where there's a high amount of traffic. I think as the 5G network starts to begin to be loaded, I think you're going to see the carriers invest not only in upgrading their existing equipment, but also offloading some of that traffic on to small cells and those dense urban environment.", "Just like we saw in 4G, where as macro sites reached capacity, they offloaded some of that traffic on to small cells in order to improve the cost efficiency and effectiveness of the macro side. I think you're going to see a similar play out on the 5G side. So, it will be a combination of investment around both the macro side as well as small cells." ] }, { "name": "Spencer Kurn", "speech": [ "Great. Thanks so much." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "[Operator Instructions] [Speech Overlap]" ] }, { "name": "Jay A. Brown", "speech": [ "We'll take one more question." ] }, { "name": "Operator", "speech": [ "We'll take one more question from Jon Atkin of RBC ." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks very much. So, I don't know if I missed this earlier or not, but I just want to kind of make sure I get the kind of the broad contours. It sounds like the small cells growth that you're expecting going forward might be a little bit less capital intensive. I don't know if that's a fair read or not? And then secondly, on the M&A side in terms of tuck-in fiber acquisitions, can you maybe describe the landscape and what looks interesting or not interesting to you? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning, Jon. Less capital intensive is -- that's certainly true with regards to the co-location activity. As we go over the long-term, we would expect that once there's a certain base of fiber that's been built -- anchor built fiber, as we get to the point where the flips from being anchor build new sites, in essence being built, we'll move toward a greater percentage of co-location and then therefore, the capital intensity comes down as associated with that activity. I think based on our macro view though, Jon, that may be several years away from the environment that we're in today.", "As I made my comments earlier around how the carriers are thinking about the deployment of small cells, I think there's a lot of work still to be done even in the top 10, top 30 markets in the US and then we'll just have to see how it develops beyond there. But as we get toward the point where co-location becomes the vast majority of the business similar for drawn analogies to the tower business, you go back and look at the 1999 to the 2003 time frame, there was a significant amount of capital that had to be poured into build and acquire towers.", "And now we're at the place in the tower business where virtually all the capital is related to co-location. That's very low capital intensity required to do that. So, I think the same thing will happen in small cells. I think we may -- it may still be several years away when we get to that point where it's -- the vast majority of the activity is just solely co-locations.", "On your second point around M&A, I've made this point now for probably a year and a half or so, but we just don't see any opportunities for large scale acquisitions of the kind of fiber that we believe fits our strategic goal. We need dense, high capacity urban fiber in order for it to really fit the small cells opportunities that we believe lie ahead.", "And from what we've seen in the market, there maybe from time-to-time some tuck-in acquisitions in certain markets to cover a portion of that market. But we really just don't see a lot of opportunity to make acquisitions. So, I would suspect that, to the extent that you see us allocating dollar toward investing in fiber, we're more likely to do so on a build basis than we are to do it from the acquisitions." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks very much." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Thanks, everyone, for joining us this morning. We appreciate it. Look forward to catching up with you next quarter." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2021-04-22	[ { "description": "Vice President Of Corporate Finance & Treasurer", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "President And Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Executive Vice President And Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew Niknam", "position": "Analyst" }, { "description": "Cowen & Co. -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "J. P. Morgan -- Analyst", "name": "Philip Cusick", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the Crown Castle Q1 2021 Earnings Call. [Operator Instructions] At this time, I'd like to turn the conference over to Ben Lowe. Please go ahead." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Great. Thank you, Vicki, and good morning, everyone. Thank you for joining us today, as we discuss our first quarter 2021 results. With me on a call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer. To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and the actual results may vary materially from those expected.", "Information about potential factors, which could affect our results is available in the press release and the Risk Factors sections of the Company's SEC filings. Our statements are made as of today, April 22, 2021, and we assume no obligations to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the Company's website at crowncastle.com.", "Before I turn the call over to Jay, I want to mention that we will take as many questions as possible following our prepared remarks today, but we plan to limit the call to 60 minutes this morning. So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and good morning, everyone. Thanks for joining us on the call. As you saw from our first quarter results and increased full-year outlook our consistent execution is delivering outstanding results as we support our customers' growth initiatives with their deployment of nationwide 5G in the U.S. Following a period of building excitement and anticipation, we have seen a significant increase in activity as our customers have started to upgrade their networks to 5G at scale. We expect this elevated level of activity to result in a year of outsized growth for Crown Castle, as we now anticipate 11% growth in AFFO per share for the full-year 2021, meaningfully above our long-term annual target of 7% to 8%.", "Beyond 2021, I believe our strategy and unmatched portfolio of more than 40,000 towers, approximately 80,000 small cells on-air are committed in backlog, and 80,000 route miles of fiber concentrated in the top U.S. markets have positioned Crown Castle to generate growth in cash flows and dividends per share for years to come. Our strategy is to deliver the highest risk-adjusted returns for our shareholders by growing our dividend and investing in assets that will drive future growth. That focus has led us to invest in towers, small cells, and fiber assets that are all foundational for the development of 5G networks in the U.S.", "We believe the series of strategic agreements that we have announced in recent months further highlights the synergistic value our shared infrastructure provides to our customers. Building on the momentum from our recent 15-year agreement with DISH to support our nationwide 5G build-out, and our recent long-term 5G small cell agreement with Verizon to support their network deployments. We are excited to once again expand our strategic relationship with Verizon through a recent long-term tower leasing agreement. We believe this agreement will deliver significant value for both parties, as it establishes turns for leasing additional capacity on existing tower sites, with a structure that is intended to make it easier to expedite the deployment of C-band equipment over the next several years. The agreement also resulted in an increase in the average remaining current contracted lease term under our Verizon site leases to approximately 10 years. Dan will discuss the expected financial impact of this agreement later in the call.", "Turning back to our focus on generating superior long-term returns, one of our core principles of our strategy is to remain U.S. only because we believe it represents the best market for wireless infrastructure ownership since it has the most attractive growth profile and the lowest risk. And we believe this dynamic of higher growth and lower risk will continue into the future, which is why we expect our U.S-based strategy to drive significant returns for our shareholders.", "Starting with the higher growth we see in the U.S., the demand for our shared infrastructure offering across towers, small cells and fiber is tied to the robust demand for mobile data in the U.S., which continues to increase by more than 30% annually. Because the outlook is so compelling, the U.S. wireless market continues to attract a disproportionate amount of global capital investment. This is likely due in part to the fact that the durability and scale of wireless data growth in the U.S. has repeatedly outperformed expectations. I remember fielding questions from investors and analysts nearly a decade ago, trying to understand why we were not expanding our tower business and the less established international markets that offer the promise of outsized growth to compensate for the outsize risk.", "The core set of assumptions underpinning that line of questioning included a view by many that it was inevitable that U.S. growth rates would flow. Leading to a desire to augment that growth by investing in international wireless markets, that hopefully would develop the same key set of fundamentals over time, that has made the U.S. market so successful for decades. We didn't buy into that argument at the time and sitting here today on the doorstep to 5G, we reach a similar conclusion that the U.S. is still among the highest growth markets for wireless infrastructure.", "Importantly, in a shared infrastructure business with long-term investment horizon, we have benefited from these superior growth rates while avoiding the risks associated with investment opportunities in less established international wireless market. These risks can have a meaningful impact on long-term returns and many have materialized in recent years, including the outsized churn due to less favorable industry dynamics relative to the U.S., sustained foreign currency devaluation that results in revenue churn, and disruptive social or governmental environments in less developed countries. Because we believe the U.S. has both greater potential for growth and lower risk, we are focused on growing cash flows on our 40,000 towers by providing access to existing and new customers that are building 5G wireless network.", "We are investing in new small cell and fiber assets that our customers need for their wireless networks, which we believe increases our ability to capitalize on the 5G growth trends in the U.S., and we are developing new capabilities and offerings that will leverage our existing assets to drive innovation. And we believe we'll further extend our growth opportunity, such as CBRS and edge computing. I believe that Crown Castle offer shareholders an unmatched opportunity to benefit from the launch of 5G wireless networks in the U.S.", "In the near to medium term, we expect to deliver outsized AFFO per share growth of 11% this year, as we translate this increasing 5G activity in the very attractive bottom-line growth. We expect to once again deliver the highest tower revenue growth rate in the U.S. among our public tower peers in 2021. And our customers are affirming the value we bring with our comprehensive portfolio of shared wireless infrastructure assets by entering into long-term agreements to access those assets. Longer term, we believe Crown Castle provides an exciting opportunity for shareholders to potentially compound double-digit total returns over a long period of time with a high-quality dividend that currently yields 3% and that we expect to be able to grow 7% to 8% annually.", "When I consider the durability of the underlying demand trends we see in the U.S. that provide significant visibility into the future growth for our business the deliberate decisions we have made to reduce the risk associated with our strategy, and our history of steady execution. I believe that Crown Castle stands out as a unique investment that will generate compelling returns over time.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay. Good morning, everyone. As Jay mentioned, we are excited to see our customers beginning to deploy 5G at scale. We have seen a significant increase in activity levels, leading the solid first quarter results that exceeded our expectations and support our increased full-year guidance. Turning to Slide 4 of our earnings presentation, you can see our strong top-line results were driven by more than 6% growth and organic contribution to site rental revenues. This growth included more than 9% growth from new leasing activity and contracted escalators, net of approximately 3% from non-renewals. We also generated a $23 million increase in contribution from services when compared to the first quarter 2020, culminating in 10% growth in adjusted EBITDA and 20% growth in AFFO per share on a year-over-year basis. Turning to Slide 5, we increased our full-year AFFO guidance by $40 million, reflecting a $25 million increase in expected services contribution, as a result of higher than expected tower activity levels and a $30 million reduction to interest expense following our successful recent refinancing activities partially offset by $15 million of additional labor-related costs, associated with the higher activity level. Additionally, as Jay discussed, we entered into a long-term tower leasing agreement with Verizon, that resulted in increasing the average current lease term of our Verizon tower site leases to approximately 10 years and adding straight lined revenue of approximately $140 million in 2021. Taking these changes into account, we now expect our adjusted EBITDA to be $150 million higher than our previously provided 2021 outlook. Our expectation for site rental revenue growth has increased to approximately 7%, inclusive of the expected organic contribution to site rental revenues of 6%, which remains unchanged.", "Our expectation for growth -- organic growth across towers, small cells and fiber solutions also remain consistent. With approximately 6% growth from towers approximately, 15% growth from small cells and approximately 3% growth from fiber solutions. Focusing on investment activities, during the first quarter capital expenditures totaled $302 million including $17 million of sustaining capital expenditures, $49 million of discretionary capital expenditures for our Tower segment and $225 million of discretionary capital expenditures for our Fiber segment.", "Our full-year expectation for capital expenditures remains unchanged at approximately $1.5 billion or less than $1 billion after customer capital contributions and we continue to expect to fund our discretionary investments this year with free cash flow and incremental borrowings. Turning to the balance sheet, we finished the first quarter at approximately 5.5 times, net debt to EBITDA and expect to exit 2021 at our target leverage for approximately 5 times, based on the anticipated growth in cash flows through the balance of the year.", "As Jay discussed, in addition to driving significant dividend growth, a key part of our strategy is to reduce the overall risk profile of the business to further enhance the value created for shareholders over time. Along with focusing on what we believe is the highest growth and lowest risk market in the world for wireless infrastructure ownership we have methodically reduced the risk profile of our balance sheet with the same goal of maximizing long-term shareholder value. With that in mind, we were able to opportunistically access the bond market during the first quarter to refinance upcoming maturities, reduce our debt cost and extend our maturity profile.", "Looking back 5 years, to when we achieved our initial investment grade credit rating and inclusive of our recent refinancing transaction, we have increased our debt mature -- average debt maturity to nearly 10 years from just over 5 years, reduced our average borrowing costs to 3.1% from 3.8% increased our mix of fixed-rate debt to more than 90% from just under 70% and reduced our reliance on secured debt to just 15% from nearly 50%. With limited upcoming debt maturities in the near term and more than $4 billion of undrawn capacity on revolving credit facility, we believe the balance sheet is positioned well to support our growth initiatives.", "Turning back to the growth side of the value equation and to wrap things up, we are excited about the increasing level of activity we are seeing, as our customers begin to deploy 5G at scale. Our customers continue to recognize this differentiated value, our comprehensive shared infrastructure offerings -- offering brings leading them to sign significant long-term agreements with us. We expect to once again generate industry leading U.S. tower revenue growth this year, and we expect to generate 11% growth in AFFO per share in 2021, which provides a very attractive total return opportunity when combined with the current 3% dividend yield. Importantly, we are generating these returns while making strategic investments in new small cell and fiber assets that we believe will add to our long-term growth opportunity. And with that, Vicki. I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And we will take our first question today from Simon Flannery with Morgan Stanley. Please go ahead." ] }, { "name": "Simon Flannery", "speech": [ "Great, thank you very much. Thanks for all the color. Jay, perhaps you could dive into the services business. What are you seeing going on there that led you to write to increase the guidance? And then how the -- how you see that translating time-wise into higher leasing trends? And any comments on the U.S. M&A environment? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Simon." ] }, { "name": "Simon Flannery", "speech": [ "Good morning." ] }, { "name": "Jay A. Brown", "speech": [ "We're obviously very, very encouraged by the activity that we're seeing among the carriers. We're not surprised by the urgency that our customers are showing in deploying 5G, the level of commitment that they showed during the C-band auction was really a clear sign that they are going to invest heavily in 5G and so the activity we're seeing I think just flows from that. We're seeing that turning to actions as they're deploying significant amounts of 5G networks, and we're really encouraged by the activity that we're seeing. When we think about that activity translating toward revenue growth it -- we obviously saw a big step-up toward the end of last year and that's continued into this first quarter. And as it relates to the services activity, obviously, most of that activity is either in the nature of pre-construction work that we're doing for carriers and then some portion of that carries over to work that we're doing as we actually then install them on the site. So the elevated activity that we saw the step-up we think sort of continues through the balance of this year and is the direct result of the overall encouraging level of activity that we're seeing from the carriers." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. And the second part was just on the M&A environment in the U.S. I think, what we're seeing across the board, Simon. I think you understand is, there is a lot of money that's interested in infrastructure right now, and that's reflecting itself in the M&A environment, both for towers and some fiber assets. What we've been focused on and been clear about is that we think that there is not a lot of the -- of additional M&A we're going to pursue in the U.S. for fiber. We think most of those assets that we wanted we have purchased, there may be some others out there that meet the criteria we've looked at being high capacity dense metro fiber, but not a lot. So we anticipate most of our capital will go to organic growth in our business through this also in fiber business." ] }, { "name": "Simon Flannery", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "We will now go to Michael Rollins with Citi." ] }, { "name": "Michael Rollins", "speech": [ "Thanks, good morning. Curious, first, just start with the Verizon agreement and extension. Can you frame the types of activities and upgrades that Verizon's committed to within this agreement and extension? And what might be opportunities that fall outside the scope of this agreement just to think about what kind of predetermine versus what other activities you could pursue with Verizon to further grow your revenue over time? And then just a quick follow-up on the net debt leverage. Could you just give us an update on what the target range is and to the extent that the leverage, I think in the debts ended at 5.5 times in the first quarter, just how you see that progressing over the next couple of years? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Mike. Good morning. Obviously, really excited about the Verizon agreement that we announced on the tower side, I think it provides significant value and certainty to Verizon, as well as to ourselves. And I think the significance of that agreement is obviously evidenced by the impact that it has on our 2021 outlook in the step-up that we've put into that outlook last night in the press release. This really went through the same thought process that we've gone through over the last several years, as we've done large transactions with the carriers on the MLA side and had similar components to it. We're trying to meet the customers' needs, particularly with regards to certainty of price and then lowering or reducing the amount of time that it takes to go through the paper portion of getting them on to our site.", "So, it's designed to facilitate their ability to go back to sites that they're already on and speed up that process of them being able to do upgrades. And obviously, they've been specific about the desire to do that with regards to the C-band. And then on our side of it, we're trying to make sure that we price the economics of that transaction appropriately. And I think we've seen over multiple of those kinds of transactions with customers, multiple customers and multiple transactions over time. And ability to do that well to both get the right economics on the site and then provide our customers with the right access and speed to get there.", "So we did something similar, has a lot of components to the things that we've done in the past and thought about it in a similar way. We get the 10-year extension on the leases that they're already on which moves the maturity out from about 4 years to about 10 years on those sites, and then over the next several years, gives them an opportunity on those sites that they're already on to upgrade their equipment to handle new spectrum bands and to get that where they want it to be from a 5G standpoint. We still maintain the upside on new leasing and other activities associated with that. And then once we get past sort of this initial push into 5G then obviously the opportunity is there for us to see greater growth over time. So excited about the agreement there, and excited about what it means in terms of total activity. And as I said before in the prepared remarks, I think right on the doorsteps of seeing 5G deployments at scale and enables us to be able to be responsive to Verizon's desires to get there." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, and Mike, It's Dan, I'll take the second question on leverage. Our target still remains four to 5 times. We believe, we'll stay in that 5 times, as we continue to invest in our small cell and fiber business, which should be for several years. We're, as you pointed out at 5.5 times at the end of Q1. We believe that with the growth in EBITDA that we see coming for the -- through the rest of the year that we will end the year close to that 5 times, maybe slightly above it but pretty close to that 5 times debt leverage target and feel really good about that position we're in because we are able to invest in the growth of our business while relying on cash flows and incremental borrowing capacity and not equity to fund that growth." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "We'll take the next question from Matt Niknam with Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey, guys. Thank you for taking the questions. One on small cells, and then one on services. On the small cell side, revenues were flat sequentially. I think year-on-year growth slowed into the high-single-digit. So can you give any color in terms of the drivers there, and then how we should think about the outlook for the rest of the year if you're reiterating the 15% growth guide? And then on services, if you can give any more color in terms of what drove the strength in margins this quarter? And I'm just trying to get a sense of what the cadence for services contribution will look like in the next couple of quarters over the course of the year? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning. On small cells, I would point to as we've tried to do in our outlook, look at the full year. So a little bit of timing change is going to -- which is naturally going to happen as we go through the construction phase of small cells its going to have some quarter-to-quarter movements that may not tie out exactly to the full-year outlook. But as we look at the full-year outlook still think small cell growth year-over-year is in the 15% range that mid-teens that we've talked about for a long time, we think on the fiber solutions side will be around 3% for the full year and then towers right there at around 6% as we previously expected. So I don't see anything Matt, in terms of those numbers in the quarter that are as indicative of anything happening in the underlying business that I would point to. I think it's just the timing differences quarter-to-quarter. And as we look at the full year, I think that's more indicative of the actual activity what we're seeing from the carriers and how we expect those businesses to perform. On the services side and the cadence there, look we're at a level of elevated activity, so we probably had a better first quarter in terms of services than we would in many years where we, we often talk about years being back heavily back-end loaded to the second half or even toward the fourth quarter. And we saw a step-up in activity going into the end of last year and that level of elevated activity just carried right into the first quarter. So we saw a real nice contribution from services in the first quarter and expect basically our full-year assumption to be pretty similar to where we were previously with that adjustment for the first quarter." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. And Matt, it's Dan. Just on the question on margin specifically. It's the mix of business. Jay talked about earlier, having a mix between pre-construction and construction as part of our services business. The pre-construction is a little bit higher margin and that's what we had a little bit higher mix of within the quarter, and that drove the higher overall margin." ] }, { "name": "Matthew Niknam", "speech": [ "Great, thanks, guys." ] }, { "name": "Operator", "speech": [ "And we'll go to Colby Synesael with Cowen." ] }, { "name": "Colby Synesael", "speech": [ "Great, thank you. You spoke pretty bullishly about what you're seeing from an activity perspective. But it's I guess a little surprising then that you didn't raise your organic tower growth? And given that you gave your guidance all the way back in October of 2020, were you already seeing or had the conviction that you'd see this acceleration in demand and therefore, it's already built into the guidance? It just seems like given how early you gave your guidance, and how quickly the demand is kind of ramped that you wouldn't have necessarily included that. And then secondly, as it relates to the Verizon MLA, you talked about making it easier to deploy. And I guess one of the bigger questions, people are trying to get a sense on, investors are trying to get a sense on is whether or not the agreement includes just some standardized pricing to make it easier for them to move quicker or whether or not there is actually some type of financial benefit where you allow them to go to X amount of sites over X amount of period that's shorter than that 10-year period to kind of move quickly. And if that's the case, I would assume that there is some type of cash benefit. Yet, we didn't really see the AFFO change for that in particular. So again, any color you can give on that would be helpful. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning, Colby. Thanks for the questions. On the first question around organic tower growth. A couple of things I would put in front of you on that. One is, there is a pretty good lead time or lag time from the time that we see revenues start to turn on, start to get the applications from the customers to when we actually see the revenue start to turn on, that's about six to nine months. So the increased level of activity that we've been talking about for 2021, it's something we did see all the way back into the fourth quarter of 2020. We started to see the applications step-up then, and that informed our increase in the overall activity. I was sort of curious to this point the other day and just looked back to kind of our organic revenue growth over the last 2017 through 2020 and the organic revenue growth in '21 that's in our outlook is a step-up of a little over 25% of that average over those previous four years.", "So it's a meaningful increase in the activity, and we've baked that into our outlook when we gave 2021. So what we're seeing now in terms of that activity is pretty consistent with what we had expected, but it's always good to see it materialize and it not just the expectations is where we were back in the October timeframe. The other thing that I would mention about this is, as we look at this activity we're encouraged and think that there is the opportunity for it to stay at this level of elevated activity for a period of time. So I think in the business, oftentimes people start to look for inflection points or at points where it's going to be the highest and then expect it to kind of fall off. And our prior experience would tell us that those inflection points are relatively rare that you see the carriers step-up level of activities and hold at a plus or minus a certain amount for a long period of time. So we look at that activity really encouraged by what we're seeing and not -- and I'm frankly not surprised.", "To the broader point on, as we look at revenue growth and activity, the way that we create value for shareholders is by stacking years of good growth one on top of another. And what is happening in the business right now is a tremendous year of growth of growing that AFFO at 11% year-over-year on a per share basis and just stacking another year of great growth on top of what was a good base. And our goal is to consistently deliver that growth, as like we've talked about over the long-term, 7% to 8%. And what we're seeing at the top line certainly indicates our ability to achieve that longer term goal.", "On your second question around the Verizon MLA. We try to stay away from getting too specific about the terms of the agreements that we do with our customers. We'll let them speak to how they think about their deployment plans and why they structured certain agreements with us. But I would tell you that there are components of both parts of your question in the agreement. It certainly does include certainty of pricing for them. And if depending on levels of activity, then it will drive an answer for us in terms of top-line growth over a long period of time. So it does provide pricing and then there's also a component of committed activity that's in it where we have certainty of some revenues associated with activity, as they deploy C-band over the next several years. So there is components of both of those in the agreement. And as we go forward, we'll see more consolidated rather than specific to a customer relationship. The contribution of cash revenues beyond what Dan spoke to in terms of the impact to the GAAP financial statements this year and years to come." ] }, { "name": "Colby Synesael", "speech": [ "Yeah, presumably the reason then that the AFFO is not benefiting from that committed activity then, is that it's not actually starting necessarily in 2021, but at some future point. Is that fair?" ] }, { "name": "Jay A. Brown", "speech": [ "No, I don't think that's fair. I think, I would look at some of the activity that we would have assumed would occur in 2021 when we gave the outlook would be associated with all of our customers. So some component of that activity was already embedded in our guidance. And maybe it's under a different construct now as a result of this agreement, but wouldn't necessarily change our view of activity for the year. And therefore." ] }, { "name": "Colby Synesael", "speech": [ "Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "The cash flow." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. The only Colby it's Dan. The only thing I would add to that is, I just want to put a little bit of context around it that our growth in the tower business of around 6% is double that what our closest peers have guided to for 2021. So we feel really good about that. And this deal that we signed with Verizon, the one we signed with DISH, all went into our understanding of what was going to drive that 6% growth that it almost double what our peers are seeing. So I think looking for us to increase above what is already a really good number, probably is too much then can happen as Jay pointed in any one year for the tower business. And we're just excited that we're able to provide as much growth as we are right now in driving the type of returns that we are for our shareholders." ] }, { "name": "Colby Synesael", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Next is Phil Cusick with J.P. Morgan." ] }, { "name": "Philip Cusick", "speech": [ "Hi, guys. Thanks. First, Jay, or to your comment on leverage remaining of 5 times, should you expect accelerating capex next year to keep that leverage of 5 times? Because it seems, otherwise, it would be falling below that pretty quickly. And then second DISH announced yesterday, it will be using the AWS cloud, not a big surprise. But can you give us thoughts on how that may impact Crown overtime on site leasing revenue, as well as pay impact on the opportunity and in edge computing? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, Phil. Thanks for the questions. On -- around capex, we've spent some time I think over the last couple of quarters talking about our expectation for this year's capex, which on a net basis is down about $400 million from the levels that we saw in 2019. That was largely related to the fiber acquisitions that we made, those companies had committed to a number of large enterprise and government build-outs that were built specifically for kind of those kinds of activities, enterprise and government broadband services. And post those acquisitions, we just haven't signed up those kinds of agreements at any kind of scale, like those prior companies have done.", "And as a result of that and our strategic focus around small cells, the capex has come down as we built out those really long lead time contracts. Many times they were three to five years of build-out and commitment. So those are basically rolled off. And now, as we think about capital spending, it's strategically focused on what we believe is the long-term value driver of the business around small cells and the opportunity to kind of build these networks for carriers as they build 5G networks.", "I don't want to get too much into what we think in '22 and beyond. We've given guidance this year that our net capex will be a little less than $1 billion. For the longer term, the driver of capex will be what are the opportunities, mostly around small cells and those will go through the same rigorous process that we put all of our capex processes through of understanding what the return is. We look to see a 6% to 7% initial yield on invested capital and then we want to make sure that we believe there is good opportunity for additional lease-up beyond that, that can drive that yield into the double-digits and higher returns on capital over time as we see more lease-up. So in the future, we'll just have to evaluate what the opportunities are, and then we'll give you an update on capex, as we get later in the year. In October, we would plan to give our 2022 outlook, as we typically do.", "With regards to DISH, I'll probably beg off most of that, and what DISH and Amazon speak to the -- to how their agreements between the two of them are going to drive activity. But obviously, DISH has made a significant commitment to us recently in terms of the deployment of their network and our operating team is incredibly busy and focused on delivering for them. Based on their expectations, the team has done a great job out of the gate and I believe delivering for them what they had hoped. And we're ready to support DISH in any way possible, as they work on building out their 5G network.", "Your last question around edge computing. We think -- today, a lot of this -- a lot of the edge computing activity is around traffic management and potentially reducing cost. But as the wireless networks move into 5G, I think the opportunity is going to expand well beyond that really delivering solutions to customers and increasing the applications as innovation occurs. And we think tower sites are uniquely positioned to be able to provide the real estate, the connectivity as well as power that enables edge computing.", "So it's a foundation of long-term innovation, and our combination to fiber I think really uniquely position us to be able to capture that. I know we highlighted that component of both fiber and towers in the DISH agreement. It was something that was really important to them as they designed and decided to anchor their network around our sites. And I think it's another example of kind of the combination of our assets sets us up for opportunities for growth that are frankly beyond what we've put into our forecast. When we talk about being able to grow the dividend 7% to 8% over a long period of time. Things like edge computing and CBRS are really not in our forecast, so we view that as unmodeled upside and opportunity and believe the type of assets we've acquired and where those assets are located, really gives us the optionality to benefit from that over the long term." ] }, { "name": "Philip Cusick", "speech": [ "Thanks, Jay." ] }, { "name": "Operator", "speech": [ "We'll now go to Jon Atkin with RBC." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks very much. The question just on a balance sheet. Any kind of thoughts on additional debt refi-activities that you would contemplate? And then on the small cells, it does seem as I think you alluded to in the script and elsewhere that you have some structural advantages as we get to the infill and densification part of C-band and other mid-band frequency. I just wondered, if you're starting to see that in the pipeline yet, I realize the revenues might be a little ways off. But are there active discussions at this point, or is that more on the come? And then finally, one of the C-band licensees talked earlier this morning about supply chain constraints that they're seeing, on the other hand, another one put out in the press release, talking about how second quarter they're already kind of starting to deploy C-band. And as you kind of consider all those data points and now with carriers are saying I wondered how that affects your expectation around second half, and what type of ramp you might see? Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure, John. I'll take the first one on the balance sheet, on debt refinancing activities. We're always looking at our balance sheet to identify opportunities for us to as we've mentioned in the script, reduce our borrowing cost, extend our maturities. We won't get specifically into what we're going to do right now, but the interest rate environment does remain attractive and we'll continue to look at that versus whatever the economic trade is in the early premium we would have to pay to take out any of that future debt. That's just part of our normal ongoing everyday operations within our finance department and our rules. Find out what we're going to do or we'll figure out what we'll do over time and let everybody know when it happens." ] }, { "name": "Jay A. Brown", "speech": [ "On your second question around small cells, we believe that we do have a structural advantage around the assets that we've acquired. As Dan mentioned in his earlier comments, we were intentional about acquiring high capacity dense urban fiber. And as we've seen kind of in the later stages of 4G, and now as we enter into 5G there is a disproportionate amount of traffic in dense, urban and suburban areas in the United States. And in order to solve that increased traffic, small cells are absolutely necessary, there are a critical component of their network. And I think the locations that we've acquired fiber and where we've built fiber and then where we started to build small cells, sets us up really nicely, as we get into 5G and we start to see network densification, and that fiber that we have existing, I think we'll see additional colocation on driving up the yields in returns of those assets.", "And as has happened in prior cycles of going from 2 to 2.5G and then to 3G and then to 4G and now into 5G, we would expect there will be innovation that will further drive demand, wireless traffic demand and that increased traffic again in years to kind of the benefit of those assets. So we think we've got great assets in the right location and think that we're going to see a really strong tailwind in the business over a long period of time. And you're right to point out the impact directly to site rental revenues is not going to happen overnight, it will happen over time. But the conversations and the discussions that we're having with carriers and the activity, and I would point to the Verizon commitment of 15,000 small cells that we talked about in the last quarter those are all early indications that these assets are of the critical nature necessary to deploy wireless carrier networks, and we're really excited about where we're positioned.", "On your last question around C-band spectrum and constraints in supply chain, etc. We haven't seen anything at this point that would suggest to us that the numbers that we have out there are not going to be achievable. If we start to see something, obviously, we'll update you on our expectations. But normally in the business, sort of the quarter-to-quarter changes then and timing are not that impactful to our overall results. As I spoke to earlier in terms of the lead time and the commitment of revenues we have a pretty long lead time. So we have a lot of visibility into what we'll do in 2021, and feel good about where the forecast is. And if that changes we'll update you, but I think the supply chains will resolve themselves over time, and don't expect that to have an impact in terms of our growth." ] }, { "name": "Jonathan Atkin", "speech": [ "And then just -- thank you for that. And just a quick follow-up. So last September, we had American Tower announced their MLA with T-Mobile. And philosophically, can you maybe just remind us how you might want to think about that structural agreement or any kind of an MLA that would address the Sprint and T-Mobile churn. I appreciate that you've put out the income of the exploration schedule in the supplement, which is quite helpful. But any thoughts philosophically on willingness to enter into some sort of an MLA that captures all of that?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. So we did. Thanks for mentioning the disclosure, we did add some additional disclosure to the supplement. We have gotten some questions, we thought it'd be helpful to give you a little more granularity. It's not intended to be a forecast. So, that's what's in the supplement, is not our forecast of actual churn, but just the actual numbers that you can separate locations where the legacy Sprint and T-Mobile were on the same sites and sites where legacy Sprint was stand-alone on a site and not co-located with T-Mobile. We're always open to to considering a new structure or an agreement with the customer, but there is not any need per se to do that. We were intentional a number of years ago, about extending the term. So if you look back in that disclosure we've got a lot of term remaining on those leases, and it's provided a lot of which was the goal when we did it, of extending those Sprint leases we were trying to make sure that we had a lot of flexibility through the -- if there was consolidation.", "So pleased about where we are there, and I would look at what we've done historically. We're always open to, as I mentioned earlier of working with the carriers to help them facilitate what they need. And whether that's achieving synergies or increasing speed of deployment of network, we're happy to work with carriers on that basis, and at the same time making sure we maintain and protect the economics of both the agreements that we have in place as well as the economics of the sites and driving the right return on the assets.", "So we'll hold that imbalance as we usually do, and make sure we do the right thing for both shareholders and for our customers. I would just point out that which I think is helpful, as we think about entering 2023 and beyond next big date of 2028, where we have some exposure to leases potentially being terminated from the T-Mobile acquisition.", "In past carrier consolidation, we've been able to grow AFFO and dividend right through those periods of time, and the other reality is that consolidations have actually led to increased spending. So we've had this view for a long period of time that ultimately the combination of T-Mobile and Sprint will be a good thing for the tower industry and net-net we'll end up with more activity and more leasing than we would have otherwise. And so, I certainly expect that at some point in time, we'll see some -- the benefit to T-Mobile of some synergies of taking down some sites. But I think the overall investment and activity that they will do in with regards to 5G will far exceed the D-docs that we may see from synergies that they try to achieve and taking down some site.", "So net-net back to the earlier comments. So really good about the activity, we're going to see in 5G, and we'll work through the consolidation when the time comes in several years from now." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks, Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "We'll take our next question from Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, guys and congrats to Baylor on the NCAA Tournament." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Ric. How are you doing? That was a lot of fun." ] }, { "name": "Ric Prentiss", "speech": [ "That was great. And thanks for the supplement on the Sprint stuff, that was helpful as well. I want to follow-up on something Nick asked you, about the pacing. Are we looking still at about 50,000 small cell nodes on-air at 1Q? And maybe still thinking kind of 10,000 a year is a good pacing number for us to look out over the next couple of years?" ] }, { "name": "Jay A. Brown", "speech": [ "We do. We think that the activity, we think will end in this year with about 60,000 give or take nodes on-air. And I think that's pretty good forecast for the time going forward. As we look out over a longer period of time, think that the demand for small cells is going to be well in excess of what we've seen thus far. So I think our view would be over a longer period of time that that activity will increase beyond those levels, but in the near-term, I think that that's a pretty good gauge.", "The carriers in the activity and the discussions, and their public comments around the necessity of small cells, I think really sets the environment for the opportunity for us to capture a larger portion of it. But as you know, there is a long lead time for that. So, we get lots of visibility as we go from commitments of the carriers to go on certain sites to when we're actually turning them on. So as we go through the process certainly, update you on our view." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And Ric, it's Dan. Let me just add one thing to that. We get a lot of questions around why 10,000. Is there some sort of structural cap to how many we can put on-air. And I would just like to just be clear, the 10,000 is just a result of the bookings we have and the time it takes to get those bookings on-air, which is typically between 18 and 36 months. We don't see the 18 to 36 months changing all that much, but if we got a lot more bookings we could put a lot more on-air than just 10,000 in a year.", "So 10,000 is a good point to look at for the next few years, just because -- or next couple of years because of where we are with the bookings that we've had recently. But as Jay pointed out, there is nothing that would stop us with greater bookings to speed up that deployment, and we would anticipate that to be the case as the necessity of small cells continues to get clear for the deployment of 5G and networks overall." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense of some of the nice things about visible business. Anything taps from the Verizon contract yet, as far as putting that onto a timeline. I know you had the 15,000 but it was kind of uncertain time, I think." ] }, { "name": "Jay A. Brown", "speech": [ "No, nothing more specific than what we've previously mentioned." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And then on fiber 3% net growth. Can you help us understand how is that business doing gross in churn-wise? Is it still kind of double-digit close to double-digit churn and better than double-digit gross?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes, we're still churn is around 9% and then so top gross to be in the 12% plus range, netting to that 3% that we expect for full-year '21." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. Last one for me. Jay, you've talked about it a couple of times about CBRS. What do you think the opportunities and CBRS will be that you're not in guidance yet. It sounded like is it increased power to put it on towers? Is it in building systems that you'd like to get involved with? Help us understand a bit about where you see opportunity might be coming in CBRS." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. I think, it's all of the above. I think there is opportunity in building that we have seen and will see. We've done a number of trials on that front and with some success. So I think there is an opportunity to expand the density of the network for the wireless carriers into buildings to reach places that are very difficult to do from the outside. So I think there's opportunities there. I think there's also going to be some opportunities in the macro environment and certain settings where CBRS may be used by a content provider or others who want access to spectrum. So being able to use some of the unlicensed spectrum components of CBRS is an opportunity to do that in more macro environment.", "I think there are probably also some opportunities around campus-specific activities, whether that's universities or other locations where someone controls a large portion of land and has a discrete user use for CBRS that could be interesting as a shared provider. So I think there are a number of opportunities.", "And it's not in guidance yet because it's not large enough to be on -- to be beyond to rounding here, but I certainly think over time as we see 5G developed and the need for this to be for wireless opportunities to be ubiquitous I think, we'll drive uses for CBRS. And I think the other component of it is obviously everyone is trying to figure out how to get more spectrum into the hands of the wireless operators and CBRS is another way to do that. And I think that spectrum will be utilized over time, and I think we stand to benefit from that as that spectrum is deployed." ] }, { "name": "Ric Prentiss", "speech": [ "It sounds nice to see the FCC put more spectrum auctions on the block too." ] }, { "name": "Jay A. Brown", "speech": [ "Agree." ] }, { "name": "Ric Prentiss", "speech": [ "Stay well guys." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ric." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Ric." ] }, { "name": "Operator", "speech": [ "We will take the next question from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey, good morning. Thanks for taking my questions. First, I noticed that both the number of ground leases extended and the number of ground leases acquired in the quarter were probably the lowest in many years, and they've been trending down for some time. So I was wondering if you could just talk a bit about the state of the market for land acquisitions and extensions? And how much headroom you think you have left to push on that front?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning, Nick. This has been a focus of ours for about 15-18 years, something like that where we've been specifically focused on extending the maturity of our ground leases. When we started that activity I think we are in the neighborhood about 17 or 18 years of remaining term on average, and we had in the neighborhood of about 20% or a little less than 20% of the land that was owned. And we've increased over the last 15 to 18 years, we've increased the percentage of land owned to about a third, little over a third of our overall ground leases. And in addition to that, we've taken the average maturity to longer than 30 years.", "So there has been a concerted effort for us to get well ahead of any date, which a landlord would have a termination right or gain leverage from a financial standpoint over what those extension terms would be. And the team has just done a phenomenal job over a long period of time of consistently improving the quality of the assets and reducing the risk, albeit, relatively small on an individual tower basis.", "Cumulatively, I think I would put that in the category, as Dan was talking about balance sheet risk, that's another risk that we've methodically eliminated in the business, and really excited about where we are today. It's an ongoing activity, as long as we're in the business we're going to continue to be there. So we are constantly working on buying out land that makes sense as -- that we can acquire at the appropriate multiple and at the same time working on extending ground leases. And some component of the ground leases I think will always be in that maintenance mode where we're extending and working to extend it.", "So some of the activity coming down is just the result of terrific execution over a long period of time in the natural evolution of once we get 80-100 years on the ground lease or we acquire it then that comes off the board and there is no longer any work to do on that site. So probably in terms of quantity your number continue to come down over time, and we'll continue to kind of make the right financial decision around buying or extending the leases." ] }, { "name": "Nick Del Deo", "speech": [ "Do you do you see a practical limit, as to where you can take the ownership?" ] }, { "name": "Jay A. Brown", "speech": [ "There are owners of these ground leases that I think will want to hold the property forever. So there is a -- an absolute component where we're going to always have ground leases as a component of the business. Some portion of our ground leases are also on things like government land, and obviously those will remain in the hands of government entities, we won't be able to acquire that. So yeah, there is a natural limitation. We're not really close to it yet. There is just the practical aspects of it where people love to own the land and believe that Crown Castle will be there to pay the ground lease for a long period of time. So it's a good stream of income that they want to continue to hold the lease. And we're happy to be at less fee, if that's the right financial relationship to remain in as long as we have term and certainty of price." ] }, { "name": "Nick Del Deo", "speech": [ "Okay and maybe one on the small cell front. I'm sure, you guys have pretty good intelligence for where the carriers are self-building small cells. And in some cases maybe why they went in-house versus using a vendor like you. What are the factors that you've been observing, as kind of most correlated to carriers choosing to deploy on their own for particular builds versus leasing? Is it proximity to their own wireline assets or some local market attributes or something else?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. I think there is probably two factors. You mentioned one of them. Proximity to existing plant that they have is certainly a reason why they would self-perform and use their existing plant to do it. The other reason, frankly, is that there are places where we're not interested in putting the capital, because we don't see the lease-up opportunity. So there are limited number of providers of third-party capital building these small cells. Obviously, ourselves and then inside of the Digital Colony portfolio, as they're delivering that as an -- as a offering to customers. But beyond that, there just aren't anybody. There isn't anybody else who is doing that at scale.", "So we're selective in terms of the opportunities in places where we want to invest the capital and put the capital. It's got to not only meet that kind of initial return, but we've also got to be comfortable that there is going to be big demand over time for other carriers to need it. And in places where we would look at it and evaluate the nodes is not meeting the return thresholds by virtue of either the cost to build them or the lack of certainty of lease-up then those would be locations where we would pass and decide not to invest the capital and the carrier would self-perform. So it's a combination of those two would lead to the vast majority of the reasons why they would self-perform.", "We've talked about this sum in the past. But our view of the number of small cells that is going to be needed in the market aligns pretty closely with a number of the comments that the carriers have made where they've indicated, there's going to be more than a million small cells in the U.S. We certainly don't anticipate building all of those. And so I think, as long as the business is around and we're building small cell nodes I think we're going to continue to see the wireless carrier self-perform, and our opportunity for value creation is to be rigorous and disciplined in our approach to evaluating those markets that have the best potential for lease-up and then making sure that we're really thoughtful about which ones we pick, and then how we build those sites on cost and on-time. And those are sort of the value opportunities that we're looking for, and then there'll be lots of small cells I think that will exist in the U.S. that are going to be self-performed by the carriers. And I would look at that as overall activity is just a trajectory that I think aligns well with our strategy." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Thanks, Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Good luck." ] }, { "name": "Operator", "speech": [ "And we'll now go to David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks so much for taking the question. So I guess, Jay, just at a collective level, is there anything that you're seeing from the operators from a geographic search frame perspective that would lead you to believe that there is an appetite among the carriers collectively who won C-band to deploy maybe sooner rather than later some of the spectrum outside of the first phase, A block clearing meaning there is a lot of opportunity for the carriers to deploy beyond the first 45 markets. Should they choose to do so?", "And I was interested if you had any color, as to whether you have some insight into whether that may or may not be happening? And then the second question would be, again, with respect to the idea that the carriers are mostly looking at C-band as a macro deployment to start, primarily, because of the gear and backhaul that they have on existing sites. Are you seeing or expecting that the kind of incumbent tower carriers are going to be gaining a lion's share of the demand here or are you seeing the kind of interlopers, the new tower companies, the unities the tailwinds of the world, are they getting a super normal share of the -- or be supernormal part of the conversation at the margin, as we think about this new deployment? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Dave. On your first question. I'm going to mostly beg off and let the carriers speak to how they're thinking about C-band deployments. It's probably just a little too specific for us to make those kinds of comments or indications. We're obviously, as I mentioned in my earlier comments, we're seeing a lot of C-band activity it's driving a lot of leasing activity. And I think, over time the driver of our business, as I mentioned before, kind of stacking years of growth and it's going to take multiple years for C-band to be deployed, and we think it's going to be great for us for an extended period of time. But specificity beyond that, I'll let the carriers speak to kind of their own plans and initiatives.", "On the second component of your question around where does the activity go. History, I think is a really helpful indication of where the carriers are going to deploy this 5G network, and how they'll think about the C-band spectrum. It is always most cost-effective to deploy the spectrum on locations where they have existing infrastructure. They've already got connectivity there, they've already got power, they've got the basic infrastructure there to be able to add additional spectrum bands.", "So at least initially, I think the vast, vast majority of the activity will end up on sites where they are already located on. So the existing owners of towers where these carriers are co-located on those sites, I think we'll see the preponderance of activity for some extended period of time.", "As it gets built out and then as the spectrum begins to be used, then step two is the densification activity. And then that activity is likely to go frankly again on existing sites where carrier is not yet co-located. The opportunity for new and upcoming tower companies is generally pretty limited to places that are outside the core areas where the big, at least the three big public tower companies own their assets into places where new housing developments, the extension of suburbia, the sprawl, those kinds of areas, those companies that you mentioned are often building towers in those locations and putting their capital up to meet that need. But that's a sort of second, third kind of level of activity. I think the vast majority of the activity in early days and even maybe even in the medium term is on existing site." ] }, { "name": "David Barden", "speech": [ "Great. Thanks, Jay. I appreciate it." ] }, { "name": "Jay A. Brown", "speech": [ "Operator maybe, we'll take more question." ] }, { "name": "Operator", "speech": [ "Okay, thank you. Our last question will come from Brandon Nispel with KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "Alright, great. Thank you for squeezing me in. I wanted to go back to Colby's questions on the cash component and the agreement with Verizon. I think that's generally referred to it in the industry as a USP. And I'm curious, historically speaking, how long is the contracted committed new leasing portion of the contract lasted when you've signed these agreements previously? How does it trend over time?", "And can you help us think about the value you ascribed to the USP relative to the term extension that would be great. Then the second question around T-Mobile churn. The disclosure is super helpful. Can you provide what the churn was this quarter? And then that out of the $700 million or so colocation and other sprint sites that you have. What would be a good number, as you look out over time for you to retain? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "You, bet. Yeah, on the first question, Brandon, I'm going to beg off that question. That's little more specificity than we would get into on our customer contracts, as I mentioned to Colby earlier. There is a component of that that's related to giving them knowledge of what the actual pricing is going to be for new activity. There is a commitment on their part in terms of activity on existing sites. And then there is obviously the extension of the existing sites to 10 years. And we price that and negotiated that with the economics of the sites in mind in the right returns. But beyond that, I think that's just two specific and not in our best interest for that of our customers to get into that level of detail.", "On the second part of the question around Sprint churn in the quarter was negligible. Longer term and what you should assume, frankly, it's really early. As we laid out that schedule we have our first meaningful amount of churn not until 2023. And then after that, I think in each year it's less than $20 million all the way out to 2028, which is the bulk year of -- that thereafter that's included in the table.", "So we're a long way away from kind of needing to have that conversation, and too early to predict ultimately what the outcome is. A big picture, as I mentioned a few minutes ago, I think the net investment by T-Mobile and building out 5G will far exceed any of the synergies that they achieve. I think that's consistent with the public comments that they've made and their desire to build out 5G networks.", "And when we get to the place where we have a better view, whether that's because of the contract or just because of the activity that we stand, we'll certainly come back and take just the disclosure and turn that into more of a forecasted view of what we actually think will start to impact the numbers, but it's a long way out. And at this point, not really ready to provide a specific forecast on timing or amount." ] }, { "name": "Brandon Nispel", "speech": [ "Got it. Thanks for the question." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Thanks, Brandon. I appreciate everybody joining this morning, and I just want to in the call by thanking our team who has done a tremendous job delivering for our customers over the last year and navigating through COVID, that continue to perform exceptionally well. So to the team, thanks for listening this morning. Really appreciate all the work you're doing for customers and for shareholders. And thanks to everyone for joining the call this morning. We look forward to catching up next quarter." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2020-04-30	[ { "description": "Vice President of Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Senior Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Philip Cusick", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "Cowen -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle First Quarter 2020 Earnings Call.[Operator Instructions]", "At this time, I would like to turn the conference over to Ben Lowe, Vice President of Corporate Finance. Please go ahead sir." ] }, { "name": "Ben Lowe", "speech": [ "Thank you, and good morning, everyone. Thank you for joining us today as we review our first quarter 2020 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer. To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com which we will refer to throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks uncertainties and assumptions and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today April 30, 2020 and we assume no obligations to update the forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com.", "So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and good morning, everyone. Thanks for joining us on the call this morning. As you saw from our press release, we delivered another quarter of positive results and maintained our guidance for 2020 growth in AFFO per share of 7% to 8% consistent with our long-term growth expectations. I believe our strategy and unmatched portfolio of more than 40,000 towers and approximately 80,000 route miles of fiber concentrated in the top 100 U.S. markets have positioned Crown Castle to generate growth in cash flows and dividends per share both in the near term and for years to come. Dan will discuss the results and the full year 2020 outlook in a bit more detail, so I'll focus my comments this morning on two key points. First, our business is performing well despite the challenges and uncertainties created by COVID-19. And second, I believe the strong fundamentals of our business and long-term trends driving demand for our critical infrastructure remain intact and provide a long runway of growth for Crown Castle.", "On the first point, we see robust activity across our business both in terms of customer demand as well as our ability to continue to effectively operate. As a provider of critical telecommunications infrastructure that is considered essential to public health and safety, we continue to construct and install our customers on our infrastructure. Since the outbreak of COVID, we have focused on two primary goals to help guide our decision-making: first, care for our workforce; and second, deliver for our customers and the communities in which we operate.", "We have undertaken a number of measures to promote the health and safety of our employees including implementing work-from-home arrangements for the portion of our workforce that typically work from the office, imposing travel restrictions and canceling in person meetings, providing an additional five days paid time off to all of our employees, allowing flexible working hours to accommodate our employees who are taking care of children and other loved ones and maintaining our workforce at pre-COVID-19 levels.", "Our people have been terrific throughout this crisis adjusting to our new normal and we will continue to make the appropriate decisions to promote their health and safety. In addition to our employees, we have focused on delivering for our customers, and I am encouraged by the activity levels we are seeing across the business. On the tower side, our customers continue to invest in their networks by deploying additional spectrum and new cell sites to keep pace with the 30% to 40% annual growth and data demand. As we previously discussed, the noticeable decrease in activity that occurred late last year amid uncertainty around the merger between T-Mobile and Sprint carried in to the first quarter of this year. With the merger now complete, we believe this slowdown will prove temporary as we anticipate a significant increase in industry activity in the second half of this year as all our carrier customers begin to spend money to improve their existing networks and as 5G investments begin to ramp.", "Within our small cell business, we finished the quarter with approximately 45,000 small cells on air and expect to deploy approximately 10,000 this year, as we are actively working on our construction pipeline that currently exceeds 25,000 nodes. We continue to respond to the significant demands from our customers, while at the same time navigating ongoing deployment challenges from some of our municipalities and utility. Adding to the returns we are seeing on our fiber investments, we generated 3% revenue growth from our fiber solutions business in the first quarter and anticipate similar levels of growth for the full year. This growth is due to the increased bandwidth requirements we are seeing from our large enterprise and carrier customers, which make up the vast majority of our fiber solutions customer base.", "Although, we have not seen a material impact from COVID-19 on our ability to deliver for our new small cell and fiber solutions customers to date, it is possible we could see some new challenges emerge with respect to getting construction crews to sites or traversing an already difficult zoning and permitting environment.", "On a positive note, we have seen the wireless carriers' efforts to improve their networks continue during the last six weeks. As we discussed last quarter, we are expecting a significant ramp in activity throughout 2020, particularly in the second half of the year. Obviously, the level of intra-year ramp implied in our outlook is significant. And while there are many unknowns, due to COVID-19 we believe we will be able to achieve this growth. Importantly, we believe that any potential near-term impacts from COVID would not alter our long-term growth trajectory, which brings me to my second key point. We remain confident that our long-term contracted revenues will allow us to deliver value to shareholders through a high-quality dividend that we expect to grow 7% to 8% per year given the durability of the demand for our critical infrastructure. We have situated the company with the right assets in the right markets with market-leading capabilities to deliver value to our customers and generate shareholder returns for years to come. We are providing investors with a consistent return of capital with a dividend funded with contracted revenues from our existing tower and fiber assets, while investing in new assets that will be critical for the future of communications networks. Since last year, we have experienced the highest level of tower leasing activity in more than a decade, with activity largely tied to our customers investing heavily in their 4G networks, to keep pace with the 30% to 40% annual data demand growth that I mentioned earlier.", "The combination of the market dynamics and our unique portfolio of assets, positions us for a long runway of continued growth as the wireless industry transitions into another long investment cycle, this time to deploy 5G. As I look at the big picture, I believe we are seeing the very beginning of the wave of 5G activity that will begin this year and continue for years to come. My view is supported by the public comments that Verizon, AT&T and T-Mobile have made over the last several weeks affirming their commitment to build robust 5G networks. Adding to this long-term opportunity, a new customer is entering the wireless market at scale for the first time in more than a decade, with DISH Networks planning to deploy a nationwide network over the next several years to compete with the established operators and to meet its significant build-out requirements in its DOJ settlement.", "With our unmatched asset base of towers small cells and fiber, we believe we are in a very favorable position to assist DISH as they build out their network. And with this unmatched portfolio of assets, our financial wherewithal and operating in the best market in the world for communications infrastructure I believe Crown Castle is in a great position to excel in the current environment, and to capture substantial long-term opportunities, while consistently returning capital to shareholders through a high-quality dividend that we expect to grow 7% to 8% annually.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning everyone. As Jay discussed, we got off to a solid start with first quarter results performing in line with our expectations and we continue to expect to generate attractive growth in cash flows and dividends per share for the full year 2020.", "Turning to slide three of the presentation, we experienced another excellent quarter of strong top line results that included nearly 6% growth in organic contribution to site rental revenues, driven by approximately 10% growth from new leasing activity and contracted tenant escalations net of approximately 4% from tenant non-renewals. The revenue growth was offset by lower services contribution and increased costs relative to the same period last year, resulting in 1% growth in adjusted EBITDA and AFFO. The lower services contribution was in line with our expectations and tied to the slowdown in tower activity that began in the fourth quarter of last year and carried through the first quarter of this year.", "As Jay mentioned, we anticipate a significant increase in industry activity in the second half of this year, as all our carrier customers invest to improve their existing networks and as 5G investments begin to ramp. With respect to the increase in costs, we incurred approximately $10 million of costs in the first quarter that we do not expect to recur going forward.", "Turning to page four, we are maintaining our full year outlook for 2020. At the midpoint this represents approximately 5% growth in site rental revenue, 6% growth in adjusted EBITDA and 9% growth in AFFO year-over-year compared to 2019, and includes approximately 6% growth year-over-year in organic contribution to site rental revenues.", "Turning to investment activities. During the first quarter, capital expenditures totaled $447 million, including $21 million of sustaining expenditures and $426 million of discretionary capital investments across fiber towers and small cells. Additionally, we returned significant capital to our shareholders during the first quarter, with our quarterly common stock dividend totaling $513 million, or $1.20 per share, representing growth of approximately 7% on a per share basis compared to the same period a year ago.", "At the end of the quarter, we further improved our financial flexibility by opportunistically accessing the investment-grade bond market to lock in long-term debt at attractive rates. Specifically, in April, we issued $1.25 billion of senior unsecured notes with a combination of 10 and 30-year maturities using the net proceeds to repay outstanding borrowings under our revolver. The offering had a weighted average maturity of 18 years and coupon of approximately 3.6%, achieving the second lowest coupons in our history for comparable maturities. Our ability to opportunistically access long-term capital at historically low all-in rates, during a period of disruption in capital markets, speaks volumes to the strength of our underlying business and the level of support we have from our investors. Following this financing transaction, our balance sheet and liquidity position remain in great shape with $5 billion of available liquidity from our undrawn revolving credit facility, only $1.6 billion of debt maturing through the end of next year and a weighted average cost of debt of 3.7% with a weighted average maturity of seven years across our entire balance sheet.", "In addition, we finished the quarter at 5.6 times debt to EBITDA. We remain committed to our investment-grade credit rating and anticipate a glide path back to our target leverage of approximately five times by the end of 2020 based on the expected EBITDA growth throughout the year. So to wrap up, our first quarter results were in line with our expectations and we believe we will remain well positioned to generate 7% to 8% growth in AFFO per share in 2020. Looking further out, we believe our ability to offer towers, small cells and fiber solutions which are all integral components of communications networks provides us the best opportunity to generate significant growth, while delivering high returns to our shareholders.", "With that operator, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] The first question comes from Simon Flannery at Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you, very much and thanks for all the color here. So, I wonder if you could just talk a little bit more about the ramp in the back half of the year. Can you give us some more color about how long you think it will take to negotiate with T-Mobile where you stand on that? And then, do we see a significant activity into Q3? Or is it really Q4 when a lot of the major activity will take place? And then on the fiber, how much -- can you talk a little bit about your exposure to SMB? And are you seeing any pressure from that segment? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning Simon. Thanks for the question. On your first question around the ramp in the second half of the year, I think the ramp is probably most pronounced in our services business. You saw that down sequentially quarter-on-quarter in the first quarter. We expect the second quarter to look somewhat similar to what we saw in the first quarter. And then, as we get into the second half of 2020, we think it's going to look pretty similar to what we saw in the first half of 2019 and that's based on activity that we're seeing across the entire industry.", "So obviously, Dan spoke to and I mentioned it briefly, what we saw from T-Mobile in the fourth quarter of 2019 and then that continued into 2020, until they got the merger complete. But if we zoom out away from just thinking about one customer, I would point folks to go back and look at what activity looked like in the first half of 2019 and we think that's about what it's going to look like in the second half of 2020. That's separate and distinct importantly from what we're seeing around the recurring revenue.", "So, as we think about site rental revenues, those are continuing to grow throughout the course of 2020. And I think the differentiation on the ramp really plays itself out in terms of services for all of the reasons that both Dan and I mentioned in our prepared remarks is the carrier activity really starts to pick up and they start to see the benefit of 5G.", "On your second question around fiber exposure to small businesses, a little less than 5% of our total revenues on the fiber side are coming from small businesses, medium businesses. We are -- the vast majority of our fiber business is related to large enterprises from things that are -- things like education, healthcare, the carriers. And those businesses are really skewed away from things that we would expect to be impacted by COVID-19. So, as we look at the landscape today, we really don't see much impact from COVID-19 and have very little exposure to the small and medium business side in that business." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks for the color." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "[Operator Instructions] The next question comes from Philip Cusick at JPMorgan." ] }, { "name": "Philip Cusick", "speech": [ "Hey guys, thanks. First a follow-up on Simon's question. I wasn't quite clear. So services ramp certainly should ramp in the second half. Do you think that site rental revenue ramps as well? Or does it just happen too late to really impact this year and the impact is more on next year?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure Phil, good morning. On the ramp and recurring revenue, obviously, the business has the nature of whatever we put in revenue today, we -- that recurs next quarter and then we add to it. So there is a ramp in the back half of the year. But as folks think about the amount of ramp and the pronounced impact of that ramp, it's more impacted by what happens with services.", "As we think about site rental revenue growth over the course of 2020, remember there's sort of three components that drive that growth inside of the calendar year and are reflected in our expectations of growth at the top line. We have all of the leases that we signed during 2019 that turned on during 2019, but we didn't get a full year benefit of those leases. So there's a rollover effect that we have in 2020 as we get a full 12 months of those leases.", "Then there's a group of leases that we signed in 2019 and those are turning on now in 2020. So we have visibility to them, they're already signed, they're scheduled in the pipeline to be turned on there and that will benefit growth in revenues year-over-year.", "And then the last component, the smallest component by quite a measure would be leases that we signed in any given calendar year, i.e. we sign them in 2020 and then those leases turn on in 2020. That represents the smallest portion of our site rental revenue growth.", "So the portions that drive the biggest impact we have really good visibility to those because frankly they've already been signed and in many cases are already turned on and we're benefiting from the rollover effect. And as you saw from our numbers, our organic revenue growth from our prior guidance in addition to us not changing how we think about the full year in terms of guidance if you look at the components of that guidance and the organic revenue growth whether it's towers, small cells or fiber those are unchanged from our previous expectations. So we still expect tower revenue growth to be $175 million, small cell revenue growth to be about $70 million, and then the fiber revenue to be up about $165 million year-over-year, which is exactly what we expected last time." ] }, { "name": "Philip Cusick", "speech": [ "Okay. And does the restatement of services change the benefit at all as you compare that second half 2020 activity levels versus first half 2019?" ] }, { "name": "Jay A. Brown", "speech": [ "No. The numbers that I'm speaking to in terms of pointing back to 2019 would be the restated quarterly numbers for 2019. So it's an apples-to-apples comparison." ] }, { "name": "Philip Cusick", "speech": [ "Good. And then finally, can you give us a sense just digging in on what you see in fiber and small cell construction not a surprise there hasn't been any delay in permitting and construction here?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. If you look at our results in the first quarter, we saw no impact at all from COVID-19. And thus far in April we've only seen a minimal impact anywhere in our business. And we believe as reflected by the fact that our guidance is unchanged, we believe that we can work through the challenges without any material impact on our results.", "I think my cautionary statements and comments that I made in my prepared remarks those are in recognition that the world is seeing significant disruptions across nearly every industry. And so it seems to me both -- be both prudent and appropriate to state the obvious that we may not have visibility today into all of the impacts that COVID would have on our business.", "I think on balance, we believe our business will perform within the range of the outlook, which is unchanged from our prior view. So we're excited and pleased with how it's done so far and believe we're in a great position for the balance of the year. But trying to remain both clear-eyed and open-minded to the fact that there may be things that today we just don't have visibility toward." ] }, { "name": "Philip Cusick", "speech": [ "Good. Thanks, Jay." ] }, { "name": "Operator", "speech": [ "The next question comes from Jonathan Atkin at RBC Capital Markets." ] }, { "name": "Jonathan Atkin", "speech": [ "Yeah. Thanks very much. So a couple of questions. I wanted to ask you about the ramp that we see in the second half attributable to 5G. Is that true across each of the major carriers? Or was that more of an aggregate trend that you're calling out?" ] }, { "name": "Jay A. Brown", "speech": [ "Jonathan, it would be true of both, both in aggregate and individual." ] }, { "name": "Jonathan Atkin", "speech": [ "Okay, yeah. That's very helpful. And then I apologize if you didn't touch on this, but the $10 million increase in costs that you didn't expect to recur going forward what's the nature of those?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, Jonathan. Those are related to some legal fees associated with our lease statement and then taxes on our RSU vesting that happened in the first quarter in terms of the number dollars." ] }, { "name": "Jonathan Atkin", "speech": [ "Okay. And then lastly maybe more of a bigger picture question and I've asked it on prior calls as well, but just the -- any updated thoughts on edge computing and the role of your Vapor IO investments, as well as your fiber assets?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. We're seeing really encouraging results on that front. As you'll recall, we made an investment in Vapor IO several years ago, which has been our ability to have insight into what's happening on the edge. And it certainly plays to our strategy of owning the infrastructure around the ecosystem of telecommunications both on the fiber side, as well as on the tower side and believe that those assets combined have real strategic value.", "Edge networks has developed largely in line with what we expected really to enable some resource allocation to reduce network connection -- congestion and improve the latency around the networks. And the value and the opportunity that we really see in this is -- we think about it as kind of network or access edge which really requires both the fiber and network integration.", "So the physical edge component of the network is not really that unique. If you've got real estate at the edge of the network i.e. if you own real estate close to where cell towers are the differentiation is not so much just that physical access. It's the combination of the physical access with the fiber. And so, we believe we have a really unique and compelling opportunity here on the edge.", "We're operational in four markets now in the U.S. on the edge side. And as we're thinking about the rest of this year and into next year there's a number of other markets that we'll be operational in. It's not material today in terms of our results, but it is an early -- I think an early indication of our strategy being one that creates some pretty compelling opportunities long-term.", "So we're thinking about this as kind of a long -- long runway and opportunity for future growth not material today. It won't be material probably next year. But as that continues to develop, it could create some real unique and exciting opportunities for us." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from Colby Synesael at Cowen." ] }, { "name": "Colby Synesael", "speech": [ "Great, thank you. You may have just touched on this as it relates to Jonathan's question, but has there been any notable change in carrier behavior since 2019? We've obviously seen Verizon go and pickup its capex expectations. AT&T seems to be suggesting that they're maybe not lower than they previously are expecting. Just color -- if you can just talk about that potentially without mentioning names something if that's your preference.", "And then also as it relates to T-Mobile, so I guess more specifically to the name, would it be your intention to sign a new MLA with them? And if so, any color on when that might actually occur? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Colby. On your first question around the change in carrier behaviour, if I step back and look at where we are today and where we were six to nine months ago, I think our long-term visibility around the investment that the carrier is going to make around 5G is better today than it was six to nine months ago. We can see it across the entire industry. The plans are becoming more real more specific.", "We're starting to see exactly where they're targeting the sites, and how they're thinking about deploying 5G network in terms of what equipment needs to be added, how much of it needs to be added.", "So I think the visibility today is there have been a change in behavior. If you were to ask me this relative to six months ago, yeah, the change in behavior is better today than what it was. And that thing that's happened in the last six weeks around COVID-19 has changed that view.", "As I mentioned in my prepared comments, I think carriers have been really public about the fact that they are intending to build 5G networks and have affirmed that even in the midst of the current environment. So I think from everything that we can see, we're more encouraged today than we would have been six months ago about what that deployment and opportunity looks like.", "On your second question, I'm going to beg off of that. We really prefer not to talk about specific customers or what their network deployment plans are. So, we're in great shape with all of the carriers across the industry in terms of their ability to access our sites and we're certainly really focused on making sure that all of them are able to achieve their deployment plans across our infrastructure." ] }, { "name": "Colby Synesael", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from David Barden at Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks for taking the question. So thanks for sharing the details or the data point on the small business exposure being kind of sub-5% in the fiber services business. I was wondering if you could kind of elaborate a little bit more on what the enterprise fiber services exposure you do have is related to.", "And then Dan, we saw some provisions being taken at AT&T and BD for their business services exposure, presumably mostly on the SMB side, but I was wondering kind of what if anything you guys are provisioning for or expect you may have to provision for on the bad debt in enterprise services. Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, Dave thanks for the question. On the vast majority of our customers would fall into the camp of, what we would call, the carriers and then large enterprises. That would make up more than two-thirds of the base of revenues. And specifically on the large enterprise, we're heavily skewed toward healthcare, education and financial services.", "So if you were to take those three large components that's going to -- along with the carriers that's going to make up the vast majority of our revenues. And as I mentioned earlier and you referenced it, less than 5% of the revenues are coming from small and medium businesses.", "So, obviously, when you think about healthcare education and financial services, that customer base, we think, is less likely to be impacted by COVID. And as we look at the new lease bookings that we saw during the month of March and, as you know, our business is heavily weighted toward the Northeast corridor, which in many industries and aspects was shut down in the second half of March, we didn't see any impact in the month of March. In fact, we had a very good showing in the month of March, even as we were booking new revenues.", "As I mentioned in my comments, there are some places and some facilities where customers who have committed to use our service and need the bandwidth from us, have delayed our ability to access their facilities as a result of COVID-19, but we think that's a relatively short impact.", "So once there are protocols in place and we're able to access the facilities, then we'll go in and be able to add the additional bandwidth and bring the service to those customers. So, I think, in terms of our exposure, both in terms of what the direction of that is and then how we've seen that play out over the last six weeks, I think, our business there has -- we'll see very little to no impact from COVID-19." ] }, { "name": "David Barden", "speech": [ "Great. Thanks." ] }, { "name": "Operator", "speech": [ "The next question comes from Brett Feldman at Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Hi. Thanks. I want to ask the MLA question a little more broadly. Because if we look at your business, you have customers, as Colby noted, who might be to combine MLAs. You might have new emerging customers who might need to create them. You might have existing customers you just want to revisit them for a range of reasons.", "And you're offering multiple types of infrastructure now, you're offering towers, you're offering small cells, you're offering fiber and most of your large wireless customers might have an interest in all of them. And so, as you approach these conversations, what are you hoping to achieve as you enter into new or modified or combined MLAs? What are the success components to that as you do -- as you go look at that and see whether you're checking the boxes or not? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Brett thanks for the question. Stepping back from this and just kind of a broad answer to how we think about running the assets and really just as to how we think about the investment as well, we make investment decisions based on what we think the recurring yield on those assets is going to be and ultimately whether or not it is enhancing to our long-term dividend per share growth rate.", "So embedded in that obviously, if we're going to get to growth in the dividend we have to consider all of the cost of capital associated with the assets that we're looking at and then how much cash flow can we ultimately generate off of those assets. So, we start first with kind of a perspective of what's the cost of the capital to acquire the asset and then what do we think the return around the asset is going to be and then build it up from there.", "As we've talked about areas of the company and I think, this is particularly important as we think about the investment that we've made in fiber and in small cells, where there's not -- I think, in the historical way of thinking about the tower business, there was more of a rote way of thinking about what the price per tower was. And as we think about the pricing around small cells, which we think is the biggest driver of returns on fiber, that pricing is determined based on cost. So it's going to look different in a major metro dense urban downtown business district, than it might in a more suburban setting, depending on the cost of deployment.", "So as we turn to having conversations with the carriers our aim is to provide them with the lowest cost alternative to them owning or building it themselves. And so, our aim is, trying to deliver something to them that the shared infrastructure model is at play where it's cheaper for them to share it among all of the carriers and to lease it from us than it would be for them to build it themselves. And then as we think about whether or not that asset or that particular opportunity would be of interest, we're measuring that against the returns required in order to make sure we're delivering equity returns above and beyond any cost of the capital associated with that.", "To be a little more specific to your question around how we think about that with the assets, well, then we just play that out into the specific asks of the carriers. So, we'll go and understand what markets are they trying to go into, what type of infrastructure do they want or need from us and then work our way backwards through the framework of ensuring that we're pricing appropriately in order to achieve the appropriate returns across the assets." ] }, { "name": "Brett Feldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question comes from Ric Prentiss at Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Hey. First off, you guys and your family, employees are all safe and well during this crazy time, so it sounds like you're doing a good job there." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ric. You too." ] }, { "name": "Ric Prentiss", "speech": [ "Should we think -- I'll attack the question maybe from a different angle. Would it require new MLAs to see -- or modified MLAs to see the ramp in the service business in the second half?" ] }, { "name": "Jay A. Brown", "speech": [ "No. We don't need to sign new MLAs with our customers in order to achieve the ramp in front of us." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And then, obviously, you guys have approached the debt market, got some really good tenor and cost of debt. You've got the glide path. But what if anything would cause you to think that you would have the equity markets? I know in the past you've kind of laid it out there as a potential. But what would be make raising equity interesting as opposed to not interesting?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, Rick. We as a general rule don't want to issue equity rule, keep our equity for our existing holders. So we think there's significant value there over the long-term. So the thing that would make us -- put us in the position of having to issue equity would be if we do get to a point where that glide path is not happening and our leverage is remaining at elevated levels or too high that it would jeopardize our investment-grade rating at that point we would -- in essence what that means is that our EBITDA generation doesn't create enough leverage capacity to make up for the capital we're spending then that would lead us to issuing equity.", "So we're not looking at it as necessarily to say, OK is this opportunistically can we get something done right now? It's more how is this going to impact our overall leverage profile and when will it be required in order to maintain the rating that we -- the investment grade rating that we want to maintain for all the reasons you said earlier which is we're able to access the debt markets during a pretty disruptive period.", "We got very good tenor and very good rates. And we want the ability to do that going forward because we want in times of distress and in times of things going well to be able to spend money on assets that we think will generate good long-term returns. And Jay was just talking about -- and we think that having an investment-grade rating really helps that." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. And from the zoning permitting side any -- I assume you're watching, but any concerns on ability to get crews or equipment supply with the supply chain out there anything from the crew side or the supply chain side?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes Ric. I mean, I can speak to only what we've seen thus far which is we haven't seen as I mentioned before we haven't seen any impact to date from COVID-19. So I recognize and again, I'll say it again, I think, that the widespread nature of COVID-19 and maybe the second and third derivatives of impacts, I don't want to say that I have perfect visibility to what that's going to look like into the future. But thus far our crews have been able to continue to work and install our tenants and deliver the infrastructure that's necessary. So we've not seen any impact. We didn't see any impact in the first quarter results and haven't seen it thus far.", "Our teams are continuing to work. And the states have been great as well as the federal government and they have been really clear that the deployment of telecommunications infrastructure is essential work that needs to be done. And so our crews have been able to navigate and to work and to do so safely and install the infrastructure. And so at this point we don't see any impact from COVID-19 in terms of limiting our ability to continue to deliver for customers." ] }, { "name": "Ric Prentiss", "speech": [ "Again, wish you all the best for you and your family. Stay safe and warm this time." ] }, { "name": "Jay A. Brown", "speech": [ "Thank, Ric." ] }, { "name": "Operator", "speech": [ "The next question comes from Michael Rollins at Citi." ] }, { "name": "Michael Rollins", "speech": [ "Hi. Good morning. Thanks for taking the questions. Two if I could. First, if you can step back on the small cell business can you frame how the contract value allocates between the fiber infrastructure you're providing versus the access that you have to poles and to other structures that they might be attached to and then the actual electronics or antenna or anything that you provide that's on a more technical basis. And then just secondly, is there an update to your prior disclosures around the inquiry from the SEC? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Good morning, Mike. Thanks for the question. On the first question around the small cell contracts. We don't differentiate that as -- in terms of the contract itself. I think probably the best way and hopefully this answers the question in terms of what you're driving toward. If you think about the capital costs associated with building small cell networks about 80%, 85% of the total cost of building those networks is in the fiber itself.", "So if you think about the contractual value coming back to us and what we're pricing the investment back to my comments about it differs market-by-market and even inside of the market based on the type of infrastructure that has to be deployed in order to achieve a small cell solution for the carriers. The majority of the -- think about the revenue and the underlying cost associated with that is going to be in the fiber asset, the fiber asset itself.", "And then what it looks like in terms of the aesthetic and the actual delivery of the antenna that will really change based on the architecture and the desired aesthetics by the municipality or potentially by the utility that we're working with in order to figure out what is the vertical infrastructure that becomes the broadcast point for that small cell. And that's a much smaller component of the overall cost and therefore a smaller driver of what the return to us is or cash flows to us are.", "On your second question we don't have any update to the SEC process. The prior comments that we've made still stand. Obviously we're fully cooperating with any questions that they have for us and we'll continue to do so." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "The next question comes from Nick Del Deo at MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey, good morning. Thanks for taking my question. First with respect to small cells and fiber solutions, can you help us understand what the typical lag is between when the permitting for project is complete and when you actually deploy an infrastructure? And does it vary very much between small cells and fiber?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Thanks, Nick. On the small cell side and fiber side it will -- there are different answers depending on the communities because the amount of work that we have to work through whether it's a utility or a municipality or both, those have differing answers. But in general the entire time line from the time that a carrier tells us that they would like a small cell to when we have it on air, the outcome there is ranging from about 18 months to 36 months and the majority are kind of in the 24-month to 36-month period of time.", "The vast majority of that time period is we're incurring what we would describe as soft costs and those costs are relatively low. And the reason for that is because we're working through the process with the municipalities and the utilities in order to figure out what the structure and access is going to look like in order to build it.", "Once we have all of the zoning, permitting approvals that are necessary in order to build or to deploy that -- those assets, the build cycle itself is relatively short. So we'll incur the majority of the cost of the capital in the last several months of the build before the revenue turns on. So that build cycle is relatively short.", "Now when I say relatively short it's relative to the 24- to 36-month time cycle, there are exceptions to that where we're putting in fiber in places that are very difficult to build and it may take us longer than just a few months in order to actually build the infrastructure. So, but in general that would hold where we go through a long period of time with the soft cost to build and then the actual construction portion is relatively short.", "The same would hold true on the fiber solutions side, if we're building new fiber for new customers in a new market. But it would not hold true, if we were looking at a building that we were already providing fiber to or a location where we had already built small cells and we had a fiber run just outside or relative proximity to a potential enterprise customer. And in those cases the ability to get them on air is much faster than that time line of 24 to 36 months.", "Generally speaking, we'll have a new customer on air within six months of contracting with them on the enterprise side or on the enterprise fiber side. Some of that and I think this is helpful just in terms of from a strategic standpoint, as we think about the business, we think about the long-term value drivers, we believe is going to come primarily from small cells.", "And so where we've invested the capital and as we've thought about the opportunity, we're zeroing capital in in places where we think there's going to be the most small cell opportunity. We then look at that -- those assets that have been created for small cells and reinvested in because of the opportunity we think about from a small cell standpoint. And then we pursue customers on the enterprise side that could use those fiber runs.", "So a portion of the reason why we're faster on the enterprise side is by definition we're targeting customers who can utilize that same asset that we're utilizing on the small cell side. So it self selects. Whereas on the other side when you think about where we're building small cells, we're working closely with the carriers in places that there is no existing fiber today and so we're going in and building high capacity, dense urban fiber for the purpose of small cells and then we would go back and roll that into opportunities that are on the enterprise fiber side." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. That's helpful. And just -- maybe just to put a finer point on it and kind of where I was trying to get with the question. If we think about the remaining nodes that you plan on putting on air for the balance of the year, is it then fair to say that a good chunk of those are kind of through the permitting process and ready to go?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. They would be in various stages of that. But in order to get them on air in 2020, we would have to have pretty good visibility toward either -- we've either achieved all of the approvals or the majority of them and we have line of sight that the other approvals are coming." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Okay. Good. And then one on the expected services ramp. Can you expand a little bit on the degree which your expectation of the ramp is based on your interpretations of the carriers' intentions versus specific planning discussions you're having or work orders you've received?" ] }, { "name": "Jay A. Brown", "speech": [ "Well I think going back to my comments that I made around the recurring revenue, the leases that we would have signed to date, whether that was last year or this year, the services work would be related to that. So preconstruction work that we're performing for the carriers in advance of them installing on a site and then a much smaller component of the services now coming in the periods in which we perform the work, where we're actually adding tenants to the tower.", "So we would have pretty good visibility toward what that activity would look like. Now the same comments that has always applied to this business, I think certainly applies today, it is the most volatile component of our results, because knowing exactly when some of these sites will turn on when and that work will actually be completed, we don't have the same kind of visibility that we do on the recurring revenue side.", "So I think any time we couple and this is why my remarks were really bifurcated between here's what we're seeing in the current year 2020 and then this is what we're seeing over a long runway period of time. Is there a possibility that some of the services activity that we're expecting to come in in the second half of the year that some of that slides into 2021? That's possible.", "But the activity level in terms of the recurring revenue, I think we have pretty good visibility on that front and we feel better about that recurring revenue opportunity today than what we did six months ago. And so whether that results in services activity as we believe it will in the second half of the year if a little bit of it slips into 2021 from a run rate standpoint if we get out into 2021, I think we feel better today about our run rate in 2021 than what we would have six months ago.", "So our best view today is the guidance that we've provided and that looks like second half of services in 2020 kind of similar to what we saw in the first half of 2019. And then that second quarter that we're in right now probably looks similar to what we saw in the first quarter of this year." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Thank you, Jay." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "The next question comes from Batya Levi at UBS." ] }, { "name": "Batya Levi", "speech": [ "Great. Thank you. A couple of follow-ups. First on the small cell deployment side. Can you talk about if there has been any change in demand from the carriers? The pipeline for the ones on air and under construction seems to be relatively flat in the last few quarters. I was wondering how we should think about that total number going forward.", "And a second question on the mobile usage growth. With work at home in place right now, is there any change in that usage growth that you could that you can talk about that could potentially delay the carrier activity down the road?", "And just a final question on DISH. Now that the your tenants are adding DISH spectrum temporarily to their sites if that is expanded beyond 60 days do you think that could provide an opportunity for you? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On the first question around the pipeline for small cell nodes, we continue to see activity in normal course and believe that will continue as the carriers work on their 5G deployment plans. We've seen steady growth in that front over the last several quarters and so really encouraged about the continued need for it.", "I think we're positioned really well for that opportunity both in terms of the systems that we built in the early days and have great locations. Those are anchored by one of the big three operators today and well positioned for additional lease-up from those operators. And then obviously we have the capabilities to be able to stand with the carriers as they think about broadening out the number of markets that they want to go in and those discussions have continued to be really fruitful.", "On your second comment around office remote working relationships, as I've said in a couple of different ways, we haven't seen any change in behavior from our fiber customer side, and frankly, don't expect to see any change of behavior there. I think it will be interesting to see in terms of what the traffic patterns change and what the impact is ultimately to overall data growth.", "I think our bias is probably toward believing that it is increased data traffic and then there's been a number of studies out that have kind of shown some increases in overall traffic as a result of a change in the working environment. But I'd say net-net that has not really led to a change in the way, we think about the business. And then..." ] }, { "name": "Batya Levi", "speech": [ "Yeah. Just to clarify on that. So, sorry. I was mostly asking about the macro environment actually. Have you seen any mobile usage kind of maybe stepping down a little bit as more people use their broadband connectivity at home?" ] }, { "name": "Jay A. Brown", "speech": [ "No. We haven't. I mean, to my comments in terms of the carrier activity, we've seen them not -- we've not seen them change at all. They're pushed toward building out their networks improving their networks for 4G and then also getting ready for 5G. And the prior statistics that we've talked about for years in terms of overall data growth 30% to 40% annual growth in data that appears to be intact and maybe even biased a little bit toward the upside.", "So in terms of carrier behavior in the current as well as conversations that we're having with them about what it's going to look like over the coming months and years. Again, we feel better about what that opportunity is today than what we would have said six months ago.", "On your last question around DISH, obviously, they're at the very beginning portion of beginning to as I made in my prepared comments, they're at the very beginning of starting to launch the network. And they have some big targets in terms of how much deployment is going to be needed and to come. We don't expect that and don't have any benefit of that in our 2020 results or very little impact in our 2020 results. We think that's really a 2021 and beyond impact. And so we're working closely with DISH to provide them the best service that we possibly can. And then we'll see, how it develops from there." ] }, { "name": "Batya Levi", "speech": [ "Okay. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Got you. Maybe it's time for just one more question operator." ] }, { "name": "Operator", "speech": [ "Absolutely. The last question comes from Spencer Kurn at New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. Thanks for taking the question. I just wanted -- want to clear things on what you're seeing in your tower backlog. I would think that the piece of the applications -- the volumes of applications have fallen since we saw a slowdown from Sprint and T-Mobile and DISH in the back part of last year. But curious as to where it stands now relative to trough levels and what you're basically expecting for volumes improving as you are progressing relative to the numbers that you saw last year?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure, good morning, Spencer. I think my comments earlier Spencer around how we think about the growth in recurring revenue is probably the best way to think about the answer to your question. So obviously, we had really good activity throughout 2019 across the board from the carriers. And a lot of those leases are now turning on here in 2020, which gives us comfort that we've been able to assess where the run rate of revenues will be as we go through the portion of 2020. And then, new leasing activity obviously we're getting new applications every day and so factoring that into as we think about the growth over the balance of the calendar year, and then the implication of that on revenues.", "The leases that we're signing today and then turning on in calendar year 2020 that makes a relatively small impact in the overall results for calendar year 2020. So less impactful there, but again to all of the comments that I've made throughout the call we're seeing a significant amount of activity and the conversations with the carriers would indicate that that activity is going to continue to ramp as we go through the calendar year and that will be in a place, where we'll see even greater applications than what we're seeing today for our sites. That -- while that's the trend line that doesn't really impact our 2020 results. But that's what we're seeing is an environment that we're more positive about today than where we would have been six months ago. So I would -- I'm a little, I would be resistant to describing a backlog that's falling. I think the pipeline and the opportunity set is growing as we think about what's in front of us." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. And then if I just could follow-up on the other topic which is just churn. In the power business, we tend to think of the normalized churn around 1% annually. And for the past several years you've been running above those levels because you've had -- you've shown a few problems in churn from MetroPCS and even Clearwire. I was just hoping you could touch on how much of that churn do you have left. And is there a prospect that would sort of return back to more like levels later this year as we think about the next several years ahead of us furthermore and the impact of a Sprint would do to the churn, which could happen a few years away?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Spencer. On the churn side, we saw the end of the consolidated churn in terms of an event happening in the fourth quarter of 2019, so late in the year. So in terms of run rate impact on the run rate that's continuing to affect our results, if you were comparing Q1 of 2020 to Q1 of 2019, we still have that elevated level of churn. It's about 2% on an annualized basis roughly. So about double our normalized churn, which you accurately said was 1%. That is our normalized level of churn.", "As we get into the back half of 2019 and by the time, we get to the fourth quarter of 2019 -- sorry, as we get into the back half of 2020 and into the fourth quarter of 2020, we think that normalized churn of about 1% is what we'll see. So part of the answer is you think about what's the net impact on site rental revenues is, we're benefiting from a reduction in churn as we go up -- go through the course of the year in addition to the uplift for the new leasing that we're seeing. So we believe by the time we get toward the back half of the year and particularly the fourth quarter, all of the consolidating churn that we've been talking about over the last several years will have -- that will have worked itself through." ] }, { "name": "Spencer Kurn", "speech": [ "Awesome. Thank you." ] }, { "name": "Ben Lowe", "speech": [ "You bet." ] }, { "name": "Jay A. Brown", "speech": [ "Well, thanks everyone for joining the call this morning. I want to lastly just thank all of our employees, who've done a tremendous job over the last six to seven weeks, and both delivering for our customers and delivering for the communities in which we operate. So many thanks to all of you for the hard work that you're doing. Keep up the great job, and we'll talk to everyone next quarter. Thanks so much." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2018-10-18	[ { "description": "Vice President of Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Senior Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew Niknam", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "Cowen & Company -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Amir Rozwadowski", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Richard", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "Guggenheim Securities -- Analyst", "name": "Robert Gutman", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "Macquarie -- Analyst", "name": "Amy Yong", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day and welcome to the Crown Castle Q3 2018 Earnings Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Ben Lowe. Sir, you may begin." ] }, { "name": "Ben Lowe", "speech": [ "Thank you, Jonathan, and good morning everyone. Thanks for joining us today, as we review our third quarter 2018 results. On the call this morning are; Jay Brown, Crown Castle's Chief Executive Officer and Dan Schlanger, Crown Castle's Chief Financial Officer. Today the discussion, we have posted supplemental materials in the Investors Section of our website at crowncastle.com, which we will refer to throughout the call this morning.", "This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and actual results may vary materially from those expected. Information about potential factors, which could affect our results is available in the press release and the Risk Factors section of the company's SEC filings. Our statements are made as of today, on October 18th, 2018, and we assume no obligations to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the Supplemental Information Package in the Investors section of the company's website at crowncastle.com.", "So with that, I'll turn it over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben and good morning everyone, thanks for joining us on the call this morning. Over the last two decades, we have established an unmatched portfolio of more than 40,000 towers and 65,000 route miles of high capacity fiber in the top US markets, where we see the greatest long-term growth. We continue to believe the US represents the best market in the world on shared communications infrastructure. And we believe our ability to offer a combination of towers, small cells and fiber solutions to our customers provides a valuable differentiation in the market.", "On this call, I wanted to highlight two important themes; first, our strategy to invest in towers and small cells and fiber has positioned us to capture accelerating leasing activity, which is driving, dividend growth. And secondly, we continue to see tremendous opportunities to invest in new assets that we believe will generate future growth.", "On the first point, executing on our strategy is leading to consistent dividend growth, as we increased our annualized common stock dividend by 7% to $4.50 per share, in line with what we believe our AFFO per share growth will be in 2019. The growth in 2019 is based in part on our pipeline of contracted new business, which has increased in each quarter of this year and is driving the accelerating new leasing growth we expect to see in 2019.", "As shown in our outlook, we expect these positive trends to continue, as we expect towers to contribute approximately $125 million to new leasing growth in 2019, which is up nearly 15% from the $110 million, we expect to see in 2018. Likewise, we expect small cells to generate new leasing activity of approximately $75 million in 2019, which is more than 35% higher than the $55 million we expect in 2018.", "In addition to the expected acceleration of new leasing activity, our pipeline of contracted small cell nodes to be constructed over the next 18 to 24 months continues to grow, and currently stands at an all time high of approximately 35,000, which is up 40% from this time last year. This increased activity is a result of all four of our large customers, investing in their networks, through towers and small cells to both keep pace with the current 4G demand environment and position their networks for 5G.", "Carriers in the US are expected to lead the way and be among the first operators in the world to deploy commercial 5G services, with all four of the national carriers working to rollout 5G services currently. Underscoring how attractive, the US market is for communications infrastructure ownership, Ericsson estimates that 5G will account for nearly 50% of mobile subscriptions in North America by 2023, compared to just 20% globally. According to industry estimates mobile data traffic in North America will increase by 40% per year between now and 2023. Resulting in a staggering eight-fold increase in the volume of data riding across mobile networks.", "This growth in data will require substantial densification of wireless network. And we believe Crown Castle is in a great position at the center of these mega trends, as our portfolio of well located towers and dense high capacity metro fiber assets remain the most cost effective option for our customers deployment need. In the near term since 2014 an inclusive of the dividend increase we announced yesterday, we have grown our dividend by a compounded annual growth rate of approximately 8% fueled by these underlying industry trends and the resulting revenue growth.", "Turning to the second theme, we are excited about the significant investments we are making to build new assets that we expect will drive long-term growth in cash flows and dividends per share. We believe we are in the very early innings of a huge opportunity with high capacity dense metro fiber, which has become critical for wireless and wired networks. Over the last several years we have built and acquired an unmatched portfolio of more than 65,000 route miles of high capacity fiber in the top markets where we see the greatest long-term demand for multiple customers. Consistent with our expectations, we continue to see very attractive initial returns on our fiber investment with initial yields of 6% to 7% for the first tenant.", "Over the long-term and similar to towers we expect the returns on these investments to increase as we add more customers to our fiber assets, which will drive future dividend growth. We are using the same playbook, we used with towers by sharing the asset across multiple tenants to generate attractive returns and it's playing out better than we expected. Looking back five years ago we had an aspirational goal to be able to deploy about 10,000 nodes per year. At the time we were adding a 1,000 nodes per year, so this was seen as a significant increase and capability.", "Looking ahead to 2019, we expect to deploy between 10,000 and 15,000 nodes exceeding our aspirational goal. Our team has done a terrific job building capability and expertise that can deliver for our customers at significant scale. Further proving out the model we are seeing demand from multiple tenants on the same fiber asset with a meaningful portion of the nodes we expect to deploy in 2019 co-locating on existing small cell networks. By co-locating additional tenants on existing fiber networks we are able to generate high incremental margins that we expect will grow the yield into the mid to high-teens over time.", "With our leading capabilities in fiber solutions we have the ability to increase the yields on our fiber investments by growing cash flows from both small cells and fiber solutions customers that need access to the same high capacity dense metro fiber assets. While the current utilization of our fiber portfolio is similar to that of a single tenant tower. Our current 8% yield is more than double what we saw when our towers had only one tenant. All of this increases our conviction to continue investing in new fiber assets that we believe will expand our long-term opportunity.", "So in closing, our strategy to invest in towers, small cells and fiber has positioned us to capture this accelerating leasing activity, which is in turn driving dividend growth. And we continue to see tremendous opportunities to invest in new assets that will further the strategy over the long-term. With our unmatched portfolio of assets and operating capability, I believe Crown Castle is best positioned to capture these immense long-term opportunity. While consistently returning capital to shareholders through a high quality dividend that we expect to grow 7% to 8% annually.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay and good morning, everyone. As Jay mentioned, we had another great quarter results in the third quarter that sets us up to finish 2018 on a strong note and provides a solid foundation for 2019. As you can see in the initial 2019 outlook we provided, we expect to grow AFFO per share by 7%, which led us to increase our dividend by the same amount. The third quarter results in 2019 outlook reflects the strength of our business model and our ability to leverage our leadership position in the US across towers, small cells, and fiber solutions to generate continued growth.", "Starting with slide four of the presentation on our website in the third quarter, we exceeded the high end of guidance for site rental revenues and AFFO, while adjusted EBITDA exceeded the midpoint of the range. When compared to our prior third quarter outlook site rental revenues and adjusted EBITDA benefited from approximately $3 million of additional straight-lined revenues, which were primarily the result of term extensions associated with leasing activity, as well as some additional contribution from our Lightower acquisition. These benefits were partially offset by approximately $2 million of higher straight-line expenses.", "Further while AFFO did not benefit from the straight-line revenues, it did benefit from approximately $3 million of lower sustaining capital expenditures, which are now expected to occur during the fourth quarter. Adjusting for the impact of these items third quarter site rental revenues, adjusted EBITDA and AFFO each exceeded the midpoint of our prior outlook. Beginning in 2019 and consistent with our intention to align our public communications with the long-term approach we take internally in managing the business, we will no longer provide guidance for quarterly results.", "Turning to the balance sheet, we finished the quarter at a 5.1 times debt to EBITDA ratio and intend to finance the business with five turns of leverage longer term, as we remain committed to maintaining our investment grade credit profile. To that point, we are excited that earlier this week, Fitch upgraded our senior unsecured credit rating to BBB flat, which we believe is a reflection of the stability and attractiveness of our business model. With the increasing interest rates we have seen over the recent past, we are pleased with the structure of our balance sheet with a weighted average duration of our debt of greater than six years and only 20% floating rate debt.", "Now moving to slide five. At the midpoints, we increased our full-year 2018 outlook for site rental revenues and adjusted EBITDA, while leaving the outlook for AFFO unchanged. The increase to site rental revenues reflects the out performance from the third quarter that resulted from a combination of better than expected performance from our Lightower acquisition and the additional straight-line revenues I mentioned earlier. Meanwhile, the increase to adjusted EBITDA reflects the higher than expected site rental revenue offset by some additional expenses, while AFFO remains unchanged, as the higher straight line revenue does not contribute to AFFO.", "Staying on slide five, our full year 2019 outlook highlights include; 7% expected growth in AFFO per share from $5.49 in 2018 to $5.85 in 2019 at the midpoint of outlook. And a 7% increase to our annualized dividends per share from $4.20 to $4.50. This dividend increase is supported by the expected acceleration and leasing activity in 2019 and demonstrates our ability to deliver on our growth targets, while investing in new asset that will drive future growth. Over the long term, we expect the returns on our small cell and fiber investments will increase, as we lease the assets to additional customers, which we expect will significantly add to future dividends per share.", "Moving now to slide six. At the midpoint, we expect approximately $220 million of growth in site rental revenues from 2018 to 2019, consisting of $280 million of organic contribution of site rental revenues offset by a change in straight-lined revenues of approximately $60 million. Organic growth in 2019 is driven by new leasing activity of $365 million at the midpoint, up from $205 million at the midpoint in 2018 represent -- representing an acceleration in activity levels.", "As Jay, mentioned earlier at the midpoint of outlook new leasing activity in 2019 is expected to be $125 million for towers, up from $110 million in 2018. $75 million for small cells, up from $55 million in 2018 and $165 million for fiber solutions, up from $45 million in 2018.", "In addition to new leasing activity, we expect annual contracted tenant escalations to contribute approximately $90 million in growth at the midpoint in 2019. Growth from new leasing activity and tenant escalations is offset by approximately $175 million of expected non-renewals, resulting an organic growth of $280 million at the midpoint. Expected non-renewals in 2019 consist of non-renewals on our tower business at the high end of our historical 1% to 2% range over half of which is related to wireless carrier consolidations occurred earlier this decade. It also includes less than 1% non-renewals on our small cell business and high single-digit non-renewals on our fiber solutions business. The approximately $280 million of organic contribution to site rental revenues, represents approximately 6% growth year-over-year, they consists of approximately 5% growth from towers, approximately 20% growth from small cells and approximately 5% growth from fiber solutions.", "Turning to slide seven, I'd like to walk through the expected AFFO growth from 2018 to 2019 of approximately $160 million at the midpoint of outlook. Starting on the left, organic contribution to site rental revenue growth of $280 million at the midpoint is partially offset by an approximately $80 million increase in cash expenses. This increase in expenses is a combination of the typical cost escalations in our business and the direct expenses associated with accelerating new leasing activity. Moving to the right, we expect the contribution from network services to increase by approximately $25 million from 2018 levels, consistent with the higher expected leasing activity in the towers business.", "Then finally, we expect AFFO to be negatively affected by approximately $70 million of other items in this case increase financing costs. The approximately $70 million increase in financing cost from 2018 to 2019 is inclusive of approximately $25 million related to higher expected average floating interest rates in 2019, when compared to average interest rates in 2018, as well as $45 million related to the funding of our discretionary capital expenditures. Similar to 2018, we expect our overall capital expenditures in 2019 to be around $2 billion or around $1.5 billion net of cash(ph)total contributions from our customers. Summarizing our results, we expect to deliver 7% growth in AFFO per share in 2019 driven by accelerating leasing activity, offset by the higher financing costs, I just mentioned.", "In closing, our unmatched portfolio of shared communications infrastructure assets, uniquely positions us to return capital to our shareholders in the form of a high-quality dividend and to meet our goal of growing that dividend by 7% to 8% annually, while allowing us to make investments in new assets we believe will extend our long-term growth opportunity.", "With that Jonathan, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. (Operator Instructions) We'll take our first question from Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great, thanks very much. Good morning. Just on the quarterly guidance, can you give us any color about the 2019, is there any pacing first half versus second half or anything that's unusual through the year. And then you're talking about the long-term drivers, the FCC has been moving to get a lot of spectrum out in the marketplace. Can you just give us a little bit of color on the CBRS and the C band. Do you think that's more for the small cell portfolio or for the macro tower portfolio, would you think you will see leasing on both of those over the next few years? Thanks." ] }, { "name": "Ben Lowe", "speech": [ "Hey Simon, good Morning. I'll take the first one, and hand it over to Jay for the second one. The quarterly pacing there's nothing really to point out, other than I would say that some of that small cell pacing the 10,000 to 15,000 nodes, we're talking about is a little back-end loaded. But there's nothing that would be any different than the general pacing we typically see through the business and what we've seen through 2018 in terms of when we expect to turn on revenue either on the tower side, small cell side or services." ] }, { "name": "Jay A. Brown", "speech": [ "Okay, thanks for the question Simon. I would tell you, if you look back over the last couple of decades of when the days have been the best for the infrastructure business around now towers and fiber and the deployment of small cells. Anytime there's new spectrum coming to market and you have a commitment from the owners or the operators that hold that spectrum, you see increased leasing activity. So as the FCC is looking at how do we compete globally with regards to 5G, I think it's a combination of network densification and the deployment of additional spectrum. Some of that spectrum is laying fallow currently in the hands of operators that haven't deployed it, and in some of it is spectrum that the FCC is looking at trying to figure out a way to get it deployed and into the hands of operators. I think both of those are supportive of kind of our long-term expectation of growth and point to a longer runway of growth.", "Specifically on CBRS and C band, I think we will see activity on both macro sites and small cells, but I would tend to believe we'll probably see a bigger impact around small cells, then we will at macro side, but I think it will contribute to long-term activity on both asset." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks a lot." ] }, { "name": "Operator", "speech": [ "Thank you. (Operator Instructions) We'll take our next question from Matthew Niknam from Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey guys. Thank you for taking the question. Just one on rising rates, how do the environment change the way you think about discretionary investments in fiber, I think you've talked about investing more particularly or organically. So I'm just wondering, how you sort of -- how the view evolves in a rising rate environment. And then I guess more broadly, do you think the business can continue to grow at sort of this longer-term 7% to 8% range given the move in rates? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, Matt, thanks for the question. The amount of increase in rates we've seen recently doesn't impact of what do we think about discretionary investments at all, just because the returns we see on those investments so far exceed our cost of capital, even with those increasing rates that it's not going to have any impact on the long-term benefit that we think those investments will generate for us and shareholders over time.", "And as Jay pointed out in his discussion, we're really excited about all the trends we see. The acceleration in the small cell business, the continued performance in our fiber business. So we think that those investments continue to look really good, even in this rate environment and would be, it will take a pretty substantial increase from here that would change any of that thought from us, so it's not anything that we would really anticipate to happen. That doesn't mean that it wouldn't impact any single period like it did in 2019 for us. But the long-term investment profile we feel really good about and excited about.", "And as far as the business continue to accelerate, I think the answer is yes, as we pointed out, small cell business is around 20% growth year-over-year that's in line with what we grew -- what we expect to grow in 2018. The fiber solutions business is around 5% growth, we think that -- we've talked about mid-single digit growth for a while now, we think that will continue. So we think that the position of our assets, the high capacity dense metro assets we put together really gives us a great way to attack multiple markets with the same fiber -- with the same asset and we think it will continue to generate growth for us in the long-term." ] }, { "name": "Matthew Niknam", "speech": [ "If I could just follow-up, you also mentioned a meaningful portion of the nodes that are coming online in 2019, are going to be co-locating. Can you maybe give us a little bit of a ballpark estimate in terms of how that compares to the 70/30s that you've given us in the past?" ] }, { "name": "Jay A. Brown", "speech": [ "It's really not a lot different, it's just that the total amount is a lot higher, because we have such a larger pipeline, we're still around 70/30, it's just the total amount of co-location has gone up, which is been very encouraging to us, because it means that as we put new assets in place to build small cells, we are then coming back and getting co-location on those new assets. But we are still investing a lot in building out markets, which we anticipate will do for a while now just given how early we are in this investment cycle." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Matthew, I think one of the way to frame it is, if you were to go back two or three years and look at the number of co-locations that we're doing now, it would exceed the total number of nodes we were deploying, three, four years ago. So we've seen significant growth in that co-location, which is -- to both Dan and I have comments. We've seen not only terrific returns, but we've also seen the model proved out, which has given us more conviction around continuing to invest in the assets and grow the opportunity as we follow the wireless carriers and their deployment of 5G across markets." ] }, { "name": "Matthew Niknam", "speech": [ "Perfect. Thanks guys." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey guys, thanks for taking the questions. I guess just a couple on the kind of inputs to the AFFO guide. I think the $25 million related to the variable cost funding, Dan implies about a 75% -- sorry, 75 basis point rate hike into 2019. I just wanted to verify that it sounds pretty consistent with kind of consensus expectations for rising rates?", "And then the second one was related to the $45 million funding cost related to discretionary CapEx, I guess the question there is kind of what is the expectation there? Is that a $1.5 billion being raised in the middle of the year? Is that a $1 billion being raised at the beginning of the year? Some color on that would help us kind of understand the shape of that? Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure. Thanks for the question, David. On the first question, what we've baked into our 2019 guidance is forward curve (inaudible) of when we put it together, which is very recently. So it's in the ballpark of what you're talking about, but it's just the forward curve of future interest rates through 2019, which we think will add about $25 million to our interest expense year-on-year.", "On the $45 million funding, there are lot of assumptions that we put into that. But, as I mentioned in the prepared remarks, we have about $1.5 billion of net capital to spend, which when added to our dividend is higher as more capital going out, than we would have an AFFO, we're going to -- have got to fund that externally as you know. The mix of that funding and how we're going to do that funding and when is really based on when the nodes come on air over the course of 2019, and then to the extent that we generate additional EBITDA to generate additional debt capacity, we will use that and anything else we would issue equity forward to keep our debt to EBITDA in the 5 times range. And all of those assumptions in when and how are baked in and we have ranges around it, because those are assumptions and we're going to have to see how it all plays out." ] }, { "name": "David Barden", "speech": [ "So, Dan the guiding plays a stable share count. So, is it safe to assume that the base case expectation that is -- is that $45 million is related primarily to debt financing over the course of the year?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, David, I think, again, what I would say is that we're -- what we're looking at as a funding philosophy overtime that keeps us around 5 times debt to EBITDA to the extent that we can fund all of our discretionary capital with additional debt capacity on our EBITDA, we may have to do some equity, at some point I want to do some equity, at some point to keep our investment grade rating. And how all that comes together, and the timing of all that is something that, we're going to have to be very diligent about and looking into how we fund our capital expenditures in 2019.", "And we have a lot of assumptions that go into that -- the financing of how we're going to make it happen. And we'll -- unless, you know, we're actually will just -- we'll fund it in a way that we'll maintain where we're going." ] }, { "name": "Jay A. Brown", "speech": [ "I think maybe the other way that David, and maybe this is kind of where you're driving toward as Dan said, as we factor in those various scenarios around how we need to finance the business to maintain our investment grade credit rating, we factor that into the 45. So our intention would be to deliver on the AFFO per share, which you can calculate and the dividend growth. We expect to be able to deliver on that given the funding that we expect in front of us in 2019 of funding about, on a net basis, about $1.5 billion. So we're factoring in the various financing scenarios and giving that guide." ] }, { "name": "David Barden", "speech": [ "Okay, great. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Jonathan Atkin from RBC Capital Markets." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks. So two questions; one on the escalator guide for next year, it's a little off from 2018 levels and I wondered, what's driving that. Is that product mix or anything around term extensions or MLAs?", "And then secondly, in the fiber segment, I'm just kind of interested now that we're a couple of quarters and what has surprised you on the upside versus the downside in terms of the business mix, whether it's in rates or sales side backhaul or enterprise or what not, if you could maybe drill down a little bit into that? Would appreciate it. Thanks." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jon, I'll take the first one, again, I'll hand it over to Jay for the second one. On the escalator, it's not nominally and it's not different than anything we would have expected. The tower business is still just below 3% on an escalator basis, small cells around 1.5% and fiber solutions has no escalator, so any change for percentage basis is on the business mix that's going into that escalator." ] }, { "name": "Jay A. Brown", "speech": [ "On your second question Jonathan, as we look at the business particularly Lightower have the largest portion of that. But I would tell you, as we are now almost a year-end since that acquisition, and the business has performed in line with what our expectations are as you've seen over the course of this year, we've delivered right in line with what where we expected the business to perform. And on the integration front, all of the integration activities have been on track. So we think we'll come out of this year with the asset largely integrated and financial performance that's in line with the outlook that we provided when we originally bought the asset.", "So I wouldn't necessarily point to anything as big surprises, we've made -- we said multiple times that what has surprised us to the plus side is the level of co-location that we've been able to achieve on fiber. We certainly believe that to be the case when we made the investments into the business. But co-location has occurred at a higher rate and faster than what we -- than what we initially anticipated. When we've underwritten these investments, we've taken an approach that's very similar to what we've done with towers where we assume that we add one tenant over a 10-year period of time, we're about 0.1 per year, and what we've actually seen is co-location on fiber from small cells in particular, that's about twice that rate.", "So the total return on fiber is driven in part by our fiber solutions customers, which you referenced schools and E-rate and other things, and the leasing of dark fiber assets to enterprise customers, hospitals, et cetera. And the deployment of small cells has driven that co-location and returns at rates that are higher than what we originally underwrote and the fiber solutions business as a stand-alone mix of customers that's performed in line with our expectations in this first year of significant ownership." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks. And then if I could just briefly follow-up in terms of the small cell activity expected next year and in the macro site leasing activity expected next year. Is the customer set and the demand set broadening across a larger number of the big four carriers? Or is it kind of the same customer concentration, but just more activity overall by the same principal customers? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "We're seeing activity from all four of the operators on small cells, the broadening as we've talked about both the increase in the number of nodes that we're turning on air year-over-year, but also the number of new contracted nodes that we're seeing in the business. That's a -- and part of function, which we saw over the course of early 2018, some of that was a broadening of the customer base and all of them beginning to deploy small cells.", "But I think more recently, if you took this quarter and what we're -- we expect to see into 2019, as the activity accelerate is really a broadening of the number of markets in which those nodes are deployed. Historically the vast majority of the activity has been focused in the top 10 markets, and I think a couple of quarters ago, I mentioned that we had expanded that out to really NFL cities, and we're continuing to see a deepening of the need for small cells in those NFL cities and then seeing the carriers in some places start to move out even beyond the NFL cities. But at the moment, the vast majority of the activity would be concentrated in the top 30 markets in the US, roughly, which is an expansion from what was a couple of years ago was almost exclusively related to the top 10 markets and that's driving the increased level of activity." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Colby Synesael from Cowen & Company." ] }, { "name": "Colby Synesael", "speech": [ "Great, thank you. I guess, first off, just going back to the fiber business, I was flipping through the -- late to our presentation at the time that deal was announced. And then there -- I think there was a comment that you guys were anticipating 7% growth in tonight's comment -- today's comments, excuse me, you're expecting 5% next year. Is that an apples-to-apples comparison? And if so, does that imply obviously then a slowdown in growth, and if so, why? Or am I just misinterpreting how to think about that?", "And then secondly, as it relates to the 10,000 to 15,000 small cell that you anticipate deploying in 2019. As we go out further, do you think that, that's a decent number to kind of have in our heads, and I say that because, just in terms of the employees that are needed and what's required on year-end, can you even go further or faster than that level. And also from a carrier perspective, do you get any sense that they're going to have the ability to grow faster than that even if they wanted to?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Hi, Colby, thanks for the questions. On the first one, Jay mentioned this earlier, but one of the things that I have been impressed by, in the first year we've on Lightower, as we gave guidance last year at this time before we on Lightower, and we're coming in, we're hitting that guidance. And it's something that during the course of an integration like we're going through, which has been a complicated integration as we've talked about before of merging Lightower into Crown Castle and merging a bunch of other fiber companies into Lightower at the same time.", "The ability to hit those numbers that we put out before we're actually own the business is really impressive and something that I think has been a testament to the people working in the business, but also just the business model itself. So as we look at the growth that we see going forward we've talked about the mid-single digit growth for a while and we think that, that's something that will continue and we're generally in line with what the expectations were and what we expected when we bought the asset, and how we expect the asset to perform going forward. And as we incorporate all of those other fiber assets or fiber businesses that we bought historically into it, we hope we can expand markets and push that on and make it higher, but we think that mid-single digits is the right expectation to have in mind." ] }, { "name": "Jay A. Brown", "speech": [ "Colby, on your second question, I think there's two things that are probably important to answer with regards to your question. First, specifically around our current operating capability we can handle the 10,000 to 15,000 nodes that we're talking about in 2019 without the need to really significantly change or materially change our cost structure, as you can see from the outlook that we're providing. We're assuming sort of normal cost escalations in the business and not staffing up. And these were capabilities, given that it takes 18 to 24 months in most cases to build these nodes. These are capabilities they have been in place for a while and while they turn on in 2019, the work associated with those nodes began well before calendar year 2019, to get the work done.", "So I think from a capability standpoint at the moment we're staffed appropriately for the level of activity that we're seeing. If I think more broadly about the opportunity around small cells I don't think 10,000 to 15,000 nodes a year is going to get anywhere close to accomplishing what the carriers have publicly talked about their need for small cells and the densification that's going to be required for 5G. And I believe based on our operating capability, our expertise, the assets that we have and how we've developed relationships with both municipalities and our customers, I believe we're going to be the provider of choice as the opportunity scale.", "So as I think longer-term outside of kind of the periods in which we're giving guidance and the comments that Dan and I were making around our interest and desire to continue to invest that commentary is based on our belief that the opportunity is scaling and getting larger and we intend and would expect to participate in that and we want to win and continue to be the provider of choice to the wireless operator. So we'll continue to follow them and to the extent that this longer term view if I'm right, about the opportunity continuing to increase and the deployment that's needed, then we may at some point need to add additional resources in order to handle that, but that will come with the appropriate cash flows and returns if that does materialize.", "So short term, I think we're in pretty good shape in terms of the way we're organized and have staffed and longer term we're certainly competing to try to make that opportunity even larger and if it does then we'll adjust to ensure we have the capabilities to deliver for customers." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And one of the thing Colby you mentioned was the capabilities of our customers to accelerate. I think one of the benefits of our business model of being a shared infrastructure provider is if they want to go faster we'll figure out a way to go faster and that benefits all of our customers. So they somehow figure out that more small cells are needed in 2019 then or 2020 or 2024 then 10,000 to 15,000 nodes, we'll make that happen, because we've shown the ability to scale our business and that helps them because they don't have to pay for the upfront cost, that's really on us and they get to share those economics and it's the best way to deploy the small cells is to share them among multiple customers, because and the cost gets shared. So we think that our business model is in line, we're trying to accelerate that as Jay was talking about and we've become the best option for making that happen." ] }, { "name": "Colby Synesael", "speech": [ "Awesome. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks, good morning guys." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning." ] }, { "name": "Ric Prentiss", "speech": [ "Can you hear now? Okay, I had a couple questions on the discretionary CapEx items. You mentioned, I think $2 billion gross, $1.5 billion net, what was that in 2018, as far as where you think you're going to end up?" ] }, { "name": "Jay A. Brown", "speech": [ "It's about the same, Ric. It's in the same ballpark." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And as we think about that $2 billion for 2019, can you help us peel that back as far as how much you think might be towers versus small cell versus fiber?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, it's about $400-odd million is still in tower and the rest is fiber. As you know, the fiber is a shared asset, so we don't really break it down between fiber and small cells, it's the fiber segment in total its the remainder of it." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And that does not include the maintenance capital right, this is all just discretionary?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. But we're given the ranges here, so the maintenance capital is relatively small to begin with. So these are all ballpark figure, so this is all in the range." ] }, { "name": "Ric Prentiss", "speech": [ "Sure, cool. And then when you think about $500 million range being contributed back by the carrier, how should we think about how much of that is coming back from tower versus small cell fiber?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "It's probably a similar breakdown between how much of the total capital is." ] }, { "name": "Ric Prentiss", "speech": [ "Okay, And then what kind of all -- it's all related -- all related questions together the change in the amortization of prepaid rent. Or is it still looking like something in the mid $30 million to $40 million in '18 and then should we think that number goes up in '19 then given the additional capital contributions?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Its about the same, because we're talking about the growth in prepaid rent, it's going to be in that $40 million range, $35 million to $40 million range in '18 and in '19 and because if capital is the same in both years and the contributed capitals are same in both years, it's about the same amount of growth." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And last one from me, we get a lot of questions on Sprint, T-Mobile, obviously it's a hot topic out there. I think in your supplement, you mentioned Sprint was 14% of your total lease revenues or rental revenues with seven years left. Can you break out how much Sprint is on your macro towers, because lot of people are thinking that might be where the more exposure to potential churn might be?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, it's in that ballpark Ric, there's no real difference between that, so it's around -- its in that 14% range for the Sprint contribution to our micro business, yeah." ] }, { "name": "Ric Prentiss", "speech": [ "Okay, Daniel, thanks for the extra information." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Amir Rozwadowski with Barclays." ] }, { "name": "Amir Rozwadowski", "speech": [ "Thank you very much and good morning folks. One of the questions in terms of the pace of small cell deployments, I mean, we've seen some of the new regulations come out by the FCC to sort of try and reduce some of the timing on in terms of deployment. How do you see that sort of impacting the opportunity for you folks going forward here. Could we see a further step up by operators to deploy at a quicker rate.", "And then sort of a follow-up question, I mean clearly you folks have made a lot of investments over the last couple of years in building out the necessary fiber and putting the assets in place to capitalize on this opportunity. As we start to think about this opportunity going forward, I mean clearly co-location is going at a faster rate than you folks had anticipated. Do you believe that this provides you with a very differentiated competitive opportunity or should I say very sustainable differentiation in capitalizing a greater share of the small cell deployments as network evolve to embrace that type of technology?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On your first question, I believe the deployment of both fiber and small cells is forever going to be a very localized business. So -- but the FCC did last month is helpful to the industry to the wireless carriers and to ourselves by making clear what the underlying fees are associated with deploying in the public right of way, and then setting forth some timelines, which municipalities are expected to respond to requests in order to do that. So what it does is it gives a clear line of site, both in terms of cost and timing. But in the no way negates the necessity and the importance of us continuing to work with those municipalities as we manage and deploy the infrastructure in ways that are sensitive to the esthetics and the needs of the local community.", "So I wouldn't look at that and assume that we're going to see a material change in our 18 to 24 month deployment cycle, in fact, we don't believe that will result. But we do believe that it is helpful and some problematic municipalities where they've been absolute basically blockers to the deployment of the technology and the deployment of fiber and small cells in the public right-of-ways. So in some places we may actually see a little bit of benefit, but I think on the whole what you should expect is our deployment cycle we'll continue to be in that 18 to 24 month range and the FCC order is helpful, as the scale of the deployment, as I was mentioning earlier moves well past just the top 10 markets and moves across the larger portion of the US as it gives us greater visibility on what the economies are going to look like in the timing of approval, et cetera at the local level.", "On your second question this is very similar, our view in the deployment of fiber to what we saw with towers, which is the low cost provider ultimately wins this -- wins today. And we've invested in an asset that can be shared across multiple customers, thereby lowering the cost of those customers and whether the customer is a university, school district or a wireless carrier, who is looking to deploy small cells that's shared fiber asset means that we're able to deliver to them a very low-cost provision of that fiber. And in markets where we have and own the fiber, we do believe over the long-term that low-cost will win and it will attract additional customers as they look to -- as they look for the lowest cost alternatives in the deployment of their network.", "As we look at opportunities outside of the markets that we're in, we may see an opportunity for us to continue to invest capital and expand the portfolio of assets that we have or it may be that the returns are such that we choose to just on the assets that we built in the top markets that we've done thus far, and we see the model transition more toward the co-location model. So it just depends on how the market develops and where the returns are, whether we continue to expand the footprint or utilize the assets that we've acquired to date.", "But as I mentioned in my comments what has been clear in the early days of this, is that having the asset in place, drive what we fundamentally believe toward the business model and we got into this business that it's a shared asset just like towers and our goal is to put as many tenants on that shared asset as we possibly can. And the benefit to customers is the low-cost provision and the benefit to us is that increases financial returns and that's the way we're seeing the business play out and pretty excited about where we're positioned relative to the deployment schedules that are ongoing, around 5G." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And as you pointed out, Amir, just to add a little bit to that. We do believe we have sustainable advantages, especially in the markets where we have built fiber and have a pretty broad expense of that fiber within a market. It's hard to come in and over build and try to compete on price and try to compete on network quality and try to compete on all of the capabilities that Jay talked about. So as this market would expand, if it expands and we believe it will, I think we hope to maintain that competitive advantage and press on it, as we invest in future markets as Jay talked about, but especially in the markets, we're already in, we think that we are in a really good spot." ] }, { "name": "Amir Rozwadowski", "speech": [ "Thank you very much for the incremental color." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Thanks for taking my questions. First, if we go back to your Q1, 2017 earnings call, you guys noted that you had about 25,000 small cell nodes on air at time, and you said that your backlog meant the number of nodes on air would approximately double after 18 to 24 months. So we don't know the exact cadence of those installations or how the pricing for those nodes, compared to the installed base, but it still seems like it would have been sufficient to drive an increase in small cell revenue in '19 in excess of what you've guided to. So can you talk a bit about what might bridge that gap or alternatively if there's something wrong with the notion that if you're on air node count double, as your small cell revenue should roughly speaking also double?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes, Nick, thanks for the question. So a couple of things I would point to broadly, if you think about what has happened over the last couple of years, when you look at revenue growth, if you look at our revenue growth in 2017, and then look at the revenue growth that we're expecting in 2019 from small cells, it is basically a double from in terms of revenue growth over that period of time. So that comes -- that's one way of thinking about it.", "Second thing, I would point out to you is as we talk about the average of deployment cycles of 18 to 24 months depending on where that falls that can have a little bit of an impact of the pacing of that, and you'd have to look at both the pacing in 2017 and when nodes came on air and then also the pacing in 2019, and those two things could if you were trying to put a really fine point on a couple of million dollars to figure out where that falls one way or the other. The timing in both periods could affect the way that those numbers fall out.", "As I've talked about on this call this morning, from a return standpoint, we haven't seen the returns changed at all over that several year period of time. So we haven't seen any real change in pricing as a result of that. So it's not a pricing difference, I think you're probably just looking at a bit of timing differences and win this activity falls. And obviously, if some portion of the nodes that we're talking about in 2019 fall toward the second half of the year, then the financial impact in calendar year 2019 is relatively small.", "Then last thing I would mention to you is, I think probably the best indication of how we're performing on this front is the statement of customers and how we're doing on winning additional nodes and as I made the point in my comments, I mean our pipeline is up about 40% year-over-year from this time last year. So we're delivering on the customer commitments that we've made and that's resulting in those customers, giving us increasing levels of activity, because we're the best provider in the market and they believe us to be able to deliver on the goal.", "So I think if you look at revenue growth, if you look at returns, which have stayed the same and then you look at kind of activity and what we're seeing as additional business from the customers, I think all of those signs point to the fact that the business is performing in line with what we expected in '19. At this point it looks like it's shaping up to be a pretty good year in terms of the deployment of additional nodes." ] }, { "name": "Nick Del Deo", "speech": [ "Okay, that's helpful. And maybe one more on the fiber segment this quarter. It looks like fiber segment revenue grew about 1% sequentially or something less than 1%, if we back out the amortization prepaid rent. If we assume that small cells are going to be core to that business and are growing at a rate in the teens that would imply fiber solutions revenue was flat or down sequentially. As I know if there is any credits in settlements and stuff like that, if they can swing things around. But is there anything going on there that which we cognizant of?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah, Nick there is nothing really to be going on there and I think that's borne out in our 2019 guidance. We really look at the trajectory of the growth of this business has been pretty consistent in that mid-single digit range in any quarter-over-quarter move like you're talking about is, it may not go exactly stair-step, but we think, generally speaking, it's going to go up in that 5% range year-over-year and there shouldn't be huge differentials in quarter-to-quarter moves, but if there are, there is nothing that would, we think we would want to call out or put your attention to or else we would actually do that in a way that would make it pretty clear, but there's nothing that happened in the third quarter that would rise to that level." ] }, { "name": "Nick Del Deo", "speech": [ "Okay, got it. Well, thanks guys." ] }, { "name": "Daniel K. Schlanger", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you, we will take our next question from Phil Cusick with JPMorgan." ] }, { "name": "Richard", "speech": [ "This is Richard(ph)for Phil. Given your commentary about the backlog and the amount of small cells that might be needing to come online, it seems like we might be ramping from the 10 to 15 to something higher. Should we expect CapEx and OpEx to come up longer term, as you said the returns are very good. So it's worth it, but how should we think about that opportunity and the impact on CapEx and OpEx?" ] }, { "name": "Jay A. Brown", "speech": [ "Thanks for the question, Richard. On the OpEx side as we put these nodes on air, the margins are in the neighborhood of about 60% roughly. So there's going to be operating expense that we see track with those, with the deployment of nodes specifically as Dan mentioned earlier about 70% of what we're putting on air are new systems and about 30% are co-location. So I think on a blended basis, somewhere in the neighborhood of about 60% is probably the right guidance in terms of impact of OpEx or direct OpEx.", "From a CapEx standpoint, we talked about what we're turning on air in '19 and the capital spending that we think there will be in 2019. That's -- if you're trying to go up further than that, I think you have to start to make a scale decision and I'll leave that to you in terms of how much you want to scale the business beyond the level that we're seeing currently for a like of level of activity, I would assume a like amount of capital that would be the guidance that I would give you. And if you want to scale it up or down from there I think you can scale the capital relative to that. And I think that'll be a pretty good answer.", "And then maybe the last component to round out on the OpEx side around the staffing levels that we have in place for the deployment of small cells, we believe we are appropriately sized at the moment for delivering on those 10,000 to 15,000 per year. And then if we see a scale increase from there or I guess a decrease, then we'll adjust the cost structure appropriately, but without having a specific number is to talk to you, it's difficult to give you that, I think what I would say is, if the returns stay as they are then we are happy to put additional investment around our ability to deploy nodes. And we think that those would be attractive returns and if they're not, then we would pass on the opportunity or pass on the investment opportunity. But if everything holds as it is now in and we're certainly hopeful we're going to continue to see the business will be happy to make investments around their capabilities to continue to deploy on the scale, if the market has the opportunities there." ] }, { "name": "Richard", "speech": [ "I guess my question was more, it seem like you're implying that there's a bigger opportunity and you're seeing a bigger backlog. Am I taking that the wrong way?" ] }, { "name": "Jay A. Brown", "speech": [ "No we're definitely seeing a bigger opportunity, I think, I'm just trying to limit my comments to 2000 -- calendar year 2019 rather than go out beyond 2019. So we're certainly pointing to the fact that there is lots of early seeds that would suggest that the business is going to continue to scale and grow and as we get into calendar year 2019 and start to think about giving guide for 2020, then we'll be happy to update you on what the cost structure looks like." ] }, { "name": "Richard", "speech": [ "Got it. Thank you. And then finally, can you talk about -- give us a little more color on churn. There's a lot going on there, kind of, what are you seeing in terms of churn with tower, small cells and fiber. If we can just kind of go through that, I think that would be helpful." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure, Richard. As I mentioned in the prepared remarks that the tower churn is on the high end of our 1% to 2% range, so call it around 2% of towers. More than half of that is from -- some remaining acquired network churn. Just to give you some background on that, I know you remember that we had in our supplement historically provided some acquired network churn over time that was because, we thought that, that acquired network churn was going to push our overall tower churn above the 1% to 2% historical range. So we wanted to give additional color on that. But now that we're back in that range, we've taken that disclosure out because we think there's 1% to 2% is indicative of what the future is going to look like, including for 2019. But if you look at the last disclosure, we had beyond 2020 was somewhere between $35 million and $60 million. So we're just -- we're seeing the churn that we expected from those acquired networks over this year, and that's what pushed us up to the higher end of the range. But we're still within our historical 1% to 2%.", "On the small cell side, we're really not seeing a whole bunch of churn to speak of it also, so less than 1% of what we said, but it's a pretty small number. I think that both indicative of the early stage we're in, but also of the stickiness of the business overall that once the small cells are installed, it's very difficult to get off of those small cells, because we're providing service to customers. On the fiber side we're in the high single-digit range, and so when you add all of those things up, you get into that number that's around the $175 million overall churn that we put it in our outlook." ] }, { "name": "Richard", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks. Actually I want to go back, actually as a follow-up from Dave's question earlier in the call, when he was talking about your funding plan for the year and I think this is the way I interpreted Dan's answer, but let me know if I'm wrong. It sounds like have you determined over the course of the year, it was appropriate to issue equity financing, then obviously your share count would be higher than it is now. But I also, I think I heard that it's possible your interest expense may end up being lower, because you wouldn't necessarily have to issue as much debt as maybe is embedded in the interest expense assumptions in your guidance. Is that a fair interpretation of his comments?" ] }, { "name": "Jay A. Brown", "speech": [ "It is Brett." ] }, { "name": "Ben Lowe", "speech": [ "It is Brett, yes." ] }, { "name": "Brett Feldman", "speech": [ "Okay, good. And I'll ask a business question then, there has been a lot of focus on sort of what's been driving power leasing activity in the US this year, and there seems to be an embedded assumption that the year has been sort of ramping in part because projects have been ramping, whether it's first net or things other carriers are doing. And so as you were trying to think about what was an appropriate outlook for your tower business for 2019, and we know that you think you're going to have more new leasing activity than you saw this year. Are you sort of saying that you're comfortable that the exit rate of 2018, which is a higher exit rate than you started the year at, is sustainable or is just something else more nuanced in terms of how you got there. And then just as an extension of that how sensitive is that outlook to whether or not, Sprint, T-Mobile actually are starting to combine their businesses in the second half of 2019? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Brett I think, when we look at this item and I would say this is about tower leasing or small cells or fiber solutions. When we give the outlook we obviously don't have perfect visibility for what's going to happen over the next 12 months. So we based the outlook on both the activity that we're seeing currently and then the conversations that we're having with our customers and what those conversations lead to in terms of our expectations of financial results for the ongoing year.", "So for 2019, I think the answer to your question around tower leasing is, it's a combination of both of those things. So we have seen an accelerating leasing environment over the course of 2018 and there are a number of events, whether you want to talk about first net, the deployment of 5G, general upgrades and their network and densification efforts that are ongoing. All of those things are factoring into our expectation for 2019. And it is an elevated level of activity that we would expect to continue throughout the course of all of 2019.", "For our assumptions as we thought about those that leasing activity with regard specifically to T-Mobile and Sprint that you asked about, we have assumed that they will continue business as usual in those assumptions. And I think based on the comments, the T-Mobile has made publicly with regards to the acquisition of Sprint. It's very clearly designed in their intention is to make significant investments around the deployment of 5G at levels that would exceed those of both what T-Mobile and Sprint have done independently on a combined basis. And so we would look at that and say, we'll assume that model continues to play itself out and that reflects our level of activity for 2019.", "Obviously it depends to some degree the second part of your question there on the timing of that combination and what the impact is either to the positive or to the negative depending on when the combination happens, but at the moment they're independent companies and we're seeing them operate as such. And so we based our outlook, based on the activity that we're currently seeing from them." ] }, { "name": "Brett Feldman", "speech": [ "And I would imagine that if you know you're in the middle of the year and they started to execute leases, which probably wouldn't evenly put in place, so later in the year. At that point, you're kind of locked in for the remainder of the year anyway even if they decided to modify what they're doing to say 2020 or longer, is that fair?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes, that's the nature of the businesses six months into the calendar year 2019 at that point. The vast majority of everything that will be turned on air the carriers have committed to. And then if you think about small cells and what happened on the small cell side that activity was -- will have been committed to a couple of years ago. So we have some visibility around when that will turn on so events that happen as we get toward the -- certainly as we get toward the middle of the second half of the year have very little to no impact to the financial results in that calendar year." ] }, { "name": "Brett Feldman", "speech": [ "Great. Thanks for taking the questions." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Michael Rollins from Citi." ] }, { "name": "Michael Rollins", "speech": [ "Hi, thank you. As a few follow-ups, if I could. First on the description that some of that churn, the towers is getting cold in, is that also create an accelerated amount of payments for the customers that exit a least early and if so, is that in the guidance. And then if I could also then follow-up on the fiber business, can you talk a little bit more about what goes in new leasing activity and churn. So for example, like price increases, price decreases, service upgrades or downgrade. How you treat that within the revenue bridge and is fiber churn that you're expecting for 2019, is that a normal year of churn or are there some helps or hurts that we should just be thinking through? Thanks." ] }, { "name": "Ben Lowe", "speech": [ "I'll take the first one, Mike. Thanks for the questions. I wasn't trying to say that our churn was being pulled in, I was saying as there's acquired network churn that is in line with what our expectations have been. And so they're not accelerated payments that we will have in our guidance to have that, it's just churn that we expected and it's coming in as we expected. On the fiber side." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, I'll take on the, fiber side. On the churn and this is probably a bit of a difference between the way we typically -- historically talked about what happens in the tower business and some of what happens in the fiber business and we've chosen to just sort of conform to the industry norm. So I'll give you an example. In the tower business, if a customer comes out and wants to add an amendment and put additional antennas on a existing array historically as the tower industry we've called that an amendment and taking that additional revenue in the form of an amendment.", "In the fiber business they actually count the legacy lease as churn and then put in a new lease that's both the legacy dollar amount and then the new amended rate and so in some ways causes churn to look elevated beyond what we would think about in the tower business as churn, in the tower business the churn means that the customer went away and there was no replacement of the revenue. In the fiber business you have a component of what I just described as an amendment where the customer very well may end up paying more for the service as they take on additional capacity in the fiber network.", "And in some cases you have occasions where large enterprise will move office buildings and go to a new location and you have an asset there and potentially a new tenant that moves into the building and you release that same fiber network and at a cost of virtually little to no additional capital investment. Again that's counted as churn, even if the entire revenue stream is replaced by the tenant taking over that location. So in some respects I think you could look at the 9% number and say it's a higher percentage than its actually functionally happened in the business as we experienced churn. But we've just sort of taken a course of let's continue to report the number in a way that's consistent way others have thought about the fiber business and consistent with the way, Lightower thought about the business given that they had public debt and then been in a number of meetings and explain the business.", "But all of that I would say, well may be helpful for your own thinking about what the impact is for the business. At the end of the day the right way to think about the business is what's the net revenue growth, which is why we talk about and Dan talked about kind of the specific net growth in the fiber business is around 5% net growth. We think that's a good assumption and we believe we can continue to operate the business in the mid-single digits of growth at the revenue line there, and obviously that bolsters our total returns on fiber." ] }, { "name": "Michael Rollins", "speech": [ "That's very helpful and would you describe, you (multiple speakers)" ] }, { "name": "Jay A. Brown", "speech": [ "Sorry Mike, I just wanted to make sure I answered all of your question. I think you also mentioned, is there anything that's abnormal in the year around churn. Nothing that we would point to we think 2019, at least at this point we expect that to be a normal year. So our expectation of high-single digits of churn in that business, there's nothing in there, that I would point to as abnormal either pluses or minuses." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Robert Gutman from Guggenheim Securities." ] }, { "name": "Robert Gutman", "speech": [ "Hi, thanks for taking the question. So prepaid rent on the fiber side has been volatile this year. Is this reflecting small cell CapEx reimbursements and then should we infer that there were fewer deployments in the third quarter versus the second quarter. And then little more broadly, can you say what you expect these total small cell deployments over the course of this year could be versus that longer-term 10,000 to 15,000 target?" ] }, { "name": "Ben Lowe", "speech": [ "So thanks, Robert. On the prepaid rent the answer to your question is yes. Most of that increase in prepaid rent -- prepaid amortization is related to capital contributions we get for the deployment of additional small cells. It happens as that capital is being spent and then being reimbursed, it is not directly in line with the number of nodes put on air in that same period. So you cannot look at it quarter-over-quarter and make an assumption or draw a conclusion around what the level of activity is in that quarter, because those things are not always aligned. We spend and get capital in ways that are much more aligned with milestones and payments and it's very difficult to try to equate that directly to how many nodes go on air in a quarter. I think year-on-year you can make a better view of that, but even that starts getting a little skewed depending on when they come on air and when we've gotten paid for them.", "But generally speaking the prepaid rent amortization has to do with those capital contributions, because those are generally speaking again similar '19 and they are in '18 the growth in prepaid rent is going to be about the same in '19 as it is in 2018." ] }, { "name": "Jay A. Brown", "speech": [ "On your second question around nodes, this year we'll probably put somewhere in the neighborhood of 6,000 to 8,000 on air, roughly next year we'll be in that 10,000 to 15,000 range." ] }, { "name": "Robert Gutman", "speech": [ "Great, thank you very much." ] }, { "name": "Operator", "speech": [ "Thank you. We'll take our next question from Spencer Kurn from New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. So we're seeing carrier strike deals with a number of municipalities to leverage the city's infrastructure for small cell deployments. And I'm just curious, do these agreements impact the way that you compete or the way you look at the overall opportunity and these types of markets relative to markets where carriers haven't made these types of deals? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Spencer. We not only have the carriers done that, but we have done that in instances, where we'll work with municipalities and strike a deal with the local municipality in order to be able to deploy small cells. So the deals are helpful because similar to the order from the FCC, they give line of sight in terms of what's required and the timelines are required and what the economics are. And so it's not -- I don't think it's anything unusual nor what I point to it is -- as that changing to the business model or the timing, its just normal course of dealing that we would find in the market and I don't believe anything that the FCC has done we'll really change that as I made my comments earlier with the FCC has done is really given better line of sight around the economics and timing.", "And so to the extent that as we work with municipalities and figure out what the right local solution is, it certainly give some guidelines and guard rails to what that conversation should look like and what the outcome will ultimately be. So I think you're probably less likely to see things that kind of hit the paper per say given the guidelines and guard rails that the FCC has put in place, but I wouldn't be completely surprised if you don't continue to see the municipality strike deals with carriers or with ourselves in order to do things that are market specific." ] }, { "name": "Spencer Kurn", "speech": [ "Yes, actually -- so my question one is much about the ability to strike deals with municipalities, but it was about sort of how you compete in cities or if your returns are different in cities where a carrier like Verizon has struck a deal with the municipality to use their infrastructure versus another market where they haven't. And I'm just curious, if the way you look at the returns you can generate or any different or if it sort of just normal course of business and it doesn't really matter?" ] }, { "name": "Jay A. Brown", "speech": [ "So the most part of the infrastructure is deployed in the public right-of-way. So, if your question is going to their discriminatory pricing among providers inside of that public right-of-way. I would tell you that one is not permissible by law to have discriminatory pricing, so the deals that you see struck either by ourselves or by the carriers are for the benefit of anyone who would operate inside of that public right-of-way for a similar deployment of infrastructure. So I think again back to my comments, I think that's been a relatively normal activity that you're going to see providers who are trying to play infrastructure go through that process with local municipalities and I don't think it has really any implications to the positive or to the negative to our business." ] }, { "name": "Spencer Kurn", "speech": [ "All right, great. Thanks for taking the question." ] }, { "name": "Operator", "speech": [ "Thank you. This is the last question. We'll turn it over to Amy Yong from Macquarie." ] }, { "name": "Amy Yong", "speech": [ "Thanks for squeezing me in. I was wondering, if you could comment on your recent expanded deal with T-Mobile, obviously they've incurring 600 they've chosen you as their preferred partner in their small cell deployment. Wondering if you could share any component of the deal respective of obviously any kind of customer confidentiality, but components of the deal you're willing to share and also if it contemplated at all T-Mobile and Sprint? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "You know, Amy I hate to do this to you on your last question of the day. But we don't like to comment specifically on individual customer relationships obviously they were kind enough to give us credit for the role that we're playing in the deployment of their network and we've done a significant amount of business with T-Mobile and are doing a significant amount of reference in that -- referenced in their press release of the need for 5G and the important role that Crown Castle has played for them both and what we've done so far and what we're going to do.", "And I would just tell you it really goes across the board, across multiple carriers. We're focused on delivering for those customers based on their needs around 5G and they're going to need a lot of -- they're going to need a lot of small cell nodes and they're going to -- have to spend a significant amount of capital to densify their network in order to deliver on their 5G commitments. And our assets sit in sweet spot for that, so we're working with all of the carriers and certainly, we have conversations around how we think the world will develop and what their needs will be. And then our aim is to be able to deliver a solution that works for them, it's the low-cost provision and then also delivers for shareholders, the returns that we need to deliver in order to drive an increasing dividend of 7% to 8% per year over the long-term." ] }, { "name": "Amy Yong", "speech": [ "All right, thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Well, thanks everyone for joining us this morning on the call and we'll talk to you next quarter. Thanks so much." ] }, { "name": "Operator", "speech": [ "Thank you, ladies and gentlemen, this concludes today's teleconference. You may now disconnect." ] } ]
CCI	2021-10-21	[ { "description": "Vice President of Corporate Finance", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Executive Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Citigroup -- Analyst", "name": "Michael Ian Rollins", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon William Flannery", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Amir Mohd", "position": "Analyst" }, { "description": "Cowen -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Bank of America Securities -- Analyst", "name": "David William Barden", "position": "Analyst" }, { "description": "MoffettNathanson LLC -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matthew Niknam", "position": "Analyst" }, { "description": "Raymond James & Associates -- Analyst", "name": "Richard Hamilton Prentiss", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Sami Badri", "position": "Analyst" }, { "description": "LightShed -- Analyst", "name": "Walter Piecyk", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone, and welcome to the Crown Castle Third Quarter 2021 Earnings Call. [Operator Instructions]", "And now at this time, I'd like to turn the call over to Ben Lowe. Please go ahead." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Great. Thank you, April, and good morning, everyone. Thank you for joining us today as we discuss our third quarter 2021 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer. Today, the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors section of the company's SEC filings. Our statements are made as of today, October 21, 2021, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. Before I turn the call over to Jay, I just want to mention that we will take as many questions as possible following our prepared remarks, but we will limit the call to 60 minutes this morning.", "So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben. Good morning, everyone. Thanks for joining us on the call this morning. As you saw from our results yesterday, we remained on track to generate an anticipated 12% growth in AFFO per share this year. We expect to be at the high end of our long-term growth target in 2022, with 8% AFFO per share growth.", "Being driven in large part by our expectation at tower core leasing activity will be approximately 50% higher in 2022 than our trailing 5-year average. And we increased our annualized common stock dividend by approximately 11% to $5.88 per share, marking the second consecutive year of dividend growth that meaningfully exceeds our long-term target.", "Given that our dividend payout ratio has remained largely unchanged since 2014, our dividend remains the best indicator of how we are performing both financially and operationally. Our significant out-performance in 2021 combined with our forecast for 2022 enabled us to raise our dividend 11%, well above our stated goal for the second year in a row. In essence, we've achieved three years of targeted dividend growth in just two years.", "Since we established our common stock dividend in 2014, we have grown dividends per share at a compounded annual growth rate of 9% with growth ranging from 7% to 11% in each year. Before adding a little more detail to my summary points from the earnings release, I wanted to comment on the other press release we issued yesterday, where we announced our goal to be carbon-neutral by 2025. We aim to provide profitable solutions to connect communities and people. And our carbon-neutral goal builds on our commitments to deploy our strategy sustainably.", "Our business model is inherently sustainable, shared solutions limit infrastructure in the communities in which we operate and minimize the use of natural resources. Further to the point, our core value proposition, since we began operating more than 25 years ago has centered around our ability to provide our customers with access to mission-critical infrastructure at a lower cost, because we can share that infrastructure across multiple operators.", "In addition, our solutions help address societal challenges like the digital divide in under-served communities by advancing access to education and technology. To-date, we have invested nearly $10 billion in towers, small cells and fiber assets located in low-income areas. As a way of quantifying how our business model minimizes the use of natural resources, our business in it's just one ton of CO2 per $1 billion of enterprise value, which is 90 times more efficient than the average company in the S&P 500 based on industry estimates.", "Although we are proud of our limited environmental impact, we are focused on making even more strides by reducing our energy consumption and sourcing renewable energy to help us achieve our goal of carbon neutrality by 2025. We are excited about this announcement and look forward to continuing to find ways to help our communities and planet while driving significant returns to our shareholders.", "Turning back to our 2022 outlook. We are benefiting from record levels of activity in our tower business with our customers upgrading thousands of existing cell sites as a part of their first phase of 5G build-out. Adding to the opportunity, we are seeing the highest level of tower co-location activity in our history with DISH building a nationwide 5G network from scratch. I believe our strategy and unmatched portfolio of more than 40,000 towers and approximately 80,000 route miles of fiber concentrated in the top U.S. market, have positioned Crown Castle to capitalize both on the current environment and to grow our cash flows and dividends per share in the near term and for years to come. We are focused on generating this growth while delivering the highest risk adjusted returns for our shareholders. By investing in shared infrastructure assets that lower the implementation and operating costs for our customers while generating solid returns for our shareholders. To execute on this strategy, we are providing our customers with access to our 40,000 towers and 80,000 route miles of fiber help them build out their 5G wireless networks. We are investing in new small cell and fiber assets that meet our disciplined and rigorous underwriting standards to expand our long-term addressable market. And we are identifying where wireless networks are going and investing early to position the company to capitalize on future opportunities, as we have done with small cells, edge computing and CBRS.", "One of the core principles underpinning our strategy is to focus on the U.S. market, because we believe that represents the best market in the world for wireless infrastructure ownership, since it has the most attractive growth profile and the lowest risk. And we believe this dynamic of higher growth and lower risk will continue into the future, which is why we expect our U.S. based strategy will drive significant returns for shareholders.", "With that in mind, we have invested nearly $40 billion in towers, small cells and fiber assets in the top market that are all foundational for the development of future 5G network. We believe our unique strategy, portfolio of the infrastructure assets and proactive identification of future opportunities provide a platform for sustained long-term dividend growth as wireless network architecture evolves and our customers' priorities shift over time.", "Today, our customers are primarily focusing their investment on macro sites as towers remain the most cost-effective way to deploy spectrum at scale and established broad network coverage. With our high quality towers concentrated in the top markets, we are clearly benefiting from this focus with an expected 6% organic growth for our Tower segment in 2021 and an expected 20% increase in tower core leasing activity next year when compared to these 2021 levels. With history as a guide, we believe the deployment of additional spectrum on existing cell sites will not be enough to keep pace with the persistent 30% plus annual growth in mobile data traffic.", "As a result, we expect cell site densification to remain a critical tool for carriers to respond to the continued growth in mobile data demand as it enables our customers to get the most out of their spectrum assets by reusing the spectrum over shorter and shorter distances. When the current cell site upgrade phase shift to densification phase, we believe the comprehensive offering of towers, small cells and fiber will be critical for our customers and provide us with an opportunity to further extend the runway of growth in our business.", "While we expect the densification phase of build out will drive additional leasing on our tower assets for years to come, we believe small cells will play an even greater role as the coverage area of cell sites will continue to shrink due to the density of people and therefore the density of wireless data demand. With more than 80,000 small cells on air or committed in our backlog, high capacity fiber assets and the vast majority of the top 30 markets in the U.S. and industry-leading capabilities, we believe we are well positioned to deliver value to our customers as their priorities evolve, driving meaningful growth in our small cell business.", "Bigger picture, when I consider the durability of the underlying demand trends we see in the U.S., how well we are positioned to consistently deliver growth through all phases of the 5G build out with significant potential upside in our comprehensive asset base as wireless networks continue to evolve. Our proven ability to proactively identify where wireless network architecture is heading and to be an early investor in solutions to help future networks, the deliberate decisions we have made to reduce risks associated with our strategy and our history of steady execution.", "I believe that Crown Castle stands out as a unique investment, that will generate compelling returns over time. In the near term, as I mentioned before, we expect to deliver outsized AFFO per share growth of 12% in 2021. We expect to generate 8% growth in AFFO per share in 2022 at the high end of our long-term growth target and supported by an expected 20% increase in tower core leasing activity and we increased our common stock dividend by 11% for the second consecutive year.", "Longer term, we believe Crown Castle provides an exciting opportunity for shareholders to invest in the development of 5G in the U.S., which we believe is the best market for communications infrastructure ownership. Importantly, we provide access to such attractive industry dynamics, while providing a compelling total return opportunity, comprised of a high-quality dividend that currently yields 3.5% with expected growth in that dividend of 7% to 8% annually.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay. Good morning, everyone. As Jay discussed, we delivered another great quarter of results in the third quarter. We remained on track to grow AFFO per share by an anticipated 12% this year. We expect to be at the high end of our growth target in 2022 with 8% AFFO per share growth and we increased our quarterly common stock dividend by 11% for the second consecutive year, meaningfully above our long-term target growth rate while maintaining a consistent payout ratio.", "We are excited about the outsized growth we are experiencing in the early stages of 5G. And we continue to believe our portfolio of towers, small cells and fiber provides unmatched exposure to what we believe will be a decade-long build out by our customers.", "Turning to Slide 4 of the presentation. Our third quarter results were highlighted by 8% growth in site rental revenues, 11% growth in adjusted EBITDA and 13% growth in AFFO per share when compared to the same period last year. Record tower activity level supported this strong growth, generating organic tower growth of 6.3% and higher services contribution when compared to the same period in 2020.", "Looking at our full-year outlook for 2021 and 2022 on Slide 5. We are maintaining our 2021 outlook with site rental revenues, adjusted EBITDA and AFFO growing 7%, 11% and 14% respectively. For full year 2022, we expect continuing investments in 5G to drive another very good year for us, with 5% site rental revenue growth, 6% growth in adjusted EBITDA and 8% AFFO growth.", "Turning now to Slide 6. The full year 2022 outlook includes an expected organic contribution to Site Rental revenues of $245 million to $285 million or 5%, consisting of approximately 5.5% growth from towers, 5% growth from small cells and 3% growth from fiber solutions. As you likely saw in our press release, when we referred a new leasing activity, we include the change in amortization of prepaid rent consistent with how we've discussed activity in the past.", "To address feedback we received to provide more detail around our expectations for future leasing -- for the leasing activity, we have introduced a new concept of core leasing activity, which excludes the impact of changes in prepaid rent amortization. Core leasing activity is more indicative of current period activity, whereas changes in prepaid rent amortization also include activity from prior periods as prepaid rent received in those prior periods eventually amortizes the zero over the life of the associated contract.", "Although we have as consistently provided disclosure on prepaid rent amortization by segment in our supplemental earnings materials. We hope this new presentation format provides a cleaner way for investors to analyze our performance. With that definition in mind, we expect 2022 core leasing activity of $340 million at the midpoint or $350 million inclusive of the year-over-year change in prepaid rent amortization.", "The 2022 expected core leasing activity includes a $160 million in towers, representing a 20% increase when compared to our 2021 outlook and an approximately 50% increase when compared to our 5-year trailing average. $30 million in small cells compared to $45 million in $2021 and a $150 million in fiber solutions compared to a $165 million expected this year.", "Turning to Slide 7. You can see, we expect approximately 90% of the Organic Site Rental Revenue growth to flow through the AFFO growth, highlighting the strong operating leverage in our business. As we discussed in July, we expect to deploy an additional 5,000 small cells in 2022, which is the same number we expect to build in 2021. We expect a discretionary capex to be approximately $1.1 billion to $1.2 billion in 2022, including approximately $300 million for towers and $800 million to $900 million for fiber, similar to what we expect in 2021. This translates to $700 million to $800 million of net capex when factoring in $400 million of prepaid rent contribution we expect to receive in 2022.", "The full year 2022 outlook for capex represents an expected 30% reduction in discretionary capex for our fiber segment relative to full year 2022 when we deployed approximately 10,000 small cells. Based on the expected growth in cash flows, for full year 2022 and consistent with our investment grade credit profile, we expect to fund our discretionary capex with free cash flow and incremental debt capacity without the need for new equity for the fourth consecutive year. In addition, we believe our business and balance sheet are well positioned to support consistent AFFO growth through various economic cycles, including during periods of higher inflation and interest rates. Our cost structure is largely fixed in nature as you can see, with nearly 90% of the full year 2022 expected Organic Site Rental Revenue growth to flow through to AFFO growth as I referenced earlier.", "And we have taken steps to further strengthen our investment grade balance sheet, that now has more than 90% fixed rate debt, a weighted average maturity of more than 9 years and a weighted average interest rate of 3.1%. In conclusion, we are excited about the outsized growth we are generating as a result of the initial 5G build out by our customers, which is translating into back-to-back years of 11% growth in our quarterly common stock dividend. This dividend currently equates to an approximate 3.5% yield, which we believe is a compelling valuation given our expectation of growing the dividend 7% to 8% per year, combined with our high quality, predictable and stable cash flows.", "Looking further out, we believe our unique ability to offer towers, small cells and fiber solutions, which are all integral components of communications networks provides significant optionality to capitalize on the long-term positive industry trends of network improvements and densification and gives us the best opportunity to consistently deliver growth as wireless network architecture continues to evolve and our customers' priorities shift over time.", "With that, April, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And we'll first hear from Michael Rollins of Citi." ] }, { "name": "Michael Ian Rollins", "speech": [ "Thanks and good morning." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Mike." ] }, { "name": "Michael Ian Rollins", "speech": [ "I was curious -- hi. I was curious if you could unpack the leasing commentary in terms of like the activity levels relative to what's coming through the income statement and revenue in '22? And included in that would be, are you seeing an elevated backlog if some of the leasing from companies like DISH just have a longer lead time? And then, the other part of it I noticed was it seemed like other customer revenue bounced up a couple of hundred basis points in 3Q from 2Q and curious if that's also signifying some contribution from DISH? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. I'll take the big picture question and Dan can walk through how it's flowing through the income statement. One of the things that -- we made the comment, I made the comment in the prepared remarks and was also in the press release. The amount of leasing activity we're seeing in the business is just unprecedented, 50% above our historical 5-year average in terms of core activity is just remarkable, a business that rarely has inflection points to see that kind of uplift in activity is just really unique. And it's been 20 years since we've seen this kind of level of activity and I think largely that is occurring because of the backdrop that we have with the wireless carriers among Verizon, AT&T and T-Mobile, all three of them are at a place where they're deploying network at scale, both new sites as well as upgrading existing sites to 5G. So that's a very healthy dynamic to have all of the existing carriers spending at a pretty healthy rate.", "And just as an aside, I would say, it's also really encouraging to us based on the commentary that they've made and the capex dollars that they've allocated toward this, this is going to be a multi-year activity. It's not as though the activity is just sort of going to wind down in calendar year '22. So we feel like the backdrop for those three carriers is really good and likely to stay for an extended period of time.", "And then, on top of that, as you referenced with DISH, on top of the three carriers, the legacy carriers deploying 5G, we also have this new entrant who is deploying a network from scratch and that activity is beginning in earnest in 2022. So obviously we signed the agreement with them last year. They made a large commitment to us 20,000 sites and it's been impressive to watch as they stood up that organization and gotten themselves in a place where they can deploy network at scale and at speed.", "And so, I know, our team employees listening to this call this morning. A lot of them are very, very busy standing up this new nationwide network for DISH. And so, that is causing some of the other revenues in the mix to tick up a little bit. I would also point out in addition to kind of what you would think of as traditional wireless carriers. There are also a number of new business models that any one of them were not having a meaningful uplift on tower leasing activity.", "But as a combined group of others, there are lots of businesses that are trying to figure out ways to deploy wireless network. And they're using spectrum bands outside of the spectrum bands that are owned by the wireless carriers and that's contributing to our revenue growth and we think that will continue over time." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. Mike, I'll try to address the other part of your question, which is the activity levels versus what flows through into the income statement going into 2022. As you pointed out, there is always a bit of a lag time between activity and when we can see the revenue. We don't start recognizing revenue until a lease has begun. And that means that the site is up and running and able to produce, enable to deploy the spectrum.", "And what I can do at times is delink for a period of time activity from when we see the improvement in our income statement. But what I'll say is that when we look at 2022, we're really excited by how that's going. Because as Jay had mentioned, the increase in activity is flowing through both in 2021, which has a 30% increase in core leasing tower activity over 2020 and then again in 2022, we're increasing again by 20%.", "And as Jay mentioned, those are huge numbers when you're talking about our business. So it is flowing through our income statement, even with those delays or delays from activity so when we actually turn on a lease. And the last thing I would point out, as we've made this point before, but with specifically with DISH, even though we signed a long-term contract with them, we won't recognize revenue until we have a lease, which means we have a site that is capable of deploying spectrum I mean probably getting that spectrum.", "So there will be time between the activity levels and when that leasing activity hits our income statement as well, but that's reflected in our 2022 outlook." ] }, { "name": "Michael Ian Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "And next we'll hear from Simon Flannery of Morgan Stanley." ] }, { "name": "Simon William Flannery", "speech": [ "Great. Thank you. Good morning. I noticed in the guidance you have non-renewals stepping up a little year-over-year. I wondered if you could just go through some of the assumptions there by business unit. And in particular on the T-Mobile, Sprint churn, is this sort of a worst-case scenario, do you expect these to be turned down and any updates on how you're addressing some of the future churn, any more clarity on perhaps some sort of master lease agreement around that." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. Simon, I'll take the first part of that and I'll hand it over to Jay for the longer-term question. With respect to the churn in 2022, as you pointed out it is up a bit. It's -- the part of that increase is we expect to be on the low end of our churn in 2021, which is around 1% or around $40 million or so in 2021 in our tower business going to about $60 million or 1.5% in 2022. The majority of that incremental $20 million of churn is related to Sprint sites. And it would be consistent with what our disclosure has been in our supplemental earnings materials over time of what those sites look like and what could be at risk for 2022.", "So we do think that's going to happen, which is why we have it in the outlook. I wouldn't say, it's conservative or aggressive, it's just our belief of how that's going to play out. And with respect to the rest of the churn, you can see that we are going to have churn on our Fiber Solutions business a bit down year-over-year from 2021 to 2022.", "But we also have a corresponding reduction in new leasing activity on our Fiber Solutions business. So we think that business will continue to grow around 3%. So that's how we're thinking about churn going into 2022." ] }, { "name": "Jay A. Brown", "speech": [ "Simon, on the second part of your question, longer term, we certainly intend to work with T-Mobile. I don't have anything to report on this front. Obviously, they've been clear about the need to achieve some synergies in their network as they go through the process that's combining with Sprint and rationalizing some sites. We think those are most likely to come on the sites that we referred to as dual residency, meaning sites, where both T-Mobile and Sprint are co-located on the same site. And we'll work with them as they go through that process of achieving those synergies. At the same time, they need to port the spectrum onto other sites and onto the legacy T-Mobile assets. And so, there is a large coordination work with them, both in terms of achieving the synergies and also standing their network up and getting it ready for 5G and so we're actively engaged in that.", "I think we still have the view that over the long term, the growth opportunities there are going to exceed that of any churn that we'll realize and then obviously to help investors understand kind of the book-ins we've provided details in the supplement, so that you can see both the amounts of future leases as they come up for renewals and the dates of those renewals. But at the moment nothing to report other than continuing to -- we want to be a good partner with them and we'll certainly help to facilitate the goals that they have around their network." ] }, { "name": "Simon William Flannery", "speech": [ "Great, thanks a lot." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from Brett Feldman of Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks. Two questions. You've made the point that there tends to be a lag between when you sign business and when it shows up in your P&L. And I think that's also pretty true with regards to your capex, particularly in the small cell business, they're going to be a pretty big lag between when you're deploying that fiber and when you're actually getting the leasing activity.", "So with this being the sort of second consecutive year where your discretionary capex is at a lower run-rate predominantly because of what's going on, I believe predominantly because of what's going on with the no deployments. Is this deployment run-rate of about 5,000 you're seeing this year, probably what you're going to get next year until we get visibility into capex moving higher? So that will be the first question.", "And then, the second is, why did you decide to go ahead and once again raised dividend by more than the rate of growth in AFFO per share? It certainly seems like you could also consider doing buybacks in years when you think you have a little excess capacity? And I was hoping you could maybe give some insight in terms of how you're thinking about outsized dividend growth versus other forms of capital returns?" ] }, { "name": "Jay A. Brown", "speech": [ "Absolutely. On your first question, I think you correctly characterized the nature of the capex. As it's coming down, we're putting less nodes on air, small cell nodes on air in 2021 similar level in 2022. So naturally the amount of capex would come down. There is capex in those numbers related to nodes going into future periods. We've had a lot of bookings in 2021. On the small cell side we'll be well north of a 15,000 of new bookings in calendar year 2021. And we're getting started on building those nodes while they won't come on until and no likelihood. 2023 and beyond, we've already begun work on that.", "So there is a bit of a lag there. In terms of capex per node, in unit economics, all of that is basically stayed in line with what we've seen historically. So as we get through the soft cost of getting these notes permitted etc., then, we'll have a better sense of when they'll come on air and then the bulk of the capex is incurred in the last few months prior to installation of the nodes in the earlier months we incur the capex associated with more soft costs around the zoning and planning that we go down the process up.", "So I think we would expect to see some uplift in capex as we get into 2023 in the total number of nodes that we're deploying moves north of where we're going to see it in this calendar year and in 2022.", "On the dividend question, the reason why we raised it 11% this year is a combination of both the outsized growth that we saw in calendar year 2021 and then where we think the guidance will be for 2022. So our philosophy around the dividend has been basically holds the payout ratio, think of that as a percentage of AFFO per share. So hold that payout ratio in that 75% to 80% of AFFO per share and to pay that out in the form of a dividend.", "So in essence, the dividend raise this year is a combination of the outperformance that we've seen in 2021 and raising the dividend to bring it back in-line associated with that outperformance in the calendar year. And then, what we think the performance will be in 2022 in the operating business. So that's our goal and how we think about sizing. It is just looking at AFFO per share for the next year and then sizing the dividend appropriately for that.", "With regards to the last part of your question around how do we think about share purchases, we're coming right in-line here based on the growth with where we'll be at our targeted amount of leverage of about 5 times debt to EBITDA. And we certainly as we have done historically want to put the capital to work at its highest and best use and highest and best use to us is a risk adjusted return based on what we think the long-term dividend per share will be.", "And recently, most recently, the answer to that question has been answered largely by what we believe the benefit of small cells will be to the business long term of growing that dividend over the long term and maximizing the dividend per share. To the extent that as we move to a place where we're at our targeted level of leverage and where we are creating additional leverage capacity and investment capacity, we'll continue to do that same analysis and rigorously look at what we think maximizes the return and uses up the capital that we have available to us.", "Historically, we've done a lot of share purchases with that excess capital and leverage capacity and that's absolutely what we test the returns again. So we'll have to see as we get into the future years around what's the opportunity around small cells, is there an opportunity to invest there that meets that hurdle of highest and best use for the capital and test that always against the opportunity to buyback shares.", "So you should certainly expect that point in time in the future that we will be buyers of our shares, because that will be the highest and best use and we'll use some of the capacity that we have to go into the market and buyback our shares." ] }, { "name": "Brett Feldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Phil Cusick of J.P. Morgan." ] }, { "name": "Amir Mohd", "speech": [ "Hi, this is Amir for Phil. In your current outlook for 2022, are you expecting any carriers to be more active or less active than they are currently or do you assume that they kind of continue at the current level of activity? And I assume this is already baked into those estimates. And another one that I had was how should macro tower activity be weighted in 2022, is it somewhat back end loaded? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. On your first question around the activity by carrier, I don't want to speak to kind of the specific deployment plans of our customers. As I mentioned in the -- in a question I think that Mike asked, the activity across all of the carriers is elevated. We're going to see -- we think we'll see in 2020 to about a 20% increased activity as compared to 2021 and that's really coming across the board.", "So we're seeing elevated levels of activity from all of the carriers. With regards to whether the year is back-end loaded, and we're going into this year with a lot of activity that's currently underway and given the nature of the business where we signed a lot of leases in the current year. And the next year we get the benefit of having all 12 months of leasing in that year. We're going up the ramp as we go through 2021.", "So I think you'll see a similar ramping as we go through calendar year 2022, but maybe not quite as back-end loaded as what we've seen in past years, because a lot of that uplift in actual activity, applications that will drive that leasing activity that we're going to see in terms of the numbers that Dan was walking through earlier an impact to the income statement.", "A lot of that actual application and leasing activity is actually occurring in this calendar year in 2021. So we've either got signed leases, where we have a lot of visibility to it, which would indicate that it's not a back end loaded. Here, we're not counting on a big uplift in the second half of next year." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. And Amir, I'll just answer one last question you threw in there, which is the DISH included in our outlook, the answer is yes. We have included the activity that we anticipate for all our customers in 2022." ] }, { "name": "Amir Mohd", "speech": [ "Okay, great. And if I may, on the small cells side, how much in 3Q was that activities one timers and what do you expect in 4Q? And like overall kind of looking at the outlook for small cells in 2022, there is some of that lost activity rollover into 2023, or should we be thinking about that differently?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. There was a little bit, but not enough to be material to the results in the quarter. Certainly as we talked about big picture, the number of nodes, we talked about this some last quarter. The reason why we lowered the number of nodes that we're going to put on air in '21 and '22 was a decision that the carriers made around where to put their capex dollars on equipment. And they focused those dollars toward macro sites and pushed to the right -- the delivery timing on small cells. And so, we're reflecting that in our outlook.", "In terms of nodes committed, there is no change in the number of nodes. So all it did was slide those nodes into years '23 and '24. And so, we've got some work that we've gotten done, that are ready to install those nodes once equipment is delivered. And then, we'll see the benefit of that in '23 and '24. But we didn't lose any of the nodes. We just pushed them out into future periods." ] }, { "name": "Amir Mohd", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from Colby Synesael of Cowen." ] }, { "name": "Colby Synesael", "speech": [ "Hi. Great, thank you. Two questions. One is, implied your 8% AFFO growth for 2022 would be a step down in AFFO sequentially in the fourth quarter of this year to get to the midpoint effective way to your guidance which is what's your growth assumptions are based on for next year. I appreciate that I think sustaining capex will go up.", "But even if you go to the higher end of your range which you maintain, it doesn't quite get you quite frankly lowing up on AFFO to get that number low and up to get to that effectively 8% for next year.", "Are there any other items that are worth flagging that we should be mindful of going 3Q to 4Q, that would take AFFO down to effectively get you to that midpoint for 2021? And then, secondly, just as a follow-up to the question that was just asked. Is it fair to assume that you would anticipate seeing leasing of around 15,000 small cells again this year and really what we need to be sensitive is really just how that rolls in or would you anticipate that leasing itself could be down as well this year? Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Colby, I'll take the first part of that and hand to Jay for the leasing question. You're right in everything you said about going into Q4, there is a step down in AFFO. It is largely driven by an increase in expenses and capital, both operating expenses and sustaining capital that happens in the fourth quarter. That has happened in plenty of times in our past as well. Having said that, it will -- as you pointed out, it will likely be toward the higher end of the range when we get -- when we end 2021, we will be at the higher end of our range. We don't move the range when we are going to still be within it. That's why we give a range. We don't want to continually move it, but it will be likely be higher than the midpoint when we..." ] }, { "name": "Colby Synesael", "speech": [ "That is for sustaining capex, that you're referring to sustaining capex being at the higher end?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "No, I mean, well, sustaining capex will be, but I mean, our AFFO per share will be higher than the midpoint most likely as it plays out in 2021." ] }, { "name": "Jay A. Brown", "speech": [ "Colby, on your second question around small cell nodes. Let me just back up and make sure I give the full picture. In terms of what we're going to put on air meaning go through the operational process of building them and turning them up. We think we'll do about 5,000 this year, calendar year 2021 and turn another 5,000 on in calendar year 2022. Those will be that we put on air.", "In terms of bookings, which we'd refer to a node that a carrier makes a commitment to us. They sign a contract, commit to a node. And then, we'll build it in future periods. Our bookings in calendar year 2021 will be well in excess of 15,000 nodes that we do in terms of bookings this calendar year and those will come on in future years. As we get into calendar year 2022, we'll give you an update on where we think bookings will be at that point. But for calendar year '21, we think the number will be well in excess the 15,000 which is by far the highest bookings year we've ever had in our history on the small cell side. And I think it's interesting.", "I think it just points to the conversation I was having a few minutes ago around the landscape that we have with the carriers. This is healthy and environment with the carriers as we've ever seen. Long-term commitments on the capital side committed amounts by each of the legacy carriers in the build out of a brand new network.", "And at the moment, the mix that they have is heavily weighted toward macro sites. But I think over time, as we have seen in the past, I think there will be some shift of that mix of total capital spend, where a portion of it will go toward small cells and there will be less focused on macro sites.", "I think you can see that in the commitments that the carriers are making to us by over 15,000 small cell bookings this year that they are thinking about in future periods. That's going to take a significant chunk of their capex in those future years that we would think would move away from macro sites and toward small cells.", "And it may look more like what it did two or three years ago when we saw a real slowdown on the macro sites side and we're benefiting from an allocation of that capital toward small cells. So I think that's the benefit that we have in terms of our strategy of providing wireless networks to the carriers and we'll benefit if they're focused on small cells or we'll benefit if they're focused on macro sites and over time, both are just critically important to the way networks are going to be developed." ] }, { "name": "Colby Synesael", "speech": [ "Great, thank you. One real quick, just follow-up, actually not follow up, a separate question. Should we still think of the book-to-bill for towers being roughly six months. Is that roughly kind of how you think about on average or is that number changed much?" ] }, { "name": "Jay A. Brown", "speech": [ "I think that's a pretty fair, that's a pretty fair average. To the extent that we're doing amendments to existing sites, that's a really fair average. To the extent that somebody is going on a tower for the first time, that average is probably a little closer to 12 months than it is 6 months. And the zoning and planning process really unchanged, but depends on the type of activity.", "If it's amendments, we're probably getting close to in that six to nine month range. If it's a brand new installation on an existing site, we're probably closer to 12 months." ] }, { "name": "Colby Synesael", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from David Barden of Bank of America." ] }, { "name": "David William Barden", "speech": [ "Thanks, guys. I appreciate the opportunity to take some questions. So I guess, I got a couple. The first one is maybe Dan, when looking at the kind of core leasing macro tower revenue increment 155 to 165. There's a lot of interest in kind of making sure we understood the percentage of that, that is kind of locked in within holistic MLA guardrails and the percentage that could conceivably maybe be a little bit better than what your kind of initial expectation is depending on what we learned about carrier activity levels as we go into 2022?", "The second question was, I want to make sure I understand adjacent some of the comments you make in your -- at the end of last year, we had 50,000 small cells on air and 30,000 in the committed backlog that's 80,000. In your opening remarks, you said, you still have 80,000 on air or committed. But then you said, there is 15,000 that we've billed and when you billed -- or sorry that you've booked this year, which makes me think that that 80,000 should actually 95,000, am I wrong about that?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. I'll take the second question and Dan can take the first question. The 15 -- obviously this year, calendar year 2021, 15,000 of the nodes that we booked is Verizon. The big announcement that we made in January of this year. So it may just be Dave a little bit of a timing difference between, are you looking at the 80,000 nodes at 12/31/2020 or when we did fourth quarter earnings in the first quarter of this year I think.", "So I'm referring -- when I made my comments, I'm referring to total nodes on air or in process of 80,000 nodes in total." ] }, { "name": "David William Barden", "speech": [ "Okay. So that's the same number as at the fourth quarter results, which was in February?" ] }, { "name": "Jay A. Brown", "speech": [ "Correct, correct. And obviously, we're rounding to 5,000 increments. So we're not showing the movements as they move in anything less than 5,000 increments." ] }, { "name": "David William Barden", "speech": [ "Okay, got it. And so, then just to follow up on that is, so there really hasn't been any new small cell bookings outside of that that very initial part of the year. So is there an expectation on your part that, as people kind of pivot from the macro build and start to plan for that '23-'24 timeframe that the bookings should kind of come back into next year?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, there has been bookings, just not to the point where we are increasing the increment by 5,000. But there has been bookings this year and I think there will be, so we'll be in excess of just the Verizon commitment in this calendar year 2021. I do think based on zooming out a little bit and thinking about this from a bigger picture standpoint. The second part of your question there, I would affirm that as we get further into this year and into next year, we would expect there to be more bookings. The carriers are focused at the moment on macro sites and building those out. But we're also having significant conversations with them about the requirements that they're going to have around cell site density. And we think that will drive a lot of activity toward small cells. So in periods beyond 2023 and beyond, I think we will see an uplift to the total number of nodes that both we have in bookings and then ultimately that we're putting on air as a need that they have in the network once they've done this the initial overlay of putting that all on macro sites." ] }, { "name": "David William Barden", "speech": [ "Got it." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Okay. So Dave, I'll take that first question around our core leasing on the towers, how much is in MLAs. When we look out into future periods like 2022, we obviously take into account the agreements we have with our customers. And as, I think you're implying in the question, we have those with several of our customers at this point, but even within those agreements we have upside. They're not necessarily capped. And therefore, what we try to do is come up with an estimate of what we think the activity will be from each of our customers based on what we know today has already been signed. What we have a really good line of sight into going into next year and then what we think will happen in next year.", "And when we come up with that, when we came up with the 155 to 165, that's our best guess that what we think that activity will look like and how it will be monetized within our agreements. But I would say that there is always going to be some ability for that to be better or worse than what we expect if the activity is going to be better or worse than what we expect.", "And as Jay has mentioned a few times, we're really excited about the level of activity going into next year, that 155 to 165 is an increase of a really good 2021. So we're excited. We feel good about what that activity level looks like and we'll see how it plays out in terms of when our customers come to us and want to put more equipment on towers." ] }, { "name": "David William Barden", "speech": [ "Great, thanks guys." ] }, { "name": "Operator", "speech": [ "Nick Del Deo of MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey, thanks for taking my questions, one on fiber solutions and one on small cells. First, as we think about the leasing for fiber solutions in '22 versus '21, is that decline just a function of lapping some COVID-driven capacity sales in '21 and what's causing that churn to come down a little bit?", "And then, on the small cells front, as we think about the potential timing for installing what you have in the backlog over the next few years, do all those nodes have firm dates by which the carriers need to start paying you for them or do they have flexibility to kind of keep deferring installations if they choose, what's the dynamic there?" ] }, { "name": "Jay A. Brown", "speech": [ "You bet. On the first question, we've talked about this for a long time. We think the Fiber Solutions business is going to operate at around a 3% annual growth rate and that's what we're seeing in calendar year '21. I think we'll see a similar level in 2022. There was some impact during COVID particularly in the early months of 2021 and late 2020 associated with offices being closed.", "But honestly, our business was -- is because of the nature of large enterprises, universities and government, which make up the bulk of the Fiber Solutions revenue that we do, we were not impacted nearly to the extent that fiber companies who are more focused on small and medium enterprises, so on impact.", "So we didn't see a fall off as many of them did. And then, conversely, as the economy started to open back up, we just did not see as much of an uplift. So I would say, similar business environment to what we see -- what we've seen the last couple of years, maybe a little bit better. But I think the growth is basically in-line with what we've seen of about 3%. Churn is down, we think it will be down.", "This is an area that I know our team has focused really hard on, a part of it is making sure that we're being thoughtful about the kind of customers that we pursue on the front end. And then, also, as we manage the relationship as we get close to a contract renewal being thoughtful about how we handle those contract renewals and I think the team has done a really nice job.", "And we've seen some benefit from some of their work. And we think we'll see more of that in '22 as we go through the process of managing the renewals in the end of term loans on some of those contracts.", "On your second question around small cell nodes and firm dates, we talked a little bit I think Nick about this on the last quarterly call. We made a -- and it should be viewed this way. We made an affirmative choice to work with our customers on pushing out these nodes into future periods. But our contractual rights I think would have given us the ability to really push to turn these nodes to the point where we could have handed them over and charge rent to the carriers.", "But we made the affirmative decision given the volume that was coming our way and the reallocation of the dollars from the small cells to the macro sites. We made the affirmative decision to work with them and give them an ability to push out those dates. So there may be circumstances that arise in the future where we would not be willing to do that. But this was an affirmative decision that we made based on managing the customer relationship and maximizing what we thought was the return. The volume, as I said before, the volume and the revenues and cash flows all end up at the same place.", "But if we could maximize early some of the macro site revenues and work with the customers to give them an extension on when we turn the small cells on, we thought that made good business sense and that's why we did it. But contractually, we would have a right to do something a little different." ] }, { "name": "Nick Del Deo", "speech": [ "Okay, got it. Thank you, Jay." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from Matt Niknam of Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey, thanks for taking the question. Just two if I could. First, maybe going back to the question it was asked earlier on the call. In terms of new entrants or may be newer contributors, to what extent are you seeing or maybe anticipating contributions from either new CBRS deployments from cable or via fixed wireless broadband deployments from some newer entrants?", "And then, secondly, on the topic of supply chain constraints. I'm just wondering, has that to any extent impacted customer behavior either to data, have you embedded anymore conservatism that some of these constraints may have in terms of customer activity next year? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "On your first question, you called out a number of different items. I would put all of those in a bucket and say yes, all of those are helping CBRS is helping, cable is helping. There's broadcast that is helping. There are a number of areas that we're seeing leasing demand for macro sites and we think that will continue into the future.", "I wouldn't call it out as a material impact to our 2021 or 2022 leasing results. But at the margin, it does help and does drive the incremental growth that we're talking about in site rental revenues. I think given the amount of spectrum that there is outside of the hands of the carriers and the capital that is in some of those sectors in order to deploy wireless network, I think on the longer-term model, if you take a five or a 10-year view, I think there is some meaningful leasing activity that's going to happen outside of what you think of as the legacy or traditional wireless carriers. That will benefit macro and small macro sites as well as small cells over time. And as we start to see that, we'll give you more details around what those impacts are going to be.", "On your second question around supply chain constraints, obviously, I think, the whole world is feeling the impacts of that much has been written about it. We've worked really closely with our customers on when they expect to receive equipment and the timing of that and then trying to make sure we line up sites to be ready for them based on when the equipment is received.", "I think they've done a nice job of working with their supply chains and having equipment available to get 5G network launched in the timeframe that they expected, so it's a coordination activity, certainly a communication activity that our teams are having with their teams. And thus far, that dialog has proven to be a predictable, a predictable indicator of when actual activity does happen on our site.", "So we're watching it, paying attention to it, but feel pretty good about the fact that our outlook does assume the environment of constraints that are out there and our leasing expectations are a function of the coordination and communication we're having with our carriers on when equipment will be available." ] }, { "name": "Matthew Niknam", "speech": [ "Great. Thanks, Jay." ] }, { "name": "Operator", "speech": [ "Rick Prentiss of Raymond James." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Thanks, good morning." ] }, { "name": "Jay A. Brown", "speech": [ "Hey, Rick." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Hey, a couple of questions. I really appreciate you guys breaking out the details in the '23 guidance and that's been obviously a big issue for us that non-cash amortization of prepaid rent. Really appreciate your focus on core. I'm wondering if it's possible, when you do the supplement, page 18 in the supplement, where you gave the segment information, but it's just towers versus sites. Can we get that information historical and going forward towers versus small cells versus fiber solutions." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks for the suggestion. We'll take a look at that." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "And since you put it into the guidance, that would help really have to break that out as it's important because you guys are focusing on the core side because that really is the ongoing ford kind of cash flow.", "Second one, you've been touched on a couple of times. David and others asked it. Is there an update to how many small cell nodes are on air right now or is that also something that comes as in 5,000 increments?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. We're just under 55,000 that are on air today. So there is not 25,000 in the backlog." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Right, makes sense. And then conceptually, augmentation of towers. So that you get prepaid rent adds from, would Verizon doing C band, T-Mobile integrating Sprint, DISH putting 5G on the network, is there a thought that the tower augmentation spending needs to go up at some point to handle all this and then the reimbursements could come up as well into the future?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. I mean, that obviously could happen. It depends on how we're going to work through with our customers and what that prepaid rent looks like. And also its impacted by what they want to put on which towers. Typically speaking co-locations come with more augmentation capex then do the amendments.", "So it really depends on how that all is going to play out and what we have going into 2022 is tower capex its coming down slightly from 2021, but nothing all that meaningful. So it's all activity-based ultimately Rick and then where that activity ends up and how we can -- what we get back from our customers and that does fluctuate up and down over time." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Thanks, Jay. One more quick one, and then you'll get someone else squeezed in. Any updated thoughts on in Building Systems. There has been a lot of talk about private 5G networks and what the opportunity might be. What are your thoughts as far as capital deployment back to kind of question on what's the opportunity for private 5G maybe in Building Systems?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. The in-building and I would put venues into this category to five or six years ago, we had talked about in building and venues and we saw some opportunities but relatively limited. And that business has really picked up on the small cell side. And we are seeing some really nice opportunities on in building and venues and seeing some healthy growth there. The returns are good.", "It's a place where we like to invest. Certainly, it falls into that category of the densification comments that I was making earlier. Any place to see a densification of people with the growth in traffic that we're seeing, really the only way to manage the network toward a viable solution is to go in and put in small cells and that's true in the public right of ways, and it's true in venues and in buildings.", "So the growth in traffic that we're talking about and the deployment of this 5G network just requires a greater densification than in building and then use are following the same pattern that we're seeing happen in right of ways." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Great, thanks guys, stay well." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Maybe we can try to squeeze in two more callers before we drop off this morning." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from Sam Badri of Credit Suisse." ] }, { "name": "Sami Badri", "speech": [ "Hi, thank you. I wanted to ask you about your tenants with power that moved higher in the quarter and it comes along with the solid move in your rental revenue per tower. Is there any opportunity for accelerated tenancy improvement given the 5G build in some of the other trends that you mentioned? And as you see tenant to go up, what the impacts of free cash flow at this point?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah, we are seeing increased tenancy on the towers. Historically, we've added about one tenant every 10 years roughly. I think that's a pretty good forecast for what we'll see over the long term. It's underpinning our 7% to 8% targeted growth in the dividend over time. So I think we'll -- I think that's kind of the path that we're on. And as I made the comments earlier around the capital spending by the carriers in the environment that we're in, I think we've got a good tailwind to continue to stay on that path of increasing tenancy of about one tenant over 10 years.", "The unit economics of the business remain intact and Dan mentioned this in his prepared remarks. But we're drop in $0.90 of every dollar up at the Organic Site Rental revenue lines. We're dropping that all the way down to AFFO. And this is a real credit to our team who has done a tremendous job of managing the expenses and being thoughtful about places where we can take out costs in order to achieve that those very high incremental margins on incremental dollars of revenue.", "And that's one of the beauties of our business model and certainly one we think we can continue to sustain and improve upon." ] }, { "name": "Sami Badri", "speech": [ "Got it. One other follow-up is, does your guidance include any type of benefit from the Biden infrastructure bill that may be passed in the near future? And then, if your guidance does not include it, how do you imagine the broadband budgeted spend benefit your business if it -- there is a path for that?" ] }, { "name": "Jay A. Brown", "speech": [ "We have not anticipated any of that in our current forecast or guidance. I think the most likely path for benefit from that is indirect. I wouldn't necessarily expect that we will be a direct recipient of those federal funds. But the customers that use both our fiber, our small cells and our towers could absolutely be recipient of federal funds that would then need to build network. And as I made comments earlier, the most efficient way to deploy spectrum and deploy network is to share it.", "And so, our offering of infrastructure, shared infrastructure lowers their costs and speeds their time to deployment. And so, we certainly would expect to benefit indirectly as those federal funds become available and broadband for all becomes built out." ] }, { "name": "Sami Badri", "speech": [ "Got it. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Operator, maybe we can sneak to one more." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Sure, absolutely. April, maybe we can take one more question. Sure. And that question will come from Walter Piecyk of LightShed." ] }, { "name": "Walter Piecyk", "speech": [ "Thanks. I can't believe Rick Prentiss to credit for the prepaid after all those times of -- with my prepaid questions over the years. But I echo his comments, so, thanks for including that now. Just Jay, just from 10,000 feet, and you've talked a lot about this kind of -- I mean you haven't used the word, but basically the pivot in the near term in terms of the focus on macro versus small cells and at some point, it's going to come back and you've got these orders in hand.", "But like when you talk to Verizon or AT&T, it seems like or even T-Mobile, I think that the macro focus and that would be C band plans even in terms of upgrading to massive -- is it a two to three-year process.", "So I'm just curious kind of in your thoughts, when do you think there will kind of be this pivot back to the small cells where we'll see some actual growth there?" ] }, { "name": "Jay A. Brown", "speech": [ "Yeah. I think some of it, you can see in the -- thanks for the question Walt. I think some of that you can see and just their activity with us the commitment that they made of 15,000 small cell nodes. There's an indication that they are thinking about it in the near term planning horizon of what's going to be required in their network as they're going through the process of working on macro sites and then working on and then starting to infill and densify the network.", "And this is a pattern that's followed. We saw this occurred with 3G, we saw it occurred with 4G, where and now we're seeing it with 5G, where the first step of deployment in the network is the carriers go and touch all of the assets that they're already on and upgrade those sites to the new technology. And then, once they get that overlay done, then, they come back and they really focus heavily on densification.", "So when we look at the way the networks are performing, both in terms of the sites that have already been upgraded and the usage, the data usage on those sites, from a technical standpoint, the capacity starts to get reached. And therefore, they've got to the term that's been historically used. They've got a cell split. They've got to reuse that spectrum over more sites.", "And the dynamic that we've seen in the market and I think this is reflective of the nodes that we're booking now, there is not other macro sites that they can use to cell split that spectrum. They're already on those macro sites. And so, they've got to figure out a way to densify the network and reuse the spectrum in places that are not sort of the traditional macro sites. And we think that's where we get the real benefit on the small cell side. I think as we get into calendar years '23 and beyond, I think we'll really see that movement. Probably similar to what we saw at 4G, like we got to the point where in 4G, we had -- we had added 4G to all of the towers and then we saw significant activity on the small cell side as they upgraded sites to improve the network and densified 4G using small cells. We think we'll see a similar thing on the 5G side to an even greater extent, given the types of spectrum bands that are being used and the amount of increase in data traffic. It's just going to require more than macro site can deliver.", "Okay. Well, I appreciate everyone joining this morning. Thanks for the time. And I do want to thank our team, our employees who've done a phenomenal job navigating through the challenges of COVID over the last 20 plus months here and continuing to deliver for our customers.", "They are incredibly busy and have done a tremendous job for customers. So I want to say thank you to them and more to come on that front. So thanks everyone for joining. Look forward to talking to you soon." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2023-01-26	[ { "description": "Senior Vice President, Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Citi -- Analyst", "name": "Mike Rollins", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Philip Cusick", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Greg Williams", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Jon Chaplin", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning and welcome to the Crown Castle fourth-quarter 2022 earnings conference call. [Operator instructions] Please note, this event is being recorded. I would now like to turn the conference over to Ben Lowe, senior vice president. Please go ahead." ] }, { "name": "Ben Lowe", "speech": [ "Thank you, Kate. And good morning, everyone. Thank you for joining us today as we discuss our fourth-quarter 2022 results. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer, and Dan Schlanger, Crown Castle's chief financial officer.", "To aid the discussion, we have posted supplemental materials in the investor section of our website, at crowncastle.com, that will be referenced throughout the call this morning. This conference call will contain forward-looking statements which are subject to certain risks, uncertainties, and assumptions, and the actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the risk factors sections of the company's SEC filings. Our statements are made as of today, January 26th, 2023, and we assume no obligation to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the investor section of the company's website at crowncastlecom. So, with that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Ben. And thank you, everyone, for joining us on the call this morning. As you saw from our results, 2022 was another successful year for Crown Castle. And the positive trends across our business remain intact, with fourth-quarter 2022 results coming in as we expected and no changes to our 2023 outlook.", "I plan to keep my prepared remarks brief before handing it over to Dan to talk through the numbers in a bit more detail. As I reflect on 2022, I'm proud of what our team accomplished. We led the industry again with nearly 6.5% organic tower revenue growth as our customers upgraded existing tower sites with additional spectrum and added equipment to thousands of tower sites they were not previously on to support nationwide deployment of 5G. And we deployed 5,000 small cells to support initial network densification efforts while growing our fiber solution's revenue by 2%.", "The positive operating trends in 2022 exceeded our initial expectations for the year and offset the impact of the rapid increase in interest rates, demonstrating the resilience of our business model and strategy. As a result, we were able to deliver strong bottom-line growth that supported more than 9% dividend per share growth, as we discussed when we initially provided guidance in October, we believe the positive operating momentum will carry into 2023, driving another year of expected strong growth, with 5% organic growth in towers and a doubling of our small cell deployments to 10,000 nodes. With respect to tower leasing trends, the established national wireless operators are deploying mid-band spectrum in earnest as a part of the initial phase of their 5G buildout. Today, only about half of our sites across our top three customers have been upgraded with mid-band spectrum, providing a significant opportunity for additional revenue growth as additional sites are upgraded over time before their focus will likely shift to more infill with new co-location.", "Adding to the substantial long-term growth opportunity, we continue to support DISH with their nationwide buildout of a new wireless network, and I believe we are in a great position to continue to capture an outsized share of that opportunity. Turning to small cells. We expect to double the rate of small cell deployments this year to 10,000 nodes, with over half co-located on existing fiber to meet the growing demand from our customers as 5G networks will require small cells at scale. With approximately 60,000 nodes on air and another 60,000 contracted in our backlog, I believe 2023 will represent the first year in a sustained acceleration of growth for our small cell business.", "We also continue to see opportunities to add to the returns we are generating from small cells by leveraging the same shared fiber assets to pursue profitable fiber solutions growth. And we expect to return to 3% growth as we exit 2023. Looking at the bigger picture, beyond this year and why I'm so excited about our growth opportunity, we are still in the early innings with 5G as the industry is only a couple of years into what we expect will be a decade-long growth opportunity. Our customers are seeing significantly higher levels of monthly data consumption as consumers upgrade to 5G, providing the need for significant network investment for years to come to keep pace with this persistent growth in mobile data demand.", "As we have seen in our industry throughout its history, generational upgrades to the wireless network occur in phases with an initial push to provide nationwide coverage, followed by periods of continued network augmentation and densification that has led to long periods of sustained growth. We believe we are in the initial phase of the 5G buildout with many phases to follow over the coming years. Consistent with our past practice, we believe our customers will first deploy their spectrum on the majority of their existing sites, as they are currently doing, before shifting their focus to cell site densification to get the most out of their spectrum assets by reusing it over shorter and shorter distances. The nature of wireless networks requires that cell site densification will continue as the density of data demand grows, and we expect 5G densification to require both towers and small cells at scale to fill in the network.", "With that view in mind, we've invested more than $40 billion of capital today in towers and, more recently, small cells and fiber that are mission critical for wireless networks to capture as much of this growth opportunity as possible. Importantly, we are already generating a 10% return on our total invested capital with the opportunity to increase that return over time as we add customers to our tower and fiber assets and grow our cash flow. As a result, I believe Crown Castle is an excellent investment that will generate compelling returns by providing investors with access to the most exposure to the development of next-generation networks in the U.S. with our comprehensive offering of towers, small cells, and fiber, providing the opportunity to benefit from the best growth and lowest-risk market, an attractive total return profile with a current yield of 4%, and a long-term annual dividend per share growth target of 7% to 8%, and the development of attractive new assets that we believe will extend our runway of growth and create shareholder value.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. We generated another year of solid growth in 2022, and we expect the strong operating trends across our business to continue as we see a long runway of 5G investment in the U.S. The elevated leasing activity across our customers contributed to another year of industry-leading tower revenue growth in 2022 of nearly 6.5% and the 9% growth in our annual dividends per share. Before discussing the 2022 results and 2023 outlook, I want to draw your attention to some enhancements we made this quarter to the disclosure in our supplemental information package.", "In response to feedback we've heard from our investors, we provided organic billings growth detail by line of business for towers, small cells, and fiber solutions to help investors better understand the composition of organic growth trends. This enhanced disclosure includes historical organic growth information going back to 2019. In addition to expanding our disclosure, we also reorganized the supplemental information package, in many cases, by line of business, to make it easier for readers to follow. We hope you find this additional information and the new layout to be helpful.", "Now, turning to the full-year 2022 financial results on Slide 4 of our earnings presentation. Site rental revenues increased 10%. Adjusted EBITDA growth was 14%. And AFFO increased by 6% for the year.", "The 10% growth in site rental revenues included 5% growth and organic contribution to site rental billings, consisting of nearly 6.5% growth from towers, more than 5% growth in small cells, and 2% growth in fiber solutions. Turning to Page 5. Our full-year 2023 outlook remains unchanged and includes site rental revenue growth of 4%, adjusted EBITDA growth of 3%, and AFFO growth of 4%. We also expect organic billings growth of approximately 4% when adjusted for the impact of the previously disclosed Sprint cancellations.", "The 4% consolidated organic growth consists of 5% growth in towers, 8% growth in small cells, and flat revenue in fiber solutions. As we discussed last quarter, we expect the rationalization of a portion of Sprint's legacy network to result in some movements in our financial results that are not typical for our business. Our expectations for nonrenewals and accelerated payments associated with this network rationalization activity are unchanged, with approximately $30 million of new nonrenewals and $160 million to $170 million of accelerated payments during 2023. We expect the majority of the nonrenewals to occur in the first quarter and, therefore, impact year-over-year billings growth in each quarter this year.", "We expect the accelerated payments associated with this decommissioning activity and related services work to be concentrated in the second quarter. As a result, we expect the second quarter to represent the high watermark for adjusted EBITDA and AFFO in 2023. Turning to financing activities. We finished 2022 with leverage in line with our target of approximately five times net debt to adjusted EBITDA.", "For full-year 2023, our discretionary capex outlook is also unchanged with gross capex of $1.4 billion to $1.5 billion or approximately $1 billion net of expected prepaid rent. Based on our current backlog of small cells that includes a significant mix of co-location nodes which have higher returns and require less capital relative to anchor builds, we expect to be able to finance our discretionary capital with debt while we're maintaining our investment-grade credit profile. Earlier this month, we added to our strong balance sheet position when we issued $1 billion in senior unsecured notes with a 5% coupon to term out borrowings under our revolving credit facility. Following this financing transaction, we have more than 85% fixed rate debt, a weighted average maturity of over eight years, limited maturities through 2024, and approximately $5.5 billion in available liquidity under our revolving credit facility.", "So, to wrap up, we're excited about the strength of our business and our ability to execute on our strategy to deliver the highest risk-adjusted returns for our shareholders by growing our dividend over the long term and investing in assets that will help drive future growth. We have delivered 9% compound annual dividend per share growth since we established our 7% to 8% dividend per share growth target in 2017. And I believe that we are positioned well to return to 7% to 8% dividend per share growth as we move beyond the Sprint decommissioning impacts in 2025. With that, Kate, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "We will now begin the question-and-answer session. [Operator instructions] The first question is from Michael Rollins of Citi. Please go ahead." ] }, { "name": "Mike Rollins", "speech": [ "Thanks and good morning. And also, just want to say thank you for the additional disclosures. Very helpful. Two topics, if I could.", "First, on small cells, if you will, more color on the small cell leasing that you experienced during the fourth quarter. And then, when you look at the backlog and consider the typical 18- to 36-month cycle that you described to install a small cell for your customers, what's the opportunity to further accelerate that 10,000 deployment pace into '24 and 2025? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Mike. Thanks for the comments. On the first question around leasing, as you noted, and I made mention of this in my prepared remarks, we did increase the total number of nodes on air and under contract by 5,000 during the fourth quarter. So, we didn't sign any large deals with customers, but this is just ongoing activity that represents additional commitment for nodes beyond the large commitments that we previously announced.", "And to my comments around cell site densification, we believe we're going to continue to see this throughout the 5G cycle of upgrades and deployments and beyond as the carriers move past touching the sites -- the tower sites that they're on and starting to look at densification of their network. And I think the activity that we saw in the fourth quarter is representative of exactly those longer-term plans, which ties really closely to your second question around the backlog and the timeline. I think we see and have visibility to what they're going to need in their network, particularly in small cells, 24 to 36 months in advance of when these nodes will actually be put on air. And as I mentioned in my comments, we think the acceleration that we're seeing in 2023, doubling the number of nodes that we expect to put on air from 2022 to 10,000, we think that's the start of an acceleration of growth and deployment of small cells.", "So, we're not really ready to give guidance on how many we'll put on in '24 and '25. But given the backlog and the timing, we do think this is the start of an acceleration of growth in that business." ] }, { "name": "Mike Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "The next question is from David Barden of Bank of America. Please go ahead." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Good morning. Thanks so much for taking the questions. I guess, along related lines, so, two questions on this multiple topic, I guess, Jay.", "One is, you know, you've got these large-scale relationships on small cells and you say visibility on these -- next two to three years. There's some carriers that you don't have these relationships with. And I was wondering if you could elaborate a little bit on why you think that is. Is that because, you know, counterparty plans aren't as evolved? They might be, like, less involved in terms of the total size of their network build and not ready for densification? Or is it the other way around, which is that they've chosen to go the self-perform route and is that impacting the market opportunity that you foresee? I guess the second question would be related to, with respect to what you do have in the backlog, how do we think about how you're budgeting for the upfront capex contribution portion of that? Is it a constant drumbeat that's already known? Is it going to be on a case-by-case basis, obviously, relevant to the cash flows? And how do we think about the runoff of prepaid rent amortization, you know, over the coming years? Thank you so much." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Dave. On your first question around the agreements with the carriers, I think you're going to see, over time, in that business a combination of large-scale agreements with the carriers where -- whether they give us whole markets or a number of markets, we'll probably see large-scale agreements with carriers over time. We expect those large-scale agreements to be lumpy. So, we wouldn't expect to see them every quarter or even every year.", "But it will be dependent upon the way that the carriers are thinking about the network and where the holes are and where the need is, if there's value in some of those large-scale agreements in -- particularly with respect to securing the resources when concentrated in some -- in a few markets. So, I think you'll continue to see those. I also think you'll continue to see what we saw in the fourth quarter, where carriers give us business and they're not as large scale and we do them in smaller, smaller chunks. So, I think both are going to be there.", "I don't think one or the other is representative of an underlying trend or nature of the business. The carriers, I think, as I say, will contract with us, I think, on both basis. And I think, over time, big picture -- and we've talked about this for years -- because of our disciplined and rigorous approach to capital allocation and our view of where small cells are going to be needed, everywhere that small cells are needed is not necessarily attractive for us to put capital to work. So, we're going to pick and choose where we decide to put capital to work, which means the carriers are either going to need to find other providers who are willing to deploy the capital at lower return thresholds than what we're comfortable with or, alternatively, they'll self-perform.", "And today, we have seen the carriers self-perform, for the most part, in places where we were not willing to do it. And I think that will continue. You'll continue to see self self-perform for the carriers. Again, I don't think that's indicative of the business.", "I think it's more indicative of the way that we think about return thresholds and our desire to both grow the dividend, elongate the timeline of returns and be thoughtful about the risks that we underwrite. On the second question around the backlog and carrier capex contribution, the way the agreements are structured relates to -- the pricing is related to the return based on the underlying cost to deployed nodes. So, the capex will move -- the capex contribution from the carriers will move in unison with the way that it's -- the cost of actually deploying the network that we're deploying in the locations that we're deploying them. So, in a market where they're more expensive to deploy, the capital contribution is going to be higher.", "In places where it's less expensive to deploy, those capital contributions will be less. I don't think, at this point, you know, beyond the guidance that we've given around capex for calendar year '23, we're not going to provide guidance for '24 and '25. But as we give outlook for each individual year, we'll give you a view of what's the backlog, where do we think we're going to turn on air, and then, break out for you what we think our total capex for the year is going to be, and then, what portion of that will be carrier capex -- carrier contribution offsetting that outlay." ] }, { "name": "David Barden", "speech": [ "And then, just -- maybe this is a question for Dan. But just to follow up real quick on how the mechanics work. So, the capex comes in during this 24- to 36-month period. You recognize that contribution in capex, but you don't start amortizing that contribution until after the lease begins.", "And so, there's a window between where you've got the money, and then, where you start amortizing it through the income statement, is that right or wrong?" ] }, { "name": "Jay Brown", "speech": [ "You've articulated it correctly. So, we will receive cash as we go through the process of deploying the nodes and incurring capital expenditures. And then, we would start to run it through the income statement once we've completed the work of the operational work necessary to complete and deliver the node to the carrier. At that point, we would then amortize that over the term of the lease.", "One thing I would say in this -- I'm not sure exactly, you know, what you're trying to decipher in terms of this question. You've articulated it correctly. Maybe one additional piece of information that's helpful. The backlog and the timeline to build, when we talk about 24 to 36 months to build, is our average.", "Obviously, there are nodes that take longer than that. [Audio gap] construction period of time is relatively short, and it occurs at the back half of -- the last portion of that long-dated period of time. So, the majority of the costs that we incur up until construction are soft costs, and they would be a smaller percentage of the overall capex. So, you shouldn't expect -- you know, just to be extreme, you shouldn't expect on a 36-month timeline to construct the node, that we would have significant capex in the first 12 months of that, and then receive carrier contributions at that time.", "Most of the actual outlays would be toward the back half of that process and the cash being received. So, the timeline between receipt of cash and booking the node is not 36 months [Inaudible]." ] }, { "name": "David Barden", "speech": [ "Right. Helpful. Thank you so much, Jay." ] }, { "name": "Operator", "speech": [ "The next question is from Simon Flannery of Morgan Stanley. Please go ahead." ] }, { "name": "Simon Flannery", "speech": [ "Right. Thank you very much. Jay, thank you for the color on the phases of densification. That was helpful.", "Perhaps you could just help us with this transition as Verizon and T-Mobile wind down their 5G builds. Is it normal that we have, like, a pause and digest on the macro side? Or do they go straight into cell site densification on the macro side? Have you got any color on what the carriers are starting to think about once they, particularly in the urban areas and suburban areas, have already put up their antennas? And then, just a related point, any comments, any updated thoughts on M&A? Obviously, it's been a long time since you've done anything inorganic of scale, but there's always market opportunities out there. So, just love to get your latest thoughts on that." ] }, { "name": "Jay Brown", "speech": [ "Sure. On your first question, I don't want to comment specifically on Verizon and T-Mobile. Let them comment on their longer-term network plans. You know, as I mentioned in my comments, we think about half of our sites have been touched for the mid-band spectrum at this point.", "There are -- obviously, across the board, all of the carriers are working on touching the vast majority of the rest of those, and that will take some period of time in order for that to be accomplished. We're two to three years into the work that's been done to date, and it's taken about that long just to touch half the sites with just the mid-band spectrum. So, I think you're going to see other spectrum bands that are going to be deployed for 5G on existing sites, as well as the completion of the mid-band spectrum across the balance of the sites. Each of the carriers and -- we'll think about how they deploy capital, how they budget that capital a little bit differently.", "But those offsets, generally, over a long period of time in the tower business, have mostly offset each other to the point where we just haven't seen a lot of movements and a lot of -- a lot of movements up and down in terms of the overall capex. And I think we'll see -- and spending and focus on network deployment, I think we'll see a similar thing during 5G. Thus far, as I made -- pointed to in my comments, thus far, 5G has looked relatively similar in terms of its deployment activity as what we saw when 2.5G, 3G, 4G were deployed, where the carriers focused on upgrading the sites that they were already on, and then, the discussions start to move toward the second half of it and start to think about infill sites. I think what's different about 5G that we're seeing, obviously in our small cell businesses, as alluded to previously on the increase in the number of nodes that we signed, as well as the larger transactions that we announced previously, those infills are going to come from a combination of both tower sites and small cell.", "So, I think the unique thing about 5G -- we saw a little bit of this at the end of 4G -- but the unique thing about 5G is the necessity in those infill sites to use both towers and small cells. And we're starting to see the real beginnings of that as we start to accelerate. So, similar to the past and excited about our forward growth, excited about our 5%-plus organic tower growth this year, we think there's a long runway of continuing at that level of north of 5% growth in tower side." ] }, { "name": "Simon Flannery", "speech": [ "And on the M&A?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, on the M&A side, no change to the comments that we've made historically. We're focused on making sure we deploy capital at very high returns that increase the dividend and elongate our opportunity for growth. We have chosen -- based on the opportunities and price sets that have been in front of us and assets that we have looked at, we've made the decision that the best opportunity has been to invest in assets that we're building. But we think about acquisitions the same way we think about capex.", "We look at it as what's the best alternative for that use of capital. And thus far, we think the best opportunity at scale for the use of capital has been to deploy fiber and small cells. And so, we'll continue to look, and we would be open to it if we found an asset that was -- met our return criteria for -- what I articulated previously of growing the dividend and elongating the growth rate could be interesting to us, and -- but really excited about the opportunity for us to continue to invest capital to deploy small cells." ] }, { "name": "Simon Flannery", "speech": [ "Thanks a lot." ] }, { "name": "Operator", "speech": [ "The next question is from Philip Cusick of J.P. Morgan. Please go ahead." ] }, { "name": "Philip Cusick", "speech": [ "Hi, guys. Thanks. How are you?" ] }, { "name": "Jay Brown", "speech": [ "Morning." ] }, { "name": "Philip Cusick", "speech": [ "Thanks for your time. You know, just to follow up on some of the small cell stuff. How many do you think will be upgraded versus about half or done today? And anything shifting in the small cell expansion mix of overlay versus 5G -- overlay of 5G versus new locations? And when do you think infill should start to ramp? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Yeah, on the tower side, I think we will see the second half of -- the other half of the towers be upgraded to mid-band spectrum. It took about two to three years to do the first half. So, I think that's probably a reasonable assumption that it will take that long to do the second half of the assets, roughly, on the tower side. I think the announcements that we've made previously with small cells commitments to be constructed are already a combination of overlaying on nodes that they were previously on with other technologies and upgrading those two technologies, as well as infilling sites along the same fiber, increasing the number of nodes per mile, if you will, in a given geography.", "We're already seeing infill and densification on that front. We've talked about in the two large announcements that we made, with the T-Mobile nodes -- the committed T-Mobile nodes, but the vast majority of those were co-located on existing fiber. So, those largely represent upgrades and densification and then a mix of about 50-50 on the Verizon nodes, a combination of upgrades, co-location on existing fiber. And then, the other component would be where we're building new sites and new locations.", "So, I think we'll continue to see a mix. As we said in our comments, for 2023, we think the vast majority of the nodes that will turn on air will be on existing fiber." ] }, { "name": "Philip Cusick", "speech": [ "Thanks, guys. And one more, if I can. On services, you know, talk about the current pace. Is this sort of a normal level, do you think, or are there particular projects driving this strength? Thank you." ] }, { "name": "Dan Schlanger", "speech": [ "So, it's a pretty normal pace still. And the only thing I would point out is something I said in my prepared remarks, that the second quarter will likely be the high watermark because we have some decommissioning work that comes with services activity that will hit in the second quarter, but relatively normal pace where we are today." ] }, { "name": "Philip Cusick", "speech": [ "That's helpful. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Ric Prentiss of Raymond James. Please go ahead." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, everybody." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "Hey. First, to echo Mike's comments, thanks so much for the extra detail on the segments, but also hope you and the team are OK with all the weather issues in Houston." ] }, { "name": "Jay Brown", "speech": [ "We're doing well. Came through the storm well, but there were a lot of damage in the city." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Good to know you're OK. Want to follow up on the -- you know, the small cells are obviously a common theme today. I think, previously, you had said the 30 million Sprint cancellation, churn item, was maybe 20 million small cells, 10 million fiber.", "How many nodes should we expect that 20 million equates to? And then, was it a total of 5,000 nodes they were going to turn off over multiple year period? Is that still the case?" ] }, { "name": "Jay Brown", "speech": [ "Yes. Thanks. You're correct. We did say there's about $30 million of -- I'm sorry, $40 million of churn that we expect in our fiber segment, and split about equally between small cells and fiber solutions in calendar year '23.", "The churn expected, you correctly stated, of about 5,000, we expect about half of those to churn in calendar year 2023. The balance would be in '24 and beyond." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And now, though, we have the extra details, it seems like there's maybe a normal level of churn within small cell, which we think -- is that kind of a 1% to 2% normal level of churn in small cell that we should be baking into our long-term forecast?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, I think that's probably right, somewhere in the neighborhood of 1 to 2%. I mean, honestly, to date, we really have not seen hardly any churn in that business. Except for the event of the consolidation of Sprint into T-Mobile, churn has been near zero, very low other than that event. So -- but I think, long term, it probably plays itself out like tower.", "So, if you're thinking about your long-term model, assuming churn of 1% to 2% is probably right." ] }, { "name": "Ric Prentiss", "speech": [ "And final question for me. You mentioned small cell -- look for profitable fiber solution items. T-Mobile just talked about their high-speed internet project. They might move beyond fixed wireless access and consider buying capacity or fiber from other people.", "Is that a type of profitable business in the areas where you've been deploying fiber in small cells, and that T-Mobile might be an interesting return case?" ] }, { "name": "Jay Brown", "speech": [ "It's possible. A good portion of our fiber business is leases that we have with the carriers where they use our fiber. So, depending on the locations that T-Mobile were to desire, then our assets could be very attractive for that. But it's a case-by-case, location-by-location analysis that would have to be done." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Good. Thanks. Stay well." ] }, { "name": "Jay Brown", "speech": [ "You too." ] }, { "name": "Operator", "speech": [ "The next question is from Brandon Nispel of KeyBanc Capital Markets. Please go ahead." ] }, { "name": "Brandon Nispel", "speech": [ "Hey, guys. Thanks for taking the questions and appreciate the disclosures as well. I was hoping you could talk us through the run rate in terms of tower core leasing throughout '23. Is first half any stronger than the second half? And maybe the other way to ask the question is, you know, as you look at the backlogs of new lease applications that you're receiving today, are those trending up or down at this point? Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, thanks, Brandon. The run rate tower leasing is relatively flat through the whole year. There may be a little bit of a skew toward the front half, but it's not anything I would say is going to impact the numbers very much at all. And that would imply that the applications are relatively flat as well.", "So, I would -- if you're trying to figure out how to model it or how to think through the activity levels and the leasing in 2023, I'd say it's pretty even quarter to quarter." ] }, { "name": "Jay Brown", "speech": [ "Your second question on the trends we're seeing in the backlog, no change in what we're seeing from what we talked about in October. So, seeing good demand across all three of our business lines, tower, small cells, and fiber solutions. The pipeline, you heard my comments in my prepared remarks, but we think, by the back half of this year, we're going to exit 2023 with fiber solutions back at kind of a 3% growth area. And tower leasing, as Dan just mentioned, we think that's going to be really similar across the year.", "So, not back half loaded but level loaded across the year. And then, small cells, you know, we obviously had a good fourth quarter in '22, and we'll see what builds over the course of '23 and update you as we get orders on that front." ] }, { "name": "Brandon Nispel", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Greg Williams of Cowen. Please go ahead." ] }, { "name": "Greg Williams", "speech": [ "Great. Thanks. Just wanted to touch on the M&A comments you mentioned and you choose to build rather than buy per se. Does that imply that private fiber multiples just remain, you know, stubbornly high? And are they coming down at -- to any degree? And do you foresee them coming down in the next few quarters? Second question is actually on cable.", "You know, we've been fairly dismissive that they're going to be touching the towers per se but more on CBRS deployment on their own air strands. But, you know, there's possible conversations of cable getting more aggressive and a more macro facilities-based network. And just wanted to hear if you had any updates on conversations with cable. Thanks." ] }, { "name": "Jay Brown", "speech": [ "Sure. On your first question, I would say it's -- on some level, it's probably a function of price. It's more likely a function of our targeted approach to which assets we want to own. In order for a fiber asset acquisition to be attractive to us, it needs to be in dense urban areas, it needs to have high fiber strand count, and we need to have visibility that those areas are going to have or likely to have significant lease-up for small cells.", "And the reason why you haven't seen us do any fiber acquisitions in the last last five years is much more related to the fact that we haven't seen anything meet those criteria than, frankly, it is price. We just haven't seen the opportunity to acquire assets that meet the criteria that's going to drive long-term growth from the wireless carriers from the deployment of small cells. And we're going to remain disciplined on that front. Continue to believe the vast majority of the fiber that we will accumulate over time will be as a result of building it rather than acquiring it, because we just don't see a lot of assets in the market that meet our criteria for assets that we would want to own.", "On your second question, believe that cable, over the long term, is a very attractive opportunity for us to increase our growth rates and think that we will be leasing from the cable operators. We'll see some of that on macro sites. Frankly, I think we'll probably see more of that in our small cell business given the places that they tend to deploy infrastructure as they think about the density of population and users. So, I think it's more likely that we will benefit from the deployment of network by the cable operators using their various spectrum bands.", "We're more likely, I think, to see that in small cells over a long period of time than we are in macro sites, but do think macro sites will benefit from cable." ] }, { "name": "Greg Williams", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Nick Del Deo of SVB MoffettNathanson. Please go ahead." ] }, { "name": "Nick Del Deo", "speech": [ "Hey, good morning, guys. You know, Jay, you noted that about half the sites on your towers have been upgraded with mid-band 5G spectrum. You know, very interesting statistics. So, thanks for sharing that.", "I guess, do you see any meaningful differences in that percentage between, you know, more urban towers versus suburban towers versus more rural towers? Or is it reasonably consistent across the board? And I guess maybe to build on some of the previous comments you've made, you know, what does your work suggest with respect to how high that number needs to get, you know, before the carriers start to pivot more noticeably toward co-locations?" ] }, { "name": "Jay Brown", "speech": [ "Sure. On the location point, I probably would not draw a lot of distinction between central business district and urban -- more suburban areas that are densely populated. The usage, as you think about it on a per subscriber basis, while there is some differences that over time there has been less of a differentiation by the consumer in terms of usage, and, therefore, the network reflects that. So, when we see the carriers deploy the first phase, there are a mix of dense suburban markets, as well as what you would think of as the most dense part of markets down in the central business district.", "We'll see leasing in both of those kind of areas initially. Less likely for us to see that leasing early -- in the early phases of deployment of a generational change. Less likely to see that in more rural applications or rural assets. So, we have not seen that as much.", "To the second part of your question, you know, how far do they need to go before they start to do infill, it's a -- some of it is a the matter of how they allocate their capital and the need to provide geographic coverage. The other part of the answer is where do they see traffic growth and where are the holes in the network that they need to do infill in order to improve the network. And there's not a big-picture answer really, frankly, to give to that question. It varies market by market.", "And so, in some markets, two or three years ago, at the very beginning of the launch of 5G, they already knew where they were going to need infill sites. We started seeing small cells and demand for small cells as they started to think about infill long before even devices were out and usage had started to increase. So, they had a view based on population usage, their customer base, etc. that there was going to be need to be an infill of sites and in certain geographies.", "And so, in other geographies, we haven't seen that yet. So, it really is a -- it's not a big-picture question. I could give you an answer that would be helpful, but it's driven by underlying data usage. And that is why, so often in my prepared remarks, I talk about what we're seeing in terms of data usage, what the carriers are seeing in terms of data usage, because that, long term, is the driver of the need of our infrastructure.", "And we believe that macro trend is very healthy and will continue. And we'll continue to see the need for both macro sites and small cells from an infill standpoint." ] }, { "name": "Nick Del Deo", "speech": [ "OK. OK. That's helpful. And then, you know, maybe one more if I can.", "You know, just thinking back, it's been a little over two years since you struck your deal with DISH. You know, it was a new and unique structure on the tower side. It had a fiber component to it. Now that it's been enforced for some time, I just wonder if you could comment on, you know, your satisfaction with that novel structure you chose and the degree to which it's accomplishing what you hope to accomplish." ] }, { "name": "Jay Brown", "speech": [ "Well, first, we're doing everything we can to help DISH get launched, and we've got teams of people that are very focused on that. DISH has been working hard to get their nationwide network deployed. And I hope that they would say about us we've been a good partner to help them, get there. I know our teams are focused on it 24/7/365.", "So, it's been a good partnership with them, and we're happy to have them as a customer. It has accomplished what we expected. We expected that -- the fact that we got them locked up first would mean that our network would benefit from them designing their network around our existing assets. We've seen that play out.", "We believe we've gotten an outsized share of the overall opportunity as they deploy the network. And I think the nature of our agreement with them, we have the opportunity to continue to get an outsized share of their network deployment. So, I think, in that respect, it has accomplished exactly what we had hoped. And as we said at the time, and I think this has played out, our visibility to that network with the combination of providing fiber as a part of their backbone, as well as providing tower sites, has deepened that relationship and deepened our understanding of how they're thinking about the deployment of the network and probably led to us being able to capture more opportunities than we would have had if we were towers only." ] }, { "name": "Nick Del Deo", "speech": [ "OK. That's great. Thank you, Jay." ] }, { "name": "Operator", "speech": [ "The next question is from Jonathan Atkin of RBC Capital Markets. Please go ahead." ] }, { "name": "Jon Atkin", "speech": [ "So, you mentioned half of your tower sites have been upgraded with mid-band. And I think it's implicit in the answer to one of the earlier questions, but you expect that to get to 100%? Or is there an end state that's maybe a little less than 100% in terms of portion of sites that have 5G mid-band?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, good morning, Jon. I don't know that we'll get all the way to exactly 100%, but we would expect, over time, it will get pretty close to about 100% of the network will be upgraded yet." ] }, { "name": "Jon Atkin", "speech": [ "And then, did you see -- on just the towers, did you give a split between colos versus amendments? And if not, can you tell us what that number was, and then, maybe what you anticipate that mix to be, again, just in your tower portfolio toward end of this year?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. Consistent with my comments around the vast majority of the activity is on sites that they're already on, the vast majority of the total activity that we're seeing from the carriers is amendments to existing sites where they're adding additional equipment and, therefore, we're getting rent added to the leases that we already had. We are seeing some first-time installations on sites as a part of their desire to infill. But the vast majority of the activity that we're seeing would be from amendments." ] }, { "name": "Jon Atkin", "speech": [ "So, no pivot from 3Q into 4Q in terms of that mix shift? I know it's majority amendments. But no noticeable change?" ] }, { "name": "Jay Brown", "speech": [ "No, we didn't -- we haven't seen any change from kind of middle of last year. And certainly, as we're sitting here today in early 2023, I haven't seen any change from our expectations when we laid them out in October of last year." ] }, { "name": "Jon Atkin", "speech": [ "And then, lastly, in the fiber business, a lot of -- so, nonmobile tenants, a lot of products that you list around wavelengths, ethernet, dark fiber managed services, and just given the growth that you're seeing there and the mix of revenues that it represents, any way to give us a little bit of color as to what the different demand drivers that you're seeing, which products are maybe getting more traction on, say, your list of services versus others?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, the biggest driver there is the increased traffic -- overall data traffic that's happening in the market. I mean, our business and our focus for customers is mostly large enterprise, universities, hospitals. And in those markets, the primary driver of what drives our revenue growth is data traffic and the movement -- the movement of data among their facilities, locations, offices, etc. And that's the biggest corollary." ] }, { "name": "Jon Atkin", "speech": [ "Lastly, just any update on edge? And it's been a number of years since you announced the Vapor IO investments, and any updates on your thoughts as it pertains to the sorts of opportunities and traction gains, thus far?" ] }, { "name": "Jay Brown", "speech": [ "Sure. We continue to be optimistic about the long-term opportunities around edge. I feel like our assets are really well positioned to capture that opportunity. In order for edge to work, you've got to have connectivity and you've got to have power.", "And our hub sites for small cells and our towers are both ideal locations for aggregating the traffic out of mobile networks at the edge, and think that opportunity will develop as 5G ultimately develops. I think you've probably heard us say a number of times that the first benefit from the activities that will ultimately lead to the benefit around the edge, we think we'll see in spades in the deployment of small cells and a lot of activity related to it with small cells. And then, the follow-on will be the opportunity around the edge. So, we certainly believe it's there, and think we're really well positioned to capture that opportunity when it does materialize as the applications that need increased data and compute power move to the very edge of multiple -- mobile networks when that -- when those applications are starting to be used both on an industrial level as well as a consumer level.", "Feel like our assets are really well positioned to capture that opportunity." ] }, { "name": "Jon Atkin", "speech": [ "Thank you." ] }, { "name": "Jay Brown", "speech": [ "Operator [Inaudible]" ] }, { "name": "Operator", "speech": [ "And our next question is from Jonathan Chaplin of New Street Research." ] }, { "name": "Jon Chaplin", "speech": [ "Thanks for taking the question, guys. Just a quick housekeeping question first on small cells. So, a backlog of 60,000, and it takes 24 to 36 months to go through the construction process. Does that suggest like a very material acceleration from the 10,000 that you're going to do this year in '24 and '25, like, you're going to get through 60,000 over the course of the next three years?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, we didn't provide specific guidance on when we'll get that done. But as I mentioned in my comments, we do -- we think that '23 is the start of an acceleration of growth in small cells. So, it does imply that there will be an acceleration beyond the 10,000 nodes per year that we expect to do in calendar year '23." ] }, { "name": "Dan Schlanger", "speech": [ "But I wouldn't -- I would caution not to expect that because we have those in our backlog right now, that 24 months from now or 36 months from now, all of them will be built. It is an average. And so, I would not just make the leap that after 2023, there's 50,000 left, which means that we have to do 25,000 in each of '24 and '25. That's not the way the business rolls out.", "It's an average, and it takes some time in order even to get into that average, as we go back and forth with our customers to site the actual small cell nodes where they need to be built. So, as Jay said, we believe there can be an acceleration. But I would caution you against expecting it's going to jump to 25,000 nodes each year of '24 and '25." ] }, { "name": "Jon Chaplin", "speech": [ "And can you give me just a little bit more color on why it isn't sort of complete within three years? Is it, you know, the carriers are really looking sort of four or five years out in terms of what they're contracting for small cells today?" ] }, { "name": "Jay Brown", "speech": [ "Sure. When we did the two agreements with Verizon and T-Mobile, where they made large commitments, those were multiyear commitments. So, the expectation was that they would identify the nodes while we had ideas on what markets they were going to use. The actual location of the nodes goes through an identification process over time.", "And so, we did not expect in that backlog -- while it's committed -- contractually committed -- and the rent will be there, it doesn't speak to -- as Dan was saying, that's why you can't take the backlog and say, OK, all of that backlog will be completed in 24, 36 months." ] }, { "name": "Jon Chaplin", "speech": [ "Got it. OK. Got it. And then, is there a way to contextualize what DISH is contributing to growth at the moment? Have they reached a steady state with you at this point, or do you think that their contribution could still accelerate for you?" ] }, { "name": "Jay Brown", "speech": [ "Well, I think we'll continue to see the benefit of DISH deploying their network but being really specific with the number of sites and their percentage contribution. We do our very best to stay away from giving that level of specificity among any of our customers and their network and just let them speak to the number of sites and where they are in their deployment cycle." ] }, { "name": "Jon Chaplin", "speech": [ "OK. And then, last one for me. You spoke about this sort of the three phases of network deployment. And, you know, the first phase is lots of sites of amendments, and then just sort of the next big phase is moving to, I would assume, fewer sites bit with four or five times the revenue per site.", "As you look through the sort of the multiyear period that -- as you work through these phases, is the revenue growth you get similar in the first phase and the second phase and the third phase? Or is it heavily weighted toward the first phase just because of the number of sites that they're touching?" ] }, { "name": "Jay Brown", "speech": [ "You know, our experience has been that revenue growth, over those various phases, stays relatively stable and similar. As we talk about our long-term expectation of around growth in -- organic growth in towers, we've said that we think that that stays maybe a little bit above the 5% level. We think we can sustain that for a period of time. It also ties into our long-term target of being able to grow the dividend 7% to 8%.", "So, we think there's an elongated runway of growth that's driven by that top-line opportunity. As the carriers go through the various phases of deployments, we see good opportunity to lease both towers and small cells, and we think that extends the runway of growth. And as we look at kind of the current environment that we're in, really excited about where we are and excited about the top-line growth that we're seeing and the consistency of the demand from our customers, the need to improve their networks, and that's for additional leases on our assets across all three of our businesses." ] }, { "name": "Jon Chaplin", "speech": [ "Great. Thanks very much, guys." ] }, { "name": "Jay Brown", "speech": [ "You bet. Well, thanks, everybody, for joining. Kate, thanks for your help on the call this morning. I do want to thank our team.", "As we wrap up 2022, I realize everyone is already really focused on what we'll be able to deliver in 2023. But I did want to take the opportunity to congratulate our team for a job well done in 2022, navigating to a great outcome through some pretty difficult challenges over the course of the year. You all did a great job for our customers, and I know they appreciate it. So, thank you to the team.", "Excited about what we'll do in '23 and look forward to talking to everyone next quarter." ] }, { "name": "Operator", "speech": [ "The conference has now concluded. Thank you for attending today's presentation. You may now disconnect." ] } ]
CCI	2023-07-20	[ { "description": "Vice President, Corporate Finance and Treasurer", "name": "Kris Hinson", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Alex Waters", "position": "Analyst" }, { "description": "TD Cowen -- Analyst", "name": "Greg Williams", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "UBS -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Mike Rollins", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Phil Cusick", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt Niknam", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Brendan Lynch", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" }, { "description": "Green Street Advisors -- Analyst", "name": "David Guarino", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning and welcome to the Crown Castle second-quarter 2023 earnings conference call. All participants will be in listen-only mode. [Operator instructions] Please note, this event is being recorded. I would now like to turn the conference over to Kris Hinson, vice president of corporate finance and treasurer.", "Please go ahead." ] }, { "name": "Kris Hinson", "speech": [ "Thank you, Kate, and good morning, everyone. Thank you for joining us today as we discuss our second-quarter 2023 results. I'm Kris Hinson, and I recently joined Crown Castle as the vice president of corporate finance and treasurer. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer; and Dan Schlanger, Crown Castle's chief financial officer.", "To aid the discussion, we have posted supplemental materials in the Investors section of our website, at crowncastle.com, that will be referenced throughout the call this morning. This conference call will contain forward-looking statements which are subject to certain risks, uncertainties, and assumptions, and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today, July 20th, 2023, and we assume no obligation to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the Supplemental Information package and the Investors section of the company's website at crowncastle.com. With that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Kris, and good morning, everyone. Thanks for joining us. Before I begin, I'd like to welcome Kris. We're very excited to have him here on the Crown Castle team.", "Turning to our earnings release. I wanted to provide some context for the wireless industry environment that led us to reduce our outlook for 2023, and Dan is going to speak to the specifics of the changes. Across each U.S. wireless generation, the deployment of new spectrum followed by cell site densification has increased network capacity and enabled exponential mobile data demand growth.", "For us, this has played out with an initial surge in tower activity to build out the latest-generation network followed by a consistent level of activity over a long period of time to support our customers. As a part of the most recent upgrade to 5G, the U.S. wireless carriers spent more than $100 billion to acquire spectrum from 2020 to 2022. Our customers move quickly to deploy their newly acquired spectrum, driving record tower level activity and dividend per share growth of almost 11% per year over that same period.", "I believe this initial surge in tower activity has ended. In the second quarter, we saw tower activity levels slow significantly. As a result, we are decreasing our 2023 outlook primarily as a result of lower tower services margins. Importantly, our tower organic revenue growth outlook remains at 5% despite this lower level of activity.", "The resilience of our tower revenues is the result of our decision to pursue holistic, long-term agreements with each of our major customers. In each of these agreements, our strategy has been to maximize the economic value while simultaneously providing visibility and stability and our long-term cash flows. To illustrate this point, Slide 4 shows our organic tower revenue growth since 2013. Over this period, we've consistently worked with our customers to provide them with enhanced flexibility to move quickly in deploying their networks while increasing our level of contracted activity.", "Due to our focus on reducing risk and generating resilient organic growth, we have contracted 75% of our expected annual tower organic growth of 5% through 2027, while also delivering record tower growth in 2021 and '22 during the initial phases of 5G rollout. In addition to the benefits we've captured from our long-term customer agreements, we've complemented our portfolio of towers with fiber and small cells, making us uniquely positioned to capitalize on the long-term growth in data demand regardless of how carriers deploy spectrum and densify their networks. Our current backlog of 60,000 small cells provides a line of sight to doubling our on-air nodes over the next several years, which we expect will drive double-digit small cell revenue growth beginning in 2024. To provide additional visibility on how our fiber solutions and small cell businesses are progressing, we have updated our analysis across the five markets we have previously highlighted since 2021, as highlighted on Slide 10.", "We continue to generate solid returns from the benefits of co-locating additional customers on our existing fiber assets, offsetting the churn related to the legacy Sprint rationalization. Phoenix, which was not impacted by Sprint churn, is a good illustration of what we can achieve with our fiber strategy as we add nodes to existing fiber. There, we have seen our yield expand from 9% a year ago to over 11% today as we roughly doubled our nodes on air from 1,400 to 2,800 nodes. Los Angeles and Philadelphia also illustrate the benefit of our shared infrastructure model.", "Here, with a combination of small cells and enterprise fiber, we see yields of 8% to 9% with the potential to grow yields as we have done in Phoenix and Orlando as we add small cells. Overall, I'm encouraged by these results, particularly as we accelerate small cell deployment. With 60,000 nodes in our backlog, the majority of which are co-location nodes, we have a line of sight to attractive incremental returns and double-digit small cell revenue growth. Zooming back out to the consolidated level, we're consistently looking to deliver the highest risk-adjusted returns for our shareholders.", "Our strategy has delivered growth and driven improvements on both the risk and the return side of the equation. Several years ago, it became clear to us that small cells would become an important component of the wireless carrier network densification required to support data growth. We saw an acceleration in small cells toward the back half of the 4G era as the vast majority of the 60,000 nodes we have on air today are 4G nodes that were deployed because towers alone could not support the continued rise in mobile traffic. Now, as we've passed the initial 5G surge in tower activity, we are seeing our customers accelerate the selection and identification of new small cell locations to densify portions of their networks that have experienced the most traffic.", "The result of our early move into establishing a leading portfolio is reflected in our double-digit small cell organic revenue growth in 2024 and provides a platform for continued growth throughout the 5G era. With our diversified asset base, we have positioned ourselves to benefit from carrier activity on towers and small cells. Additionally, we have reduced our risk by increasing the resiliency of our business through our long-term customer agreements and improving the strength of our balance sheet. As a result of these actions, despite a significant reduction in tower activity in the back half of 2023, we continue to expect 5% organic tower revenue growth, 10,000 small cell node deployments, and 3% fiber solutions' growth by the end of this year.", "This resilient underlying growth across our business underpins our expectation of returning to our long-term annual dividend per share growth target of 7% to 8% beyond 2025. With that, I'll turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. I wanted to take a moment to frame the changes to our 2023 outlook before getting into the specifics of our results. Over the last quarter, both tower industry-specific and macroeconomic factors have negatively impacted our business. On the industry-specific side, the end of the initial surge in activity related to the early stage of the 5G investment cycle has resulted in a decline in tower activity of more than 50%, causing us to reduce our outlook for services gross margin by $90 million.", "At the same time, interest rates continued to rise as a result of the macroeconomic conditions in the U.S., resulting in $15 million of additional interest expense. Combined, these headwinds have reduced our outlook by $105 million. While this is a sizable change, our strategy to pursue the highest risk-adjusted return that Jay has discussed has limited the impact. Of course, we're not standing still in the face of these forces.", "We are focusing on managing our business and cost structure to match the lower activity levels, removing significant cash costs. So, the net impact to our AFFO is only $40 million. We are encouraged that our focused on the resiliency of our cash flows and managing costs allows us to withstand this reduction in tower activity with minimal impact to our bottom line. Turning to second-quarter results on Page 5 of the earnings materials.", "Growth in site rental revenue is highlighted by nearly 6% tower organic growth. On a consolidated basis, we generated 12% organic growth, or 4% when adjusted for the impact of the Sprint cancellations. We also had outside -- outsized growth of 14% in AFFO and 10% in adjusted EBITDA, in part due to the Sprint cancellation. As expected, most of the impact of the Sprint cancellations occurred in the second quarter, including a net contribution to site rental billings of $100 million.", "Because of Sprint cancellations and a number of moving parts in our second quarter and full-year results, we've inserted a slide into the appendix of our earnings materials detailing their impact in 2023 and our expectations for those cancellations through 2025. Turning to our full-year outlook on Page 6. Our outlook for site rental revenues remains unchanged. The decrease to adjusted EBITDA and AFFO is primarily driven by a lower contribution from services, partially offset by lower expenses, leading to a $50 million decrease to adjusted EBITDA and a $40 million decrease in AFFO.", "On Page 7, tower organic growth remains at 5% for the year despite a slight reduction in tower core leasing, which is partially offset by a slight reduction in tower churn. Additionally, we lowered our Sprint cancellation-related small cell non-renewals by $5 million due to timing, leaving our consolidated organic growth unchanged at approximately 7%. Turning to Page 8. As I previously mentioned, the lower contribution from services totals $90 million, and our outlook for interest expenses increased $15 million.", "More than offsetting the increased interest expense is $10 million of higher expected interest income and $15 million of lower sustaining capital expenditures. Our discretionary capex outlook remained unchanged with gross capex of $1.4 billion to $1.5 billion, or approximately $1 billion net of expected prepaid rent. Our balance sheet is well positioned to continue to support investments that we believe will contribute to long-term growth. Consistent with our strategy to limit risk in our business, we've taken steps to minimize our exposure to floating rate debt, including twice issuing fixed rate bonds this year totaling $2.4 billion at a weighted average rate of 5%.", "We exited the second quarter with 4.6 times net debt to adjusted EBITDA, more than $6 billion of available liquidity, and only 7% of our total debt maturing through 2024. To achieve an investment grade rating in 2025, we have taken various steps to de-risk our balance sheet, including increasing our weighted average maturity from five years to eight years, decreasing our floating debt exposure from 32% to 9%, and reducing the amount of our secured debt which provides access to that market in the future if it is attractive. To wrap up, we believe we are very well positioned to generate attractive risk-adjusted returns going forward. The strategy we have pursued over the last decade has positioned us to benefit from the carrier's network augmentation and densification, regardless of whether that activity is focused on towers or small cells.", "Additionally, we have structured our customer agreements to generate organic growth that is resilient through deployment cycles. At the same time, we have limited the risk in our business by focusing on the U.S. and maintaining a solid balance sheet that allows for continued investment in future growth. As a result, we believe we are positioned to return to our long-term annual dividend per share growth target of 7% to 8% beyond 2025 as we get past the remaining large Sprint cancellations.", "And with that, Kate, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "We will now begin the question-and-answer session. [Operator instructions] The first question is from David Barden of Bank of America." ] }, { "name": "Alex Waters", "speech": [ "Hey, good morning, everyone. Thanks for taking my question. It's Alex Waters on for Dave. Maybe just first off here, just hoping we could get a little bit more clarity on the structure of the MLAs and the line of sight you have within a year.", "Just curious on, like, the certain characteristics that are in the agreements that would allow the shift in 2023. And then, secondly, just on the new leasing guy for the fiber segment, just wanted to walk through kind of the line of sight you have there for the remainder of the year, just given that there's a pretty good ramp here in the second half. Thanks." ] }, { "name": "Jay Brown", "speech": [ "You bet. Good morning, Alex. Thanks for the question. On your first question around the MLAs, this has been something that we've done over a long period of time.", "We did it during the 4G cycle and have continued to do it as we've entered into the 5G cycle. There's benefits to us because it gives us line of sight and visibility into the cash flows and the contracted growth that Dan and I both -- both spoke about. There's also a benefit to our customers of those MLAs. They -- they are better able to predict the cost of network deployment, and it eases the amount of interaction on a site-by-site basis between -- between our -- between our companies.", "So, there's -- there's value there. I think the economic value is clear from the comments that we laid out this morning. And then, there's also the operating benefits of those -- of those MLAs. And I think they benefit -- I think they -- they benefit both -- both parties.", "As to the specifics of those contracts, we don't disclose customer-by-customer agreements or the specifics. So, I'll stop with just sort of a high-level view of why we do it and the benefits to both of us. On your second question around new leasing in the fiber business, this is the way we expected the year to play out. Obviously, we had a difficult year-over-year comp in the first quarter, and then we expected a rebound in the second quarter, which we saw, and we expect the second half of the year to be better than the first half of the year.", "And by the time we exit 2023, we think we'll be back at that 3% growth on a year-over-year basis as we go into 2024. And what we're seeing in the market in terms of activity backlog, the conversations we're having with customers, etc. would suggest that's the pace that we're on." ] }, { "name": "Alex Waters", "speech": [ "Thanks, Jay." ] }, { "name": "Operator", "speech": [ "The next question is from Greg Williams of TD Cowen. Please go ahead." ] }, { "name": "Greg Williams", "speech": [ "Great. Thanks for taking my questions. You know, you're clearly noting a slowdown in second-quarter tower activity. Just curious, in your conversations with carriers, when do you anticipate that activity to maybe inflect up again? You know, how prolonged do you think this slowdown is, you know, given there's a lot of spectrum still on the sidelines? Second question is just on your network services, which -- which also came in, like, naturally.", "Is the 124 million that you posted in the second quarter sort of a good cadence, or is there further declines from here? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Sure. On your first question around the slowdown in activity, you know, I think -- I think history serves really helpful lesson, both in terms of what we've seen in 4G as well as what we saw in -- in 2G and 3G. On Page 4 of the presentation, you can see historically, basically, through the period of time with -- with 4G, we had that initial surge of activity where our leasing results were kind of around 4 -- 5%, and then it did drop off a bit. But that initial surge didn't mean the end of activity or the end of growth.", "We saw really good, consistent growth throughout that entire 4G cycle of deploying the network. So, I don't know if -- when we'll see a pickup in activity, but our view of the business is that we will see consistent growth over a long period of time. And obviously, we have the contracted benefit of that. But I believe those contracts, as much as they represent stability and resilience in our cash flow stream, what they also represent is a view by our customers of needed continued investment that they will do around the -- around towers and, particularly, our towers over a long period of time.", "So, as I look out, I think we're through the initial surge of 5G, and we've benefited -- we've benefited well from that. And then, as we get into the -- as we get past this initial surge and into -- into activity beyond this, I think we're going to continue to see good, consistent growth as the demand for towers continues to drive over a long -- over a long period of time. On the -- on the services -- on the services business, that business is -- as you can go back and look at our results over a long period of time, that's just going to track with whatever the activity is on tower sites. So, as we see a move downward in terms of activity, and you'll see that reflected in the outlook that we gave for the second half of the year for services, the future periods of time and -- and the activity that we see around towers will drive what that services outcome is.", "So, over a long period of time, I'm not -- I can't really give you guidance as to how to think about your model, but it's going to track, we would -- we would expect, largely in line with the -- with the activity -- tower leasing activity that we see -- that we see in the business." ] }, { "name": "Dan Schlanger", "speech": [ "And just to put that into 2023 context, Greg, because we saw the slowdown in activity happen in the second quarter, we would expect the second half of the year to be less on the services side than the first half of the year because of the activity levels and what Jay was saying. So, the 124 that you're talking about of services revenue in Q2 will likely come down over the course of the year. But that's what's reflected in our outlook and why we brought down our service gross margin outlook by $90 million. So, that's all -- that's all baked into that outlook." ] }, { "name": "Greg Williams", "speech": [ "Got it. That's helpful. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Ric Prentiss of Raymond James. Please go ahead. Hello, Ric, is your line muted?" ] }, { "name": "Ric Prentiss", "speech": [ "Yep, sorry about that. Can you hear me?" ] }, { "name": "Jay Brown", "speech": [ "We can. Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "Good morning, guys. Yeah, hey, I want to follow along the lines on the services business first. Obviously, a big change from the prior guidance, a 90 million change on services business. Was it really related to -- to one carrier more so than the whole group? Just trying to gauge what really caused a pretty big change on the services business, although it's a low multiple business, in our opinion." ] }, { "name": "Jay Brown", "speech": [ "We saw the activity change across multiple carriers during the quarter." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And the margins, I assume, it's -- you're moving from kind of planning to deployments of the cost side, probably reflects some further pressure maybe on the services business as well?" ] }, { "name": "Jay Brown", "speech": [ "I think if you go back and look at our historical results, there's obviously a portion of costs that are -- that are fixed in that -- in that business. But there's also a lot of marginal costs in that business that we have been able to move up and down commensurate with that activity. Dan spoke to that briefly in his comments. And we expect to be able to do the same here, where we'll -- we'll adjust the cost structure and manage the cost structure appropriately for the level of activity and some movements in the -- in the margin as the types of services that we perform change from, you know, whether it's pre-construction or construction work that we're doing for customers.", "So, there's some movement in those -- in those margins, but we would expect most of the costs associated to come back down and margins to stay in and around what you've seen historically. But I would not try to put a point in time on a particular quarter. I would look at it more broadly over kind of what you've seen us do over -- over multiyears, and it's likely to look like that in the future." ] }, { "name": "Ric Prentiss", "speech": [ "Yeah, OK. Last one for me, might be a bit wonky on the -- on the supplement. There's a chart in there that talks about consolidated annualized rental cash payments at time of renewal, and it shows a big chunk for T-Mobile coming up in 2025. It shows a very large chunk for AT&T here in 2023.", "Is that suggesting that there's an AT&T renewal coming up this year? And then, also on the all other line, just want to make sure I'm understanding how that plays out over time because that remains to be a pretty high number every year out there. Just trying to think of how I should be thinking about that." ] }, { "name": "Jay Brown", "speech": [ "So, these contracts have -- depending on which carrier we're looking at, will have various, in that sense, expiry dates before they enter into their already contracted option dates. Typically, our MLA agreements will have multiyear, multiterm option periods, and those options are usually for five to 10 years beyond the term that they're in currently. And we've already contracted what the percentage growth in those future periods is as well. And so, as they come up for their natural renewal, those leases are generally extended onto their -- their next term.", "So, we would expect that portion of the supplement to constantly be changing as leases come up for renewal, roll into their next period, and then we're into that -- that -- that next term. That's the normal way that the business -- that the business operates, and we're not seeing anything that would suggest that would change. So, from a modeling standpoint, as you think about our business, you know, we've talked about churn rates on the tower side outside of the Sprint rationalization in kind of that 1% to 2% range. We would expect that to -- we would expect that to continue.", "As for the all other, that relates to customers other than the specifically named customers. And we haven't seen any change in that -- change in that business and would expect we'll continue to see normalized renewals. And -- and those time periods of remaining term will -- will just move around as -- as we are in various stages of the -- of the terms." ] }, { "name": "Dan Schlanger", "speech": [ "I'll say a couple of things there, Ric. One, you pointed out the one on T-Mobile being a big number in 2025. That is already pre-disclosed Sprint cancellation that's going to happen on the tower side. But that chart is for all of our businesses together.", "So, a lot of the all other is outside of the wireless as well." ] }, { "name": "Ric Prentiss", "speech": [ "Outside of wireless, can you give us some examples of who the bigger -- so would include the fiber-type stuff, I guess." ] }, { "name": "Dan Schlanger", "speech": [ "Right. So, we have fiber -- obviously, we have fiber contracts that roll off over time. That's part of what we already disclosed. As Jay pointed out, there's no difference in the -- in the fiber churn overall.", "We still think that's in the high single-digits range, which has been our experience for a long time. But there always going to be contracts that roll off. It doesn't mean that the revenue goes away. We -- we contract a lot of those businesses too.", "Generally speaking, the average term of our fiber business is in the neighborhood of five years. And you would always see -- you would always see a pretty consistent level of nonrenewal in any given year." ] }, { "name": "Ric Prentiss", "speech": [ "Right, right. And the big number for AT&T in '23 is just when its expiry date for the normal course and that moves into option period, would be the way to interpret that." ] }, { "name": "Jay Brown", "speech": [ "Yes, and that's a very normal thing to happen for the customers over time. So, we've seen that over a lot of years. And what you're seeing in the disclosure, whether it's their initial period -- and some of those leases, frankly, are not even their initial period. They're already into their option terms and then they're renewing.", "We would expect those options will renew into a new term, a new option period, and then the term of that will then be reflected in that supplement." ] }, { "name": "Ric Prentiss", "speech": [ "All right, all right. Thanks so much. Stay well." ] }, { "name": "Operator", "speech": [ "The next question is from Batya Levi of UBS. Please go ahead." ] }, { "name": "Batya Levi", "speech": [ "Thanks a lot. Just to follow up on that payment schedule, that renewal, is the decline that we're seeing in the second half related to a payment that's pushed out to '26? Or can you generally talk about what drove the increase in '26 this time around versus the last schedule? And also, just again to follow up on the macro lease guidance, taken down by slightly 10 million in the second half? Again, if you could -- if you don't mind, can we go over that? What drove that, and maybe what gives you the confidence that it would stay around the 5% level going into next year? Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, Batya, had a little bit of a hard time following your first question. I'm really sorry, but could you restate that so I can try to answer the question you're getting at?" ] }, { "name": "Batya Levi", "speech": [ "Sure. So, the schedule that you provide in terms of payments at renewal, it looks like the second half -- the remainder for '23 has come down versus the prior schedule. And when you look at the renewal -- at time of renewal for '26, there's an add-back. So, there is -- is that related to potentially one payment that was expected to be received this year that's pushed out three years out, or -- or what would drive that increase in '26?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, I think what I would point you to is there was nothing specific that moved from '23 to '26. This is just the normal course of our business where we have lots of contracts that have lots of provisions in them and they move around. And when we're talking about numbers of this size on the business, it's just -- this is the normal course of how our contracts flow through that schedule. I think the important parts that I would point to are -- obviously I pointed to them earlier, the T-Mobile in 2025, but also just as Rick had just pointed out, the all others is in line with what our fiber business typically does.", "What -- what we would say, from a non-renewal perspective, is that what we see our customer activity being, supports our view that in the tower business, we generally see 1% to 2% churn; in the small cell business, generally 1% to 2% churn; and in the fiber business, in the high single digits. And nothing has changed from that perspective. So, as we think about the long-term health of the business, this -- this cash payment at time of renewal chart can move around just based on what the underlying contracts say. But for a long period of time, I would just continue to bake in that 1% to 2% for towers and small cells and the 9% to 10% for fiber." ] }, { "name": "Batya Levi", "speech": [ "OK. Maybe if I could just ask it more directly, was there any change in the MLA that you have with Dish?" ] }, { "name": "Jay Brown", "speech": [ "We're not going to speak to specific customers or specific contracts that we would do with customers. The -- the question, broadly, around MLAs, though, we've not changed terms of -- of our MLAs. So, what you're seeing in that schedule is just -- as Dan said, it's just the normal activity of leases coming up to their natural end. And that could be in -- that could be a small cell lease, it could be a tower lease, it could be a fiber lease, and then pushing that out to its now new term.", "And so, the numbers in those schedules are moving. The passage of time, obviously, to your question about '23, is -- is also impactful because we're just a quarter further into the year. So, some leases came up for their renewal during the second quarter and would have adjusted out of the '23 column and into some future column. So, it's going to constantly move." ] }, { "name": "Batya Levi", "speech": [ "Got it. OK. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Simon Flannery of Morgan Stanley. Please go ahead." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you very much. Good morning. If I could just come back to the guidance change and the 50% reduction in activity, Verizon and T-Mobile had laid out, you know, early in the year and even before that -- that they were going to be kind of winding down their 5G build with a front-end loaded capex and activity in 2023.", "Is this over and above that? Because presumably, you are well aware of their plans from that. So, is there something else that is going on that's causing this pullback? And perhaps you could just revisit what percent of your -- your sites have been upgraded to 5G at this point. Thank you." ] }, { "name": "Jay Brown", "speech": [ "Sure, Simon. It's difficult to reconcile because we don't speak to individual customers, which we're going to continue to not do. It's difficult to reconcile to the public comments of individual carriers what we're seeing. What I would tell you is the -- we expected there to be an initial surge in 5G, which at some point, would -- would come back down and we would get to the point, as we have in the past and past cycles, where we see good growth over a long -- over a long period of time.", "And I think what our results reflect is that we're at that point where we've -- we've moved from that -- beyond that initial surge of activity and into a period of time which we think will continue for a long period of time of good -- of good growth that we can count on. And our customer agreements, I think, reflect that as well. So, the customers are going to continue to spend inside of a -- specifically inside of the year. Obviously, we lowered our expectation for services.", "So, the back half of 2023, we did see a change relative to what we previously expected. The first half of 2023 came in exactly where we thought it was going to, and we saw the change in activity during the quarter. And that's what affected our -- our -- our second half of the year, the activity that we'll see in the -- we believe we'll see in the third and the fourth quarter." ] }, { "name": "Simon Flannery", "speech": [ "Right. And the tower count, 5G?" ] }, { "name": "Dan Schlanger", "speech": [ "It hasn't moved much, Simon. It's not going to move in the course of a quarter. And I don't think we're going to update that quarter to quarter. That was to try to give people a sense for where we were overall in terms of the 5G deployment.", "And -- but it really hasn't moved that much from last quarter." ] }, { "name": "Simon Flannery", "speech": [ "Great. And just one quick follow-up on the dividend. I think, in the past, you've said that there'd be minimal dividend growth in the next two years. And is there any change to that with -- with this new guidance?" ] }, { "name": "Jay Brown", "speech": [ "We're going to be on our normal course of giving guidance for -- for the next year in October. And when we give that guidance for next year, we'll also update where we are with the -- with the dividend as we have done in past years. So, I think you'll see us continue to -- to follow that same historical pattern." ] }, { "name": "Simon Flannery", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Brett Feldman of Goldman Sachs. Please go ahead." ] }, { "name": "Brett Feldman", "speech": [ "Thanks. I was hoping we could gain a little more insight into how you're thinking about building the funnel of small cell nodes going forward. So, we've moved through this surge period with the carriers, which was very focused on getting mid-band to a decent chunk of their existing sites. I think one of the questions we get is until we've reached a point where carriers have deployed mid-band across all their sites and maybe even expanded the densification of that on macros a bit more, what would be the basis for going in and starting to do more on the small cell side? So, maybe if you could give us some insights into what those conversations are like, what's driving it, how you think about what could create more of an uplift around 5G small cell leasing, that would be great.", "Thank you." ] }, { "name": "Jay Brown", "speech": [ "Sure. Good morning, Brett. The driver for small cells is the constraint on the network that happens from a -- from a capacity standpoint. And as we see activity from consumers increase and where those concentrations of that increase occur, there's a need to increase network capacity.", "Initially, whenever there's a new generation of network deployed, they touch the macro sites as they've done -- they've done over multiple cycles in the history of the company, and they have done that with 5G. So, they've gone out and covered a significant portion of the country, provided capacity and coverage through that initial overbuild. And that's a very efficient and effective way to deploy spectrum. The places where they supplement with small cells are places where that capacity that's been created by overlaying 5G on towers has been consumed quickly.", "So, underlying all of the conversations that we're having around network capacity and densification is the consumer demand and data growth from that consumer demand. And that traffic increase at the consumer level has continued to grow exponentially during this period of time. And so, the pain points of that significant growth by the consumer and consumption of data usage is the places that drive the need for small cells. And as I think about what we've seen at kind of the market level, you can see that reflected in those -- in our results as we've co-located nodes across fiber that we built for other carriers at previous periods of time.", "And then, over time, as data growth increases, carriers come back to those same locations. Because of the density of the population, they need to densify the network in those same areas. And so, they come back and lay additional small cells across that fiber asset that we own. And I think you'll continue to see that -- that play out.", "So, if we're in a period of time -- specifically to your question about spectrum bands, if we're in a period of time where the carriers have new spectrum or they haven't deployed spectrum in a particular market, our expectation would be that the first place that they'll go and deploy that spectrum would be across the macro sites that they're already on. And then, as that spectrum band starts to begin to be used, then the pain points will be created around network capacity. And they'll -- they'll solve that problem by -- by using small cells in those -- in those areas of densification where the growth in data traffic drives the need for additional capacity. And I think that's what we're seeing that's consistent with our conversations, the contractual arrangements that we have with the customers, and the activity that we expect, both in terms of the growth we're talking about for 2023 and then moving to double-digit revenue growth in 2024 for small cells." ] }, { "name": "Brett Feldman", "speech": [ "Got it. And just a quick follow-up, it may be too soon for you to have any insight here, but are you seeing any evidence that the continued growth of fixed wireless is in any way shaping how or where carriers are deploying additional density in their networks?" ] }, { "name": "Jay Brown", "speech": [ "I think it is having some impact. And we talked about this a little bit on our last quarter call. Fixed wireless is a good example of a 5G use case. It's driven nice margins for our carrier customers.", "It is -- so it's good to see the revenue growth there and the returns associated from the adoption of that product mix. And I think -- we believe we will see other uses for 5G beyond fixed wireless, but it does illustrate the pain points and the using up of capacity. And we've certainly seen areas in the country where fixed wireless has been deployed that I don't want to say which is first between the chicken and the egg. But the point is those are places where there have been increases in activity on the 5G networks.", "And they correlate with -- with -- with locations that we've also seen increases in small cell nodes and investment along those lines." ] }, { "name": "Brett Feldman", "speech": [ "Great. Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "The next question is from Michael Rollins of Citi Investment Research. Please go ahead." ] }, { "name": "Mike Rollins", "speech": [ "Thanks and good morning. Just a few follow-ups if I could. You know, first, as you think about maybe the reasoning for the slower activity beyond just getting through the initial 5G surge, are you hearing from your customers that the mid-band spectrum they're deploying is getting better propagation so they just didn't need as much as maybe they initially thought in this first round of 5G capacity deployments? And I have a couple others that I could ask afterwards if I could, please." ] }, { "name": "Jay Brown", "speech": [ "Sure. I'll take the first one and then you can ask the other. They're not -- not always specific with us as to the reasoning, but I probably wouldn't go quite as far as you did in terms of trying to get to causation there. I think it's the natural thing that we have expected would happen.", "We saw it happen with -- with 4G. And -- and we -- we expected this day to come where they had overlaid a significant portion of their network and touch the sites and -- and then the surge would -- surge would pass. So, I think we're just at the stage where we've moved from -- from that initial surge, and now, we're at a point where we would expect to see continued growth over a -- over a very long period of time. So, it feels like we've seen this movie before, and we're just moving to the next chapter of -- of deploying a wireless network.", "And we're excited about continuing to deliver for the customers and what's going to be needed over a long period of time. And we look at the underlying driver of the need from -- for the carriers to continue to do that. The consumer demand for wireless data is healthy and growing. And so, it portends that that investment will continue to come." ] }, { "name": "Mike Rollins", "speech": [ "And then, second, you've held on to a larger services business than some of your peers. And does the recent variability of performance, or as we're getting into these next phases of the 5G cycle, does this lead you to reconsider whether the services business is, you know, strategically important to Crown, or whether, you know, there's opportunities to maximize value in someone else's hands?" ] }, { "name": "Jay Brown", "speech": [ "Mike, I think in any -- any business that we're in or any activity that we're in, that's always a question that we consider; what is the value of the business, what are the returns associated with that business, and is it -- is it going to ultimately drive shareholder returns, which, in our way of thinking, is -- is it helpful to us being able to grow the dividend over a long period of time. So, we're asking those kinds of questions across -- across the entire business. Obviously, the services business has been profitable for us and has been very profitable for us during the initial surge. We would not expect to see quite that -- that level of profitability come out of the services division at lower levels of activity.", "And so, we'll just have to evaluate, as we do with everything in our business, what do we believe the forward look is on the activity and then make a good business decision around what makes sense from the products and services that we offer." ] }, { "name": "Mike Rollins", "speech": [ "And then, just lastly -- and thanks for -- for taking all these questions -- on the cost side, so you announced cost cuts for the second half of the year. Does that provide a follow-on benefit into the first half of 2024? And can you just unpack, you know, some of the sources of cost savings that the company has been able to identify?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, we spoke to some of this earlier, Mike, on the -- on the question around services and it relates directly to that. There's a significant portion of variable costs in the services business. So, as the revenues decline associated with that, we're going to see costs come out associated with that, which has a pretty meaningful impact to -- to where we expect costs in the business to go for the -- for the balance of the year. We also made mention of -- of SG& will adjust there, as we have done in the past through periods of time when the activity rises -- rises and falls.", "And so, I don't know that there's anything in particular that I would -- I would point to but just making good business decisions as we adjust for the level of activity that we see in the business and -- and then -- and then being thoughtful about how we're -- we're able to continue to deliver for customers based on the activity that we're seeing in the business." ] }, { "name": "Mike Rollins", "speech": [ "And sorry, does this -- sorry, so this extrapolate into the first half of '24 as an expense benefit as well?" ] }, { "name": "Jay Brown", "speech": [ "The cost structure in '24 will reflect whatever activity level we expect and we'll update our guidance for '24 when we get to -- when we get to October. So, there are components, obviously, of things that we do this year that -- that roll over, but the cost structure in '24, I can't -- I can't really answer that question without answering a revenue question. And we'll take the extra three months and give you guidance in October on what we think '24 cost structure is going to look like." ] }, { "name": "Mike Rollins", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "The next question is from Phil Cusick of J.P. Morgan. Please go ahead." ] }, { "name": "Phil Cusick", "speech": [ "Hey, guys. Thanks. Just following up on a couple of things you talked about. Looking at history, carriers would move to densification after deployment, and you've talked about that in small cells.", "What do you see in towers? Is there any sign of that?" ] }, { "name": "Jay Brown", "speech": [ "Sure. They're using towers to densify, and there will continue to be lease-up associated with that. So, some portion of the contracted revenue growth that we were speaking to relates to sites that they're not on today that they'll be adding equipment to. And then, portions of it are amendments to existing sites where they'll add more equipment to sites they're already on." ] }, { "name": "Phil Cusick", "speech": [ "And are you seeing any -- any acceleration in that discussion?" ] }, { "name": "Jay Brown", "speech": [ "Well, I think, broadly, what I would say is we -- as we've mentioned, the surge of activity initially is coming off of those levels. But we're -- we're seeing good growth over a long period of time that we expect would continue from this point forward given where we are in the cycle. Certainly, there will be densification to the extent that they can solve network capacity constraints with macro sites. That's the most efficient and effective way to deploy capital to -- to create -- to create additional capacity in the network if there is a macro site that can solve the problem.", "So, some portion of the growth that we'll see will be the investment of the capital around -- around macro sites. And then, if there is not macro sites that can solve -- solve the challenge of the densification, then we would expect to see that activity come toward small cells. So, we've seen it. Conversations are consistent with that.", "Our contractual arrangements are consistent with that. And I think we'll see that play out over the next several years." ] }, { "name": "Phil Cusick", "speech": [ "OK. And then, second, without an acceleration in the business, it looks like you're '25 leverage is going to be more like mid five times than the low where we are now. How should we think about your comfort with that and agencies as we get closer to it? Thank you." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, as we've talked about, our target leverage that we think is appropriate for the business at this point is around five times. We've also said that it's going to fluctuate up and down. You saw this quarter is at four or six. A lot of that has to do with the Sprint cancellations.", "But it has been below five for the last several quarters. There will be times where we invest in front of getting revenue and cash flows where our -- our debt to EBITDA will go up because we have the capital out before we get the cash flow. But over time, we would expect that to reverse, and therefore, the organic growth in our business would result in a lower leverage ratio going forward. So, those fluctuations are natural.", "I think, you know, specifically where would we get uncomfortable and say, \"OK, that's too high,\" I'm not exactly sure what that would be, but I think it really depends a lot -- like I was talking about a second ago, it really depends on what the forward look of what that growth looks like. And if we're at 5.5 times and we see a lot of EBITDA coming in the next year and we can bring it down really quickly, I think we would be fine. I think the agencies would be fine with that. We've had that in the past.", "But if we think there's going to be continued investment and we need to -- to go fund that investment, we would even -- it's not our preference. But even if that requires equity, because the returns in the investments that we're making, we believe, exceed our cost of capital, inclusive of any equity cost of that capital. And as long as that's the case, our job is to try to -- to -- to invest in projects that generate returns over and above our cost of capital. And as long as we believe we're doing that, we would, but hard to speak to exactly what happens in 2025 without understanding what the next several years are going to look like and how quickly that leverage would move up or down from there." ] }, { "name": "Phil Cusick", "speech": [ "That helps. Thanks, Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Mm hmm." ] }, { "name": "Operator", "speech": [ "The next question is from Matt Niknam of Deutsche Bank. Please go ahead." ] }, { "name": "Matt Niknam", "speech": [ "Hey, guys. Thanks for taking the question. I'm just curious if maybe you can speak to how some of the services activity progressed over the course of the quarter, because it seems to be maybe more of a precipitous drop-off in June, but if you can comment on that. And then, as we think about the follow-on effect, I'm just wondering, I know there was a 10 mil reduction for core new leasing on the tower side this year.", "Presumably, there may be more of a spillover effect into '24. And so, I'm not necessarily asking for the guide. We'll wait three months for that. But I am just curious in the sense that are you comfortable with that 5% number each year between now and '27, ex Sprint churn? Or could that fluctuate in the 5%, is more of like a multiyear average to consider? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Yeah, good morning. Thanks for the questions. On your first question around services decline, we did see a change over the course of the -- of the quarter. I mean, probably a level of precision that may not be broadly helpful, but as we got toward the second half of the quarter, toward the end of the quarter, we did see a greater decline than the periods that the -- at the beginning of the -- of the second quarter.", "On your question around $10 billion of leasing decline, any -- any revenues that we we signed this year have rolled over into next year. In the same way, if we -- if we lower our expectation for leasing in this calendar year, then those revenues won't exist in the following year. So, certainly, there's a follow-on effect to this. It's one of the great things about the business.", "It's why it's so predictable because we know the leases that we have in the business and -- and we know what the contracted escalations are going to be. And then, as we've contracted forward the revenue growth, we can look at what those revenues are going to be and have a good sense of what they're going to be in future periods. So, are we -- are we -- by our -- our guidance of saying 5%, are we trying to put a precision on every 12-month period of time or every quarter going forward? No, that's not -- that's not our intention to do that. We're trying to take a multiyear view and then look at what do we think the growth is going to be over that multiyear period of time, more from a CAGR standpoint of 5%.", "And I think history, which is -- as we laid out on the -- on Slide 4, I think it's helpful to see, in and around a number, it moving a little up, a little down over that period of time. So, I wouldn't predict it with precision but would expect that we can -- we can deliver, over a period of time, about 5% organic tower revenue growth on an annualized basis." ] }, { "name": "Matt Niknam", "speech": [ "That's great. Thank you." ] }, { "name": "Jay Brown", "speech": [ "Yeah." ] }, { "name": "Operator", "speech": [ "The next question is from Brendan Lynch of Barclays. Please go ahead." ] }, { "name": "Brendan Lynch", "speech": [ "Good morning. Thanks for taking my question. I just wanted to dig in a little bit more on the MLAs from a high level. Can you just remind us what creates the volatility quarter to quarter in the tower core leasing activity? Is it simply timing of demand above and beyond the contracted minimum -- minimum step-up, or is it related to leasing outside the MLAs, or anything else?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Good morning, Brendan. It's those things that you mentioned. So, there is some variability in the contract of when they'll actually go on air.", "So, we have a committed amount. Sometimes, those -- those -- those commitments are done earlier than -- than the contractual amount, which will have some effect there. And then, there are portions of the business that are not contracted. If you think about our forward growth, 75% is contracted.", "There's another 25% that is -- that is uncontracted at the moment and will have variability to it. So, it's both of those factors across the entire population of our customers working themselves out in any -- in any given quarter or a year." ] }, { "name": "Brendan Lynch", "speech": [ "Great. That's helpful. And then, another one on the reduction in sustaining capex guidance by 25 million, it's going to be at the lowest level in five years. I'm wondering if that capex is just being deferred until next year or there's another reason for the change." ] }, { "name": "Jay Brown", "speech": [ "No, I don't think it's -- it's just deferred capex in the next year. As we're continuing to operate the business well, we're always looking for opportunities to run it more efficiently and effectively. And so, our operating teams have done a really nice job of -- of maintaining our assets and looking for ways to be -- to be thoughtful about sustaining capital expenditures. And so, you're -- you're highlighting something they've done a nice job at in the business." ] }, { "name": "Dan Schlanger", "speech": [ "I just wanted to clarify one thing there, Brendan. The reduction in sustaining capital is $15 million, not 25." ] }, { "name": "Brendan Lynch", "speech": [ "OK, great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Brandon Nispel of KeyBanc Capital Markets. Please go ahead." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thanks for taking the questions. I think two for Dan and sticking on the tower leasing theme. The new guide, 130 million in lease, is a 20% decline from last year.", "If we're still coming off the surge in activity, what's that core leasing number look like in a normal environment? And then, can you -- Dan, can you split between us the second half from a leasing standpoint, the 60 million guide, how we should think about that 3Q and 4Q, and whether or not the exit rate should inform how we think about 2024? Thanks." ] }, { "name": "Jay Brown", "speech": [ "I'll take the first question. Dan can take the second one. Brandon, I don't -- I don't know that we're going to give you much clarity -- much more clarity than we've already done around what we think the future leasing is going to look like. We think, in a -- in a normal go-forward period of time over a multiyear period, we're going to see about 5% tower organic revenue growth.", "And it's likely to move a little above, a little below that in certain -- certain periods. But I think, generally, that's what our expectation would be. And that's what's driving our longer term if we think about value creation. When we talk about being able to get back to a point where we're growing the dividend 7% to 8% once we're beyond the Sprint site rationalization process that we're in the middle of, once we're past that point, returning to being able to grow the dividend at 7% to 8% over a long period of time, underlying that is our assumption around top-line growth.", "And we think that's going to be in and around 5% for a long period of -- a long period of time. So, in particular, as to what it's going to be in certain periods, we'll continue to do as we've done in the past. And when we get to October, we'll give you a view for 2024 what that lease up will be, and would expect we'll continue to try to give you some view of what our longer-term forecast will be for revenue growth. At the moment, that's -- that's about 5% is, we think, our best guess of what a normal leasing environment is going to look like." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. And, Brandon, on the second question on the $60 million remaining to the tower leasing guide for the rest of the year, obviously, there were some questions in the first quarter why tower leasing for the first quarter was a little low. And then, we came in with the second quarter and it was directly in line with what our previous guide had been because, if you add the two together, you got to $70 million of new leasing is right halfway to the 140 is in our previous guide. As we look forward, that 60, we would say what we said last time, which is it's probably very even.", "There's not a -- there's not a lot of fluctuation to it. But that doesn't mean that each quarter is going to be exactly 30 because there are fluctuations, like Jay spoke about. So, I would -- I would assume it's going to be evenly split between the next two quarters. And, you know, it may move around here and there, but it won't be a significant change from third quarter to the fourth quarter." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thank you." ] }, { "name": "Jay Brown", "speech": [ "Kate, maybe we can take one more question." ] }, { "name": "Operator", "speech": [ "The next question is from David Guarino of Green Street Advisors. Please go ahead." ] }, { "name": "David Guarino", "speech": [ "Thanks. Question on your expectation for the 5% organic macro tower growth through '27. So, on the remaining 25% of activity that you still need to secure, the assumptions you guys have in your model, do you assume that comes just through densification or through a new spectrum being made available? And then, I have one more follow-up, please." ] }, { "name": "Jay Brown", "speech": [ "Sure. It's a combination of spectrum. When you say new spectrum, the way I would think about that is spectrum that's in the hands of carriers today that has not been deployed based on the -- the spectrum that could be deployed over the next several -- could be auctioned off in the next several years. I think inside of the time frame that we're talking about predicted growth, we're not assuming that there's an FCC auction followed by then a build-out of that spectrum.", "There is spectrum in the hands of carriers that has not been built out yet, and some portion of our future leasing is related to that -- that spectrum that's in the hands of carriers and has not been built out yet. And -- and also, as you referenced, there's also the expectation that spectrum that has been built out, they'll continue to densify that. So, there's a component of both of those elements but not an expectation that additional spectrum will be auctioned and then deployed in the next several years." ] }, { "name": "David Guarino", "speech": [ "OK, that's helpful. And then, the last one, I just wanted to ask about the recent report that came out, highlighting some of your tenants, the potential sizable clean-up costs they might have on some of their legacy telecom networks. And I know nothing's materialized on that yet, but I just want to know, did you consider any potential financial burden on your tenants when you reiterated that 5% guidance through '27?" ] }, { "name": "Jay Brown", "speech": [ "We have not seen any behavior change from our -- from our carrier customers, and so I'll let them speak to what the impact of their business will be of those -- of those recent news reports. But obviously, they're -- they're very healthy and have a long history of being able to navigate through various cycles. And the wireless business and the demand from the consumer, we think, is going to continue unabated. And so, we would expect to see continued investment as they improve their network and -- and improve the margins in their business over a long period of time from improving their network associated with that -- that growth in demand." ] }, { "name": "David Guarino", "speech": [ "Great. Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet. Thanks, everyone, for joining the call this morning. We look forward to catching you up in October as we give our guidance for 2024 if we don't see you before then. Thanks for joining." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2018-04-19	[ { "description": "-Vice President of Corporate Finance -- Vice President of Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "-President and Chief Executive Officer -- President and Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "-Senior Vice President and Chief Financial Officer -- Senior Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "-Goldman Sachs -- Vice President -- Goldman Sachs -- Vice President", "name": "Brett Feldman", "position": "Executive" }, { "description": "-Morgan Stanley -- Vice President -- Morgan Stanley -- Vice President", "name": "Simon Flannery", "position": "Executive" }, { "description": "-Bank of America Merrill Lynch -- Managing Director -- Bank of America Merrill Lynch -- Managing Director", "name": "David Barden", "position": "Executive" }, { "description": "-RBC Capital Markets -- Managing Director -- RBC Capital Markets -- Managing Director", "name": "Jonathan Atkin", "position": "Executive" }, { "description": "-Raymond James -- Managing Director -- Raymond James -- Managing Director", "name": "Ric Prentiss", "position": "Executive" }, { "description": "-Deutsche Bank -- Director -- Deutsche Bank -- Director", "name": "Matthew Niknam", "position": "Executive" }, { "description": "-MoffettNathanson -- Analyst -- MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "-Citi -- Analyst -- Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "-BTIG -- Managing Director -- BTIG -- Managing Director", "name": "Walter Piecyk", "position": "Executive" }, { "description": "-Macquarie Research -- Analyst -- Macquarie Research -- Analyst", "name": "Amy Yong", "position": "Analyst" }, { "description": "-Guggenheim Securities -- Director -- Guggenheim Securities -- Director", "name": "Robert Gutman", "position": "Executive" }, { "description": "-New Street Research -- Analyst -- New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "-Oppenheimer & Company -- Managing Director -- Oppenheimer & Company -- Managing Director", "name": "Timothy Horan", "position": "Executive" }, { "description": "-J.P.Morgan -- Managing Director -- J.P.Morgan -- Managing Director", "name": "Philip Cusick", "position": "Executive" }, { "description": "-Keybanc Capital Markets -- Analyst -- Keybanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Crown Castle International First-Quarter 2018 Earnings Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Ben Lowe, vice president of corporate finance.", "Please go ahead." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Hannah, and good morning, everyone. Thank you for joining us today as we review our first-quarter 2018 results.With me on the call this morning are Jay Brown, Crown Castle's chief executive officer, and Dan Schlanger, Crown Castle's chief financial officer. To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, which we will refer to throughout the call this morning.", "This call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions, and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today, April 19, 2018, and we assume no obligations to update any forward-looking statements.In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com.With that, I will turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and good morning, everyone. As you saw from our press release last night, we delivered another great quarter of solid results, and 2018 remains on track to be another great year for Crown Castle, which Dan will discuss in greater detail in a few minutes.I'd like to spend my time highlighting three themes we are seeing in the business, which are noted on Slide 3: increased leasing activity, fiber repeating the success of towers, and the early signs of potential future opportunities, including 5G. On the first theme, so far this year we are seeing accelerating leasing activity across towers and fiber as the rapid growth in data is driving demand for our shared infrastructure assets. This acceleration can be seen in our 2018 outlook for growth compared to the rate of growth last year.Our unique portfolio of towers and fiber located in the top markets provides the essential infrastructure needed for wireless-network deployment.", "In our tower business during the last 12 months, we've seen increasing leasing activity and have signed comprehensive leasing agreements with several of our top customers. These agreements speak to the value of our unique assets and capabilities and signal the beginning of a sustained period of network investment by our customers that will drive future growth.Like towers, fiber has become an essential component to wireless networks, as evidenced by the increasing demand for small cells. As yet another proof point, we booked as many small cells in the first quarter as we did in all of 2016. As a result, our pipeline of nodes to be constructed increased to more than 30,000.Typically, we complete the construction of nodes in 18 to 24 months after booking.", "Even more encouraging and answering one of the most common questions we receive on small cells, over 50% of the nodes booked during the first quarter are for co-location on existing fiber infrastructure, driving higher returns. Both the volume of activity and the returns we are generating on our fiber investments further validate our strategic pursuit of this expanding opportunity.This is reminiscent to me of the early days of towers. We're seeing demand from multiple tenants on the same fiber, driving high incremental margins that grow our returns over time. And we aren't surprised by this level of demand because we intentionally focused our fiber investments primarily in the top 25 markets, where we expect to see the greatest demand for small cells.", "While towers and fiber share many of the same attributes, there are some important differences. For example, we're seeing demand for our fiber from more than our wireless customers, thus, increasing the diversity of our customer mix. It is a compelling opportunity to improve the already-attractive shared economic model by providing fiber solutions that serve high-bandwidth customers who need access to fiber. When compared to small-cell deployments, fiber solution opportunities tend to have faster payback periods on invested capital that occur within the initial contract term, compensating for the higher anticipated churn.", "The combination of small cells and fiber solutions translate into a larger addressable market of opportunities that are accretive to long-term returns we are generating across our fiber investments. Looking at two of our markets helps to illustrate both the success to date and the opportunity in front of us. In Phoenix, we're generating an 11% recurring yield on approximately $70 million of invested capital, with small cells driving the entire return on the fiber investment. In Philadelphia, we're generating a similar 11% recurring yield from a combination of small cells and fiber solutions on approximately $700 million of invested capital, inclusive of recent acquisitions.", "Obviously, those returns are very attractive, meaningfully exceeding our cost of capital. And I believe there's additional opportunity to grow cash flows from both small cells and fiber solutions as we market those products. With that strategy in mind, we are making very good progress on integrating our recent fiber acquisitions. We expect the integrations to be largely completed by early next year.Another difference between towers and fiber is the returns we're generating on our fiber investments, which are scaling faster than what we experience with towers.", "In the early days of towers, we invested speculatively in new towers without anchor tenants, which contributed to approximately 3% initial yields on average across the business. In small cells, we are not investing speculatively, and we're generating 6% to 7% initial yields on our investments. Additionally, with towers, we have historically added the equivalent of one additional tenant per tower across our portfolio over a 10-year period of time. With fiber, we're seeing small-cell lease-up occur at nearly twice that pace, with the second tenant added on average within five years.", "Plus we have the added opportunity to put fiber solutions on the same fiber, as I've mentioned before.To illustrate this point, we're generating a recurring yield of approximately 9% across the $23 billion we have invested in towers. That capital has a weighted average life of approximately nine years. By comparison, we're generating a recurring yield of approximately 8% on the $12 billion of capital we've invested in fiber, with a weighted average life that is approximately two years. We expect these growth trends that I'm speaking about to continue and the returns to hold.", "And if they do, we will pursue additional investments over time to increase our fiber asset base and expand our long-term opportunity. Those investments will likely take the form of new organic fiber builds with contracted revenue because the opportunity to acquire dense metro fiber with high strand counts in top markets is limited at this point.The third and final theme relates to our role in the rapidly expanding digital world. We continue to underwrite our investments based on existing applications and technologies. However, with 5G standards expected later this year and as noted on Slide 4, all four of our wireless customers discussing plans to deploy 5G, upside relative to our assumptions, is becoming more likely.The network infrastructure needed to support next-generation services, including those enabled by 5G, has the potential to dramatically increase the demand profile for our tower and fiber assets.", "Industry estimates suggest that the current use cases associated with 5G networks will require a tenfold increase in network performance, as measured by latency, reliability, and speed. This potential step function change will likely require a hyper-dense network of small cells and fiber and macro sites connected by high-capacity fiber.We are uniquely positioned to benefit given our unmatched portfolio of towers and fiber. These three themes of strong leasing activity, fiber repeating the success of towers and future opportunities from new technologies give us confidence in our ability to deliver on our target of 7% to 8% annual growth in dividends per share. And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay discussed, our unique portfolio of assets positions us to take advantage of the positive fundamentals underlying our business. In the near to medium term, we continue to expect higher new leasing activity in each of towers, small cells and fiber solutions in 2018 as compared to last year. Supporting this view, we recently signed comprehensive leasing agreements with several of our largest customers that lead us to believe we're in the early stages of a sustained period of investment by those customers.", "Additionally, we've continued to win substantial small-cell bookings, which have added to our pipeline and more than replaced the nodes we have put on air. And we continue to invest heavily in new fiber and small-cell assets that set us up well for future growth. As a result, we remain well-positioned to build on our track record of delivering compelling total returns to our shareholders through a combination of dividends, new investments and growth.Turning to first-quarter 2018 results. As you can see on Slide 5, we had an outstanding first quarter, exceeding the high end of guidance for site rental revenues, adjusted EBITDA and AFFO.", "Part of this outperformance was a result of two items that were not contemplated in our prior outlook.First, site rental revenues and adjusted EBITDA benefited from approximately $12 million of noncash revenues associated with the long-term agreements signed with AT&T. Second, AFFO benefited from approximately $11 million of lower sustaining capital expenditures due to timing, as those expenditures are now expected to occur later this year. Even adjusting for the impact of these two items, we were able to exceed the midpoint of our prior outlook for site rental revenues, adjusted EBITDA, and AFFO. From a balance-sheet perspective, we continue to improve our financial flexibility while focusing on maintaining our investment-grade credit profile.During the first quarter, we accessed both the debt and equity markets to reduce our leverage, proactively extend maturities and reduce our borrowing costs.", "We finished the quarter at 5.1 times debt-to-EBITDA and intend to finance the business with approximately five turns of leverage longer term. Now turning to Slide 6. As you can see in the chart on the left-hand side of the page, we increased our full-year 2018 outlook for site rental revenues by $57 million, which is primarily attributable to this recently signed customer agreements. As we discussed during our last earnings call, our prior 2018 outlook included all the new leasing activity we expected to see from our customers other than what might occur due to the deployment of FirstNet.", "While we do anticipate an incremental new leasing activity as a result of FirstNet over the course of the next several years, the timing of new leasing in 2018 will not result in significant incremental revenues this year. Therefore, we have not increased our expectations for new leasing activity in 2018, although we have included the straight-line revenues associated with the AT&T agreement in our updated outlook. Turning to the middle chart on the page. You can see we have increased our full-year 2018 outlook for adjusted EBITDA by $48 million, which reflects the impact of the recently signed customer agreements, partially offset by higher anticipated expenses related to the increased activity we are seeing in our business.Finally, as you can see in the chart on the right-hand side of the page, we have increased our 2018 outlook for AFFO by $36 million.", "This increase is mostly due to the impacts from our March equity offering and lower expected cash taxes, partially offset by the higher anticipated expenses that are impacting adjusted EBITDA as well as an increase in expected floating interest rates when compared to the rates assumed in our prior outlook. Taking all of this into account, the outlook for AFFO per share remains unchanged at approximately $5.50 at the midpoint. Turning to Slide 7. We expect between $970 million and $1.015 billion in site rental revenue growth from 2017 to 2018.", "As you can see on the slide, when compared to the prior outlook, the only change is reflected in the floating bar from -- third from the left on the page, namely an increase of $60 million related to the expected change in straight-line revenues that I just discussed. Moving on to Slide 8. We now expect between $395 million and $435 million in AFFO growth from 2017 to 2018. The only changes when compared to the prior outlook are captured in the other category that covers non-operating items, including changes to interest expense and cash taxes.In conclusion, first-quarter 2018 was another quarter of strong financial and operating performance.", "For the remainder of 2018, we continue to expect higher new leasing activity across our business. And the recent comprehensive agreements we have signed with several of our customers suggest we are in the early days of a sustained period of investment by those customers. Momentum continues within our fiber business following a quarter in which we booked as many small cells as we did in all of 2016, and we're making very good progress on integrating our recent fiber acquisitions. All of this supports our goal of increasing our dividend per share by 7% to 8% per year while positioning us for the large potential upside created by 5G that Jay just discussed.With that, Hannah, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator instructions] And we'll go first to Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks for taking the question. I was hoping I could dig in a little bit to some of these moving parts in your guidance. You talked about the higher opex. I was hoping you could clarify what's driving that.", "Is that unique to the AT&T agreement? Is it more broadly driven by the larger funnel that you have? And then just in general, when are we going to get some visibility into being at a point of sustained level of site operating expenses such that we'll get a little bit more operating leverage as you grow the business? And then just one quick question we got is, why was your 1Q revenue affected by the new AT&T agreement? I think that was signed after the quarter ended." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure, Brett. Thanks for the questions. So the higher opex is related to the bigger pipeline of small cells as we continue to build out that pipeline and increase it and increase the velocity of that. We do have to add some opex to continue to add to our capabilities to deliver on those nodes.", "And to your point of when will we see some visibility and when it will kind of slow down, the increase will slow down, it really depends on how quickly we book nodes. If we continue to see increases in the activity levels, we would likely see increases in the opex. But we think those are more than made up for by the incremental revenues we're going to make over time. I think the issue that we've pointed to in the past is that many times, the capital and the opex come before the revenues, and that's kind of what you're seeing here.", "And then --" ] }, { "name": "Brett Feldman", "speech": [ "The AT&T." ] }, { "name": "Daniel K. Schlanger", "speech": [ "The AT&T deal, yes, just -- it was signed in time for us to get the impact economically into the first quarter. So the reason it impacted our first quarter is because it had an impact on what our revenues were in the first quarter. So there's no specifics around that other than it impacted our first quarter." ] }, { "name": "Brett Feldman", "speech": [ "OK. Got it. And if you don't mind, one last question, just a housekeeping one. Since we have news again on T-Mobile and Sprint, do you have any updated disclosure on your exposure? I know you've given that a little over a year ago." ] }, { "name": "Daniel K. Schlanger", "speech": [ "I think you can see in the supplement that T-Mobile is around 19% and Sprint around 14% of our total revenues at this point. The disclosure we gave last time was around how much -- when they were both on one tower, overlapping towers, that number is around 5% of our revenues, taking into account the churn that we already assumed in our forecast and talked about from acquired networks." ] }, { "name": "Brett Feldman", "speech": [ "And do you know their weighted average remaining lease term on that 5%?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. They're five to seven years." ] }, { "name": "Brett Feldman", "speech": [ "Great. Thanks for taking the questions. Appreciate it." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "We'll go next to Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks very much. Good morning. On the commentary about the accelerating leasing, I think given what you said about FirstNet and so forth, is it fair to think that during the course of '18, we'll see an acceleration in your leasing activity and then that would set up for '19 to be better than '18? And maybe related to that, are we now at the point where all four, all big four of the wireless carriers, are now spending at a fairly steady clip? Or is there still some more to come from getting everybody on board?" ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Simon. To your first question, I'd point out two things. First of all, as we look at calendar year 2018 and the guidance that we provided for '18, it is an acceleration already over the levels that we saw in 2017. And we're seeing that across all components of the business.On the towers side, the wireless carriers this year are doing much more on macro sites than what they did last year.", "And then on the fiber side, both from solutions as well as from small cells, we're seeing an uplift in the amount of incremental revenues that we're adding across the fiber assets this year as compared to last year. So all components are already up in the outlook that we're giving.More certainly, in the comments about the accelerating leasing environment, I certainly intend to capture that movement from '17 to '18 in the way that I spoke about it. I think it's also the case that as we look at what's happening in the broader environment, both longer term, as I talked about, from a 5G standpoint. So some of the customer leasing agreements that we signed and the activity that we're seeing around the business, that portends an increase from where we are.Now I would caution you in answering that question that oftentimes, in our business, people look for inflection points, and they look for some -- in any given quarter, whether there's going to be this meaningful step in leasing and activity.", "And my experience -- I've been at Crown since 1999, and I have found those inflection points to be very rare, both for the positive and to the negative. And as I look at the landscape and what we're seeing, what I see suggests a very long runway of sustained investment and growth in our business. And that's what gives us confidence around our 7% to 8% growth in the dividends per share over a long period of time because there are a lot of components that look like we've got greater visibility and increasing leasing. So we're trying to take a balanced view and say, over a long period of time, we feel pretty good about the 7% to 8%.", "And I think what we're saying today and reflecting in both the comments and the press release as well as our prepared comments is that I think we're more confident about what that growth looks like over a longer period of time, and so I think that's there.The last thing, in answer to your second question around all four of the carriers, we are seeing activity from all four of the carriers. In any given quarter, it certainly varies in terms of how much we see from any one carrier. But we're seeing activity across macro sites and small cells from all four of the wireless carriers and believe, based on the recent customer agreements that we've signed as well as the activity that we're seeing from them, that we're going to go through a period here where we do see activity from all four operators for a sustained period of time." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "We'll go next to David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks for taking the questions. I guess, first, Jay or Dan, with respect to kind of the new agreements that you've signed from the quote-unquote several of the big customers, could you talk about the terms and conditions that go around those? Or is there anything novel about those agreements that would lead one to kind of change a view about what their potential impact on the business could be? And then second, could you talk a little bit about maybe how the AT&T tower purchase agreement, which gave a free RAD Center to AT&T, on a go-forward basis, is affecting your ability to maybe monetize AT&T's activity level or how that factored into the agreement that was released last week and just generally kind of characterize how you think that it affects your ability to monetize FirstNet and AT&T?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On your first question, I don't believe there was anything novel, really, here. We approached these agreements in the same way that we've done them in the past, same core principles in mind. We're trying to help our customers identify solutions that help them improve their networks and do those both cost-effectively and efficiently in terms of time while not compromising our ability to capture the appropriate economics in the business.", "I believe in all cases, the transactions that we've done over the last year or so, those have enabled us to realize at least as much value as what we otherwise would have if we had just gone kind of one at a time. So I don't believe there's anything new or novel associated with the agreements. I think we're running the same play that we've run for 20 years, being thoughtful about the value of the asset and the value that they're using on those assets and then providing a shared model that drives both our returns and is a cost-effective way for them to deploy network. On the second question, specifically, that agreement, obviously, was publicly filed when we announced that transaction.", "We didn't provide a free RAD Center to AT&T, and so I'm not sure the nature of that question. But what I would say holistically, going back to kind of my first comments, would be that, again, as we thought about it, we thought about valuation, value of the towers and small cells and what that would look like over time and believe we've realized at least as much value as we otherwise would have if we had just gone one at a time." ] }, { "name": "David Barden", "speech": [ "And so, Jay, if I could just follow up on that kind of comprehensive nature of -- or holistic nature of these agreements, so are these agreements less activity-related and more kind of anticipatory, they kind of ratchet up at some known quantity over a course of time and then customers are able to do what they want to do within bands of reasonableness over that period within those time buckets?" ] }, { "name": "Jay A. Brown", "speech": [ "You know, Dave, I don't think I want to get into the specifics of how we structured them. Again, there was really two driving goals hearing the conversation from the carrier side. They were looking for time and certainty around the cost of deployments and what they saw in front of them. And then we need to realize appropriate economic value for the use of the asset, and we're open to being flexible about how we accomplish those two goals based on each customer's needs.", "And I would expect we'll continue to do that into the future as we've done in the past." ] }, { "name": "David Barden", "speech": [ "OK. Thanks, guys." ] }, { "name": "Operator", "speech": [ "We'll go next to Jonathan Atkin with RBC Capital Markets." ] }, { "name": "Jonathan Atkin", "speech": [ "Yeah, so following up on that last topic, I was a bit surprised that the term didn't seem to change if you look at the weighted average remaining contract length with the customer for your most recent MOA, AT&T, and wondering what the thought process there was. I would have expected it to kind of extend a bit. And then can you clarify -- you mentioned it's kind of holistic. Is there a change in the base escalator with that customer or not?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Jon. On your first question, again, I would go back to kind of the holistic comment. If you look at our tower business and small-cell business over a long period of time, there is very, very low churn in that business. And so while someone might look at the contractual terms of those agreements, I would tend to look at the way we've looked at the business over a long period of time and believe that that infrastructure is going to be there long after the current expiry of the current term in which they're in.", "And so at times, the carriers have desired to extend maturities, and other times, they haven't. And I think the two guiding principles that I mentioned are the way that we would think about the agreement and we'll be flexible with customers, depending on what their desires are. Secondly, in terms of the change of escalator, we did not change the base escalator in the agreements that we signed with customers. So as we thought about components of the agreements, we certainly believe that's a very valuable component of the leasing exchange that's done for the assets and the underlying value of the assets.", "And so that did not change as a part of these agreements." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you. And then turning to the fiber segment. Can you give us a little bit of a flavor or the breakout now that you have Lightower between enterprise and mobile infrastructure within that segment?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Between -- Jon, are you asking between enterprise and small cells? Is that what you're asking?" ] }, { "name": "Jonathan Atkin", "speech": [ "Yes, yes." ] }, { "name": "Daniel K. Schlanger", "speech": [ "OK, yeah. It's about 75% fiber solutions and 25% small cells within the fiber segment." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "We'll go next to Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, guys. A couple of questions. Hey, looking at the change in guidance, it looks like -- I think you mentioned $60 million change in the straight-line adjustment in 2018.", "It looks like that drops to about a $40 million change year over year from prior view in '19 and about $20 million change view-to-view on 2020. So it looks like kind of $20 million improvement as we look out '18, '19, '20. Can we use that as a ballpark measure maybe of saying if you're doing $3 billion-plus of tower revenue and maybe the cash benefit might be like 60 bps a year for long foreseeable future based on the long runway you talked about? Just trying to think if that math works back that way." ] }, { "name": "Jay A. Brown", "speech": [ "Ric, I think there's a couple of components of this that -- first, I would basically affirm where you're, I think, directionally trying to take the question around. It certainly gets greater certainty to the -- our expectation of growth over time, and that's really consistent with the comments that we're making. I would probably caution anyone from quarter-to-quarter movements of trying to draw too many inferences five or six years from now because there's obviously a number of components that affect that. How many small-cell nodes we turn on in the quarter, what is the leasing activity in any given quarter can obviously move -- can move those numbers along with these, as we were talking about before, some of the customer agreements that we signed.", "But I think the directional nature of your question, I would affirm and say, yes, we've increased the certainty of growth around our business. And in addition to the kind of the certainty component, I think we're also seeing activity that would suggest a sustained increased level of activity in the business over the foreseeable future." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. And Ric, as Jay pointed out earlier, I think -- sorry to interrupt, but just as Jay pointed out earlier, I think all of this gives us just more confidence in our ability to continue to grow our dividend over time. As we are signing these agreements, we are moving from what is potential new activity to contracted new activity, and that provides a greater level, as you just said, a greater level of certainty around the business that we have." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And then on the carrier getting kind of speed, right? AT&T wanted to get more speed and certainty. Can you talk to us a little bit about the time frame from lease application to turning into revenue?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Generally, on the tower side, it's six to nine months it takes us from the time we get an application until we have it on air. It will be on the shorter end of that for amendments and longer end if we're doing a brand-new co-location on an existing tower. In the small cells, we've given the average of 18 to 24 months after the booking occurs in some geographies.", "Depending on how difficult it is to get it up, it would be longer than that. In places where it's a co-location, in a market that we've done a lot of work in, it may be on the shorter side of that. So it's a mix, but I think somewhere in the 18 to 24 months is the right timeline to use for small cells and six to nine months is the best timeline to use for towers." ] }, { "name": "Ric Prentiss", "speech": [ "And one quick housekeeping. Do you see -- is there going to be an equity raise at the market in April? And is that in your guidance, not in your guidance? And there's some confusion out there given the March equity raise." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. So we did the March equity raise. That obviously is in our guidance. We filed an after-market program, but that does not speak to whether we will actually use that or not in any given period.", "It gives us the ability to go out and market equity. What we said after the March deal was it got us down to what was really close to our target leverage rate range. And as we move out through 2018, we'll continue to add EBITDA and have capital expenditures that are all included in what we have given as outlook. And we think that we are comfortable with where our leverage profile is now." ] }, { "name": "Ric Prentiss", "speech": [ "OK. So it's not like we're expecting an April offering right now. It's just an after-market, filed out there, so it's available for when you want to do it?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "That is what that filing does for us, yes." ] }, { "name": "Ric Prentiss", "speech": [ "Right. And so obviously not in guidance then?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. So we have -- just to be clear on what we do with guidance, when we think about the guidance going forward, it has a lot of assumptions about how we finance the business, and we try to be very consistent with that over time. Where we are in guidance now, as we pointed out, is that some of the guidance change that happened was because we did the March equity, and it reduced the interest expense but it increased the share count. So I think where we are with guidance now at $5.50 is inclusive of all the financing activity that we anticipate." ] }, { "name": "Ric Prentiss", "speech": [ "Great. Thanks, Dan. Thanks, Jay." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Ric." ] }, { "name": "Operator", "speech": [ "We'll go next to Matthew Niknam with Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey, guys. Thank you for taking the questions. Just two on fiber and small cells. One, can you give us any more color on what drove the increase in your small-cell pipeline up to 30,000? Particularly, was it one specific customer or more broad-based? And then secondly, on fiber, I think you mentioned maybe considering more organic builds in fiber just given the opportunity.", "Is this within your existing top 25 markets? Or is this maybe beginning to branch out a little bit more broadly?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Thanks, Matthew. On the first question, the pipeline was driven by activity across all four of the operators, and we're -- our intention of giving the number was to be able to give you a sense of -- we're obviously putting nodes on air, and I think the math would roughly play out where we've put about 5,000-ish nodes on air roughly over the last year or so since we talked about the size of the pipeline. And then we've added about 10,000 more nodes to the pipeline to be constructed over future dates.", "So to give you a sense of kind of the activity relative to the pace at which we're putting them on air and all four of the operators are driving that increase in pipeline as well as all four of the operators saw the benefit of some of the nodes that were put on during the last 12 months or so. Around how we're thinking about markets, generally speaking, I would say the majority of both the capex and the nodes that we're receiving are going to be in markets that were already in, in those top 25 markets, although expanding the footprint of those markets. What we have seen happen, and this continues, we've seen this happen the last six or seven years, when we first started investing in small cells, is there tends to be an initial investment in the most dense components of a given market. And then as investment happens over time, that investment spreads from city centers, maybe potentially central business districts, out into -- further into the community and further away from those central business districts.", "We've seen that pattern continue as the business has grown. So for the most part, the capital that we see in front of us in the medium term, the short term, that is going to be largely in the markets that we're already in. I do believe, based on the activity and growth in data, there's going to be a need for small cells beyond the top 25 markets, and we would expect to see, over time, the carriers expand their desire and need to deploy small cells beyond the top 25 markets, but the capital decisions that we've made today and the vast majority of the operating activity that you're seeing us perform, that's primarily in the top 25 markets. And specifically to your comment around why are we making the comment around organic build, we're expanding the footprint that we either acquired or have built today in order to cover needs in those -- largely in those top 25 markets." ] }, { "name": "Matthew Niknam", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "We'll go next to Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Thanks for taking my question. First, have you seen any increased propensity for multiband antennas in the applications you received or the discussions you're having with the carriers relative to the past? I've heard mixed messages on this front, and I would love to hear your thoughts." ] }, { "name": "Jay A. Brown", "speech": [ "Nick, I would tell you, over the long term, the reason why you've heard mixed messages is because there's mixed approaches. The carriers have different approaches, and they take different approaches by market. Ultimately, they're trying to cost-effectively deploy the network in ways that make their network most efficient. And so depending on their spectrum position in the market, the amount of demand on those networks, they will make differing decisions.", "So the fact that you're hearing mixed answers is a pretty accurate way of describing the way it is ultimately deployed." ] }, { "name": "Nick Del Deo", "speech": [ "OK, that's helpful. Then maybe one on the small-cell front. We've also heard that some municipalities have gotten incrementally more difficult to deal with when it comes to permitting maybe as the builds get more toward residential areas. Have you seen the same thing? And if you have, has it affected the timeline you've laid out for when the chunks of your pipeline will get turned up and start generating revenue?" ] }, { "name": "Jay A. Brown", "speech": [ "I mean, municipalities are obviously a component of what that timeline when we talked about 18 to 24 months to deploy small cells. And similar to -- if we were having this conversation 20 years ago, I think people would have asked a similar question about the deployment of towers. It is certainly a barrier to entry, and it's certainly something we have to navigate in the process of building the infrastructure. I don't know that I would necessarily describe the municipalities as becoming more difficult.", "What I would describe is the scale at which we're doing this over as many markets as we're deploying this infrastructure means there's more conversation in social media and in the press about the activities happening. We're pretty committed to working with municipalities because we want to be a long-term player in the market. And so following whatever rules, zoning and planning rules that they have in place is something we're committed to doing. We're going to do it the right way and be a good partner over a long period of time.", "And I have not found the difficulties, as you described them, with municipalities to be something that, in any way, inhibits our returns or our ability to deploy the infrastructure. It's a matter of going through the process and ensuring we're following the right rules and regulations of particular municipalities and working with them constructively to provide for some of the aesthetics that they desire and, at the same time, getting the infrastructure that's really needed to get that deployed on a timely basis." ] }, { "name": "Nick Del Deo", "speech": [ "OK. That's helpful. Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We'll go next to Michael Rollins with Citi." ] }, { "name": "Michael Rollins", "speech": [ "Hi. Thanks for taking the question. If you look at the change in straight line for 2018 of about $60 million and if you look at what that might represent in terms of total contract value, how should investors view that in terms of future activity because you have [Inaudible] situation? It seems to represent the totality of activity that was expected from the carrier, whatever the upgrade or incremental deployment purpose was. So in this situation with these new agreements that you have, could investors look at what's represented by the straight line as the totality of the expectation over the next number of years? Or you look at it more as a minimum? And maybe you can put that incremental opportunity into context." ] }, { "name": "Jay A. Brown", "speech": [ "Mike, you were breaking out in some components of the question, but I think I got the basic gist of it. The short answer is that's a baseline of the level of activity. Obviously, what we straight-line would be the committed component or some portion of the committed component of the activity. And there is upside from there, and that would be true across all of the customer agreements that we've signed." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And Mike, I think as Jay pointed out earlier, it's hard to take exactly from straight-line and try to make that into just exactly what the activity is. Although it could be higher than that, and this is kind of the low end or the baseline of it. What we're looking at, as we've been talking about, is the fact that this is pushing in a lot of the activity that we had been counting on into a contracted element. And something that we're really excited about is the fact that we now see lots of clarity and understand where we're going to go over the next several years with one of our largest customers.", "And we've solved some of their issues and we've gotten some economics from it, and we feel really good about where we are. It's just hard to see exactly in the straight-line number and try to predict exactly what's going to happen with the activity. What we believe it is a signal of, though, is, as we've been talking about, increasing levels of activity across a multiyear period that we have more visibility into at this point." ] }, { "name": "Michael Rollins", "speech": [ "And is there a way to think about how much of that was driven by towers versus how much of that was driven by fiber?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Well, you can look in the first quarter and see where the change in straight-line happened, and the vast majority of that was on the tower side." ] }, { "name": "Michael Rollins", "speech": [ "Thanks very much." ] }, { "name": "Jay A. Brown", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "We'll go next to Walter Piecyk with BTIG." ] }, { "name": "Walter Piecyk", "speech": [ "Great, thanks. Last year, in 2017, your amortization of prepaid was $244 million, and the year before that, it was $203 million, so the change was about $40 million. I think in the past, you said you expect a similar change in 2018 versus '17. So if you look at that $79 million in the first quarter, and you just basically said there was no change in that whatsoever, that implies more of a $70 million increase.", "So is that amortization of prepaid going to decline over the course of the year in order to get down to that $40 million? Or is a higher amortization of prepaid expected?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. Thanks, Walt. It's not going to decline over the year. It is going to be higher.", "But about half of that, about $40 million of it, is related to the purchase accounting around Lightower, and so it's included in our acquisition bucket, not in our new leasing bucket." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. So of the $79 million for the first quarter, you're saying there was $10 million there that was -- that should be in the acquisition bucket? Or the $79 million is fully all prepaid?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "There's $10 million of it that would be in the acquisition bucket because it's related to the acquisition of Lightower. So the previous statement we made is that there was about the same year over year in our new leasing, and that is still the statement, is that the amount of prepaid in our new leasing is consistent from a dollar basis year on year." ] }, { "name": "Walter Piecyk", "speech": [ "OK. So if that's $40 million and then there's an extra $10 million, then that means the $79 million shouldn't change throughout the course of the year. Should it stay at $79 million, around $80 million for every quarter this year?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. It's going to be around that, yes." ] }, { "name": "Walter Piecyk", "speech": [ "OK. And just on prepaid in general, to the extent that -- there's a time, basically, it's reimbursed capex to a certain extent, like when you collect the revenue, you're collecting more revenue than the capex associated with it? Or is it -- are those equal dollars? Like how does that revenue fall through as far as the stuff is going to the deferred-revenue bucket and then booked back onto the income statement?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. It's the same number as what we book in prepaid. We ultimately get in -- what we book in upfront prepaid is what we ultimately get in prepaid rent amortization. Look, and just to be clear, though, it's not cash at that point because the cash is coming upfront.", "So we get the cash up front as a reimbursement of capex, and then we amortize that over the course of the life of the contract." ] }, { "name": "Walter Piecyk", "speech": [ "Right. So let's assume that your capex is $10 million, and you collect $12 million, right, because you're getting some return on that first tenant, right, that first build. Is it just the $10 million or $12 million that's going through the amortization of prepaid rent?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "So I'm going to try to change your example a little bit. It's not that we collect more capex than what we spend in order to get a return. It's that, in order to get our return, we get revenues and we get reimbursed a portion of our capex. So if we spend $10 million on anything, we would get some portion of the $10 million reimbursed to us, and then we would make our return over time by making revenues from that customer.", "So let's say of the $10 million, we get $2 million reimbursed. That $2 million is then amortized over the life of the contract." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. So any of those -- any of that revenue that's effectively in the $220 million guidance for the year, there's a capex associated with it that completely offsets that revenue. I'm talking about the revenue in amortization of prepaid. OK, got it.", "Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "We'll go next to Amy Yong with Macquarie." ] }, { "name": "Amy Yong", "speech": [ "Thanks, and good morning. Just a question on your fiber needs. When we think about the 30,000 nodes, how much fiber is required to support this? I guess we're just trying to size up how much fiber requirements you need over the next 18 to 24 months." ] }, { "name": "Jay A. Brown", "speech": [ "Amy, our historical average has been we've been adding about 2.5 nodes per mile of fiber. Among those 30,000 nodes, there's a component of those nodes that are -- as I mentioned in my comments, about half of the nodes that we added to the pipeline in the first quarter were going on existing fiber, so we would expect very little to no additional fiber needed there. And then for the other half, that's an expansion of the fiber footprint. And to extend that out to the whole pipeline of 30,000, we have a mix in there of new markets that we're building, as I was speaking to earlier, as well as co-location.", "So we will -- the fiber need is dependent upon whether we're expanding in new market or co-locating on existing." ] }, { "name": "Amy Yong", "speech": [ "Got it. And I guess the guidance for 1Q opex, is that the right base to use going forward? And at what point should we actually expect that number to drop down?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, Amy. The guidance we've given -- you can look at the full-year guidance, and that would give you a good base for what to use going forward. I think your question around when it would drop down or at least to see the leverage, look, what we're looking at is, as Jay pointed out, a potentially highly increasing level of activity to the extent that 5G comes in. And what we're trying to do is position ourselves to have the right assets and the right capabilities to take on that demand and, ultimately, that market opportunity.", "And what we're excited about is that we have so much of that coming our way, and we've positioned ourselves uniquely to have the right assets to ultimately take advantage of that opportunity. And as that continues, if we continue to add small cells at a pace that's greater than what we've added to them in the past, we might have to add expenses, and we'll certainly have to continue to add capital. But those will all be investments that will be included in what we look at in terms of the returns we get. And what we're seeing is those returns are much in excess of our cost of capital over time.", "And with the potential increase in 5G, it would be even more upside for us. So what we're excited about is exactly that, is that we're in a good position to take advantage of that upside, and that may require -- or will require additional capital and may require additional expenses. But at some point, we do think that that will turn, and we'll have most of the capital in place, most of the fiber in place and will come down on that expense -- those expense levels and the incremental capital needed. But that may be years from now, depending on when this opportunity plays out, and we, frankly, hope that it is years from now because that will just mean we get to take advantage of more and more of the opportunities that are set in front of us." ] }, { "name": "Amy Yong", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "We'll go next to Robert Gutman with Guggenheim Securities." ] }, { "name": "Robert Gutman", "speech": [ "Hi. Thanks for taking the question. On the small-cell deployment, you said 18 to 24 months. You've also said in the past, I think, a two-year cycle on new builds, on new fiber builds.", "I was wondering -- I assume there's a difference in deployment timing on existing -- when you have existing fiber versus a new build. And if it's still 18 months at the low end on existing fiber, what are some of the other factors that stretch out that long besides the permitting issues?" ] }, { "name": "Jay A. Brown", "speech": [ "Robert, the 18 to 24 months, we give that as a number, roughly the two-year number, as an indication of how long it takes us on average across all of the activity that we're seeing. As I mentioned earlier, if it's a co-location on existing fiber, it's probably inside of that timeline. And if it's brand-new constructed fiber, it very well may be outside of that timeline. So we're just trying to give you a sense of average, when we give you a new pipeline number and activity, how far we are away from actually receiving revenue and cash flow associated with that.", "That's the purpose of doing that. I would tell you the biggest driver of that timeline, though, would be things related to the zoning and planning process and the difficulty of going through the real estate process of that. So if we think about the actual -- how long does it actually take us to construct the node once all the permits are in place, that's a relatively short component of that overall timeline. We spend most of the time -- most of that period of time really working on what you would think of as the soft costs associated with that of gaining the permits and construction rights to deploy the infrastructure." ] }, { "name": "Robert Gutman", "speech": [ "Great. And did you say what the total on air and the total backlog is now given the changes at this point?" ] }, { "name": "Jay A. Brown", "speech": [ "We're about 60,000 total on air or in the pipeline, so we're about 30,000 that have been put on air and about 30,000 in the pipeline." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. And Robert, as Jay mentioned in the past, the last time we gave that number was around 25,000 and 25,000. So we put 5,000 additional on air and booked an additional 10,000 in order to get to those two numbers." ] }, { "name": "Robert Gutman", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "We'll go next to Spencer Kurn with New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. I've got one question just on guidance and then one more strategic question. So on guidance, it looks like you came in $2 million ahead on cash site leasing rental revenue this quarter, but you actually lowered guidance for this metric for the full year. Usually, at the start of the year, I'd expect an organic beat to be annualized for the full-year guidance.", "So I'm just wondering, what were the sort of offsetting impacts to the beat this quarter that caused you to lower the full-year guidance?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, Spencer. I'll just say that those are all within the ranges that we gave, and getting into the $2 million to $3 million specificity is not something we're going to do on a quarter-to-quarter basis within our guidance. So we're just trying to keep it within the ranges, and everything you're talking about is in that range because otherwise, then we would just give the midpoint as the only point. So it's just in the range is what I would say." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. And then more strategically, you're obviously the most uniquely positioned tower company because you have a more hybrid approach between towers and small cells. Could you just talk about the benefits of this approach? And how do you weigh capturing incremental revenue growth on towers versus fiber? I'm really curious how you think about an incremental -- the value of the incremental dollar of revenue on towers versus fiber." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. I appreciate the question, Spencer, because this is sort of part and parcel of the way we think about capital allocation. The reason why we've invested in fiber is because we think it enhances long-term dividends per share. And that's the measure upon which we make all of our discretionary capital investments, whether it's in towers or on the fiber side.", "And so the benefit to it over the long term is we think we'll provide shareholders with greater returns, particularly in the form of the amount of dividends we pay per share over the long term. I think we sit in a unique position, having watched the deployment of macro towers 20 years ago and then the need as it grew over time, the density of the network grew and the co-location activities and seeing the returns of those. What we're seeing in the fiber movie is basically a sequel of what happened in towers. In the early days, you have a carrier who needs to cover a given geography, and over a relatively short period of time, other carriers need to cover that same geography.", "So we're in the process of working with carriers and understanding their deployment plans and then assessing whether or not we believe the areas that they want to deploy small cells in have the opportunity for co-location. And as we spoke about in two specific markets, in the case of Phoenix and Philadelphia, I think we've done a really good job of identifying locations to deploy small cells for an initial tenant, and then we've seen co-location that's come after that, and that's driven very attractive returns. And you can see that in the micro standpoint of looking at individual markets, and we believe you can see that overall in the totality of the fiber business. Although granted, in the totality of the fiber business, it's a little harder to see the incremental benefit from it because we're continuing to invest heavily and expand into markets where we believe there will be future opportunities.", "So we're building very immature assets that, at the moment, that we believe have a significant amount of upside and future growth that will enable us, we believe, to continue our stated goal of 7% to 8% growth over a long period of time. And we're able to do it with customers that we know really well in the U.S. and in the top -- generally in the top 25 markets. So that's the approach, but it's based on thinking about what we think the incremental increase in dividends per share are going to be.", "That's how we're driving our capital allocation decisions. To the second part of your question around how we evaluate small cells and tower tenants, we want both of those is the short answer to that. And we're trying to figure out a way to grow as much revenue on towers as we can, and we're trying to grow as much revenue on small cells as we possibly can. Those businesses, obviously, have similar customers in many respects, but from an economic standpoint, they work very differently.", "As we've talked about in the past, small-cell systems are not homogenous. So depending on the geography that we're working on and the underlying cost, then we need to appropriately adjust the pricing mechanisms in markets based on the underlying cost of deployments, and we do that. On the tower side, the revenue and rents tend to be more homogenous across markets and across assets." ] }, { "name": "Spencer Kurn", "speech": [ "Great. Thanks for taking the question." ] }, { "name": "Daniel K. Schlanger", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We'll go next to Tim Horan with Oppenheimer." ] }, { "name": "Timothy Horan", "speech": [ "Thanks, guys. Could you give a little bit more color on the fiber business maybe in totality, what the organic growth is, churn, maybe pricing? Have you seen any effects in the total business from the tax restructuring here in the U.S.? And then specifically on that business also, when you have a second tenant coming on for small cells in a specific site, some of your competitors discount the second tenant pricing. Have you guys -- do you guys do that? Or do you try to hold the pricing similar to what you charge your first tenant?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Generally, in the fiber business, I would go back to where we've talked about investment. Where we'll deploy capital, we get an initial yield on that capital somewhere in the neighborhood of about 6% to 7%. When we add a second tenant, our returns go into the double digits, low-teens area as -- from a yield standpoint, and that would be a recurring cash yield against net invested capital.", "And then if we get beyond that second tenant, obviously, north of that into the high teens in terms of yields on the assets. From a totality of the business, we're seeing two things. We're seeing the opportunity to continue to invest around that 6% to 7% area to expand in further markets. And then for the assets that have been online for a longer period of time, we're seeing those incremental yields at the levels that I just mentioned.", "And the second question around second tenant pricing, again, back to the answer on the first question. We haven't seen any change in pricing as we add additional tenants. There's great value in the shared infrastructure model. Whether we're talking about towers or talking about fiber and allowing a carrier to utilize that asset and share it across multiple carriers, that lowers their overall cost of deployment.", "And it's why the tower model has been so successful over time, and it's why, I believe, we've seen such great success on the fiber side. It's a cost-effective way for them to deploy small cells, and we don't need to discount the pricing for the second one. The value of the shared economics is already in play." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And Tim, just to -- [Crosstalk]" ] }, { "name": "Timothy Horan", "speech": [ "Yes. Sorry, go ahead." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sorry, go ahead. Go ahead." ] }, { "name": "Timothy Horan", "speech": [ "So did you give the organic -- for the fiber business in total, the organic growth rate, did you guys give that by any chance?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yeah. So that was where I was going to go with it. I think Jay was talking about more on the small-cell side. So just to try to break out the businesses overall, towers, we've said that the new leasing activity is around $110 million this year; escalators, around the neighborhood of 3%; and churn is in the neighborhood of 1% to 2%.", "On small cells, we're seeing about $55 million of new leasing for this year. Escalators are about half of what we see in towers, about 1.5% on average. The churn is in that 1% to 2% range, very low. And then on fiber solutions, specifically, we're at $45 million of new leasing activity across our business, and the escalators are 0, and churn is in the mid- to high single digits per year range, so 7%, 8%, 9% per year.", "We think that those are all very attractive businesses. And as Jay was pointing out before, with small cells getting those returns that Jay was talking about, which were double what we saw in the same maturity cycle of towers, the ability to add something like the fiber solutions revenue to it that generates returns in and of itself is really an attractive place for us to be. It allows us to expand that shared infrastructure model to lower the cost to any one user by sharing it across multiple users. And the reason we're able to get the same pricing on the second tenant as we are in the first in a small-cell system is basically, we're subsidizing that first tenant with the expectation a second, third and fourth tenant may come.", "So they're getting a lower price than they could get if they were doing it themselves or using somebody else, and we're passing that along by deferring that cost over more customers than just that first tenant." ] }, { "name": "Timothy Horan", "speech": [ "And then last, last. On the total capex, is this a good run rate? Or should it kind of pick up from here because of fiber demand?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "It's generally a good run rate. We're seeing incremental fiber demand as we talk, but it's not a significant number in the capital that would change where we are overall." ] }, { "name": "Timothy Horan", "speech": [ "Thanks, guys." ] }, { "name": "Daniel K. Schlanger", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We'll go next to Phil Cusick with J.P.Morgan." ] }, { "name": "Philip Cusick", "speech": [ "Hey, guys, thanks. So can you help us think about the growth of small cells? And as we talk to investors, it seems like people sort of struggle with the high capital intensity here versus the percent growth that we're seeing off of small cell. And Jay, you mentioned, and I think it's a good point, that it's rare to see inflections in this business. Should we be thinking about an acceleration in the small-cell organic revenue growth over time as this big backlog matures? Or should we just think about it as sort of steady growth on either percentage or revenue basis as the business grows?" ] }, { "name": "Jay A. Brown", "speech": [ "Phil, I think there's two things that are happening. Let's assume that capital investment and activity stays relatively stable across the whole business. What I would tell you is that the long runway of growth, we're, as we talked about, kind of a leasing activity, we're seeing a lease-up that you make an apples-to-apples comparison of adding the second tenant over a five-year period of time. So people who have gotten comfortable with the way towers lease up were going at about twice that pace, so the incremental change, when you look at it in any given market or any given asset, is that the yield, the margins and revenue are growing at a faster pace, roughly double the pace of what we saw on towers.", "Now that's masked by the fact that the capital intensity that you can see on the financial statements and the continued investment that we're making around capex is related to the fact that we're having experiences like Phoenix and Philadelphia, where the early capital that we put in has resulted in exactly the returns that we anticipated, where we're into the low teens as we add a second tenant, which has encouraged us to continue to make investments. And those investments go into the mix at about 6% to 7% and require sort of that high intensity of capital. Now if we roll the play all the way forward and roll this out over a five- or a 10-year period of time, I believe, just like we've seen in towers, we'll see activity over a long period of time where the carriers come back and increase the density of nodes that they have across the fiber. We'll see amendments to those nodes and that fiber as they add additional technologies over time.", "And we'll see carriers who are not initially on that fiber come to that fiber and need it as they build out the density of that fiber. So over a long period of time, we will get back to a place where there's sort of a stable level of revenue. But in a period of time like we're in now, where we're continuing to expand the pie, the dollars of revenue that are going in are going to be increasing as a greater number of assets come online as we build out the fiber that we've contracted to build." ] }, { "name": "Philip Cusick", "speech": [ "So if I can sum up a little bit, maybe we should be looking at dollars of investment increasing. And then over time, as you have more and more of your new sites -- new small cells go on existing infrastructure, that dollars of revenue and percent intensity should start to normalize?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. I would -- again, it depends on how much we end up investing, how long do we get to before we have sort of a stable asset base, where then you look at it more on the way we would look at towers now and you compare year over year on a just pure-dollars basis and say, did that activity increase or decrease? It may take some period of time, depending on what the opportunity is ahead before we get to that place where we have a stable base of assets, upon which we're making that comparison." ] }, { "name": "Philip Cusick", "speech": [ "Great. Understood. And second question. As FirstNet gear goes on to towers, there's a risk that sites have to be hardened.", "Can you talk about your obligations to harden your towers, if any, or declared critical infrastructure? What's on you versus the carrier?" ] }, { "name": "Jay A. Brown", "speech": [ "Phil, I think that gets to the specifics of how we contract with customers so I'm going to beg off of that question." ] }, { "name": "Philip Cusick", "speech": [ "It just seems -- I know maybe it's a little cute, but it seems like sort of a change in strategy if you are obligated. With the rest of the business, it's pretty much on the carrier if they need something in the site to be changed for a contract, existing or new. Is there a shift in that strategy and what you're willing to be obligated for?" ] }, { "name": "Jay A. Brown", "speech": [ "Phil, I think I'd go back to the comments that I made earlier in the call about we approached the agreement with the same core principles and thoughts around the economic trade. So if the implication of your question is a loss in value to us, that wouldn't meet that core principle that I spoke about earlier." ] }, { "name": "Philip Cusick", "speech": [ "OK. Thanks, Jay." ] }, { "name": "Operator", "speech": [ "And we have time for one last question. We'll go to Brandon Nispel with KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thanks for squeezing me in. I was wondering if you could give us the contribution for Lightower in the quarter. And then what type of small-cell leasing activity are you seeing on Lightower versus some of your assets that you've acquired before? And then just last question on Lightower and then I have one more follow-up is, are you changing anything in you're doing in terms of integration? Are you seeing any synergies for that asset? And then one more question just on the guidance.", "I'm curious, how did you get a lease done with AT&T that doesn't include some sort of portion of new leasing activity from FirstNet when AT&T says they want to move fast in deploying that network?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. On your first question around Lightower, it's progressing as we expected. We had previously given the outlook for what we thought they would do this year, and I would say we're on track for our expectations. So no update to the guidance that we've previously given there, and the business performed in the range that we had expected in the first quarter.", "On the second question around integration, we haven't changed any of our approaches around integration, so we're continuing to run the play as we've run it in the past and welcoming some 900 employees from Lightower into the business, thrilled to have them. And they've done a terrific job helping us run the integration into the business. As I mentioned before, we think kind of late -- really late this year or probably early part of next year, we'll have those activities around integration complete. And then we'll be able to turn our sights toward how do we continue to grow beyond maybe just the markets that we're in, the opportunity to add additional revenues to the fiber plants that we own.", "On the last question, we tried to be specific that we had provided for AT&T the ability to deploy FirstNet. I know that's been a really common question over the last couple of years for us. So they do have the right as a result of this recent agreement to deploy FirstNet, and we would expect to see the impact -- although not material to our 2018 results, we would expect to see the benefit of that activity in periods beyond 2018.And with that, operator, I appreciate everyone joining the call this morning. Thanks for the time.", "We're excited about what we're seeing in the business and look forward to giving you update next quarter." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] }, { "name": "Brandon Nispel --Keybanc Capital Markets -- Analyst", "speech": [ "More CCI analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
CCI	2019-01-24	[ { "description": "Vice President of Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Senior Vice President and Chief Financial Officer", "name": "Daniel Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Bank of America -- Managing Director and Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "Raymond James -- Managing Director", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Goldman Sachs -- Managing Director", "name": "Brett Feldman", "position": "Analyst" }, { "description": "RBC Markets -- Managing Director and Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "Cowen -- Managing Director", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Deutsche Bank -- Director", "name": "Matt Niknam", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Adam Narwciz", "position": "Analyst" }, { "description": "BTIG --Managing Director and Analyst", "name": "Walter Piecyk", "position": "Analyst" }, { "description": "Macquarie -- Analyst", "name": "Amy Yong", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "-- Guggenheim Partners --Analyst", "name": "Robert Gutman", "position": "Analyst" }, { "description": "JP Morgan -- Managing Director", "name": "Phillip Cusick", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day and welcome to the Crown Castle Q4 2018 Earnings Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Ben Lowe. Please, go ahead, Sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Bryan, and good morning everyone. Thank you for joining us today as we discuss our fourth quarter 2018 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer, and Dan Schlanger, Crown Castle's Chief Financial Officer.", "Today the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, which we will refer to throughout the call this morning.", "This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions, and any actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors section of the Company's SEC filings.", "Our statements are made as of today, January 24, 2019, and we assume no obligations to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the Supplemental Information Package in the Investors section of the Company's website at crowncastle.com.", "So, with that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Ben, and good morning everyone. Thanks for joining us on the call. As you saw from our results, we capped off another year of growth with solid fourth quarter results. As I look forward, I'm optimistic the positive trends we see in the market will drive demand for our communications infrastructure assets, and I believe Crown Castle is well positioned to take advantage of those trends and deliver growth and returns for shareholders for years to come. Through disciplined capital allocation and execution, we have established an unmatched portfolio of over 40,000 towers and 65,000 route miles of high-capacity fiber in the top US markets where we see the greatest long-term growth and opportunity.", "On this call, there are three important themes that I want to discuss. First, 2018 was a successful year for Crown Castle. Secondly, our strategy of offering towers, small cells, and fiber solutions is delivering the results we expected. And third, I'm excited about the long runway of growth as 4G investment remains robust and the deployment of 5G infrastructure is just getting started.", "On the first point, we delivered 10% growth in dividends for share in 2018 supported by cash flow growth across both our tower and fiber assets. Tower leasing increased in the back half of the year as all of our major customers were actively investing in their networks by deploying new cell sites and additional spectrum. Further, highlighting the strong demand for our infrastructure, we deployed a record number of small cells during 2018. In addition to the great operational performance in small cells, we added significantly more small cell nodes to our back log than we installed in 2018. Meaning, we have a larger contracted pipeline of small cells to build today than we did at this time last year. Importantly, our team delivered these results while integrating our recent fiber acquisitions. With the integration work substantially complete, I'm excited as I look ahead and see the potential growth opportunity as we focus on adding both small cell and fiber solutions customers to our 65,000 route miles of dense, high-capacity fiber.", "This brings me to my second point. Our unique strategy of offering towers, small cells, and fiber solutions, which are all critical components of communication networks that can be shared across multiple customers, is delivering the results we expected. With the volume of data delivered by both wireless and wired networks growing rapidly, our customers are leasing access to our tower and fiber assets to increase the capacity of their networks and keep pace with that growth. Because we have the ability to share our assets across multiple customers, we can provide our customers with cost effective assets to the critical infrastructure they need while generating significant value for our shareholders over time as we lease our assets and drive cash flow growth. Steady performance and consistent execution over the last two decades has proven that providing shared infrastructure assets in the US is a great business.", "Over that time frame, we've invested approximately $23 billion in tower assets and continue to create tremendous value for our share holders as we grow the cash flows and returns on those investments by adding tenants. Since 2001, we've increased site rental revenues in our tower business at a compound annual growth rate of approximately 14%, scaling the business from approximately $350 million in annual revenue in 2001 to more than $3 billion in 2018. In recent years, we've expanded our infrastructure offering beyond towers by investing approximately $13 billion to establish fiber footprints in prime locations across the top US markets where we see the greatest long-term demand. Our fiber investments are already yielding 8% and have significant available capacity to add new small cells and fiber solutions.", "As you can see in our 2019 outlook, we are seeing increasing levels of demand for our fiber assets. Following a record year in 2018 in terms of the number of small cells we deployed, we expect to nearly double our production this year by deploying 10,000-15,000 nodes. In addition, we have approximately 20,000 additional nodes in the pipeline that we expect to deploy in 2020 and beyond. Since it typically takes 18-24 months for contracted nodes to be put on air and start generating revenue, we have a line of sight in to meaningful small cell revenue growth beyond 2019. With respect to towers, we expect the higher new leasing activity we saw in the back half of 2018 to continue, resulting in a meaningful acceleration in tower new leasing in 2019 as compared to 2018. With higher levels of new leasing activity across towers and small cells, and steady growth from our fiber solutions business, I'm excited about our opportunity to continue to translate revenue growth in to anticipated long-term growth in dividends per share of 7%-8% per year.", "Which brings me to my third and final point. I see a long runway of growth in front of Crown Castle as our customers continue to invest heavily in their 4G networks to keep pace with data demand growth from existing technologies while the deployment of 5G is just getting started. According to the latest estimates from Cisco, mobile data traffic in the US is expected to grow five-fold from 2017 through 2022. To put that growth in to perspective, that means mobile data traffic in 2022 is expected to be equal to 12 times the volume of all internet traffic in the US in 2005. While the sheer scale of the expected growth is staggering and should drive significant demand for our infrastructure assets, I get even more excited when I consider how early we are in the digital transformation of the US economy and the critical role mobile infrastructure will play. I think we're just scratching the surface when you consider mobile traffic is expected to account for just 6% of total IP traffic in the US in 2022 up from 3% a couple of yeas ago.", "While we continue to underwrite our investments based on existing applications and existing technologies, we believe the network infrastructure needed to support the next generation services will dramatically increase the demand for our tower and fiber assets. The journey from first generation mobile technology through 4G has changed the way we as consumers live and work. What I find really intriguing about 5G and some of the emerging technologies is that they have the potential to fundamentally alter the role of wireless networks, going from connecting over 300 million people in the US to potentially connecting billions of devices in the future. Some of those emerging technologies include autonomous cars, augmented or virtual reality, and industrial applications that require networks to provide availability anywhere, at any time, and on any device. To meet those requirements at the speeds and latency that will be necessary, industry estimates predict that carriers will need to achieve a ten-fold increase in network performance as measured by latency, reliability, and speed.", "From an infrastructure perspective, that will require the deployment of additional spectrum across more cell sites, both on towers and on small cells for decades to come, and we believe Crown Castle is in a great position at the center of these megatrends with our unmatched portfolio of towers and high-capacity metro fiber assets. Given these long-term opportunities, we are investing in assets we believe will attract and generate long-term returns for shareholders while paying a high-quality dividend that we expect to be able to grow somewhere between 7% and 8% on an annual basis.", "And with that I'll turn the call over to Dan." ] }, { "name": "Daniel Schlanger", "speech": [ "Thanks, Jay, and good morning everyone. As Jay mentioned, we closed 2018 with solid fourth quarter results, completing another very successful year for Crown Castle on several fronts. We increased dividends per share by 10%, consistent with our growth and AFFO per share, and our commitment to return capital to shareholders. We substantially completed the integration of our recent fiber acquisitions and made significant investments in new fiber assets across the top markets where we see the greatest demand for small cells and fiber solutions. And we made those investments while improving our overall financial flexibility by proactively refinancing upcoming maturities and increasing the average maturity of our debt.", "Turning first to the fourth quarter 2018 results on slide 4, I want to walk through a few items that should be considered when comparing the results to our prior outlook. First, site rental revenues exceeded the mid-point of the prior range by approximately $15 million, including $10 million of additional straight-line revenues primarily resulting from the term extensions associated with leasing activity. In addition, there were approximately $10 million of higher costs associated with the combination of additional incentive accruals for 2018 and expenses associated with certain natural disasters that occurred during the quarter. Results were also impacted by approximately $5 million of lower services contributions that is timing related. So, we now expect that contribution in 2019.", "And finally, AFFO benefited by approximately $10 million from lower sustaining capital expenditures in the quarter, a portion of which are expected to now occur in 2019. Adjusting for the total impact of these items, results were within the ranges provided in our prior outlook for site rental revenues, adjusted EBITDA, and AFFO. For the full year 2018, site rental revenues increased approximately 29% or $1.0 billion, including approximately 5.6% growth in organic contribution to site rental revenues.", "Moving on to investment opportunities during the year, we deployed approximately $1.7 billion in capital expenditures, including $1.6 billion of revenue generating capital expenditures comprised of $1.2 billion in fiber, and approximately $350 million for towers. For the full year 2019, we expect grow capex of approximately $2 billion or approximately $1.5 billion net or prepaid rent. Based on our expected cash flow growth and the incremental leverage capacity that growth will create, we believe we can finance this level of spending without issuing equity. Supporting this belief, we ended 2018 at just over five times debt to EBITDA, consistent with our intent to finance the business with approximately five terms of leverage as we remained committed to maintaining our investment grade credit profile. Additionally, with more than $3 billion of available capacity on our revolver and maturities until 2021, we are comfortable with our debt balance sheet flexibility.", "Turning now to slide 5 of the presentation, at the midpoint, we increased our full year 2019 outlook for site rental revenues and adjusted EBITDA by approximately $40 million due to higher straight-lined revenues primarily resulting from the term extensions associated with leasing activity that I mentioned earlier. As you can see, AFFO guidance remains unchanged at approximately $5.85 per share as the higher straight-lined revenue does contribute to AFFO.", "Turning to slide 6, we now expect between $223 million and $268 million of growth in site rental revenues in 2019. As you can see in the chart on the slide, when compared to the prior outlook, the only change relates to the impact of higher straight-line revenues I just discussed. Our expectations for growth and organic contribution to site rental revenues remain unchanged at approximately 6%, up from 5.6% in 2018. We continue to expect higher 2019 new leasing activity for both towers and small cells with consistent levels of growth from fiber solutions.", "To wrap up, 2018 was another very successful year for Crown Castle and we are excited about the anticipated growth in our business in 2019. Currently, we are seeing the benefits from the investments our customers are making in wireless networks to keep pace with increasing data demand, which allows us to provide near-term returns through a high-quality dividend that we expect to grow 7% to 8% annually. At the same time, we are making significant investments in our small cell and fiber business that we believe will position Crown Castle to take advantage of the long-term growth trends Jay discussed earlier. Because we are so early in the growth cycle for small cells, we believe our investments will provide significant long-term upside as we add tenants to those new assets. It is this combination of near-term returns and expected long-term upside that I think makes Crown Castle such an attractive investment.", "And with that, Bryan, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. If you'd like to ask a question, please signal by pressing 1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press 1 to ask a question. We'll pause for a moment to allow everyone an opportunity to signal for questions.", "We'll now take our first question from Simon Flannery from Morgan Stanley. Please go ahead. Your line is open" ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you very much. Good morning. Coming back down to your comments around the balance sheet, could you just talk a little bit more about the use of leverage versus equity? So, what are you comfortable with in terms of taking the leverage from where it is today? What's that upper end of that range? And then, is this something that you might amend if, say, you were looking some MNA? Maybe you could just comment more broadly on any MNA opportunities that you might be considering. Thanks." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure. Thanks, Simon. As we've discussed a lot in the past, what we look at is, we want to maintain an investment-based credit profile, which we believe means we need to stay at five times debt EBITDA with our target leverage. We've been right around there. We ended the year right around there, right at five times or just north of it. So, when we look out and see what our expected capital spend is over the course of 2019 and the incremental EBITDA that we believe we will generate and the leverage capacity it will create, we think that we're going to be able to use that leverage capacity and our internally generated cash flow to pay for the capital expenditures and maintain around five times debt to EBITDA. So, that's why we think that we're in a position where we don't need equity, from what we can tell right now, we don't need equity through 2019 based on what we see the capital spin profile to be.", "To your point though, if we do see some MNA activity out and think that's something that's attractive for us, that would be external to what we just talked about. That would be funded in a way that would be consistent with maintaining our investment grade rating and five times leverage and would likely include equity because I think whatever company or assets we would buy, it would be for more than five times. So, it would include some equity at that point, but when we're talking about our capital program for '19, we feel pretty good about our ability to finance it." ] }, { "name": "Jay Brown", "speech": [ "Simon, more broadly on the MNA front, we've talked about this the last several quarters on the call. We really don't see opportunities in the market of large scale that are going to fit our strategy, our focus around running metro fiber that's dense with high capacity and believe the more likely approach for us is going to be to invest via building our self, organic builds. There may be some tuck in acquisitions in some markets where we find an opportunity where it makes sense to buy it versus build it, but we think the more likely outcome is that we're going to be building fiber to meet the demand that we see coming for small cells." ] }, { "name": "Simon Flannery", "speech": [ "And limited interest internationally?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. We continue to believe the US market is the best market in the world for the investment in communications infrastructure. We're always open to learning and seeing what else is going on in the world but based on everything we've had the opportunity to see thus far, we think the best opportunity for returns exists here in the US. It continues to be the largest and fastest growing market in the world and, to my comments that I made around 5G, we certainly believe the US is going to lead the way on 5G in the amount of capital investment here and the potential opportunities we think are the greatest here in the US." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "We'll now take our next question from David Barden from Bank of America. Please go ahead. Your line is open." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks a lot for taking the questions. I guess, one follow-up on that, Dan, just when you guys gave guidance last quarter with the interest expense that you built in, it was clear that the debt funding was going to be the lead vehicle for financing the business. Can you give us any more color now in terms of what you're thinking and whether it's revolver or debt, unsecured or secured, and the timing as we think about the numbers flowing through in the year? And then the second one is, could you guys share any kind of incremental color on the tenant extension that you announced was the source of the guidance raise this quarter? When I look at the supplement on page 18, it's really hard to see that anything really changed there at all, so it wasn't clear what the moving part there was. It would be helpful. Thank you." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure. I'll take the first one, Dave, and thanks for the question. When we put together the guidance, as you pointed out, we had assumptions around how we would finance the business through 2019 and nothing has significantly changed in the way we think about that. We clarified just now on the equity point, but nothing has significantly changed on how we think about financing our business. What we're trying to do is maintain our investment-grade credit profile and do it at the lowest cost we possibly can. And, when we look out and see what the market looks like in terms of trying to term out debt or what our revolver capacity is, we feel good about the flexibility we have on our balance sheet, and we'll just be opportunistic as we look out and see when it makes sense to try to term things out to the extent that we want to between secured and unsecured and any other funding source we can possibly get our hands on, because we want to be open to everything." ] }, { "name": "Jay Brown", "speech": [ "Dave, to your second question, we did not do a new, as people would often term it, a new deal during the quarter. So, what we're speaking to and the adjustment that we made to the outlook doesn't have anything to do with something new that we crafted a new deal with customers. It was just related to the activity that we saw and then the term of the leases on that leasing activity. So, as you know, we're hesitant to get in to specifics of how we transact with customers, but that's what's driving the reference in both the press release and in the numbers." ] }, { "name": "David Barden", "speech": [ "So, this wasn't something new? It was not a term extension that got signed in the quarter?" ] }, { "name": "Jay Brown", "speech": [ "It was not a new deal that we did, no. It would term related to the leasing activity that we saw during the quarter." ] }, { "name": "David Barden", "speech": [ "Okay. Great. Thanks." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Ric Prentiss from Raymond James. Please go ahead. Your line is open." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks guys. Appreciate you taking the question. Two quick ones. Dan, you mentioned in your prepared remarks the capex, the $1.7 billion in 2018 and then in 2019 $2 billion gross $1.5 billion net. The 2018 number, that $1.7 billion, is that a gross number or the net number?" ] }, { "name": "Daniel Schlanger", "speech": [ "That's a gross number, the $1.7." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. So, the $1.7 would compare to the $2.0 gross in 2019." ] }, { "name": "Daniel Schlanger", "speech": [ "Yes." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. Yeah, then following on David's question on the page 18 of the supplement. The one thing we noticed was, and I know you don't like to talk specific, but the numbers are out there that, I think, T-Mobile 2022 annual rent cash payments at renewal went from 560 to 510 in '22. Is that part of what we're seeing then is some of that renewal time frame got extended out beyond '22?" ] }, { "name": "Jay Brown", "speech": [ "Ric, I don't want to tie components of what we've given, but you're correctly reading the supplement to see that the term for components of revenues that were in earlier periods are getting pushed out to later dates. I would be careful bout drawing too many connections between the numbers, but as you read the supplement on the face of the supplement, you're accurate that the term has been extended." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And the average life, I think, did come down for Sprint from 7 years to 6 years. All the other guys stayed at their previous number. Is that just that we've rolled off another year and if somebody stays at 5 years or 6 years that there's been some extension? They're just trying to think of how should we read the supplement year to year and what happens to the remaining life?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. I think the way you described it is a good way to think about it as we've just crossed over the year and so, depending on what the terms of given contracts are absent activity on a site, then you're going to see that come closer to 0. To the extent that there is activity or new leasing activity, it's going to move the book out toward the right." ] }, { "name": "Daniel Schlanger", "speech": [ "The only thing I would mention, Ric, maybe to clarify the point you made, because they're whole numbers there is rounding in there too. So, the fact that one stays at five from one period to the next period doesn't mean we extended. It just means that it hadn't crossed over from a rounding perspective." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense. We haven't heard any comments from you guys on dish, but it does feel like other people are starting to see dish show up. Has that been helping the benefits? Have you seen some movement from dish on putting their narrowband IOT network out there?" ] }, { "name": "Jay Brown", "speech": [ "You know, as you know, we don't like to comment specifically on individual customers. I will tell you, outside of the big four, that there is spectrum that's being deployed for a number of different uses and that is helping our revenue growth results, and we think there's opportunity for more of that in the future. The majority of the revenue growth that we see both on towers and small cells is really being driven by the big four operators. But beyond that, the infrastructure is useful for anyone who wants to deploy a wireless network and we're seeing a leasing demand from a number of customers outside of the big four." ] }, { "name": "Ric Prentiss", "speech": [ "Great. That's helpful. Thank, guys." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Daniel Schlanger", "speech": [ "Thanks, Ric." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Brett Feldman from Goldman Sachs. Please go ahead. Your line is open." ] }, { "name": "Brett Feldman", "speech": [ "Thanks for taking the question. You were talking about the increasing pace of small cell node deployment going from 10,000 to 15,000 up to 20,000. What we've seen in the past is that as you've ramped up your capacity to deploy small cells, there has been some increase in your operating expenses. I was hoping maybe you could just explain that dynamic to us. Are you at the point right now where there is some type of a linear relationship? Meaning, if you increase your deployment pace by 1,000 nodes or so there's going to be a certain amount of increase in your expense, or are you beginning to hit a point where there's an increasing degree of operating leverage within the business so that as you scale your growth you maybe start to see more conversion of that revenue toward to bottom line?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, Brett, I would say based on what we have on the back log currently that we're working on, both for 2019 and the work that we'll already be getting on nodes that will go on air in 2020 and beyond, we think that our operating structure as is currently situated is sufficient to manage that growth. To the extent that the pipeline grows even large or we're trying to put on air more than, as I mentioned in my comments, trying to get on air somewhere between 10,000 and 15,000 nodes in 2019. If we were to meaningfully raise that number beyond that, then we'd have to come back and talk about what we think the cost structure is appropriate. If it were to get to that, things that would matter in that analysis is how many new markets are we having to go toward. To the extent that the increase was in markets that we already exist in, it might have less of an impact toward rising cost. If we see the opportunity expanding beyond the existing markets, then that would have a different calculus in terms of thinking about operating expenses. But I think the right way to look at it now is for the pipeline that we have currently contracted, we think the operating expenses are a stable level of activity to handle that level of demand." ] }, { "name": "Brett Feldman", "speech": [ "Do you mind if I ask a quick follow-up? As we think about the bottle neck in your abilities to deploy at any given pace, what would you say it is? Is it the absolute level of demand for small cell deployments? Is it your own capacity to meet that demand, or is it external factors like the zoning process?" ] }, { "name": "Jay Brown", "speech": [ "Well, in terms of timing, obviously if we talk about the time line to deploy these of 18-24 months to get them deployed, if we were to see an increase in the amount of nodes that we're contracting today, we'd be two years away from actually benefiting from the revenue associated with that. So, in terms of financial results, I think the biggest bottle neck I would point to is the amount of time it takes to get these deployed. The regulatory hurdles to get there are significant. The FCC has obviously helped us through their recent order, and it gets some clarity around what the nature of the deployment should look like and it gives us a path toward working with communities in order to get something in place. Nonetheless, the hurdles are there, and the time line is significant. So, that's probably the biggest bottle neck. Obviously, we think, based on everything that we know and what we're seeing around 5G, we think the opportunities for small cells is very likely to increase over time. And so, to the extent that the overall demand for small cells increased, that is certainly a gating item currently in terms of what the cap on what our opportunity is and over time we think the opportunity is going to grow. But, specific to financial results, it would be the timeline that currently it takes between when it is contracted and when we can get it on air." ] }, { "name": "Daniel Schlanger", "speech": [ "The only thing I'd add to that, Brett, is I don't think it's our internal abilities or capacity that is a bottle neck at all. We've been able to scale, as Jay was talking about in answer to the first question you asked, from 5,000 nodes or so a few years ago to 10,000 to 15,000 nodes now. We think we can continue to scale. It's really the combination of how big that demand will be ultimately and the time it takes to get there." ] }, { "name": "Brett Feldman", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Jon Atkin from RBC. Please go ahead. Your line is open." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks. So, I was interested in the natural disaster reference. What specifically were you referring to and is there any continued impact in to 1Q?" ] }, { "name": "Jay Brown", "speech": [ "Jon, we don't expect there to be any flow through to Q1. Specifically, what we were referring to was hurricane Michael in Puerto Rico and then the significant fire that happened in Southern California." ] }, { "name": "Jonathan Atkin", "speech": [ "Okay. And then, during the script you mentioned the word latency so that made me think about Vapor IO. I would if you could provide any update operationally and potentially financially what we can kind of expect over the next year or so?" ] }, { "name": "Jay Brown", "speech": [ "We're continuing to do some work on edge computing as the networks get designed and traffic increases. To my comments on where traffic is increasing on mobile networks, we continue to believe that some of the traffic in order to get to the latency required for internet of things, some portion of the network is going to have to be designed where information is kept at the very edge of the network, some for cost purposes but also for reduction in latency. We believe that it makes a lot of sense for a meaningful portion of that edge compute to be put in places where there are existing macro sites connected to small cells. So, we're continuing to do a number of trials there, but it's still very early and you shouldn't expect to see any impact to our financial results, certainly not in 2019 in the outlook that we've given from the work that we're doing there. But long-term, it could be an opportunity and may result in us having another use for leasing our sites, whether it's the ground or space on the towers related to edge compute." ] }, { "name": "Jonathan Atkin", "speech": [ "Okay. And finally, I was wondering if you could comment on the organic growth rate within fiber exclusive of small cells? So, enterprise fiber essentially." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure. What we're looking at is about mid-single digit growth rate on a revenue basis for the fiber solutions business exclusive of small cells. The small cells growth, we think, is going to be closer to the 20% range. And that's comprised in the fiber solutions business. That's net of high single digits of churn. So, the overall growth we think we'll get there is around 5%." ] }, { "name": "Jonathan Atkin", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "We'll now take our next question. Colby Synesael from Cowen and Co., please go ahead. Your line is open." ] }, { "name": "Colby Synesael", "speech": [ "Great. You talked about expanding the number of markets where you see the small cell opportunity. I was wondering if you could give us color on what that looks like today and how many of those markets do you have fiber in at this point versus you'll need to get there? Those markets you don't have fiber in, is it about organically building or is it more likely that you'd do those tuck ins that you described? And then secondly, when would you expect to see masses and mimo type equipment start to get put up on towers based on the conversations that you're having with your customers? Is that something that you see starting to happen in 2019 in a material way, or is that still out there? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Yeah, Colby, to your first question, the vast majority of the spend by the wireless operators for small cells continues to be in the top 30 markets in the US, so, basically, like NFL cities. We have fiber plant in many if not all of those markets now or we're in the process of constructing it. To the extent that the expansion goes beyond those top 30 markets, which we're doing some of that but, it's not a meaningful amount of capital or frankly a meaningful number of small cells, yet. That's where the opportunity is currently and that would stand for both the pipeline of nodes that we're deploying and will put on air in 2019 as well as our contacted back log at this point is mostly focused on those top 30 markets. As I mentioned earlier, my comments around the MNA, I intended those to be more broad than just the markets that we're currently working in. As we look at markets even beyond the top 30, we don't see acquisitions as a likely outcome for ay meaningful amount of the fiber that we may one day own. We think it's more likely that we're going to end up having to build it, and that's a result of us assessing the type of fiber that exists in the market. We just don't see the dense, high-capacity, urban fiber in markets, whether we're talking about top 30 or beyond the top 30 that are likely targets of any meaningful size to us. We think we're much more likely to be organically building that fiber.", "On your second question around mimo antennas, we are seeing some of that, but I don't know that that's frankly that relevant, ultimately, to our investment story. As carriers deploy equipment on both small cells and on towers in order to deploy network and manage both their spectrum position capacity needs, they do a number of different things with antennas in order to meet that. In order to design the network, there are a lot of demographic characteristics that are going to fall in to that analysis. The relevance for us is much more around is there need for it and then how are they designed their network. We are seeing some of the massive mimo antennas being deployed but I don't know that that's really a meaningful component of our investment story. I would look much more at just the overall activity and the deployment of network and the carriers will make differing choices around how they deploy that network depending on the demographics." ] }, { "name": "Colby Synesael", "speech": [ "I think for the lower band spectrum, your massive mimo will require significant pieces of equipment, some people will say like the size of a small dorm room type refrigerator. As a result of that, just considering the size of it, there's a viewpoint that that could by itself be a material driver to growth for the tower operators when that happens. I guess your point is that we shouldn't isolate that as a material revenue opportunity. Is that what I'm hearing?" ] }, { "name": "Jay Brown", "speech": [ "Exactly, because they could solve the same thing using more sites or differing types of equipment depending on what spectrum bands they use and how they choose to do it. So, just in isolation, I wouldn't necessarily assume that would be a large revenue driver for us." ] }, { "name": "Colby Synesael", "speech": [ "Okay. Thanks, Jay." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Matt Niknam from Deutsche Bank. Please go ahead. Your line is open." ] }, { "name": "Matt Niknam", "speech": [ "Hey, guys. Thank you for taking the question. It's on Lightower. It's been about a year now, over a year, since you closed that deal. Can you just update us on some of the revenue synergies you had talked about for both CCI's existing enterprise and fiber assets to leverage the Lightower network and then, obviously, your ability to add new small cell revenue on that existing fiber? And then on the cost side, I know there wasn't much that you had outlined in the way cost synergies, but is there anything to think about, now that you've fully integrated the assets on a go forward basis, having multiple fiber assets now under CCI's ownership? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Sure. One year in to the Lightower acquisition, things have gone basically how we expected. So, we've been pleased with how things have gone the first year in to ownership. We, as a part of the acquisition, have the benefit of attracting about 900 employees that came with it and they have been terrific, very seasoned, great skills, and have done a good job continuing to run that business and have been an integral part of the integration of the other fiber assets that we had acquired previously. Pleased today that we've effectively completed almost all of the integration activities and have everything on a common system. So, excited about what that's going to mean for us with regards to revenue synergies.", "When we announced that transaction and as we look today, yeah, there are a number of nodes that are going on existing fiber and some of the fiber that we acquired we were down the road on already contracting the node. So, we're using the fiber that we acquired to handle some of those nodes. Give the markets that we acquired, mostly in the Northeast with Lightower and then the Texas markets that we got with Fibernet, there was a significant amount of opportunity in those markets for small cells, So, we're really early days in terms of the deployment of small cells against the fiber that we've owned, but the thesis is playing out as we would have expected 12 months in to it." ] }, { "name": "Daniel Schlanger", "speech": [ "From the second part, on a cost synergy standpoint, what we talked about is what we meant. As Jay said, we've picked up 900 people that knew what they were doing, and we've kept the vast majority of those people. We're not looking to try to wring out cost synergies to try to make sure we're operating that any differently than it has been operated in the past. What we're looking to do is trying to expand our market." ] }, { "name": "Matt Niknam", "speech": [ "Got it. Thanks, guys." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Nick Del Deo from Moffettnathonson. Please go ahead. Your line is open." ] }, { "name": "Nick Del Deo", "speech": [ "Hi. Thanks for taking my questions. Yeah, I realize that it might be a challenging question to answer just given the very nature of fiber, but can you try to give us a sense for what share of your purpose-built small cell systems are also generating some sort of revenue from a non-small cell source, like an Enterprise customer? Or perhaps what share do sell a few years after they were constructed?" ] }, { "name": "Jay Brown", "speech": [ "I don't know that I have a number off the top of my head, Nick, to be able to answer that question for you. You know, as we look at individual markets, which we tend more to look at the business on them as we study how we've done in particular markets and we've talked about some of these case cities in the past, we'll do a deep dive in a market like Chicago or New York and look at: What was our initial investment? How much fiber did we own initially? What was the nature of that initial fiber relationship, whether it was K through 12 or Enterprise or small cells? And then watch as it develops over time.", "And as we look at individual case studies, what we've seen is that the thesis has played out as we expected. When you own fiber in areas where there's a dense population of people, those are the places where the wireless networks are challenged, and they need to add capacity. So, we see those fiber networks, whether we start with small cells or we start with a fiber solutions application, we see over time it being an asset that is shared. And we find that in areas that are dense, urban, downtown, business districts and then we find it in more suburban applications. In both situations, where the people are the fiber ends up being needed for business enterprise, hospitals, universities, schools, and being necessary for wireless." ] }, { "name": "Daniel Schlanger", "speech": [ "And one of the good things about the strategy that we've deployed and why we're so interested in the fiber we're interested in, is having lots of strands. High-capacity fiber in lots of density really plays in to all of that. So, having the ability to serve all of those markets at the same time with a level of service that isn't necessarily available in the market because the fiber is so unique, the capacity that we have is unique through a lot of that, positions us really well to take advantage of all the markets we can serve." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Got it. That's helpful. And then, Jay, in your prepared remarks you talked about expected wireless traffic growth and how that drives your outlook for your wireless infrastructure. You know, historically with towers, the exclusive nature of the aspects and the physics of wireless delivery has meant that there's been a pretty strong linkage between traffic growth and monetization rates. When I think about fiber solutions, that relationship doesn't seem quite as clear given ongoing improvements in optronic and there being more competition. So, with respect to fiber solutions specifically, how do you think about the long-term relationship between traffic growth and revenue growth?" ] }, { "name": "Jay Brown", "speech": [ "Nick, appreciate that question because I think there is a sense in which that question drives toward the heart of our strategy. All the IP traffic that's out there or internet traffic that's out there is not the target of our business. So, there's a significant portion of that traffic that we don't serve today, a significant portion of it that we wouldn't ever aim to serve. The portion of the market that we're aiming for is large enterprises; universities, hospitals, in some cases government systems, that are large users, most of the time a few multi-location businesses. And that's really our target for providing fiber solutions, where really all we're providing is the pipe, and the pipe happens to run along places where, because of the demographics of an areas, there's going to be a lot of users of mobile technology there and constraints on the network and therefore that fiber is going to be needed for small cells.", "So, I think overall traffic is indicative, to some degree, of the opportunity that's in front of us with those large enterprises; hospitals, universities, etc. But I would not to take our fiber solutions business and draw a direct connection to overall growth in internet or IP traffic over time as a direct correlation to what our revenue growth and our fiber solutions business is. I do think on the mobile side, which is why I made the comments that I made, I do think on the mobile side that that traffic is a good indication of the necessity of improvement in network, particularly with regard to the uses of that network. As latency comes down, not only is latency a concern but reliability has to go up pretty meaningfully from where the wireless networks are today in order for the devices that are likely to be used in a 5G environment to actually be effective and be able to be relied upon for industrial uses. And that increase in the reliability of the networks and the reduction in latency is going to mean a pretty significant increase, we believe, in the number of places where there is deployment of wireless spectrum, both on towers and small cell.", "So, the wireless traffic I think is a pretty good indication on the total traffic side or wired side. Probably not the best indication for our business." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Got it. That was great color. Thanks, Jay." ] }, { "name": "Operator", "speech": [ "We will now take the next question from Michael Rollins from Citi. Please go ahead. Your line is open." ] }, { "name": "Adam Narwciz", "speech": [ "Hi. Thanks for taking the question. This is Adam Narwicz on for Mike. I was curious about the slightly seen growth from the fourth quarter. It came in a little bit above what we were expecting. I was wondering if you could give a reason for what drove that and maybe why it didn't roll through to the 2019 guidance? That wasn't updated for organic. Thank you." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure. The driver for most of the incremental activity was actually our small cell business where we saw the activity levels a little higher than what we expected going in to the quarter. The reason that it didn't roll through is because we've given ranges around what we think 2019 will be and this is all within those ranges. So, we don't anticipate updating guidance every time something moves by a couple million dollars. We're trying to make it to where the ranges incorporate what we think is a reasonable expectation of the potential outcomes, and this falls within that range. So, we're not going to update it for that." ] }, { "name": "Adam Narwciz", "speech": [ "Okay, thanks. When does the follow on the small cell business and the tower business, given that a lot of the customers are overlapping? Can you talk about what type of relationship those two businesses are having in the sales process? Are you signing joint contracts for both products or are your customers continuing to think about those products and the areas they are addressing separately? Thank you." ] }, { "name": "Jay Brown", "speech": [ "On the carrier side, the individuals who are deploying network would be handling both towers and small cells. So, we don't see separate groups that we're having these conversations with. They are very different conversations, though, in terms of as we think about value. On the small cell side, we're deploying a significant amount of capital, generally speaking about 75% of the activity that we have or thereabouts is going to be related to anchor activity and the balance would be colo. So, in that 70%, 70%-75% of the total activity being anchor activity, we're deploying a significant amount of capital in order to build those systems. So, the conversation on that front is around the yield and return on that invested capital. As we've talked about before, we would expect, in order to deploy capital, somewhere in the neighborhood of a 6%-7% initial yield and then, ultimately, we get to a return to justify the investment and an acceptable return, ultimately, to the shareholder of adding multiple tenants beyond that. So, our evaluation on the small cell side comes down to; What's the investment required and what do we think the potential return is based on location and other things?", "On the tower side, it's a different conversation. It's around what assets exist in the market that will meet or solve the needs that they have. Because of the agreements that we would have with all of the customers, we're not really doing an analysis around what the return on a per dollar basis is for the investment of capital because the capital investment has already been made. It's a conversation that happens with the same people, but it's a very different conversation depending on the type of product that they're trying to buy from us." ] }, { "name": "Adam Narwciz", "speech": [ "Thank you very much." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Walter Piecyk from BTIG. Please go ahead. Your line is open." ] }, { "name": "Walter Piecyk", "speech": [ "Thanks. I just wanted to ask, obviously, about the prepaid. My favorite question. It looks like for the year you were guiding to 35-40 was a minimum at the high end, maybe a little over. Can you talk about what were the issues there? And then, for next year, you had talked about doing 35-40. What's that on top of this year as the increase? Is the baseline for that the 327 that's reported or is the baseline the 292 or maybe lower that excludes the prior prepaid for the quarter? Thanks." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure, Walt. So, first, yeah, the prepaid came a little above our 35-40 guidance. Small cell activity was a little higher and so we got a little more prepaid activity, prepaid rent received in that case for 2018. Going forward, I think what we said is somewhere in the 30-40 range in 2019. That would be over and above the 327 you talked about, so total all in. That's the number I think you're looking for." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. Thank you. That's helpful. And then just one other question as far as the churn make up when you look at the guided churn. Assuming the tower churn is in this kind of whatever 2%-2.1% ballpark, right? Then for the fiber business, what's leftover is if you get 25% of your business is small cells and that's a 1.5% churn level, that's probably high given its early stage. To get to the guided churn and the disconnect stuff, that is implying a 10% churn number for the enterprise business. Am I thinking about that properly in terms of the breakdown of the churn?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. I think you're close. I think on the tower side both for '19 and years beyond, we think the churn rates are around 1%-2% and as you mentioned we're going to be at the high end of that for 2019. Our working assumption for long-term is that small cells are going to have about the same level of churn. Fair to say that maybe in the short-term here we don't see quite that level, but in the same 1%-2% range. And then on the fiber side, we think it's high single digits. So, we've talked about the fact that we think it's about 9% in 2019 in the outlook that we gave." ] }, { "name": "Walter Piecyk", "speech": [ "Right. So, you're basically being pretty conservative then, because if you put 9% in there then that would take you to the low end of the range. So, I guess the guidance on the churn sounds like it's fairly conservative then. Because there's no exogenous churn events in macro towers, I don't think, expected in 2019, right?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, I think we're probably trying to give ranges. So, depending on where you pick a point in the range, you squeeze out the side. We're just trying to give a range. I think for modeling purposes, we think somewhere in the neighborhood, we think the fiber business is going to run in and around those high single digits, around 9% and then around 1%-2% on towers and small cells." ] }, { "name": "Daniel Schlanger", "speech": [ "And Walt, just to clarify on the exogenous tower event, we do think that about half of the churn we're going to see in towers is because of the acquired network churn that's coming through. I'm not sure you'd call that exogenous or not, but we did want to call it out as something we see. We don't think we peace forever." ] }, { "name": "Walter Piecyk", "speech": [ "I may have to look that word up in the dictionary. I just used it. I'm not even sure I know what it means, but I appreciate the answers. Thank you." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Amy Yong from Macquarie. Please go ahead. Your line is open." ] }, { "name": "Amy Yong", "speech": [ "Thanks. I guess I'm just following up on a previous question, but I think your past view was that small cells return would be similar to macro sites at scale. I guess, where do you think you are and how far along are you to reach scale and has there been anything in the past year that's changed your view on that? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Amy, we're really early days on small cells. So, our initial yields on small cells, as I mentioned, are around 6%-7%. If you look at our entire fiber segment with small cells and the fiber solutions, we're getting about an 8% yield on the invested capital around fiber. So, we've taken both the acquisitions that we've done as well as the build and we've already grown the yield on the $13 billion that we spent there above our initial entry point.", "On a tower basis, if we roll the clock back to a couple decades when we first started acquiring towers, we acquired a significant number of our towers at about a 3% yield and have grown that yield over the last two decades. If you look at in on a micro sense and look at what's the return on a tower versus a return on a small cell system, they are very comparable. As we add additional tenants to small cells, we see the returns and the margins expand at about the same pace if not maybe slightly faster on the margin side than what we saw in the tower business. And at the end of the day, we see returns with pretty reasonable assumptions around what we think lease up is somewhere in the neighborhood of about the equivalent of a little over two tenants per tower on a tower basis.", "If we were to do that same math on the small cell side, we would get to returns that are well above a blended cost of debt and equity and provide substantial return as we think about growing the dividends per share over the long-term. Last thing I'll mention about this is, the key characteristic around what drives that return is what is the lease up associated with the asset. So, you enter the asset with an anchor tenant and have a going in yield, on a tower sides historically it's been about 3%, small cells it's about double that at about 6%-7%, but then what's the co-location model look like and at what rate do we see co-locations? And that drives the return long-term.", "Our experience has been, thus far, that the pace of leasing on existing investments, we've seen lease ups that's about twice the pace of what co-locations on the towers have been over the last decade or so. So, we've accelerated the path toward co-locating and sharing the assets as we've deployed these early systems of the small cells as a second, and in some cases a third, tenant has come along and used that same system. So, our thesis, in terms of the model is similar to towers, is playing out at the same time that we're scaling the business significantly. As I think I mentioned this last quarter, in 2019 we think we'll deploy roughly double the number of small cells or double the growth that we had in 2017. So, that kind of growth is expanding the over all size of the pie and as we look at it in a micro sense, the model is playing out but it's playing out against a scale of assets that's much smaller than the entire size of that the investment is today because it's grown so significantly in terms of our investment and opportunity.", "When you look at the yields on the total, yes, it's headed in the right direction going from initially 6%-7% to now 8%-8%+, but the overall book of that growth and total return yield is going to take many years, just like it did in towers, as we move the base and increase the opportunity." ] }, { "name": "Amy Yong", "speech": [ "Got it. Thank you. And I guess just following up on that, I think we've seen one or two carriers deploy small cells internally. What do you think is driving that decision and does that potentially shape your view on what you just said?" ] }, { "name": "Jay Brown", "speech": [ "I think all of the carriers are deploying small cells in some form a self-perform. We certainly don't anticipate that we'll win 100% of the market share, just like we've never done that on the tower side either. We think at the moment we're somewhere in the neighborhood of about half of what's getting deployed that we're winning, and I think the fact that the carriers are self-deploying should be a good indication of the fact that this is a good business and they need small cells. There are certain locations where we're going to choose not to build them because we don't see the lease up opportunity there and therefore, we don't see the shared economics for great returns over the long-term. So, I think the carriers will continue to self-perform in places where we don't view those to be the best places to invest capital. Just like we saw for a long time on the tower side where carriers built their own towers in places where tower companies or others were not willing to invest the capital in order to build the infrastructure." ] }, { "name": "Amy Yong", "speech": [ "Okay. Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "We will now take our next call from Spencer Kurn from New Street Research. Please go ahead. Your line is open." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys. Thanks for taking the question. I'm just wondering, you've guided to $120-$130 million of new leasing revenue on towers in 2019. How does that compare to what you guys saw in the fourth quarter? I'm just trying to gauge whether your guidance assumes any coloration in activity or if it pretty much is an annualization of this past quarter. Thanks." ] }, { "name": "Daniel Schlanger", "speech": [ "Yeah, Spencer, it's similar to what we saw in the fourth quarter, but as we're talking about and have talked about, what we're excited about is just the level of activity increasing over time and all of our customers being active across our towers business. So, we do think that will continue through 2019." ] }, { "name": "Spencer Kurn", "speech": [ "Great. And I just have one other question on node density in small cells. I think today you've got around two nodes per mile on average. Oh, sorry, actually it's lower than that. But my question is, we've heard of some deals where carriers are signing deals for 10-20 nodes per mile. I'm just curious, can you talk about your distribution of your small cell node density? How many markets do you have with node density above maybe 10 nodes per mile or 5 nodes per mile, I'm not sure how you break it out? And then also, are you seeing these types of deals becoming more prevalent in your conversations? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Yeah, Spencer, just to clarify a couple of points. When we're deploying new fiber and building it for the purpose of small cells, our average is just over 2 nodes per mile, currently, as we're deploying. That's held pretty consistent. When you get to specific examples and we start to look at some case studies, we could show you many examples in dense urban markets where the node count is between 6-10 nodes per mile, and we don't think those are by any means isolated examples. We think that over time, we're going to continue to see a density that's significantly beyond what we are currently in terms of small cells per mile. That's well beyond, if we start talking about 6-10 nodes per mile, that's well beyond what we're underwriting when we decide to make these investments. We're closer to underwriting in the neighborhood of about 4 or a little over 4 nodes per mile in terms of the density.", "So, if ultimately networks get to some of the numbers you're talking about, and I believe there is a case where that could happen, it's not in our underwriting case but we've both seen it in practice and believe that depending on the density that ultimately happens. And if necessary for 5G, we could get well beyond what we're underwriting when we make these investments. And time will tell on that front. But as we look at individual case studies and some markets, some of the early deployments in both center of business districts as well as some areas of suburbia, we do find examples as the carriers go out and initially deploy, they are deploying somewhere in the neighborhood of 2 per mile. A second carrier comes along and does a similar deployment and then one of those two original carriers comes back and adds additional nodes to that existing deployment in order to increase the density. So, we end up getting lease up, if you will, or co-location both from the existing deployment as well as the secondary deployment that comes back and adds additional nodes in order to increase the density. We think over time that's the way this is going to play out." ] }, { "name": "Spencer Kurn", "speech": [ "Great. Thanks so much." ] }, { "name": "Operator", "speech": [ "We will now take our next question from Robert Gutman from Guggenheim Partners. Please go ahead. Your line is open." ] }, { "name": "Robert Gutman", "speech": [ "Hi. Thanks for taking the question. It seems like almost 80% of capex is on the fiber and small cell side. It seems like small cell specifically would be a small portion of that at this point. Can you discuss broadly how it's being spent? Is this, on the organic sort of dense fiber builds in markets that you mentioned earlier that you're trying to get to organically, what is the timing of associated revenue generation on that? In other words, is it specifically linked to the back log of small cells or is just building without specific contracts? That's basically what I'm trying to get at." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure. I think, try to take a step back and try to think about how we think about spending capital. What we're doing is we're spending capital to build fiber in markets where we see significant demand for small cells and continuing increase in that demand for small cell. So, what we're trying to do is pick markets where we think it's ultimately going to be very conducive to for small cells. And we will only start building in those markets when we have a contract in order to do so. So, when we think about what that new revenue generating capital expenditure looks like, the majority of it is in our fiber segment, but the vast majority of that is going in to build small cell systems.", "Having said that, those small cell systems include fiber that, as Jay was pointing out earlier, will put us in a position to go after some fiber solutions business that we're really interested in within those markets because it will likely be that the small cell deployment is close to where that fiber solutions business will come as well. But to your specific point on what the revenue timing is, snice the vast majority of that is for fiber to support small cells, it's an 18-24 month on average deployment cycle. Which means, the capital will come in through the course of that 18-24 months before we see the revenue come in from it. But there's not going to be a case where we're spending capital in hope that some day we'll get revenue on it." ] }, { "name": "Robert Gutman", "speech": [ "Got it. Thanks. And earlier in the call you mentioned, I think prior to this call, you targeted 6,000-8,000 deployments in 2018 of small cell nodes. You had also prior mentioned a 35,000 node back log. I think earlier today you said a 20,000 node back log, but I would assume that's net of 10,000-15,000 you expect to deploy this year. So, the conclusion would be the back log is unchanged?" ] }, { "name": "Daniel Schlanger", "speech": [ "The short answer is yes, but I just want to make sure we get to all the same points. We have about 65,000 nodes either on air or under development. That number really hasn't changed, so there hasn't really been a significant move in that. We put around 7,000 nodes on air in 2018 and as Jay mentioned, the ending 2018 back log was higher than the beginning 2018 back log so that we more than replaced the nodes we put on air with new bookings.", "Looking forward, we 10,000-15,000 nodes we put on air in '19 and then we have 20,000 or so that will be put on air in the year 2020 or beyond. So, you're right, the short answer is no, the back log really hasn't changed. We're just trying to give a little more color around the timing and how that looks going forward." ] }, { "name": "Robert Gutman", "speech": [ "Thanks. Last small point. Could you break out the final leasing by segment in express to the guidance that was outstanding in terms of towers, small cells, and fiber?" ] }, { "name": "Daniel Schlanger", "speech": [ "Are you asking for 2018?" ] }, { "name": "Robert Gutman", "speech": [ "Yeah." ] }, { "name": "Daniel Schlanger", "speech": [ "The new leasing activity was around 110 for towers, around 60 for small cells, and around 45 for giver solutions." ] }, { "name": "Robert Gutman", "speech": [ "Great. Thank you very much." ] }, { "name": "Daniel Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Now we will take our last and final question from Phillip Cusick from JP Morgan. Please go ahead. Your line is open." ] }, { "name": "Phillip Cusick", "speech": [ "Thanks for getting me in guys. I guess two please, if I can. First, as we think about those term extensions that drove higher straight-line revenue, it seems like that would be activity beyond regular wave, but you've raised straight-line guide nearly every quarter in the last couple of years. Can you give me an example of this sort of unexpected activity might be and why it might not happen in a particular quarter?" ] }, { "name": "Daniel Schlanger", "speech": [ "Yeah, it's not unexpected activity. It's related to new leases that we understand are coming. It's just the timing of that is sometimes difficult to predict. But it's also the length of the term extension that we get may be different than what we have in our forecast and that can drive incremental straight-line activity." ] }, { "name": "Phillip Cusick", "speech": [ "Is it fair to say that you've come in guiding for sort of the worst case in what those extensions might look like and then as they come in you just stretch out the straight-line?" ] }, { "name": "Daniel Schlanger", "speech": [ "I wouldn't call it worst case, but it's hard to predict and so I think we're probably on the conservative side of that assumption specifically. Yes." ] }, { "name": "Phillip Cusick", "speech": [ "That helps, thanks. And what do you see, any change in the trends in enterprise fiber demand? Any change in bookings or churn pace there? Thanks." ] }, { "name": "Jay Brown", "speech": [ "We really haven't seen any trends there. As we've now had the business for about a year, I think that it had played out roughly in line with what our expectations were going in to the business. I think we're getting better at understanding how the business works and how to position ourselves in the market, but I wouldn't point to anything that's changing our long-term view of how that business will perform." ] }, { "name": "Phillip Cusick", "speech": [ "Okay. Thanks guys." ] }, { "name": "Jay Brown", "speech": [ "Okay. Well, thanks everyone for joining the call this morning. Obviously, we were thrilled with the outcome in 2018 and excited about the opportunity ahead, as we talked about on the call this morning, on a number of fronts. The increased level of leasing activity around towers and small cells is exciting given what it means not only for calendar year 2019 but also what we think it will mean over the long-term as the carriers look to deploy beyond 4G and in to the 5G world. So, thanks for joining us this morning. Look forward to catching up soon." ] }, { "name": "Phillip Cusick", "speech": [ "More CCI analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
CCI	2022-10-20	[ { "description": "Senior Vice President, Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "JPMorgan Chase and Company -- Analyst", "name": "Phil Cusick", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt Niknam", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Greg Williams", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, everyone and welcome to the Crown Castle's Q3 2022 earnings call. As a reminder, today's call is being recorded. At this time, I would like to turn the conference over to Ben Lowe, senior VP of corporate finance. Please go ahead, sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Melinda. And good morning, everyone. Thank you for joining us today as we discuss our third quarter 2022 results.", "With me on the call this morning, are Jay Brown, Crown Castle's chief executive officer; and Dan Schlanger, Crown Castle's chief financial officer. To aid, the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions, and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors section of the company's SEC filings.", "Our statements are made as of today, October 20, 2022, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. So with that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Ben and thank you, everyone, for joining us on the call this morning. As you saw from our third quarter results, and the 6.5% increase to our dividend, we are seeing the benefits of a strong leasing environment as we support our customers' growth initiatives with their deployment of 5G. With this increase, we have grown dividends per share at a compound annual growth rate of 9%, since we established our long-term growth target of 7% to 8% per year in 2017, returning over $10 billion or 20% of our current market capitalization to shareholders over that period of time. Our customers have focused on utilizing towers during their initial deployment of 5G, resulting in the second consecutive year of 6% organic revenue growth in our tower business as we continue to outpace the industry.", "We expect this momentum to carry into 2023 with another year of solid organic growth of at least 5% for our tower business. In addition, we expect to double the rate of small cell deployments next year compared to the 5,000 nodes we expect to install this year to meet the growing demand for our customers, as 5G networks will require small cells at scale. For fiber solutions, we expect revenue to be flat in 2023 compared to 2022 as a result of several discrete items that Dan will discuss later. We expect revenue growth to return to approximately 3% by the end of the year.", "Consistent with what we have previously disclosed, we also expect the rationalization of a portion of Sprint's legacy network by T-Mobile to have some near-term impacts on our financial results, without altering our long-term growth potential of our strategy. We continue to believe the total impact of the Sprint network rationalization will be approximately $275 million of annualized churn, concluding in 2025. As I'll speak to in just a moment, I see tremendous opportunities ahead of us, giving us confidence in our ability to deliver on our long-term target of growing dividends 7% to 8% per year. However, with $225 million of remaining Sprint churn, and $140 million of additional run-rate interest expense, we expect dividend per share growth in 2024, and 2025, to be below our long-term target.", "Looking back over the last several decades in the wireless industry, we have experienced periods of network rationalization by our customers, following consolidation events. In each of those instances, we saw increased demand for our assets over time as our customers reinvested the synergies gained from those combinations back into their networks to further improve their competitive positions, and keep pace with wireless data growth. I expect we'll see a similar dynamic play out this time around. As such, over the long term, I believe our strategy and unmatched portfolio of 40,000 towers 115,000 small cells on air under contract and 85,000 route miles of fiber concentrated in top U.S.", "markets have positioned Crown Castle to deliver significant value to shareholders for many years to come. We are focused on the U.S. because we believe it represents the best market in the world for wireless infrastructure ownership when considering both growth and risk. The relative strength of the U.S.", "market has been clear to us during times of global economic prosperity. And I believe that gap and performance is widening further in current challenging macroeconomic environment. The operating conditions underlying our shared infrastructure model have been better in the U.S. than any other market in the world.", "We have benefited over time from persistent growth and mobile data that has required hundreds of billions of dollars of network investment by our customers. As a result of the quality of the networks and the user experience enabled by this level of investment, U.S. consumers have used their wireless devices more and more, and have been willing and able to pay for that improving mobile experience. In turn, the wireless carriers have taken the higher cash flows generated from their customers and invested even more in the networks and the cycle continues.", "When we assess the global landscape for wireless infrastructure ownership, we do not see evidence of that same virtuous cycle in any other market. The combination of persistent growth and mobile data and the value we deliver to our customers by providing a low-cost shared infrastructure solution has enabled us to consistently generate growth through various macroeconomic cycles. Further, I believe our core value proposition of reducing the overall cost of deploying and operating communications networks is even more compelling for our customers in times of increasing capital costs. Adding to our positive view of the opportunity we have in the U.S., I believe we are still in the early stages of 5G development, providing a long runway of growth and demand for our comprehensive communications infrastructure, offering across towers small cells, and fiber.", "Similar to other generational network upgrades, we expect 5G to drive sustained growth in our tower business as our customers add equipment to our 40,000 towers. We also believe 5G will be different as it will require the deployment of small cells at scale to increase the capacity and density of wireless networks, as more spectrum deployed across macro towers will not be sufficient to keep up with the growth in mobile data demand, as a result of the requirement to build out this denser network, we believe the duration and magnitude of 5G investment will likely exceed prior network investment cycles, further extending our long-term growth opportunity. With this view in mind, we have invested $6 billion of capital in high-capacity fiber and small cells that are concentrated in top U.S. markets.", "That capital has a weighted average life of approximately five years, and is yielding more than 7% today. With more than 60,000 contracted small cell nodes in our backlog, including a record number of colocation nodes, we expect the yield to increase over time as we put those small cells on air. In 2023, we expect to double our small cell deployments, with over half of the nodes co-located on existing fiber. With the increased mix and colocation, we expect our net capex to increase by only 10% over 2022 levels, reflecting attractive incremental lease-up return.", "The resulting incremental returns are consistent with our expectation for small cell co-location to drive two tenant system returns to low double-digit yields on invested capital, just like we have achieved and towers. As we proven out the value proposition for our tower assets over time, those assets now generate a yield on invested capital of approximately 12% with meaningful capacity to support additional growth. Looking at how well our overall strategy is performing, since 2017, we have increased our consolidated return on invested capital by 160 basis points to 9.5% and returned over $10 billion to shareholders through our dividend that has increased at a compound annual growth rate of 9%, while also investing $7 billion of capital into attractive assets we believe will generate returns well in excess of our cost of capital and contributed to dividend growth in the future. I believe that the combination highlights how compelling and differentiated our strategy is.", "We provide investors with the most exposure to the development of next generation that works with our comprehensive offering of towers, small cells, and fiber, a pure play U.S. wireless infrastructure provider with exposure to the best growth and the lowest risk market, a compelling total return profile with a current yield of nearly 5%, and a long-term annual dividend growth target of 7% to 8% and the development of attractive new assets that we believe will extend our runway of growth and shareholder value creation. In the context of our 6.5% dividend per share growth this year, it is remarkable to consider that the underlay -- to consider the underlying strength of our business can absorb the significant headwinds of interest expense increases, and Sprint cancellations in the near term without disrupting the long-term growth of the business. I believe this durability of the underlying demand trends we see in the U.S.", "that provides significant visibility into the anticipated future growth of our business, the deliberate decisions we have made to reduce the risks associated with our strategy, and our history of steady execution makes Crown Castle an excellent investment that will generate compelling returns over time. And with that, I'll turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. We delivered another solid quarter of results in the third quarter, as our customers are actively deploying 5G at scale. Our strong operating results this year are helping absorb the impact from higher interest rates, leaving our 2022 AFFO growth expectations unchanged. Looking ahead to 2023, we expect overall leasing activity to remain healthy, resulting in growth and cash flow flows that supports the 6.5% dividend increase we announced yesterday.", "Before I walk through some of the moving pieces within the 2023 outlook, I want to briefly discuss the third quarter results. Turning to Page 4, core organic growth of more than 5% benefited from robust tower growth of 7% and included 4% small cell growth and 1% growth in fiber solutions. The strong top-line growth contributed to 10% growth in adjusted EBITDA and 5% growth in AFFO as our operating results were partially offset by higher interest expense. Turning to our outlook on Page 5, our expectations for 2022 remain unchanged and for 2023 we expect 4% site rental revenue growth, 3% adjusted EBITDA growth, and 4% AFFO growth.", "As you saw on the earnings release, there are a few moving pieces within the 2023 outlook that are not typical. So let me spend a minute walking through those components. Consistent with what we previously disclosed, we expect T-Mobile to cancel a portion of their tower, small cell, and fiber leases over the next few years related to the consolidation of a legacy Sprint network. We expect to see an impact of this network rationalization in our financial results in 2023.", "As Jay mentioned, we continue to expect total churn from the T-Mobile Sprint network consolidation to be approximately $275 million, consisting of tower churn of approximately $200 million recurring in 2025, as well as approximately $45 million of small cell churn and $30 million in fiber solutions over the next three years. As you saw in the press release, we expect a reduction of $30 million in small cell and fiber solutions run-rate revenue in 2023 from the Sprint cancellations. Based on our customer agreements, T-Mobile was obligated to pay the remaining contracted revenue on those sites at the time of cancellation, resulting expected cash payments of $165 million to 2023. Given the nature of the churn and the associated payment of accelerated future contracted revenue, and to make the comparisons more helpful, we've excluded the $135 million net benefit and 2023 from the organic growth comp group comparisons in the remainder of this discussion.", "Turning our focus to the fundamental trends we expect in 2023 on Page 6, we anticipate another year of solid tower growth, complemented by a doubling of our small cell activity, as we expect to install 10,000 nodes in 2023, up from 5,000 this year. With respect to fiber solutions, we expect underlying activity growth to be offset by items that contributed 2022 revenue that are not forecast to recur in 2023, as well as the rollover impact from approximately $10 million of Sprint churn that occurred in 2022. As a result of these discrete items, we expect fiber solutions revenue to be consistent with 2022 levels and believe the business will return to our previously discussed 3% per year revenue growth going forward. Putting those components together, we expect 2023 organic contribution to site rental buildings of approximately $360 million, or $225 million, excluding the $135 million net benefit from the Sprint cancellation, the $225 million of organic growth consists of 5% growth and towers, 8% growth in small cells and flat revenue and fiber solutions.", "Turning to Page 7, 2023 AFFO growth is expected to be $100 million to $145 million, which includes the $135 million net benefit of the Sprint cancellation, a $140 million increase in interest expense, and $20 million of cost increases above typical levels due to labor and other inflationary related expenses. The rapid rise in interest rates has accelerated the increase in interest expense we included in our long-term planning, causing some near-term headwinds, but not impacting our capital allocation decisions. We believe our investment grade balance sheet is well-positioned with 85% fixed-rate debt, a weighted average maturity of approximately nine years limited debt maturities through 2024, and more than $4.5 billion in available liquidity under our revolving credit facility. We ended the third quarter with 4.9 times debt-to-adjusted EBITDA and expect to remain around five times through 2023, as we plan to fund our discretionary capex with incremental debt capacity generated by growth in cash flows for full year 2023.", "To that point, we expect our discretionary capex to increase in 2023 to approximately $1.4 billion to $1.5 billion from approximately $1.2 billion this year. Out of our total capital expenditures next year, approximately $300 million is expected to be spent in towers and $1.1 billion to $1.2 billion in our fiber segment. Consolidated capital expenditures, net of prepaid rent contributions, are expected to be approximately $1 billion in 2023, compared to $900 million this year. As Jay mentioned, a relatively small increase in net capital expenditures in 2023 demonstrates the benefits of our co-location model, even while we continue to invest in new assets that we believe will contribute to long-term growth.", "Wrapping up, we're excited about the opportunity we see, as our customers continue to deploy 5G in the U.S. We believe focusing on the U.S. provides the highest risk-adjusted return for our shareholders, as our portfolio of towers, small cells and fiber provides unmatched exposure to the best market in the world for communication infrastructure ownership. Since we made significant investments in the small cell and fiber portion of our business in 2017, we have delivered 9% dividend per share growth while continuing to invest organically in new assets to take advantage of the opportunity ahead of us.", "The ongoing 5G investment cycle and the persistent growth in mobile data demand, combined with the inherent durability of our business model and our low-risk balance sheet, provide us confidence in our ability to deliver on our long-term 7% to 8% dividend per share growth target and create a compelling total return opportunity consisting of current yield, and future growth. And with that, Melinda, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you, sir. [Operator instructions] And we'll take our first question from Simon Flannery of Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great, thank you very much. Thanks for all that color. On the small cell business, you've got a large backlog here. Could you give us a little bit more color about pacing up the build and to what extent, there are supply chain issues that you need to take into account? And is it possible that you can take this rate above 10,000? I think in years past, there was a hope that it could continue to accelerate from these levels.", "And any updated thoughts on the demand side, given the rise of fixed wireless system more interest in densification, even then six or 12 months ago? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Simon. Thanks for the questions. As we mentioned, Dan, and I think both mentioned in our comments, we would expect in 2023, we're going to double the number of nodes that we put on air compared to 2022, so seeing an acceleration from that. And then given the number of nodes that we have in the backlog and the significant, somewhat recent commitments that we received from Verizon and T-Mobile have 50,000 nodes to be put on air.", "It certainly pretends and a continued acceleration as we go into 2024 and beyond. So that's what we currently have in the backlog. I think I would draw out from that a little bit and based on what we're seeing for the deployment of 5G and the densification, that's required in the networks, we think there's going to be a lot of demand for small cells, well beyond just what's currently in the backlog. Some of that is probably drawn from our experience as nodes or going on air and meeting the need in the network, solving -- the solving some of the gaps and covering some of the increase in data traffic that we're seeing discrete locations, in the network where small cells have been placed, and how well that works as a network strategy to reuse the spectrum on both macro sites and small cells.", "And then also our view of where data traffic is going to grow too, the combination of those two things both are actually experienced, and where we think traffic is going portends a continued increase in the overall number of nodes that are going to need to be built inside of these networks. Supply chain challenges have certainly occurred. I think our team has done a really good job working closely with the carriers to navigate through those supply chain challenges. I don't want to -- I don't want to sound like there are no challenges to that, because there have been numerous challenges, but our team has been able to navigate those without impacting our expectation of node builds.", "And as we sit here today, I don't think that will impact our ability to get to 10,000 or more nodes in 2023, as we put into our guidance. So I think that's what I would point to an answer to your question." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you so much." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from Jon Atkin of RBC." ] }, { "name": "Jon Atkin", "speech": [ "Thanks very much. I was interested in, if you can comment on your ability to adjust for higher CPI, either in your new contracts, new co-locations, or your amendments or even any provisions under your existing MOAs." ] }, { "name": "Jay Brown", "speech": [ "Yeah, Jon. Typically, in our revenues that are on the books currently, the vast majority of those revenues are fixed escalator and not CPI-based. I would note the same thing is true on the cost side of the equation, our largest costs being our ground leases, which also have a similar characteristic of a high percentage of those being fixed escalator. So for the majority of the current run-rate cash flows were fixed at both the revenue line and then down at the down -- down at the at the largest item that affects direct margins.", "Then on the balance sheet side, we obviously have more than 80% of the debt, that's fixed currently. So the current cash flow stream is largely fixed with regards to CPI and implications from inflationary pressure. As you think about the go forward, when we contract with customers, we're typically doing some level of three to five years of a framework under which they'll find new leases. So we're in the middle of that at any given point, and when we reach the natural end of those contracted periods of time with a customer that relates to new sites that they will go on, then we have the opportunity to think about OK, what will the appropriate escalation provisions be in that next set of contracts.", "And as we have in the past, we balance out the benefits of doing floating rate versus doing a fixed rate on those contracts." ] }, { "name": "Jon Atkin", "speech": [ "And then just on small cells, given what you talked a little bit about the backlog which the conversion of that backlog seems to be kind of accelerating. Are we to assume that it will be more of a back-end weighted contribution to the top line for 2023 for small cells?" ] }, { "name": "Jay Brown", "speech": [ "Yes. It will be back-end loaded during calendar year 2023. We will get the benefit of getting those nodes on air into the run rate as we go into 2024, but the actual work and the completion of those notes coming on air and then turning into cash-paying notes that will be back-end loaded in the calendar year." ] }, { "name": "Jon Atkin", "speech": [ "And then given -- finally, just given the higher discretionary capex that you're projecting for 2023, any -- if you maybe just review a little bit, I know Dan mentioned this at the end, but kind of how you fund a dividend if it's going to stay at a similar level next year, sounds like you will need to kind of lever up using the revolver or how do we think about the sources of funding a similarly sized dividend for next year, if that's what the board decides?" ] }, { "name": "Jay Brown", "speech": [ "I just want to make sure I answer the question you're asking, are you referring to the dividend in 2024 or the dividend in 2023?" ] }, { "name": "Jon Atkin", "speech": [ "'23." ] }, { "name": "Jay Brown", "speech": [ "So we thought about sizing the dividend. We did the same process that we do have done historically, and I'll go back to kind of 2017 at the end of '17 when we increased our targets to 7% to 8%. We look at the upcoming when we get to this time of year in the October timeframe. We look at the upcoming year and we look at what will the cash flow generation of the business be and then what do we expect the run rate of cash flows to be by the time we exit the year.", "So the dividend that we size is the increase of 6.5% considers where do we think we're going to exit the next 12-month period of time as we roll around to October of next year and we look at the uplift that will occur in that run rate, and the dividend that we gave the 6.5% increase is size so that when we roll around to October, that's basically the run rate of the business. The other benefit that we got, the other thing that we're considering is what is the cash flow characteristic during that 12-month period of time. And in the case of the next 12 months, we're obviously benefiting from the payment of T-Mobile of the early cancellation fees that Dan referenced in his comment, which increased the cash flow during this calendar year. So those are the two considerations that we make when we're setting our dividend policy for the upcoming year." ] }, { "name": "Dan Schlanger", "speech": [ "And so, Jon, just to put a point on that. We don't anticipate that we would fund any of that dividend with debt borrowings. That's from the operating cash flow of the business, as Jay mentioned, and that's how we size the dividend. That's how we think about sizing the dividend in any period." ] }, { "name": "Jon Atkin", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And moving on to Ric Prentiss of Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Hi. Good morning, everyone." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "Couple of questions. First, on the churn front, it looks like based on '22 guidance, churns are going to step up sequentially from third quarter, fourth quarter. Anything special to call out there as far as what's driving that increase in insurance is that part of that fiber, Sprint T-Mobile thing?" ] }, { "name": "Jay Brown", "speech": [ "I don't think there is really a step up going in from the third quarter, the fourth quarter. And there's nothing going on that would increase the churn that we see in the business at all. That will likely be on the low end of our churn for 2022 as we end the year. So like I said, there's nothing going on the business that we see is increasing our churn at all.", "It's pretty flat quarter over quarter." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And then on the Sprint cancellation churn, $275 million expected to be total. Did I hear you Jay say talking about there's $225 million left in that? I was trying to read my notes fast early." ] }, { "name": "Jay Brown", "speech": [ "Yeah. That's a left going into 2024 and beyond, so we're going to realize some of that in 2023. So as we look into 2024, and I think what Jay was mentioning was thinking about the 2024 and 2025 dividend. So we're just sizing the amount that would be remaining at that point." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Second round of questions is kind of around rates. What are you assuming for interest rates when we updated the guidance? We didn't have to change '22. But when you look at '23, what kind of rates are you assuming in there, just so we can kind of keep track of what the Fed actually does where rates have?" ] }, { "name": "Jay Brown", "speech": [ "We have assumed at this point, the forward curve for rates as of right now, which does move around a bit, but if you just look at the forward curve, that's what we have in our assumptions." ] }, { "name": "Ric Prentiss", "speech": [ "That's something in the low 4% range, kind of." ] }, { "name": "Jay Brown", "speech": [ "Yeah, yes, ultimately. And like I said, it moves around a little bit, so low to mid-4s." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Last one, similar on the rate question. What are you hearing, if anything, from the carrier customers as far as is the debt market and interest rates doing anything to their capital spending or activity with you, any worry about we get the questions from investors about what happens if there's a recession? What are you hearing from the carrier customers as far as -- concerned about recession pressure or concerned about interest rates as far as their ability and desire to spend with you in the short term." ] }, { "name": "Dan Schlanger", "speech": [ "We have seen the carriers be remarkably consistent in their activity and focused on 5G deployment, and that has been our experience frankly through past economic cycles as well. The carriers, obviously, are well funded. They have the cash flow capabilities to continue to invest in 5G, and we haven't seen any change in the consumer behavior either. So I think the place to watch for that is really is the consumer behavior changing, it's not.", "In fact, the consumer demand continues to grow, and as we -- as I mentioned, in my comments, consumer has been willing to pay for that improved and increased service. And so, we've seen the carrier investment cycle continue and at this point, I don't have any concern that we're going to see a pullback from that front on the carrier side. They all have multiyear plans that they've shared with us. And they've obviously made sizable commitments to us around that, around those deployment cycles.", "So our teams are busy working with them closely on multiyear deployments. So don't expect to see a change in that demand profile." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks, guys." ] }, { "name": "Operator", "speech": [ "And next, we'll hear from Michael Rollins of Citi." ] }, { "name": "Michael Rollins", "speech": [ "Thanks, and good morning. First, I'm curious if you can unpack the change from the tower leasing organic growth in '22 of about 6%, to about 5% in '23 and the stepped out in activity dollars. And within that context, if you can give us an update on the visibility that you have going forward in terms of what the shape of tower leasing, organic tower leasing, without the T-Mobile churn should look like? And I'll save one for the end, the follow-up." ] }, { "name": "Jay Brown", "speech": [ "Let me just talk about a little bit about the environment, and then Dan can kind of walk through the numbers on the organic calculations. We're in this cycle is I made some comments around early in the cycle around 5G. And at the beginning part of every one of the technology upgrades that we've seen in the business over the years, as the carriers have gone from 2G to 3G, 3G to 4G, and now the same, we're seeing the same thing as the carriers go from 4G to 5G. They focus the early day investment on macro sites, the towers that they're already on in the places where they go through and they upgrade their network, add additional equipment to those sites that they're already on in order to accommodate the new technologies.", "Once they do that overlay, then they go back and they start to focus on increasing the density of their network. And they've done that historically, just by going on towers that they were not on previously. What's unique about the 5G cycle relative to prior cycles is that a part of that network planning is not only going on macro sites but also utilizing small cells to increase the density of the network. So we're working with the carriers both on the tower side, the macro site side, as well as the small cell side to cover the increase in traffic that they're seeing, as well as the technology upgrades that that we're seeing.", "And we think there's a really long runway of growth on the tower side. Our view is we're going to be multiyear north of -- or about 5% growth on the tower side, and we'll continue to be really good and healthy demand for towers for an extended period of time. And we'll see that coupled with investment by the carriers on the small cells in order to increase the density." ] }, { "name": "Dan Schlanger", "speech": [ "And, Mike, just -- we are moving from about 6% growth and 2022 to 5% growth in 2023. But as Jay said, we're excited about that, because we've been about 6% for a couple years now. And continuing on at 5% is a really good continuation of a long trend of growth. And what we look for is to try to stack really good years of growth year over year over year as opposed to have outsized growth in one year and then undersized in another.", "And this is just that type of trend playing out. And it puts us what we think is -- like we've talked about the last couple of years leading the industry the last couple of years, and staying within what is a relatively robust level of tower leasing growth of 5% to 6%. And as Jay said, we have a lot of visibility of that growth going forward. So you add all that together, and we're just -- we're excited about it.", "I think it's a great place to be." ] }, { "name": "Michael Rollins", "speech": [ "And just a follow-up. And I apologize, just a little bit more of a complicated setup, but I was looking at two different numbers in your supplemental. So I was looking at the midpoint of the revenue guidance. And I was looking at what you disclosed on the projected site rental buildings from tenant contracts that you gave over a multiyear period of time.", "And if I compare like for '23, I adjust it to make it apples-to-apples, take out straight line, take out prepaid pick up the one-time benefit. If I look at '23, what's implied in the guidance, it's about the midpoint, it's about 90 basis points higher than what that contracted tenant revenue number is later in this supplemental. But if I do the same thing historically, like last year, it was 200 basis points and for the couple of years before that, it was an average of almost 300 basis points. So, I apologize for that complicated setup of the question, is there something different about 2023, where you're expecting less incremental activity above the commitments that you have from customers? Or did you approach maybe guidance in a different way than you've done historically?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, Mike, thanks for the question. I think we can probably walk -- we could try to reconcile the numbers that you're talking about. But I think the big picture answer to your question is the way that we've contracted with customers and what's occurred over the last several years. We have a much higher percentage of our growth that has been contracted with customers as a result of the holistic agreements that we've signed with them.", "So there's not a change in the way that we're thinking about doing the guidance or the aggressiveness or conservatism that's in our forecast for the year, but rather, you're seeing the benefit of the significant amount of contracted revenue that we have. Dan mentioned this a couple of times in his prepared remarks, but we're north of $40 billion of contracted customer commitments. So over a multiyear period of time, we've contracted that growth. So going back to the comments that I made and answer to your first question, we have a lot of visibility around that 5% plus growth, because it's so much of it is contracted.", "We still have the benefit of -- the upside is uncapped, but we have a really solid view of where growth is. So I think what you're seeing when you go back and look at the billings, and you compare the historical, in each of the years that you laid out, when you look at the forecasted revenue compared to the amount that was in the buildings, those are going through past periods where we were adding some of these holistic agreements. So at each of those points, we may have had kind of no holistic agreements, all the way up to holistic agreements with several of our customers as we sit here today." ] }, { "name": "Michael Rollins", "speech": [ "Thanks for that additional color." ] }, { "name": "Operator", "speech": [ "David Barden with Bank of America has our next question." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks so much. A couple if I could. I guess the first one was -- I guess I want to ask this question in the context of normalizing 2023 rather than maybe 2024.", "But, Dan, I think during your comments, you mentioned that net of churn the fiber solutions businesses not going to grow or at least not expected to grow in '23. But you made the comment that we're not for some of the macroeconomic headwinds, you would expect to grow at the more normal long-term target of 3%. I was wondering if you could kind of maybe give us some color, as we kind of look at the other segments, small cells, presumably, losing the Sprint turn will help it on a normalized basis. And then in macro, obviously a little bit down from the 2021 level -- sorry, 2022 levels of growth guided in '23 if there is kind of wiggle room in quote unquote, more normal circumstances for that to maybe be better.", "And I guess the second question is, regarding to roughly flat prepaid rent amortization in '23 but that obviously is benefiting from a $50 million, a onetimer. And then at least on the forward-looking, prepaid rent amortization schedule that you put inside -- in number 18 in the supplement. It looks like it's going to drop down pretty substantially from there again in 2024. So looking at those offsets potential, normalized performance in the core business offset by decline in prepaid rent arborization, recognizing it's non-cash.", "But how should we think about what the revenue and EBITDA trajectory might look like, on a normalized basis with those two forces opposing each other? Thanks." ] }, { "name": "Jay Brown", "speech": [ "I'll take the normalized revenue growth question and Dan can speak to kind of some of your questions around prepaid. And I'll just stick through each of the business lines. And if I missed something that you're trying to reconcile, feel free to ask again that. But on the tower side, if you exclude the Sprint cancellations, the bulk of which we talked about, it's going to occur to us in 2025.", "If you ignore that and just look at normalized activity, we think that normalized activity in the business is going to see churn of somewhere in the neighborhood of about 1% to 2%, just like our historical average has been. So there's nothing else occurring on the tower side that I would point to as the need to normalize other than removing the Sprint cancellations in a couple of years. And my comments before around the growth that we're seeing both the contracted growth and the opportunity for upside, gives us confidence that we think we'll be able to see organic growth in and above that kind of 5%, organic growth levels. I don't think there's anything else in those numbers, you really need to normalize in order to get the right run rate.", "On the small cell side. We obviously talked about the churn and where that churn is going to hit. If you ignore the churn and get down to the normalized level, the one thing you have to adjust for is this significant rate of growth and the timing of that growth. So the number of nodes that we're going to turn on air next year, doubling obviously increases the activity, and the fact that the activity itself and when those nodes turn cash paying, being backend loaded.", "When you look at our contribution to the to the financial results, whether it's organic growth in terms of number of dollars, or you look at it on the face of the financial statements, you don't see the full effect of those 10,000 nodes, until as we roll into 2024, we get to the full run rate of those notes getting turned on air by the end of 2023. So you have to normalize for the activity and -- the doubling of the activity, as well as the back-end loading in order to get to a more normalized run rate of growth. On fiber solutions, as I mentioned in my comments, we think the revenue growth is going to be flat, that's a function of in part the churn activity that we saw this year, partly due to the Sprint cancellations that we'll see popping over into 2023. But by the time we get to the end of the year, when we get to kind of fourth quarter results and look backwards over a quarter over quarter meaning quarter 2023, compared to quarter 4 of 2022, we think we'll be back at that 3% growth that we've expected in the business, normalizing for all of the churn and the other items, we're seeing that level of activity currently in the business.", "So we're not forecasting growth in activity as we get toward the back of the year. We're just looking at normal activity and removing all of the one-time items and that gets us back to growing. We think that'll be reflected in the results of growing at about 3% per year, which is our base expectation." ] }, { "name": "Dan Schlanger", "speech": [ "OK. And Dave, I'll take the prepaid rent amortization. I think you've positioned it well. This year, there was -- if you looked at and going into 2023 at the tables in the supplements are looked like there was going to be a big drop off.", "The table itself is just the book of business that we have at the time we put the table together. It's not a forecast. And the difference between those two concepts of the book of business in the forecast is as we get more prepaid or capital expenditures reimbursed to us from our customers as we build out any type of assets, either towers or small cells. We then amortize that additional prepaid rent that we receive over the life of the contract.", "And we don't project that out and put it into the table. The table is just what do we know as of the date that we put that table. And because of that, you will see a decline at times like this, like we see in the tower business specifically. And that decline will be offset by in 2023, whatever additional reimbursements -- capital reimbursements we get from our customers that will then be amortized over the life of those contracts.", "And typically speaking, the life of our contracts are in the range of 10 years. So that would be the only thing that would offset a reduction going from '22 into 2023 is the additional capital that we're going to get reimbursed for. And as I mentioned in my comments earlier, we think our total capital expenditures in 2023, will be about $1.4 billion to $1.5 billion. And the net capital expenditures will be about a $1 billion.", "So that's about $450 million of capital that we anticipate will get back from our customers. And the amortization of that will add to the table. And as you look out going forward, we continue to do to have those additions over time as we get more reimbursements. But other than that, I think everything you said about the prepaid rent and the table was exactly right.", "And we do anticipate that there will be drop-offs, particularly in our tower business." ] }, { "name": "David Barden", "speech": [ "Got it. And as we kind of think about -- I think the earlier question about the dividend and funding the dividend and how you think about it coming out of operating cash flow. Obviously, a lot of that cash flow coming this year is coming from the termination payments, $165 million midpoint from the Sprint situation. In the absence of those payments, being present, either you'd have to have had a smaller dividend growth, or you would have had to either get more aggressive on leverage to fund it, or use equity to fund it.", "Could you kind of walk us through your thought process on what if the Sprint termination payments didn't exist?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Let me just go back and start with how do we size the dividend, and then we can talk about the what-ifs. So we size the dividend each year, what we look at is what do we believe the cash flows in the business are going to grow over that subsequent 12-month period of time. And given the visibility that we have in the business, we have a really good view of what the growth is going to be over the year, because by this point, you know, as we talked about on the tower side 70% plus of the overall business that's largely contracted at this point.", "So we have a really good view of that. On the small cell side. Similarly, those notes have been contracted. And we've been working on them.", "So we have a good sense of when they're going to come on air. So that we start there with what do we believe, over the subsequent 12 months the growth in cash flows are going to be. And then what we look at secondly, is we look at what's the cash flow generation of the business over the next 12 months when we set the dividend policy. Historically, if you go back and look at go back to 2017, and roll that all the way forward through the conversation that we're having this morning, we have size that dividend between 96% and 99% of the expected cash flows in the business for that subsequent 12 months.", "And we did the exact same thing in this quarter as we're releasing the expectation for dividend growth and throughout 2023. So if we had gotten to this place, and there was a different set of circumstances, a different set of facts, and the cash flow generation were different, whether it was higher or lower, or the expected run rate of cash flows as we exited 2023 were higher or lower then our dividend would be higher or lower. We don't utilize the capital markets to fund our dividend. So if the cash flows of the business were lower than the expectation we would have is that we would lower the dividend, we would not be accessing the debt markets or the equity markets to fund that dividend.", "When we think about the opportunity to invest in things, that's where we utilize the capital markets. So the comparison that we're making there with the utilization of as Dan mentioned, the opportunity to use growth and cash flows and EBITDA to fund growth, we look at what's the highest and best use of that capital. And then we'll access the capital markets as appropriate to fund those opportunities. But the dividend is funded based on the cash flow characteristics of the business and we set the policy based on that." ] }, { "name": "David Barden", "speech": [ "All right. Thanks, Jay. That's clear. Appreciate it." ] }, { "name": "Operator", "speech": [ "Next, we'll hear from Phil Cusick of J.P. Morgan." ] }, { "name": "Phil Cusick", "speech": [ "Hi, guys, thank you. I wanted to ask about the services guidance, which looks pretty steady, year over year. Should we think of that shifting some from towers to fiber and small cells? And is there any shift in margins as that happens? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Phil. No, there's no shift. We would expect a similar contribution from towers as what we were expecting and seeing in 2022 to continue into 2023. And no change in behavior from the carriers or margins or anything else that would cause us to lead to a different answer.", "So we think we'll see a pretty similar result both in terms of revenue and margins and mix in '23." ] }, { "name": "Phil Cusick", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "And moving on to Brett Feldman of Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Thanks. Two questions if you don't mind. So you said during your prepared remarks that the Sprint cancellation payments getting -- are tied to when they actually terminate leases. I guess the biggest year for the churn coming off of Sprint is going to be 2025.", "So does that mean that actually in 2025, there could actually be some fairly significant cancellation payments as well? And then the second question is, it looks like you're using a bit more stock-based compensation this year, we see that in the AFFO reconciliation. I'm curious if this is a bit of a philosophical shift in how you're looking to compensate the team going forward and if we should be modeling out a higher run rate from here. Thanks." ] }, { "name": "Jay Brown", "speech": [ "On the first question, the Sprint cancellations, those are coming to their natural term end dates in 2025, on the tower side so we would not expect to receive any significant payments in 2025 from T-Mobile. Just to be clear about what we're receiving in 2023 are expecting to receive in 2023. Those are the cancellations of nodes that have contracted terms remaining. And so they're funding the remaining years of those contracted payments in 2023.", "So it's a little bit different approach to how they're thinking about their network, between towers and small cells, and why there's a difference in terms of the cash flow characteristics. On the non-cash comp, I would say -- first of all, there's no change in our philosophy in terms of the way we're thinking about percentages or contributions of overall comp for the organization from past years. I think what you're seeing there is just a range of potential outcomes that we put into the outlook as we look forward. So not a meaningful shift in the way that we're thinking about using stock, using stock as we compensate employees." ] }, { "name": "Brett Feldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And next, we'll hear from Matt Niknam of Deutsche Bank." ] }, { "name": "Matt Niknam", "speech": [ "Hey, guys, thank you for taking the questions. Just two if I could. First on the Sprint cancellation payments, any color you can share on the cadence of those payments, how they roll in over the course of next year? And maybe the allocation of those payments between small cells and fiber solutions?And then secondly, maybe bigger picture question, we've seen a couple of announcements from cable around starting to build out some of their own spectrum to supplement their MVNOs. I'm just wondering if you can comment on how meaningful this can be for your business given your ownership of both towers and small cells.", "Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, man on the ETLs, the payments will happen as Jay mentioned when those contracts ultimately get cancelled. No likely be at the beginning of the year, we think, but we are not in control of that specifically. So we'll wait and see, and we'll let you know. But it could happen through the course of the year or may happen close to the beginning of the year.", "The majority of the cancellations are going to be in the small cell business. So I would just say that there's more than half and small cells less than half in fiber solutions." ] }, { "name": "Jay Brown", "speech": [ "On your second question around cable, we're certainly working with the various cable companies as they're thinking about their mobile strategy. And have seen some benefits, both on towers, as well as small cells. I think we will continue to see that, over time, I believe that we have an opportunity for that to be a growing component of our revenue growth. Broadly, without just being completely limited to cable companies, there are a lot of institutions and organizations that are thinking about their mobile strategy.", "And so we have seen an uptick in the last couple of years of customers outside of what you would traditionally think of as the big four operators, the big four carriers, leasing space on towers and also small cells. And we think that's a growing opportunity. One, we're focused on capturing as much of that demand as possible. I wouldn't describe it in our either -- our current results 2022, or what we expect in 2023 as being material.", "But it is a growing segment and I think it gives us opportunity for future growth in the years 2024 and beyond." ] }, { "name": "Matt Niknam", "speech": [ "That's great. Thank you." ] }, { "name": "Operator", "speech": [ "And moving on to Nick Del Deo of MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey, good morning. Thanks for taking my questions. First, for Dan, can you just share the expected dollars of churn and the expected dollars of escalation for towers in '23, having those alongside the leasing number would be helpful." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, so leasing, as we talked about, I'll give you kind of midpoints to try to help with that is around $140 million on towers on escalators. It should be in the neighborhood of $90 million, and on churn, it should be in the neighborhood of $35 million." ] }, { "name": "Nick Del Deo", "speech": [ "OK, great. Thank you. And then, on the small cell front, I think you've historically said that anchor small cell nodes typically costs about $100,000, each from a gross capex perspective, and obviously, a fraction of that for co-locations. I guess in light of the inflation, we've seen in some of the expense pressures that you've called out, are those averages still about right? And if there has been any upward pressure there, are you seeing any pushback from getting corresponding lease rates up, or customers kind of accepting it?" ] }, { "name": "Jay Brown", "speech": [ "Nick, thanks for the question. We've used $100,000 as a proxy to try to help people understand the quantum that affects our financial statements. But the way these agreements are priced is based on yield or expected yield. So when we build nodes, we're typically seeing a 6% to 7% initial yield on invested capital and then growing that invested capital, as I referred to, in some of my comments around what we think in 2023, the percentage of co-located notes into that high-single digit yields once we get to second tenant low-double digit yield, as we get to a two tenant system.", "So we're pricing, think about customer contracts the way, the way the actual contracted rate of revenue, works itself out through the combination of both upfront funded capital from the carrier, and then the ongoing rent being driven more by the yield required to get to the levels that I just described. And that $100,000 is more theoretical than it is anything than it is anything else. Each system is differently priced, and it's priced to return. So the inflationary pressures that that you're referring to are absolutely -- have absolutely happened.", "They have a similar and direct impact on what we receive from a customer in front of in terms of upfront capital, as well as where the rental rate on those nodes once they're built." ] }, { "name": "Nick Del Deo", "speech": [ "OK. So you've been able to push that through in pricing to sustain your yields at your historical levels." ] }, { "name": "Jay Brown", "speech": [ "Right. OK, great. Thank you, guys." ] }, { "name": "Operator", "speech": [ "And next, we'll hear from Brandon Nispel of KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thank you for taking the question. Two, one for Dan, one for Jay. Going back to Michael's questions $140 million in tower leasing.", "How should that trend throughout the year? Is it linear-- is it first half second half weighted? That was for Dan. Jay, second question is just on overall backlogs in the small cell business. You've been stuck at 60,000 nodes a year. And obviously, you have like multiple years to build those nodes at 10,000 a year to really work through that backlog.", "But how should we expect the backlog to build really over the next 12 to 18 months, if at all? Thanks." ] }, { "name": "Jay Brown", "speech": [ "I'll take the first one. Thanks. The tower leasing is pretty radiable through the course of the year, I wouldn't call out any difference between the first half or the second half, it goes to the course of the year." ] }, { "name": "Dan Schlanger", "speech": [ "On your second question around small cell builds in the backlog, I think this is a business that's going to likely forever be very different than what we've seen with towers where there's more a consistent level of activity with towers where we see the backlog build and grow at a more consistent pace. Small cells by their nature, because of the number of them that have to be deployed and how they're deployed at the market level, I think we'll always see kind of lumpy orders. And the work that we're doing now with customers is, in part working on deploying all the commitments that they've given us, as you referenced, the 50,000 commitment that we received from Verizon and T-Mobile. We're also working with them as they think about the next leg of small cells and what they're going to need in the next part of the densification of their network.", "And so while it hasn't resulted in orders yet, those are the conversations that we're working on with them across multiple markets. So my expectation for how will it build if you take a really long-term view, Brandon, on your question. My long-term view is the total number of small cells in the backlog will go up and to the right. And over time, we'll see this business continue to scale and grow.", "But I don't think we're likely to see that business have a backlog where it's a steady change every quarter to quarter. I think we'll see some lumpiness in it as we get large commitments from the carriers and visibility toward what their future build is, and then we go through the process of working on it with them and then figure out what's, next on their agenda for densification around the network. I think it's just the nature of the way the business is going to work." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thanks for taking the questions." ] }, { "name": "Jay Brown", "speech": [ "Operator, may we have time for one more question." ] }, { "name": "Operator", "speech": [ "Yes, sir. Our final question will come from Greg Williams of Cowen." ] }, { "name": "Greg Williams", "speech": [ "Great, thanks for taking my questions. First ones on the small cell capex. Obviously, you're doing a good job leveraging existing nodes with over half of the nodes. And, I've heard in the past those capex efficiencies could be up to four to one.", "What's a good runway as we think about beyond '23 of how often you could leverage existing nodes? Is it going to be around that 50% part that I imagine it goes way down as you have to Greenfield additional nodes? Second question is just around the fiber M&A landscape, you probably need color on funding the dividend just with cash. But when you go out and grow, yield, the debt markets, or equity markets, obviously not a good time now, but multiples are also coming down quite a bit in the fiber space we're hearing. So just trying to understand your calculus and what you're seeing in that fiber M&A landscape. Should you go out and need additional fiber.", "Thanks." ] }, { "name": "Jay Brown", "speech": [ "You bet. Greg, thanks for the question. On your first question, over last several years, if we look at the percentage of co-location we've been in and around 20% to 30% of the total activity that we've seen, has been in the form of co-location. And as I mentioned in my comments, and you refer to we expect in 2023, that about 50% of the activity will be co-location.", "If you roll that forward into the future years, we've talked about that the vast majority of the nodes that were committed by T-Mobile 35,000 node commitments that they made. The vast majority of those will be co-located on existing fiber systems. So the vast majority of those are co-location. And then on the Verizon commitment, we think that's a mix of new markets and co-location.", "So we'll get some of both, but based on the current backlog that would tend toward that higher percentage of colocation. So driving capex efficiencies and increases the return on the systems and we're continuing to see, as I said in my earlier comments, really encouraging trend lines when we get down to the system levels of seeing the returns come -- the incremental returns come in where we expected when we underwrote those investments. So really encouraged by that story, starting to shape up more and more like the tower model, and what we've seen historically if you get scale in towers and then grow the return through the acquisition process. The second question around fiber M&A, we've been really careful about what we've looked to acquire in order to be interesting to add to the acquisition.", "The fiber strands have to be high capacity and they need to be located in densely populated areas that we believe there is going to be significant small sell opportunity in order to grow those returns. Today, as evidenced by the fact we haven't done any acquisitions since 2017, we have not found any acquisitions that meet that criteria. And at this point, we continue to believe that the vast majority of the opportunity is going to be through organic builds, rather than acquisitions. So we'll continue to look and pay attention to what's out there.", "And if there's an opportunity that makes sense, we would consider it. But we think it's much more likely that will be an organic builder of the fiber that will be needed for small cells for the carrier customers rather than in acquisition mode in order to gain that fiber." ] }, { "name": "Greg Williams", "speech": [ "Got it. That's helpful. Thank you." ] }, { "name": "Jay Brown", "speech": [ "Great. Well, thanks, everyone, for joining us this morning. Appreciate the time, and we look forward to catching up with you soon." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2018-07-19	[ { "description": "-Vice President of Corporate Finance -- Vice President of Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "-Chief Executive Officer -- Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "-Chief Financial Officer -- Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "-MoffettNathanson -- Analyst -- MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "-Bank of America Merrill Lynch -- Analyst -- Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "-RBC Capital Markets -- Analyst -- RBC Capital Markets -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "-Goldman Sachs -- Analyst -- Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "-Raymond James -- Analyst -- Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "-J.P.Morgan -- Analyst -- J.P.Morgan -- Analyst", "name": "Philip Cusick", "position": "Analyst" }, { "description": "-Deutsche Bank -- Analyst -- Deutsche Bank -- Analyst", "name": "Matthew Niknam", "position": "Analyst" }, { "description": "-Barclays -- Analyst -- Barclays -- Analyst", "name": "Amir Rozwadowski", "position": "Analyst" }, { "description": "-Cowen & Company -- Analyst -- Cowen & Company -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "-BTIG -- Analyst -- BTIG -- Analyst", "name": "Walter Piecyk", "position": "Analyst" }, { "description": "-New Street Research -- Analyst -- New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "-UBS -- Analyst -- UBS -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "-Guggenheim Partners -- Analyst -- Guggenheim Partners -- Analyst", "name": "Robert Gutman", "position": "Analyst" }, { "description": "-Oppenheimer -- Analyst -- Oppenheimer -- Analyst", "name": "Tim Horan", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Excuse me, everyone. Good day, and welcome to the Crown Castle International Q2 2018 earnings call. Today's conference is being recorded. At this time, I would like to turn the conference over to Ben Lowe. Please go ahead, sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Todd, and good morning, everyone. Thank you for joining us today as we review our second-quarter 2018 results. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer, and Dan Schlanger, Crown Castle's chief financial officer.", "To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, which we will refer to throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions, and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today, July 19, 2018, and we assume no obligations to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. With that, I'll turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Ben, and good morning, everyone. It's a great time to be a part of Crown Castle. We are uniquely positioned to win in our market due to our strategy, solutions, and history. Over the past two decades, we have created an unmatched portfolio of more than 40,000 towers and 60,000 route miles of dense, high-capacity fiber in the top U.S.", "markets. As a result, our ability to offer customers integral components of leading-edge communication networks continues to drive our success while generating high returns for our shareholders as we share our assets across multiple tenants. Based on industry fundamentals and expected growth, we think that the U.S. represents the best market in the world for communications infrastructure and that our differentiated strategy will capitalize on this compelling opportunity.", "With the positive momentum we are experiencing in our towers and fiber, we remain bullish on investing in our business to generate future growth while delivering dividend per share growth of 7% to 8% per year. On the call this morning, I want to highlight three important themes I'm seeing in our business and the broader industry. First, we're delivering on another great year of growth in 2018. Secondly, we're capitalizing on the trends that continue to build across towers, small cells and fiber.", "And we are investing at very attractive returns as we build the communications networks of the future. On the first point, we delivered another great quarter of financial results, reflecting the demand for our shared infrastructure assets and terrific execution by our team. As the volume of data delivered by both wireless and wired networks continues to grow, our customers are increasing the capacity of their networks by leasing access to our towers and fiber, which, in turn, generates growth in our cash flow. As a result, we remain on track to deliver approximately 10% growth in AFFO per share in 2018, with higher levels of new leasing activity across all of our business.", "The growth in cash flow supports our current annualized dividend of $4.20 per share, representing 11% growth year over year. This growing dividend both aligns with our business model and provides a significant source of value to our shareholders. Turning to the second point, momentum continues to build across both towers and fiber with a growing backlog of committed new business. We are seeing persistent positive tailwinds across our businesses that are driving significant demand for our portfolio of shared infrastructure assets.", "On the tower side of the business, our customers are improving and densifying their networks by adding more equipment to their existing leases and adding new leases on our towers. As our customers invest more in their networks to keep up with the growing demand, our leasing activity remains on track to be higher in 2018 than it was last year. Within our fiber business, those same underlying demand trends are also creating the need for our customers to deploy fiber-fed small cells at scale to further improve the quality of their networks. After starting the year off in the first quarter with a comparable number of small-cell bookings to what we signed in all of 2016, we had another terrific quarter of bookings in the second quarter as our contracted pipeline of small-cell nodes to be constructed continues to increase.", "Due primarily to the permitting and planning process, it typically takes us about 24 -- 18 to 24 months for these contracted nodes to be put on air and start generating revenue. Consistent with our expectations, we continue to see very attractive returns on small-cell investments with initial yields of 6% to 7% for the first tenant. And similar to towers, we're seeing demand for multiple tenants on the same asset, resulting in high incremental margins that grow the yields into the mid- to high teens. We expect these growth trends and attractive returns to hold.", "And if they do, we will continue to pursue discretionary investments that we believe will expand our long-term opportunity, which brings me to my third and final theme. We are really excited about the investments we are making to build new assets that we expect will drive long-term growth in cash flow and dividends per share. We believe we're in the very early innings of a huge opportunity with fiber, which has become critical for wireless and wired networks. Over the last several years, we have built and acquired more than 60,000 route miles of dense high-capacity fiber in the top markets, where we see the greatest long-term demand from multiple customers.", "While the current utilization of our fiber is less than a single-tenant tower, our current 8% yield is more than double what we saw when our towers only had 1 tenant. We are using the exact same playbook we used with towers by sharing the asset across multiple tenants to drive attractive returns, and it's playing out better than we could have expected. All of this increases our conviction to continue to invest in fiber, where the expected returns and opportunities meet our disciplined investment criteria. As I reflect on my 19 years at Crown Castle, it's remarkable to me how similar the opportunity around small cells and fiber is to the early days of the tower business.", "When we were acquiring and building towers nearly 20 years ago, we were making significant upfront investments in assets with really skinny initial yields. This was based on our view at the time that we could increase the cash flows and yields on those assets over time as we added tenants. Today, everyone agrees the tower business is a great business. But in the early days of towers, there was no shortage of skeptics who thought that the towers wouldn't be shared by multiple customers or the returns would never exceed our cost of capital or anyone could overbuild us or the economics would be lost at renewals.", "Steady performance and consistent execution over the last two decades has proven that providing shared communications infrastructure assets is a great business. Fast forward to where we sit today, with the opportunity to once again invest in infrastructure needed for the future of communications. Today, we have invested approximately $13 billion of capital that is already yielding 8% and have secured prime fiber real estate across the top U.S. markets, making Crown Castle the clear leader in small cells.", "Since we made our initial investment in small cells, we have seen the market rapidly evolve from a small opportunity and only a few locations to where we are today with all four of the major wireless customers deploying small cells at scale across all of the top markets. And we believe we are at the very beginning of what will ultimately be an opportunity that rivals or exceeds what we have seen play out with towers over the last two decades, where demand has far surpassed what even we could imagine at the time we made our initial investments. One of the things that we learned from our experience in towers is that investing early in the right assets in the top markets positions us to capture potential future demand that may arise beyond what is visible at the time of the investment as communications evolve in ways we can't even conceive today. With our unmatched portfolio of assets, I believe Crown Castle is best positioned to capture these immense long-term opportunities while consistently returning capital to shareholders through a high-quality dividend that we expect to grow 7% to 8% annually.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay mentioned, we had another great quarter of results and remain on track to generate solid growth in cash flows and dividends for the full year. We continue to benefit from very favorable industry fundamentals that are creating significant demand for our unmatched portfolio of towers and high-capacity fiber assets, which is apparent in our financial results and outlook. Starting with second-quarter 2018 results, as you can see on Slide 4 of the presentation, we exceeded the high end of guidance for site rental revenues and adjusted EBITDA, with AFFO exceeding the midpoint of the range.", "When compared to our prior outlook, there were two primary items that impacted second-quarter results. First, site rental revenues benefited from approximately $9 million of additional straight-lined revenues primarily resulting from term extensions associated with leasing activity. Second, some of the network services contributions we previously expected in the second quarter is now expected to come through the remainder of 2018. Turning to the balance sheet, we recently executed two financing transactions that increased our financial flexibility.", "Specifically, we increased the commitments under our revolver by $750 million and extended the maturity date on our credit facility by approximately one year. And in July, we refinanced $1 billion of existing secured tower revenue notes that would have matured in 2020 with new secured tower revenue notes that have a weighted average term of nearly nine years and an average coupon of 4.1%. Pro forma for those transactions, we now have nearly $4 billion of available capacity on our revolver and no meaningful debt maturities before 2021. Additionally, we finished the quarter at 5.2 times debt-to-EBITDA and expect to end the year at approximately five times due to the anticipated growth in EBITDA in the second half of 2018.", "Now turning to Slide 5, at the midpoints, we increased the full-year 2018 outlook for site rental revenues and adjusted EBITDA while leaving the outlook for AFFO unchanged. The increases to site rental revenues and adjusted EBITDA primarily reflect a higher expected contribution from straight-lined revenues, which does not impact AFFO. Consistent with the additional straight-lined revenues in the second quarter, the higher expected straight-lined revenues for 2018 are a result of term extensions associated with leasing activity. Turning to Slide 6, the only changes to our outlook for site rental revenue growth relate to the increase to straight-lined revenues I just discussed that impact both the third bar from the right and the total growth in site rental revenues on the far right.", "The left half of the chart, which relates to the organic contribution to site rental revenues, remains unchanged at the midpoints when compared to our prior outlook. Moving on to Slide 7, we have maintained our outlook for the midpoint of AFFO growth from 2017 to 2018 but narrowed the ranges to now be between $400 million and $430 million. So in closing, we delivered another quarter of great financial results and remain on track to generate 10% growth in AFFO per share in 2018. Momentum continues to build across towers, small cells and fiber, which illustrates how well positioned our business is to capitalize on the positive industry fundamentals in the U.S.", "Looking further out, we are excited about the current investments we are making in new assets that we believe will extend the long-term opportunity while generating compelling returns for our shareholders through a high-quality dividend that we expect to grow 7% to 8% annually. With that, Todd, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question comes from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Thanks for taking my questions. First, with respect to Lightower and some of the other fiber assets you've acquired, now, you've indicated in the past that one of your goals was to apply some of Lightower's management practices to the other assets to wring more business out of them. Where does -- where do things stand on that front? And I guess, if you could comment on the integration more generally that would be helpful." ] }, { "name": "Jay Brown", "speech": [ "Sure, Nick. We do plan to do that. One of our premises, as I talked about multiple tenants across the same asset, is both the synergies that we bring in terms -- revenue synergies that we bring in terms of adding small cells to the fiber that Lightower had constructed and also taking the platform that Lightower had and selling fiber solutions across the nearly 30,000 miles of fiber that we had, which were built and acquired primarily for small cells. And we're in the process of just -- of doing exactly that, so we're prioritizing the markets where we think there's the greatest opportunity, and we're in the process of working on that and more to come.", "But as we had initially thought, we believe there really are revenue synergies and growth opportunities around that, and we're in the process, early days, of working toward that end. On the integration front, things are going well, on track for what we had expected. And we expect the financial results for calendar year 2018 to come in right where we expected them. So everything's performing within expectations, and we're pretty excited about what the longer-term opportunity of taking that platform out beyond just the fiber that we acquired directly from Lightower." ] }, { "name": "Nick Del Deo", "speech": [ "OK, that's great. And maybe one for Dan, prepaid rent received in the quarter was pretty substantial. Is there anything that we should be aware of behind that? And I guess more generally, should we think of that as a leading indicator for activity or a lagging indicator? Or is it tough to read much into it one way or another?" ] }, { "name": "Dan Schlanger", "speech": [ "Yes, it's tough to read much into it one way or the other. The way I would interpret it is there is more activity. It's just the timing of any one quarter versus another is too hard to read into. The good part about it is -- I think what it shows is that activity is increasing overall and that we're continuing to see a contribution from our customers as we build out small-cell nodes and systems." ] }, { "name": "Nick Del Deo", "speech": [ "OK, got it. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks for taking the question. I guess a couple if I could. Just first on the straight-lined revenue increase and the customer term extensions.", "It does appear it was AT&T. I know you guys don't like to talk about individual customers, but it does appear that it's AT&T based on your disclosures. And I was wondering kind of how this term extension relates to the MLA that got signed last quarter, that AT&T announced that they signed, and whether there's relationship between these two things and if we can expect that this is the sort of thing that might continue or if this was more of a one-off exercise. The second one was kind of ignoring the year-over-year asymmetry in the business with the Lightower acquisition and looking more at the kind of quarter-on-quarter sequential progress in the fiber services business.", "Could you disaggregate that between what's kind of the small-cell business growth and the enterprise services revenue growth in that fiber business? That'd be helpful." ] }, { "name": "Dan Schlanger", "speech": [ "Sure. On the straight-lined and term extensions that you were talking about, the -- you're right that the supplement shows that we increased the overall term with AT&T. We're not going to talk specifically about what happened, but I would just say that it doesn't mean that's the only thing that happened in the quarter. This is related to -- as we sign new amendments and new leasing activity that we're getting extensions to some of those -- with some of those amendments and new leasing activity.", "And because of that, it is driving an increase in the straight-line revenues and then ultimately driving an increase in the term that we have with our customer. I would not necessarily tie it to the MLA one way or the other. It's just as we are getting extensions when we're signing amendments and new leases." ] }, { "name": "David Barden", "speech": [ "Just to clarify, Dan, it's just more on the cadence of the business. Leases come up for renewal all the time and this just happened to be more of a one-off exercise rather than something part of a larger picture." ] }, { "name": "Dan Schlanger", "speech": [ "Well, I think it's not necessarily a one-off exercise. It's part of how we are entering into contracts with our customers. And as you can see, we expect to increase straight-lined revenue through the remainder of 2018. So it's not just that it happened once and we never expect it again.", "But the magnitude of it was such that we wanted to call it out in the second quarter and then show what it does for the remainder of 2018." ] }, { "name": "Jay Brown", "speech": [ "On your second question, Dave, the way we look at the business and really manage it is thinking about it on a year-over-year basis. And so if you disaggregate it, the revenue growth from the various components, from a tower standpoint -- I'll give you the 2017 growth numbers and then compare that to 2018. So in '17, we grew towers about $105 million, and this year, we'll do about $110 million, so up about $5 million on the tower side year over year. On the small-cell side, we did about $40 million of increase last year.", "This year, we'll do about $55 million from small cells. And then last year, we did about $25 million on the fiber side, and this year, we'll do about $45 million. So as Dan mentioned, those numbers are consistent with what we talked about last quarter and really pretty consistent with what we thought going into the calendar year, and the business has performed right there where we expected it to." ] }, { "name": "David Barden", "speech": [ "All right. Great. Thanks, guys." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Jonathan Atkin with RBC Markets." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks. So I was interested a little bit in your small-cell pipeline that you talked about that continues to grow. And how diverse is that in terms of the number of operators that you see and ramping up their spend? And then secondly, my question around -- I wonder if there's any sort of an update around the activities of Vapor IO." ] }, { "name": "Jay Brown", "speech": [ "So on the first question, Jonathan, we are seeing activity across all 4 of the major operators on small cells, and we're seeing them throughout -- the vast majority of our fiber and small cells are in the top 25 markets, and that continues. So we're seeing the vast majority of the activity there. We are starting to see some activity outside of the NFL markets, and that's growing. I think our long-term belief is that we're going to continue to see the carriers invest and need small cells likely through the top 25, 30 markets and into the top 50 and potentially all the way through the top 100 markets in a meaningful way.", "But right now, the activity is mostly focused NFL cities, and we're seeing that from all four of the operators. So there's pretty good diversity, both in terms of geography, as well as the carrier spend and focus there. On the second question, I don't know that we have a lot to update on Vapor. For folks on the call who aren't familiar with that, Vapor is a company that's focused on edge data centers at the very edge of the network, which becomes increasingly important in low-latency applications.", "We made a small investment last year and have continued to follow that. And we believe there's a tremendous opportunity as networks develop, particularly around C-RAN, and the importance of tower sites as an important hub to the overall wireless communications networks. And we believe that, over time, there will be edge data centers that are there, and Vapor is in that business. So it doesn't contribute anything to our revenues or EBITDA at this point, but we believe that's a long-term opportunity.", "And it may result in -- we certainly wouldn't have done it if we didn't think so. Long term, we think there's an opportunity there for site rental revenues from that business. But we're not -- we're not anywhere close to putting that inside of the outlook." ] }, { "name": "Dan Schlanger", "speech": [ "Just adding a little bit to that --" ] }, { "name": "Jonathan Atkin", "speech": [ "And then -- go ahead." ] }, { "name": "Dan Schlanger", "speech": [ "Sorry, Jon. Just adding a little bit to that, I think it just further indicates how important having a dense network of fiber is because what edge data centers will ultimately do is try to, as Jay was pointing out, reduce latency. But in order to do that, you have to have them connected by fiber so things can move quickly between them and among them. And while we have that dense network of fiber, there are multiple avenues to generate revenues on it, and an edge data center is just one of them.", "We think that the more nearer-term ones will likely be on the small cell and the fiber solution side. So why we're so excited in what we've invested in is that, as Jay mentioned in his prepared remarks, is that owning these assets opens up all of these opportunities for us. And as they come up, we will -- we'll continue to be, I think, the best positioned to take advantage of them however they evolve." ] }, { "name": "Jonathan Atkin", "speech": [ "And just a quick follow-up on small-cell tenancy levels, if we look at sort of in-place infrastructure, anything in the way of seeing store metrics? Any additional color you could add on how tenancy levels are growing?" ] }, { "name": "Jay Brown", "speech": [ "Sure, Jon. We continue to see lease-up on small cells growing at about twice the rate of what we saw and have seen in towers. So the co-location activity continues to be very robust and, when compared to towers, is very, very encouraging. In terms of -- I made a passing reference to this but important to reiterate -- the returns that we're seeing as we're adding that co-location does bring the yield into the double digits, exactly in line with our expectation. And some of our older systems that have been there for a while are continuing to see that lease-up over time, just like what we've seen play out with towers. What has happened at the same time that we're seeing that on the investments that we've made over time is the scale of the opportunity has continued to grow. We started off in small cells, and our initial investments and really, probably, our initial investment thesis was that there were going to be very few locations and really dense urban areas where small cells were going to be needed.", "And so the opportunity to put capital there at attractive returns, I would say, was also small in scale. And what we see today is not just that the returns are coming in as we expected on a small scale, but rather, the opportunity is continuing to grow, and our ability to win, based on our expertise and experience in that market, has continued to expand. So we're both excited about the data points that we have, which point to that the business model is performing at least, as well as what we had expected when we made the investment. But I think our general excitement is that the opportunity to do that in scale is appearing in much greater scale than what we initially expected." ] }, { "name": "Jonathan Atkin", "speech": [ "Since you have macro sites in the immediate vicinity of your small-cell investments, are you noticing any impacts on the tower business in terms of growth rates?" ] }, { "name": "Jay Brown", "speech": [ "We're not seeing any change there. Macro sites continue to be and, we believe, will always be the lowest-cost and most effective way to deploy the network. So to the extent that there's a macro site that can solve the challenge that the carriers have, that's their low-cost approach to solving that need. But macro sites can't solve all of the needs given the increase in data traffic and density of that traffic in specific areas.", "So I think the best analogy is the macro sites become the overhead lights in the room, and small cells become the lamps in the room, where they put a concentration of light in a specific area in order to solve a need. And that's exactly how we're seeing the carriers deploy these networks. The macro sites, in essence, become like hub sites upon which the small cells are designed in order to provision enough capacity to meet the demand." ] }, { "name": "Jonathan Atkin", "speech": [ "Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our next question comes from Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "Two questions, and the first one's a point of clarification. Jay, in your remarks, you talked about your annual dividend per share growth target of 7% to 8%, but the press release does actually introduce the term near term. And so I just wanted to see if you could clarify whether the duration of what you think about that target has shifted at all. And then I have a follow-up question." ] }, { "name": "Jay Brown", "speech": [ "Brett, we got a couple of questions last night based on that, and we're not quite that sophisticated, where none of us are Janet Yellen, I think, at this point. So we were not trying to be cute or clever in the release. We were just trying to point to the fact that some investment stories, when teams start to talk about the long-term strategic opportunities in front of them, it's a wait-and-see story to investors. And we don't believe that's the case with our story.", "Our story is about the long-term growth opportunity that we're building by the investment in small cells, which we believe creates not just a few years' worth of opportunity but decades of opportunity, just like the acquisition of towers did in the late 1990s. And on top of that, investors don't have to wait for those investments to materialize and to exceed the cost of capital because, in the near term, there's reward in the form of a growing dividend of 7% to 8%. So I think the word we've used maybe in the past is foreseeable future that we expect to grow the dividend 7% to 8% for the foreseeable future, and that's still the case today. Our goal in my comments and the press release was to just point out the difference between near term and long term.", "And I think our model, in a compelling way, provides both the near-term, medium-term and foreseeable future return of 7% to 8% growing dividend. And at the same time, we're making investments to ensure that there's long-term growth opportunities in our business." ] }, { "name": "Brett Feldman", "speech": [ "So another question that I have is, if I think about your very upbeat commentary about what you're seeing in small cells, it sounds like that the opportunity set may be even bigger than it was when you initially set that target. And the reason I'm bringing it up is that when we look at the sum total of the capital you deploy every year on your capex program and on your dividend, it exceeds what you organically generate to fund those two uses. And so you have a funding program that you engage in every year, both in the equity and the credit markets. And so a question we've gotten is that, if the demand side, which is very capital-intensive, were much bigger than you anticipated, at a certain point, you have to make a challenging decision to say we would rather prioritize revenue growth as opposed to dividend growth.", "Or do you think that your funding program could grow with your demand for your assets?" ] }, { "name": "Jay Brown", "speech": [ "The short answer is, I think, our funding program can grow with the demand for the assets. We have a tremendous access to capital in the market. And this is part of the reason -- going back to the strategy of why we initially put the dividend in place and pay out a substantial portion of our cash flow. Our view on capital is that it's not our capital.", "This capital belongs to shareholders, both the capital in the form of debt and equity. And we like the discipline of coming to the market when the capital investments exceed that of our cash flow. So the vast majority of our cash flow, we return that in the form of dividends to shareholders, and then we come and make the case for why the investment makes sense to raise additional debt and equity as needed over time. We think that's good discipline, and it gives us a chance to tell the story as to why that investment opportunity is compelling and should be invested in.", "So we do think -- to your point, we do think that the opportunity is continuing to grow. And as that opportunity grows, to the extent that we need to increase the sizing of funding, we think the returns are compelling enough that investors will come alongside us and want to invest in that future opportunity. So at this point, we are not, in any way, limiting the capital spend. We're pursuing the opportunities because the returns are compelling and, we believe, will provide long-term growth in dividends per share, which is really where we zero in on how to decide whether or not it's worth us going out and raising debt and equity to pursue the opportunities." ] }, { "name": "Brett Feldman", "speech": [ "Great. Thanks for taking the questions." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, guys." ] }, { "name": "Jay Brown", "speech": [ "Good morning." ] }, { "name": "Ric Prentiss", "speech": [ "A couple questions. First, on the straight-line adjustment change, was that mostly on the tower side? Or is it coming on small-cell fiber?" ] }, { "name": "Dan Schlanger", "speech": [ "No, it's mostly on the tower side." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And it looks like, if we're right in our math, that the difference kind of is more like maybe a bonus escalator structure. It looks like the cash benefit you mentioned was zero in '18, looks like maybe a couple million in '19 and then more in '20, then a lot more in '21, '22. Is that the way we think of it, it's kind of been pushing itself out into the later years as far as the cash benefit?" ] }, { "name": "Dan Schlanger", "speech": [ "Not necessarily. Again, we're not going to get into what we negotiated in terms of how the MLA works or what we're going to do specifically with customers. But generally speaking, what's happening is we're signing amendments. We're signing new leases.", "It's extending the term on those as we sign them. And at some point, though, all of that will have a cash impact. So the straight-line impact of it will -- as it has in the past. In the nearer term, the noncash is greater than the cash.", "And at some point, it turns the other way. We just reextended that and made the nearer-term noncash look bigger than the cash because we're extending contracts. But I would not get into how exactly we structured the economics of the transaction with our customers." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And I guess the question we've gotten from a lot of investors has just been was it just a lease term extension or was there some real new business to it. It seemed like there might have been some new business as well." ] }, { "name": "Dan Schlanger", "speech": [ "New amendments and new leasing is new business. I mean, that is what we're trying to point out is that this is part of the activity that we're seeing that Jay was talking about earlier, that we see good activity in '18, higher than in '17. This is part of that activity. We also just get lease extension to it." ] }, { "name": "Ric Prentiss", "speech": [ "OK, cool. And the last question I got is the organic contribution to site rental revenues in the supplement, the 5.6%. We get a lot of questions from people on, can that go higher? How much higher could it go? What would it take to -- could it get above 6%? Could it get above 7%? I understand the law of large numbers.", "But just as you think about that 5.6%, given the upbeat commentary, where are the thoughts on where that could go over time?" ] }, { "name": "Dan Schlanger", "speech": [ "I think the answer to your question is yes, it could go higher. It's a question of the timing of when we see activity come in and, as we're investing in small cells, with the timing of when we get those investments in small cells to come on air. So we can see all of that go higher. And we would be optimistic, as Jay pointed out, that on the small-cell side, that the opportunity set is growing and that we are very optimistic about what that looks like.", "Having said that, though, trying to compare -- and I think a lot of the question comes from what we've heard historically, but tell me if you're asking something differently, is can we get back to where we were sometime in the 2013 or 2014 time frame. And that question is really hard to answer because it's more of a question to our customers about how quickly they are going to deploy additional spectrum or densify their networks. And while we think everything looks good and there's -- what we said historically is we see a long runway of growth here, we can't tell you exactly what the timing is of all that and how it plays out, especially in comparison to what it has been historically." ] }, { "name": "Jay Brown", "speech": [ "Ric, maybe one other thing I would add to that is I think one of the things that's most commonly missed in our model is that people try to find inflection points, either to the positive or to the negative. And they try to read through some of the commentary from the carriers or equipment manufacturers and try to figure out what the impact to our results in any given calendar year or the next year will be as a result of that. And as I made the comment in my prepared remarks, I've been here for about 20 years now. And my experience has been that there's very little, if ever, inflection points in our business.", "That almost in every calendar year, we've fallen within a band of about 5% or 10% of leasing activity. And so as we look at long-term trends, which we're really trying to talk to and highlight this morning, it gives us confidence that the growth that we're seeing, as we talked about, kind of $110 million, thereabouts, in towers and $55 million on small cells and $45 million around fiber, we think the dynamics of the market and what the customers need are set up to continue to deliver that. And so when we've underwritten and talked about kind of our 7% to 8% dividend growth per year for the foreseeable future, that's really matched up to this view that, within any given year, we think leasing kind of falls within a relatively close band, and inflection points are less -- are, frankly, less likely. So I would encourage folks to, say, look at our story, to not to try to pick an inflection point and certainly don't try to look for those in any given quarterly results but take a longer view.", "And our view is that the runway of growth here has really been extended much more so than any near-term inflection point that might happen in our results." ] }, { "name": "Ric Prentiss", "speech": [ "That's really helpful, obviously, a great business -- long-term sustainable business. Appreciate that color." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Philip Cusick with J.P.Morgan." ] }, { "name": "Philip Cusick", "speech": [ "Hey, guys. Thanks for those broken out unit growth numbers. Can you break out capex the same way for us?" ] }, { "name": "Dan Schlanger", "speech": [ "Yes. We'll say that it's harder to break out capex because the underlying asset is the same asset. So the majority of our capex is on the fiber. And so there's probably close to $1.5 billion of our capex on the fiber side and about $400 million or $500 million on the tower side.", "But breaking it out between fiber solutions and small cells really doesn't make sense because it's the same asset being deployed to try to get all of those revenue streams. And as Jay was pointing out earlier in the prepared remarks, really, the multiple tenancy is what drives the business. And why we're so excited about it is that we do have the opportunity to add those different revenue streams to a similar asset base." ] }, { "name": "Philip Cusick", "speech": [ "OK. Can you talk about the fiber business? What's the latest with management there? And the first and second quarters were pretty strong for e-rate for a number of people. Did you see anything similar?" ] }, { "name": "Jay Brown", "speech": [ "Yes, sure. On the -- I'm assuming you're referring to the Lightower management team. We did not -- as just a reminder, we did not model any synergies in that acquisition in terms of cost synergies. And I think our -- as I've talked about before, we have a great deal of respect for what that team had built and accomplished.", "And the team of more than 900 people at Lightower is really to be commended for how well they built that business, and we've certainly been the beneficiary of watching them continue to run that business. And they're off to a great start as they've joined the Crown team. And as I mentioned earlier, Phil, we're planning to use their platform, their expertise and their leadership to really continue to grow the platform and expand it beyond the markets that we're currently in as we grow the tenancy across multiple places that we own the fiber. We had a handful of their executive team that told us they wanted to move on, and so -- and they have, but they did a great job of having successors, in most cases, ready for those positions.", "And so for the most part, we've had people internally who've been with Lightower for a long period of time, including in the sales role and finance role, who have stepped up and taken those roles and have done a terrific job. And then we went outside and found somebody with a tremendous amount of operating experience and brought them in, that had been at Verizon and Google and Frontier, most recently, on the operating side in order to beef up our operating expertise. So the team has done an incredible job, and they're really to be commended for how well they've done. And we're really excited about what their opportunity is ahead." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. And what we talked about, Phil, this is a bit of a complex integration because we're trying to integrate all the fiber assets we had bought previously into Lightower and Lightower into Crown Castle. And as Jay mentioned, it's gone, as well as we could have expected, and the team really should be commended. That is a difficult thing to get done and still deliver on the business plan that we laid out at the beginning of the year.", "And for all of that to be going, as well as it is, I think we're excited about it and optimistic about the future." ] }, { "name": "Philip Cusick", "speech": [ "Got it. Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Matthew Niknam with Deutsche Bank." ] }, { "name": "Matthew Niknam", "speech": [ "Hey, guys. Thank you for taking the questions. Just two if I could. One, are there any updates you can share in terms of the pacing of activity or cadence of activity from Sprint and T-Mobile? And as mentioned before, I know you don't really comment on specific customers, but just curious in light of the merger announcement, whether you've seen any sort of change in activity or pacing since the deal was announced.", "And then secondly, just following up on the small-cell investments. I think, Dan, right now, you're sitting at about five turns of leverage. Just wondering if there's been any change in the way you think about the target leverage and effectively funding these investments between debt and potential equity." ] }, { "name": "Jay Brown", "speech": [ "Matt, on your first question, you sort of answered it in your question. I'm not going to comment specifically about T-Mobile and Sprint and what their activity is. I'd refer you to them. I'd go back to the comments that we made around both towers and small cells.", "In the case of towers, our expectation going into the year, and that still is the case today, we expect to grow tower revenues about $110 million this year compared to about $105 million last year, so up about $5 million. And that's held consistent both before and after the deal and over the course of this year. And then on the small-cell side, last year, we grew revenues about $40 million. This year, we see about $55 million of contribution from small cells, and that's been consistent since the end of last year.", "So it's going up to a high level. We haven't seen any change in the activity over the course of the year, so we feel pretty good about where we are going into the second half of the year." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. And on your second question around leverage target, our target is still around five times. We ended the quarter around 5.2 times. We believe that the growth in EBITDA over the back half of the year will get us down to that five times and that -- when we did our equity offering earlier in this year, we had known about what the small-cell investments were going to be and sized it appropriately to try to make sure that we had the capital locked in to invest at the rates that we knew we could -- would match the economics that we had run in our models.", "And we still believe that's the case. Going forward, depending on what that investment profile looks like, we will be out, as Jay pointed out, accessing debt and equity capital markets over the course of whatever that investment profile looks like going forward to try to maintain that investment-grade rating that we have around the five times leverage position." ] }, { "name": "Matthew Niknam", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Amir Rozwadowski with Barclays." ] }, { "name": "Amir Rozwadowski", "speech": [ "Good morning, and thanks very much for taking the questions. One of the things that I'd loved to touch upon is, in looking at sort of what the FCC is planning in terms of upcoming spectrum auctions, it seems as though the cadence of the embrace of the industry for millimeter-wave spectrum and higher-band spectrum has improved versus where it was a couple of years ago. What has been your experience in supporting some of those current deployments? And how should we think about the opportunity set for you folks going forward? Is this more of a small-cell opportunity, macro site opportunity? How are you thinking about that opportunity set?" ] }, { "name": "Jay Brown", "speech": [ "I would look at this as we have looked at many of the auctions in the past that the FCC has gone down the path. There are two things that are really critical in order for us to benefit from. Carriers need to have spectrum available, and they need to have capital to deploy that spectrum. And millimeter wave and some of the other auctions that are on the drawing board at this point and being talked about would represent an opportunity for additional spectrum to get into the hands of operators.", "And our hope would be they'd end up in the hands of operators who have the capital to ultimately deploy them. Specifically to your question around millimeter wave, I think the opportunity set there is a combination of both macro sites and small cells. Given the distance that that's going to travel, it's likely that the benefit probably goes a little bit more toward small cells than it would macro sites. But ultimately, those business models have to develop, and we have to see what it's going to look like and what it's going to be used for in order to answer that question with a lot of precision.", "But I think generally, we would think that that's likely to the benefit of small cells to a greater degree than macro sites if you're specifically just looking at millimeter wave." ] }, { "name": "Amir Rozwadowski", "speech": [ "Great. That's very helpful. And then one of the things that you guys have mentioned in the past is that there's a bit more of a preference today of building out your fiber assets versus acquiring additional fiber assets because of the asset quality that you're looking to deploy. If we think about that, whether it's the reach, breadth of the fiber or the strands per line, how do you believe that that will play out in terms of a competitive differentiator going forward? It does seem as though you're getting more and more opportunities for co-location.", "As you mentioned, sort of the returns have been better than expected. So really trying to think about, if we fast forward a couple of years, do you believe that that ultimately will prove to be a competitive differentiator for the fiber business?" ] }, { "name": "Jay Brown", "speech": [ "Yes. Two things come to mind. First of all, one of the strict investment criteria that we've looked at is we want the fiber that we acquire to be dense, urban, high-capacity fiber. And as we look at the universe of opportunities, as we've mentioned in several occasions and you reference in your question, we really don't see a large opportunity set in the market to acquire.", "There are some markets where maybe we can find a tuck-in acquisition or two. But we don't see a large opportunity set there to go out and acquire it, which means that as we think about the growth in the business and the opportunities that we're talking about, we believe most of that fiber will be a result of fiber that we build organically and construct over time. And I think the opportunity there is going to be, as I mentioned earlier in my comments, in markets that go beyond just kind of the top 25 markets. As I think about the competitive dynamic there, the opportunity, just like it's been in towers, obviously, the deployment cycle is long, as we talked about, 18 to 24 months to deploy small cells, a long cycle to deploy fiber.", "And there's a limited aspect of it in the market today, so there's real benefit to the customer of sharing that infrastructure. And I don't see any scenario where the cost to construct comes down dramatically from where it is today such that the shared model is not the lowest-cost alternative. So our job, day in and day out, here at Crown Castle is to provide infrastructure at a much lower cost to our customers than what they could do on their own. And I don't see anything in either the near term or the long term that really changes that dynamic.", "So taking an asset that has an enormous amount of value and then bringing it to customers with solutions that offer them a much lower cost than what constructing it themselves would be, I think, is a path to success for us that will be sustainable over a long period." ] }, { "name": "Dan Schlanger", "speech": [ "And to your competitive dynamic point, I think we have focused on that dense, high-capacity urban fiber in the top markets because we do believe that having that capacity early on will position us best to get the most out of the market going forward. And we think that we are in a very good competitive position because we do have fiber assets in 23 of the top 25 markets. And as Jay pointed out, we think they will continue to expand. But we see a lot of benefit for being the first mover in those markets and having the expertise that we have to deliver small cells on that fiber.", "So we feel good about where that positions -- how that positions us competitively in those markets and then going forward." ] }, { "name": "Amir Rozwadowski", "speech": [ "Thanks very much for the incremental color." ] }, { "name": "Jay Brown", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Colby Synesael with Cowen & Company." ] }, { "name": "Colby Synesael", "speech": [ "Great, thank you. Two, if I may. First one, you talked a lot about how you're seeing all four carriers spending heavily now on small cells. And I just wanted to go back to small cells versus macro in terms of the spend.", "I appreciate you said that they need both and used the Light example to show that. But when you think of the incremental spend in terms of dollars, are you seeing more of it shifting to smalls and, I would assume then, at the expense of macro towers? Because from my understanding or just looking at the capex budgets of the carriers, they're still holding back on raising their actual capex budgets. So it would just seem natural to assume then that if they're spending more on small cells, they're spending less on macros on an incremental go-forward basis despite, I would agree with you, the fact that they need both longer term. I'm just trying to get some color on that.", "And then secondly, just from a modeling perspective, network services revenue, again, was low. I know you commented and mentioned in the press release that that will go up. But I was wondering if you can just give us any color there, particularly around, I think it was network services with fiber. It's been down the last two quarters' results to what we saw in 2017.", "And are you in a position just to give us some color on what total network services revenue should be for 2018?" ] }, { "name": "Jay Brown", "speech": [ "Sure, Colby. On your first question around small cells versus macro sites, the incremental spend from the carriers -- obviously, I can't speak across the entire industry, so I can really only speak to what we've seen with our assets. The spend on macro sites is up year over year when compared to 2017, and '17 was up from 2016. So at least with regard to the 40,000 towers that we have, those are largely, predominantly focused in the top 100 markets in the U.S.", "The carrier spend and investment in macro sites to further improve their networks has actually grown over the last several years. We're not seeing anything that would suggest that that dynamic is going to change. At the same time, the carriers have obviously significantly increased the amount of spend that they're having in small cells. So the growth rates there over the last several years are well in excess of the growth rates that we've seen on macro sites.", "So I don't know that it's to the detriment of towers because towers have continued to grow, but it is a fair point that there has been a meaningful allocation of their capital dollars and network improvement focus that is going to small cells. And we think that that focus on small cells is going to continue to increase, particularly geographically and density-wise, in the markets that they've already deployed those." ] }, { "name": "Dan Schlanger", "speech": [ "Yes. And Colby, I'll take on your second question on the services. We don't guide specifically to services, so I won't tell you exactly what it is. But clearly, we think the second half is going to be bigger than the first half.", "It really is the only way that you can get into the EBITDA guidance that we have given. So the second-quarter reduction in services, we do think it's just timing, and it's pushing out into the second half of the year. And I don't know exactly on the fiber side. There's very little services revenue associated with the fiber side, so that may bounce around here and there.", "But I wouldn't take trends out of that just because of the small sample set." ] }, { "name": "Colby Synesael", "speech": [ "OK. Great, thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Walter Piecyk with BTIG." ] }, { "name": "Walter Piecyk", "speech": [ "Thanks. Hey, Jay, I want to go back to your answer to Ric's last question in terms of trying to figure out inflection points. At the -- I think it was North Carolina, you were talking about maybe the industry gets to a point of adding a couple hundred thousand small cells a year as kind of an end goal. Where now, I think, you, just as a company, are probably in the 10,000 to 15,000 range with whatever market share you got.", "So we look at that, and then you hear Verizon talk very aggressively about small cells as a capacity solution, then you look at the radius of a small cell, and then you apply that to the 15,000 at your market share and then the square mileage that's just in the top 20 markets. And then we kind of factor in what you've talked about in terms of 12- to 18-month time frame -- or 18- to 24-month time frame. So it seems like if you kind of put all these things together, if Verizon is actually doing what they're saying they're doing in terms of a really aggressive fiber build, then you're going to have that visibility to let us know when that inflection point is. So if we look at your small cells this year, $55 million new versus $40 million last year, it doesn't necessarily show the inflection point.", "But maybe you can give us a better sense of when that inflection point is going to hit based on what Verizon has been saying in terms of the aggression and using densification for their capacity needs." ] }, { "name": "Jay Brown", "speech": [ "Yes, Walt. I guess we're sitting here in July of '18, so I'm not going to give you 2019 and 2020 guidance. But your point is well taken, and all of the comments that I've been trying to make this morning and Dan has echoed in some of his comments is that the opportunity set is certainly growing. And we are -- we believe, based on what we've seen thus far, the returns that we've seen, it would suggest that as Verizon and other carriers, I don't want to just single out Verizon in this conversation, although they have been very public and very bullish in terms of what the opportunity is, believe that's true for all of the carriers, and the need is there for all of the carriers.", "And all of them are using small cells, and that opportunity set is continuing to grow. And given the returns that we see in the business, we want to continue to pursue that. So I'm not at a place this morning where I want to give specific numbers around how much we think we'll capture and what that revenue growth will be like in future years, but it is fair to say that that's -- the trajectory there is toward higher levels of activity than what we've seen in the last couple of years around small cells. The inflection point that I'm really trying to make is that's a trajectory of growth that could be sustainable over a period of time.", "The point I was trying to make in Ric's comment was more toward the changes that happened quarter to quarter are generally not nearly as pronounced as the market tends to fear they are or believe, to the positive, they're going to impact numbers. There tends to be a much longer, smoother curve than kind of the volatile inflection points that sometimes are looked for in our business model." ] }, { "name": "Walter Piecyk", "speech": [ "Understood. I guess it's just difficult for all of us, given what Verizon had said, that we're thinking there is going to be more of a quarter-to-quarter lift, and it never seems to happen. My second question is on prepaid. Is the expectation that prepaid is going to increase -- the prepaid rent is going to increase $40 million? I think the way you've described this in the past is it will increase the same this year as it did last year, and I think that equated to $40 million.", "Is that still the number for 2018?" ] }, { "name": "Dan Schlanger", "speech": [ "Yes, that is still the number for 2018. Just to be fulsome about that, though, we also added from Lightower acquisition an additional $40 million on top of that. So it looks like $80 million in total, but the number you're trying to isolate is how much the prepaid rent grow on the business. It's about $40 million this year." ] }, { "name": "Walter Piecyk", "speech": [ "And most of that's going to be in the fiber business, right? So if we look at the $55 million and the $45 million that, substantially, most of that $40 million or let's call it $30 million is going to be in the fiber-small-cell business, right? So the true new leasing activity would basically be the $100 million minus that $30 million or $40 million from prepaid?" ] }, { "name": "Dan Schlanger", "speech": [ "It will be in the fiber business. I think that it's all true leasing activity, but it is -- the majority of that $40 million will be in the fiber business, yes." ] }, { "name": "Walter Piecyk", "speech": [ "Got it. Thank you very much." ] }, { "name": "Jay Brown", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Spencer Kurn with New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey, guys, thanks for taking the question. I just wanted to follow up on the commentary around the services ramp -- the network services ramp for the back half of the year. Your guidance implies a really sharp sequential increase in the fourth quarter. Should we look at that as a sort of leading or coincidal indicator of leasing activity? Or is that just simply the timing of how it flowed in this year?" ] }, { "name": "Dan Schlanger", "speech": [ "It's both the timing of how it flowed in this year and it's generally what we see in the business is that the fourth quarter is a high quarter in terms of services. So it's something that we've seen historically and we expect to happen this year. In terms of the second question is can you look through that and try to find an indicator of what the new leasing activity is, it's not really a one-for-one type of correlation there. So I wouldn't take it necessarily that that is an indicator that things are changing or not.", "It's just the way that the timing of the services revenue is coming in through '18 is a big sequential jump in the fourth quarter." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. And just one more question, if I may. We keep hearing that backlog and activity levels are rising, but it hasn't really flown through to organically seeing revenue growth in a material way this year. Could you just provide a little bit of context on how your backlogs, as they stand today, compare relative to prior years and how that sort of -- how the backlog is trending overall?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Spencer, maybe going up to really high level on that question, from a tower standpoint, typically, when we get an application, from the time we get an application to when we're on air, that revenue stream, depending on whether it's an amendment or a new lease, is somewhere between about three to five months and as long as about 9 to 12 months. That's true on the tower side. On the small-cell side, which is -- we've spent the last several quarters talking more about the backlog there, that's generally an 18- to 24-month cycle from the time that we have the commitment until the time the small-cell fiber is built and we're then on air and generating revenue.", "I wouldn't dismiss, though, the growth that we saw. I mean, going from $40 million to $55 million is a significant growth rate in the organic revenue. Now admittedly, this activity in 2018 correlates all the way back to activity that, in many cases, was signed during calendar year 2016. And we've made comments publicly on multiple occasions that in the first quarter of 2018, we signed as many nodes, contracted nodes, of new bookings in that first quarter as we did in all of calendar year 2016.", "So that portends activity that is 18 to 24 months from now. And as we continue to do that activity in bookings, we're continuing to kind of sort of push that cycle out another 18 to 24 months. So we have good visibility in terms of what's [Inaudible] near-term results. You can see the benefit of the last couple of years of activity that we've seen and we've signed up, and I think that is already starting to generate revenue and cash flows in line with what we had expected." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Batya Levi with UBS." ] }, { "name": "Batya Levi", "speech": [ "Just a few follow-ups. First, on Lightower, can you provide more color on the trends that you're seeing from demand from the enterprise segment and if there's any change in the churn that you had expected? And also, just SG&A has gone up to about 9% of revenues. How should we think about that on an ongoing basis?" ] }, { "name": "Jay Brown", "speech": [ "On your first question, we continue to see great activity, in line with what we expected from enterprise clients. As I made comments earlier in the call, we think we're going to continue to grow that business not just in the markets that we're in currently but in markets beyond those markets as we utilize fiber that, today, is in locations that would be very attractive for enterprises and large hospitals, government, universities, etc. And we're in the process of continuing to pursue that. But Lightower is tracking where we had expected.", "As we've talked about in the past, we expect churn in the high single digits there. And then, that's basically been our experience over time, and it's playing out there. So we haven't changed our expectation there, and seeing the business perform basically in line with what we expected." ] }, { "name": "Dan Schlanger", "speech": [ "And on your second question, Batya, on SG&A, we have increased SG&A as we have invested in the productive capacity of our business, particularly around small cells. So as we've talked about and the question that was just asked by Spencer a second ago is what does the growth look like. Well, we were, a couple of years ago, a few years ago, in the position of putting on 5,000, 6,000, 7,000 small cells per year. Now we're in the position of putting on somewhere between 10,000 and 15,000 small cells per year, and that takes investment.", "And that's why it has grown and why we're so -- actually, we're excited about that growth because it's allowing us to achieve the strategic goal that we're looking for, which is positioning our company to take advantage of that small-cell growth going forward. From here, we think that we are in that 10,000 to 15,000 small-cell nodes per year range, and that's about where our backlog would dictate us to be, and therefore, we feel like we're in the right spot. To the extent that we grow even more, we may have to invest more in SG&A. But again, we think that that would be a good news story because it would just say that the overall market is growing substantially, and it's something that we would be looking out to try to take advantage of.", "So our historical investments have gotten us this far, and we think that going forward, we can stay where we are or pretty close to it. But to the extent that we get more activity levels, we may need to invest more in our business." ] }, { "name": "Batya Levi", "speech": [ "And you had also mentioned that you didn't include any synergies from these acquisitions. So could there be some relief on that going forward?" ] }, { "name": "Jay Brown", "speech": [ "Batya, I don't see us cutting our way to growth in the business. So I think we're more likely to be hiring individuals and growing the business rather than finding cost synergies. The opportunity here around revenue synergies and growing revenues from both small cells and the enterprise business that you asked about and other solutions there, we think, is enormous. And so we're going to -- if it plays out the way we believe, we're much more likely to be talking about additional revenue synergies rather than finding cost synergies." ] }, { "name": "Batya Levi", "speech": [ "Got it. Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Robert Gutman with Guggenheim Partners." ] }, { "name": "Robert Gutman", "speech": [ "You're taking a $33 million charge next quarter, according to guidance, for retirement of long-term obligations and $107 million for the year. I just want to make sure, does that refer to -- is that based on debt refinancing? Or does that refer to asset retirement obligations?" ] }, { "name": "Dan Schlanger", "speech": [ "Those are the debt refinancing costs that we incurred by extending the maturities that we've talked about." ] }, { "name": "Robert Gutman", "speech": [ "OK. That's all I had. Thanks." ] }, { "name": "Jay Brown", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "Thank you. Our last question comes from Tim Horan with Oppenheimer." ] }, { "name": "Tim Horan", "speech": [ "Thanks, guys. Jay, could you just maybe give the backlog on the fiber business, either dollar amount or small cell, and how it compared to a year ago? Because, I mean, all your comments are implying that we are seeing an acceleration of revenue growth next year and the year after. I know you're not looking to give specific guidance, but your commentary around how strong the bookings have been would kind of suggest that. Just any more color.", "I think that's what everyone's kind of asking at the end of the day. And I just had a quick follow-up." ] }, { "name": "Jay Brown", "speech": [ "Yes, Tim. Again, I don't want to get into giving specific guidance for '19 and '20. I think this is why the conversation is so helpful for us to put a target out there in terms of what we think the dividend growth is going to be, 7% to 8%, and we believe -- on an annual basis of growth in the dividends per share. We believe we can achieve that dividend growth per share on an annual basis inclusive of the cost of the capital associated with the growing opportunity that we're seeing.", "So that's extending the long-term growth, and I think the best way to think about it in the current term and in the coming years is to think about and expect from us that we'll be able to grow the dividend 7% to 8% on an annual basis. And then as we get closer to kind of events where we're starting to recognize the revenue, I think we'll be a little clearer on what that opportunity is. And as we have in the past, good news, as we sit here in July, is you're only a few months away from us giving our 2019 outlook, which we typically do in October, and are planning on doing that again this year as we have done in the past. So we'll update you in October on what we're seeing for 2019." ] }, { "name": "Tim Horan", "speech": [ "And then just lastly, I know we touched on this, but clearly, it makes a lot more sense to share infrastructure. But Verizon seems to be wanting to build out a lot more of their own and, to a degree, AT&T. Verizon is deploying some passive optical technology that looks like will try to converge wireline and wireless networks together. And I guess the question is, do you think you've totally convinced the carriers that it makes a lot more sense to outsource and it would seem to make financial sense? But maybe is there a point that using some new passive optical technologies or really integrating wireless with wireline in ways that it makes more sense for them to do themselves?" ] }, { "name": "Jay Brown", "speech": [ "I think you're going to see all of the carriers build some components of their needed small cell networks themselves. And we certainly don't believe -- while we're the clear leader at the moment and believe that we're best positioned to capture significant opportunities in the future, I certainly don't believe we're going to capture anywhere close to 100% of those opportunities. And the model that we've underwritten and are pursuing does not assume that we capture anywhere close to 100% of the opportunities. So I think you will continue to see the carriers invest in their own small cells and deploy them themself.", "I think you'll also have other infrastructure providers who enter the space as the market continues to develop beyond the top 25 markets and beyond the NFL cities, as I was making the point earlier. I think it's likely that you'll see other folks who see the returns that we've been able to achieve and want to invest and enter that business as a third-party infrastructure. I would agree with the part of your question where you note the convergence of wireless and wireline, and it's fundamental, frankly, to our investment thesis that there's a real convergence going on between wireless and wireline. And an integral part of that convergence is fiber.", "And our investments have positioned us, both in terms of the tower investments that we've made, as well as the more recent fiber investments that we've made, have really positioned us at the very leading edge of that convergence and what next-generation communication networks are going to look like. So we believe the opportunity here at Crown Castle is compelling because it's the opportunity to not only get the benefit of the really long-term growth and opportunity that's there but also get the benefit, on an annual basis, of growing the dividend 7% to 8%. So appreciate the questions. Great way to end the call." ] }, { "name": "Tim Horan", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "At this time, speakers, we have no more questions. I'll turn it back to you for closing remarks." ] }, { "name": "Jay Brown", "speech": [ "OK. Thanks, everyone, for joining the call this morning. We look forward to talking to you in the coming days." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] }, { "name": "Tim Horan --Oppenheimer -- Analyst", "speech": [ "More CCI analysis", "This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see ourTerms and Conditionsfor additional details, including our Obligatory Capitalized Disclaimers of Liability." ] } ]
CCI	2023-10-19	[ { "description": "Vice President, Corporate Finance and Treasurer", "name": "Kris Hinson", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Citi -- Analyst", "name": "Mike Rollins", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "Dave Barden", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Greg Williams", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt Niknam", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good morning and welcome to the Crown Castle third quarter 2023 earnings conference call. All participants will be in listen-only mode. [Operator instructions] After today's presentation, there will be an opportunity to ask questions. [Operator instructions] Please note this event is being recorded.", "I would now like to turn the conference over to Kris Hinson, VP of corporate finance and treasurer. Please go ahead." ] }, { "name": "Kris Hinson", "speech": [ "Thank you, Kate, and good morning, everyone. Thank you for joining us today as we discuss our third quarter 2023 results. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer; and Dan Schlanger, Crown Castle's chief financial officer. To aid the discussion, we have posted supplemental materials in the investor section of our website at crowncastle.com that will be referenced throughout the call this morning.", "This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions, and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the risk factors sections of the company's SEC filings. Our statements are made as of today, October 19, 2023, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures.", "Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the investor section of the company's website at crowncastle.com. With that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Kris, and good morning, everyone. Thanks for joining us. Our third quarter results continue to demonstrate our ability to generate consistent growth in the face of changes in the industry environment, allowing us to maintain our full year 2023 outlook for revenue, adjusted EBITDA, and AFFO. Based on the multiyear strength of our business model, we are confident in our ability to grow our dividend beyond 2025 once we get past the Sprint-related churn.", "Therefore, we are committed to maintaining our dividend in 2024 in the midst of the impacts from the nonrecurring Sprint cancellations and lower contributions from services. Based on the timing of these headwinds, we expect the low point of AFFO to occur during the first half of 2024 before returning to growth in AFFO in the second half of next year and beyond. Demand for our assets has consistently been driven by our customers investing in their networks to keep pace with the rapid growth in mobile data demand. Through our shared infrastructure model, we have helped our customers maximize the benefits of their investments by lowering the cost of deploying networks, networks that have significantly improved our ability as consumers to connect with the people and the world around us.", "The combination of persistent data demand growth and our ability to provide low-cost shared infrastructure solutions has enabled resilient underlying growth for us throughout generational upgrades and across macroeconomic cycles. Our full year 2024 outlook demonstrates the benefits of complementing our tower business with a leading portfolio of small cells and fiber. As our customers increasingly focus on 5G network densification so that they can meet the needs of their end users, we expect the total demand for our diverse portfolio of assets to increase. For towers, we expect to generate organic revenue growth of 4.5% in 2024.", "For small cells, we expect to generate organic growth of 13%, driven by around $60 million of core leasing activity as we increase new nodes from 10,000 in 2023 to 14,000 in 2024. And for fiber solutions, we expect continued acceleration of leasing activity, combined with a lower churn, to generate organic growth of 3%. Excluding the impact of Sprint cancellations, the combination of organic revenue growth across our business is expected to generate consolidated organic growth of 5% in 2024, up from 4% in 2023. While our growth remains robust, we know we need to continue to get better.", "Therefore, we continue to simplify, streamline, and centralize our business processes and operations, which will reduce our long-term costs and improve our customer experience. Since announcing the restructuring plan in July, we have reduced our workforce and achieved $105 million of annual run rate savings. Having completed that plan, we have identified additional opportunities to drive further efficiencies, including a plan to move approximately 1,000 employee positions from several locations nationwide to a centralized location by the end of the third quarter of 2024. The strong organic growth and improved operating leverage from the actions we continue to take to reduce costs supports our maintaining our current annualized dividend of $6.26 per share.", "As reflected in our results and outlook, our differentiated strategy to invest in and build an unmatched portfolio of assets diversifies our sources of growth. Our 40,000 towers, 115,000 small cells on air and under contract, and 85,000 route miles of fiber concentrated in the top U.S. markets make us well-positioned to capitalize on long-term growth in data demand, regardless of how carriers deploy spectrum and densify their networks. At the beginning of 5G, our customers moved quickly to deploy record amounts of newly acquired spectrum.", "This drove record tower activity levels. As the initial -- this initial surge in tower activity ended, our small cell growth is accelerating as customers shift focus to densifying portions of their networks that have experienced the most traffic. In 2024, we expect to deploy a record 14,000 small cell nodes. Our ability to capture the accelerating growth in small cell demand is driven by the assets and core capabilities that we have built as the largest operator of shared infrastructure in the United States.", "Our 85,000 route miles of fiber include high strand counts in heavily populated areas where the density of data demand is the highest, which make them the most desirable locations for small cell deployments. We are a highly reliable operator of that fiber network. If fiber goes offline, small cells go offline. And for our wireless customers, network quality and reliability are paramount.", "We have a world-class team of network operators and engineers that ensures our network is designed to mitigate the impact of any outage and is capable of fixing these outages quickly and efficiently. We have also developed expertise in navigating the permitting processes with multiple municipal organizations, regulatory agencies, and utility companies across hundreds of disparate local markets, each with a unique set of regulations and stakeholders. This expertise allows us to navigate the difficult process of building small cells in the markets across the United States. Finally, we are consistently finding ways to build small cells and fiber more efficiently.", "These efficiencies allow us to provide the most cost-effective and reliable network solutions for customers. We look to deliver the highest risk-adjusted returns for our shareholders through continuously building on the core capabilities that I just mentioned that generate unique value in the businesses we own and operate. These capabilities reduce the overall cost of deploying and operating communications networks, which becomes even more compelling for our customers in times of increasing capital costs. Of course, higher capital costs impact us as well.", "Our disciplined approach to capital allocation means that as our cost of capital increases, so must the returns we require from our investments. We are continuously evaluating the expected returns of all of our investments against the rising cost of capital and other potential investment opportunities, including repurchasing our own shares. Consequently, we allocate capital to whatever we believe will generate the highest long-term returns. Being disciplined allocators of capital means that we appropriately adjust the scale and economics of our investments based on changes in technology, customers, and macroeconomic conditions.", "It doesn't mean that we stop investing. We apply a consistent, rigorous approach to pursue opportunities that generate superior expected returns for their given level of risk. Long-term value is created when we invest in those opportunities. We have a long history of success in towers built on investing through various macroeconomic cycles, and we believe the small cell business is another great example of how we can build a business where our unique capabilities drive sustainable advantages that can grow significant long-term value.", "In 2024, we plan to capitalize on these opportunities, resulting in approximately 1.2 billion in discretionary capital expenditures, net of customer contributions, with 1.1 billion in our fiber segment. This capital is supporting the acceleration of expected 10,000 nodes in 2023 and 14,000 nodes in 2024, reflecting a 40% increase in new nodes, with only a 20% increase in capital as we expect more than 50% of the nodes to be co-location nodes. Importantly, we expect to fund this with discretionary capex in 2024 without issuing equity. Compared to 2022, this means that we expect nodes deployed in 2024 will be up three times, while fiber capex is only up 30%, again, reflecting increasing co-locations on our existing assets.", "The co-location and increasing yields on multitenant systems continue to be similar to the development of the tower business over the last 25 years. There is one more item I wanted to discuss. As you saw in the release, Dan will be departing Crown Castle next March. While he's not leaving for another five-plus months, I wanted to take the opportunity to thank him for the contributions that he has made to the company over the last seven years.", "He has been integral to the growth of our business and strategy. We are benefiting from the work he has led to increase the duration and predictability of our balance sheet, and he has developed a strong finance team. We will wish him all the best in his next endeavors. We have begun a search to find his replacement, and we'll be considering both internal and external candidates.", "As I wrap up, we believe the low point for AFFO will be in the first half of 2024 as we work through the nonrecurring Sprint cancellations and the services headwinds that I mentioned earlier. The consistent growth of each of our lines of business, driven by persistent growth in data demand, gives us confidence in our ability to fund our capex budget in 2024 without issuing equity to maintain our current dividend in 2024 and to pursue sustainable dividend growth beyond 2025. And with that, let me turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Good morning, everyone, and thanks for the kind words, Jay. I just wanted to start by saying how grateful I am for having the opportunity to work at Crown Castle the last seven years. It's a great company, and I continue to strongly believe it is pursuing a strategy that will generate significant value for shareholders. As a large, at least for me, shareholder, I'm excited to see that strategy play out over the next several years and look forward to the company's continued success.", "Turning to the results. Our third quarter was in line with expectations and demonstrated the resiliency of our business. With our customers transitioning beyond the initial surge in 5G deployments, we were able to deliver 4% consolidated organic growth in the quarter, including nearly 4.5% organic growth in towers and accelerating growth in small cells and fiber solutions. Following third quarter results, we updated our outlook for 2023 to reflect the impact of our -- on our expected net income of approximately $110 million of charges related to our restructuring plans announced in July, as well as a $100 million reduction in tower capex.", "All other items remain unchanged, as shown on Page 5. Moving to our 2024 outlook. There are three significant issues that are negatively impacting our results. First, the $165 million of Sprint cancellation payments we have received in 2023 will not recur in 2024.", "Second, we will see a combined $240 million reduction to our straight-line adjustment and amortization of prepaid rent, both of which are noncash items. And lastly, a combination of exiting the construction services business and lower tower activity levels causes a reduction of approximately $55 million in our services gross margin. Due to these impacts, our 2024 outlook shows year-over-year declines in site rental revenues of $140 million, adjusted EBITDA of $260 million, and AFFO of $275 million. Excluding these headwinds, the strong organic growth across each of our businesses contributes $220 million to 2024 adjusted EBITDA, resulting in $65 million of AFFO growth.", "Turning to Page 6. Looking ahead, we expect attractive revenue growth trends to continue, with consolidated organic growth accelerating from 4% in 2023 to 5% in 2024 as we are seeing an increase in demand for our small cell and fiber assets. Contributing to our organic growth is $305 million to $335 million of core leasing, an increase of $30 million at the midpoint compared to full year 2023. Our 2024 consolidated core leasing of $320 million at the midpoint includes $110 million from towers, compared to $130 million in 2023; $60 million in small cells, compared to $35 million in 2023; and $150 million in fiber solutions, compared to $125 million in 2023.", "This year-over-year increase in core leasing results in an increase in organic contribution to site rental billings, excluding the impact of Sprint cancellations of $265 million at the midpoint, or 5%, which includes 4.5% from towers, 13% from small cells, and a return to 3% growth in fiber solutions. The organic growth is offset at site rental revenues by the noncash decreases and impact of the Sprint cancellations I referenced earlier, along with an additional $10 million of Sprint cancellation-related small cell churn. This is primarily related to approximately 5,000 nodes that were terminated midway through 2023, which creates a rollover effect in 2024. Turning to Page 7.", "We are delivering this increase in organic contributions to site rental billings with a limited increase in expenses of only 2%, or $45 million at the midpoint, which benefits from $35 million of savings related to the restructuring we announced in July. When combining this $35 million of expense reduction in 2024 with the $30 million we expect to achieve in 2023 and $40 million of cost savings embedded in the 2024 change in services margin, the total annual run rate savings of our restructuring program is expected to be $105 million. Inclusive of the $40 million decrease in costs and the impact from exiting the installation services business, we expect services margin to be $65 million to $95 million in 2024. Margins as a percentage of revenue in our services business are expected to improve from approximately 25% in the third quarter of 2023 to nearly 50% by the end of 2024 as we phase out installation services activity and benefit from our cost reduction initiatives.", "Moving to interest expense. We expect an increase of approximately $105 million at the midpoint as we fund our 2024 investments with incremental debt. When forecasting interest expense, we assume a cost of borrowing implied by the current rate environment slightly above 6% to fund our 2024 capital requirements. Our 2024 AFFO growth, excluding the impact of the Sprint cancellations and outsized noncash movements, which more closely reflects the underlying growth of the business, is expected to be $40 million to $90 million.", "With contracted long-term tower leasing agreements, a backlog of 60,000 small cell nodes, and a largely fixed-cost structure, we have visibility into this underlying growth continuing over a multiyear period, providing a solid foundation both for our current dividend and for our expectation of returning to sustainable dividend growth after 2025. As our wireless customers increasingly expand their 5G network investment focus to include both coverage and densification, we are seeing a growing number of value-creating investment opportunities. And as Jay already mentioned, our 2024 discretionary capital program is $1.5 billion to $1.6 billion or 1.1 billion to 1.2 billion net of $430 million of prepaid rent received. Importantly, we believe we can fund these investments without issuing equity in 2024.", "We recognize the collective impact of the reduction in noncash items and the Sprint cancellation payments not recurring in 2024 results in our leverage ratio exceeding our target of five times net debt to EBITDA. However, we expect our durable cash flow growth to organically reduce our net debt to adjusted EBITDA ratio over time to levels in line with our investment-grade credit profile as we have seen our business do on multiple occasions throughout our investment-grade history. Since transitioning to investment grade in 2015, we have intentionally strengthened our balance sheet to mitigate risk by extending our weighted average maturity from five years to eight years, decreasing the percentage of secured debt from 47% to 7%, and increasing the percentage of fixed-rate debt from 68% to 86%. Further, we ended the quarter with approximately $5 billion of availability under our revolving credit facility and only $750 million of debt maturities occurring through 2024, providing us with ample liquidity to fund our business for the foreseeable future.", "To wrap up, the underlying growth of the business remains solid and the contracted agreements we have in place provide line of sight and continued -- into continued underlying growth over a multiyear period. We believe this growth provides a stable foundation for our current dividend and the ability to continue to pursue our value-creating investments in 2024 without issuing equity. Longer term, our unparalleled domestic portfolio of tower, small cell, and fiber assets provides unique access to a growing number of opportunities with superior risk-adjusted returns, which we believe will create value for our shareholders and increase our long-term total shareholder return. With that, Kate, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "We will now begin the question-and-answer session. [Operator instructions] The first question is from Simon Flannery of Morgan Stanley. Please go ahead." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thank you and good morning. And, Dan, all the best for the future. Great working with you.", "I guess you've got one more call with us. Perhaps we could start just talking about leasing activity and the guidance expectations. It seems like it's a pretty tricky year. I know you always guide before your peers, but we've got a lot of moving parts with the 5G capex cycle kind of winding down here.", "So, could you just characterize when you set your guidance for next year, particularly on towers, how you characterize the current activity and the expectations for next year in terms of what we expect to see from the major carriers and from the likes of Dish? Does that -- is it -- is there less visibility, say, than in prior years and has that caused you to perhaps just be somewhat conservative? And then you talked about the leverage being above trend. Any kind of ability to sell assets. Anything that you might be looking on the strategic side. And also, any opportunities on the M&A side given some of the strategic moves by some wireless carriers out there? Thank you." ] }, { "name": "Jay Brown", "speech": [ "Sure. Good morning, Simon." ] }, { "name": "Simon Flannery", "speech": [ "Good morning." ] }, { "name": "Jay Brown", "speech": [ "On your first question around leasing activity, the tower guide for 2024 assumes a similar level of activity to what we've seen in the second half of 2023. So, underlying our view is basically a consistent level of activity as the surge, the initial activity from 5G came to an end during the first half of the year. We saw the level of activity stabilize, and we think that carries into calendar year '24. I think we have good visibility around that.", "Much of the work, given the nature of the business, we go into the year with a significant portion of that revenue already contracted and we have good visibility as to when we think it will actually come online. So, I would characterize our visibility from a reported results standpoint pretty similar to what we've seen historically and feel like that level of activity is sustainable over the long term as the carriers continue to upgrade the sites that they're already on with 5G equipment and as well as densify the network using towers that they're not currently on. As I noted in my comments, we think that we will see and have seen a shift and a focus from the carriers as they start to use small cells to a greater degree to densify their network. So, our view is based on a pretty holistic view of the way the carriers are thinking about their networks as we wrap up 2023 and get into 2024 and feel good about the organic growth that we're showing in -- on both -- in both segments there related to the wireless carriers.", "On the second question around the leverage trend, as Dan mentioned in his comments, obviously, with some of the headwinds that we talked about in our comments, it's going to cause the leverage to tick up a bit. That's happened in the past, and we would expect, over time, that we'll see good growth in the business that will allow us to de-lever back down and get back at levels that are -- where our target would be. So, the headwinds will create some uplift around that leverage ratio. And then we think, over time, we'll be able to bring it back down in line.", "On your -- the last part of your question around ways to manage the business and M&A and other things, I would -- you know, I don't think there's anything specific that I would comment on, but just generally, the way we think about running our business is there are three ways that we view we can create long-term shareholder value. The first way is to add additional revenue to the assets that we own. That organic growth comes at great incremental returns. And the second way is we can invest in more assets that we will -- that would extend -- we believe would extend the runway of growth into the future.", "And then the third way is to lower the cost of capital. We think all three of those are ways of driving long-term shareholder value, and we are constantly working on all three of those. What's unique about the current environment that we're in is that, oftentimes, in periods of disruption, more opportunities arise. And I made reference that -- to that in terms of the capital costs of our customers can create opportunities for us to invest capital that can drive returns over the long term.", "That also happens sometimes around the way assets are priced. And so, us being really thoughtful about how we can create value on those three fronts, and we are not always -- we are always looking at those opportunities. And I would say, in periods of disruption, our experience has been that, oftentimes, there are some pretty unique opportunities that arise. And so, we'll continue to work on all three: growing the revenues on the existing assets, looking for opportunities for new assets, and then trying to find ways to lower our cost of capital." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks a lot." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "The next question is from Michael Rollins of Citi. Please go ahead." ] }, { "name": "Mike Rollins", "speech": [ "Thanks and good morning. I also want to extend my best wishes to Dan as well. Two questions if I could today. The first one is, as you're just describing returns, curious if you can give us an update on how the returns for small cells -- as the growth is now accelerating, how those returns are pacing versus your expectations, and if you're seeing any difference in pricing on a per-node basis relative to the current portfolio? And then just drilling down into the earlier question on assets, do you have a significant amount of noncore assets or noncore ground leases and can you possibly unpack the size, if you have any of that, given the recent press reports?" ] }, { "name": "Jay Brown", "speech": [ "Sure. On the first question around returns for small cells, we've continued to see really attractive returns in our small cell business, and the amount of co-location that we're seeing both in 2023 and 2024 and the economics of those incremental adds well in excess of 20% is encouraging. As we have seen systems develop, we continue to be -- initial returns going to those second -- that second tenant, we get into the low double-digit returns. And then as we get to the third tenant, we're high teens, low 20% from a system standpoint.", "Given the quantity of nodes that I talked about in my comments, both that we're seeing in '23, as well as when we go into '24 and half of those nodes being co-location, we're seeing the multitenant systems track those expected returns, and so feel really good about where those are going. As we think about pricing, we have always priced the business based on -- focused on returns. So, there's not a -- unlike towers where there's more of a national pricing across assets, small cells is different. Small cells is priced based on the required returns based on the cost to build systems.", "And so, in areas where the costs are higher, the pricing follows. And that has had some uplift in it as a result of some of the inflationary pressures that have been in the environment. And so, that does affect the pricing, and we're able to lift pricing associated with that in order to maintain and grow the returns associated with the systems. And so, we've seen the business develop as we would have expected.", "On the second question around noncore assets and potential size there, I don't think we have a lot of noncore assets inside the portfolio of assets. But one of the things I would say is the ground leases -- you specifically referenced ground leases. We have, over time, brought a significant portion of ground leases on balance sheet by acquiring the ground leases. We also extend ground leases for very long periods of time.", "We're now north of 30 years of duration in our ground lease portfolio. And so, we have the opportunity -- we see the -- we have the opportunity, obviously, to go out and push ground leases in terms of duration for over very long periods of time, and we may choose to do that off balance sheet or on balance sheet. So, I would put that in the category of that could be an opportunity for us to lower the cost of capital, depending on how we think about it. In order to run the business efficiently, the key is do we have control both in terms of the cost of that activity and then do we have control in terms of certainty of being able to maintain the asset and add additional revenue.", "So, the financing decision really just comes down to what's the lowest cost of capital, and we're always looking for opportunities to try to figure out the way to achieve that lowest cost of capital across the assets." ] }, { "name": "Mike Rollins", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Nick Del Deo of MoffettNathanson. Please go ahead." ] }, { "name": "Nick Del Deo", "speech": [ "Hey. Good morning. Thanks for taking my questions. You know, first, to continue on the capital allocation theme, you know, in the past, you've generally argued that the returns you see from small cells, I guess five or more generally, were so far ahead of what you could get from repurchases, that repurchases really weren't in your consideration set.", "I guess how would you describe that relationship today? You know, are repurchases starting to look more interesting versus fiber or other uses of capital?" ] }, { "name": "Jay Brown", "speech": [ "Good morning, Nick. Obviously, the move downward in the stock price and the yield associated with it, while we've maintained a long-term view that we'll return after we get through 2025, that we'll be able to return to growing organic growth in line with our targets, obviously, that becomes a more attractive investment at lower prices. As I mentioned in my comments, what's also true is there's a growing -- we believe growing demand and focus by our carrier customers for the assets around small cells. And so, it absolutely affects the way we think about the incremental projects that we take on because we're always thinking about things as what is the opportunity cost or the potential opportunity returns that we could pursue by choosing one path over another path.", "And our consistent approach has been over a long period of time to do that, to compare things like repurchasing shares or investing in assets. So, as the stock price has moved, it does adjust how we think about opportunities and it will continue to do so." ] }, { "name": "Nick Del Deo", "speech": [ "OK. You know, maybe turning to the employee relocation plan that you disclosed last night, it seems to reflect a pretty meaningful philosophical change in how you manage the company, you know, at least from an outsider's perspective. I guess, why do you think a more centralized approach is better now? You know, has something changed in terms of your ability to better manage the business in a more centralized way than you once were or am I kind of overthinking it?" ] }, { "name": "Jay Brown", "speech": [ "I don't think you're overthinking it. We are constantly looking at ways to run our business more efficiently. And so, as we have come off of the peak of 5G activity, one of the things that we looked at as we were evaluating what's the right sizing of the organization, one of the things that we thought was necessary was to reduce the number of employees in the business, which we did that in July, and completed that work over the last several months. The second part of it is how can we run the business more efficiently in terms of our processes and business operations.", "And so, the view that we took on that front is that by centralizing things, we can reduce the long-term costs of operating our business and we can get to the place where we can deliver for our customers more quickly and more efficiently. So, improving the customer experience, which we believe will do both the -- reducing our long-term cost of operating the assets, but also give us an opportunity to potentially increase the revenue that we can deliver for customers by delivering for them more quickly. I think that's just the way we should always be running the business, is looking for ways to reduce the costs, run it more efficiently. And as we've looked at the activity that we believe will occur for the business over the long term, we believe this reformatted business will be the best way to run the business, both from a cost standpoint and then give us an opportunity for additional revenues over time." ] }, { "name": "Nick Del Deo", "speech": [ "OK. And any -- just one quick follow-up on that. Any risk of an operational hiccup given all the changes taking place or do you feel like you have that pretty well buttoned down?" ] }, { "name": "Jay Brown", "speech": [ "I wouldn't say there's never -- there's ever a place where there isn't the opportunity for a hiccup. So, we've got to be disciplined operators of the assets and run the business thoughtfully, and we intend to do that. I have a great deal of confidence in our team and our ability to do that. The restructuring plan that we announced in the press release yesterday affects about 25% of our employees.", "And so, I'm confident that the plans that we have in place to work through that, they'll do well. The 80% that are unaffected, I believe today are hard at work and doing what you would expect in terms of delivering on the business. So, it's something we've got to watch and certainly manage, and we have a plan internally to do that." ] }, { "name": "Nick Del Deo", "speech": [ "OK. Thank you, Jay." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "The next question is from Jonathan Atkin of RBC Capital Markets. Please go ahead." ] }, { "name": "Jon Atkin", "speech": [ "Thanks. A couple of questions. When you say no equity issuance, does that include not drawing on the ATM? And then more broadly, on the financial side, I wonder what your updated thinking would be about the pace of dividend growth beyond 2025 from your vantage point right now." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. Jon, I'll take the first one on the ATM. Yeah, it means that we're not going to be issuing equity even under the ATM." ] }, { "name": "Jay Brown", "speech": [ "Beyond 2025, I would look at the business and say based on the characteristics that we see for organic revenue growth and our long-term forecast for where we think the carriers are going to invest to continue to build out 5G, which is going to take the better part of the decade, we expect, we see organic growth in AFFO returning to that targeted level of 7% to 8%. And so, feel good about the underlying demand drivers of where we're going to -- how we're going to get there. And then as we get closer to that date, we can talk more specifically about what we think the growth rate will be in 2026. But the underlying demand drivers, and as we look at it today, look to be healthy and intact, and we think those are sustainable.", "And as we get through these headwinds over 2024 and 2025, that we'll get back to a targeted level of growth in our AFFO." ] }, { "name": "Jon Atkin", "speech": [ "And then lastly from my side, just on the core fiber business, ex small cells, what are the types of trends you're seeing in terms of demand, customer renewals, pricing, and so forth?" ] }, { "name": "Jay Brown", "speech": [ "Sure. Two big trends that are affecting that. As we've gone through the calendar year and moved past the churn events that we've been talking about, we've seen the -- both the -- we've seen the net growth come back in line with where we expected to get -- we still think we're going to exit this year at about 3%. You could see in our guide for next year that we're on pace to get -- we believe we'll be on pace to get to next year's level of growth by the time we exit this year.", "The two trends that we're seeing is both an uplift on the core leasing side. So, we're seeing more activity from both new logos and an opportunity to continue to sell to the logos that we're already selling to. We also see a reduction in churn. Our team has undertaken a number of really thoughtful activities over the last couple of years that are starting to bear fruit, and that results in a reduction in churn.", "And so, both in the -- both on the top, as well as the reduction in churn, is leading to that 3% growth that we see next year. The more macro drivers of that business are healthy as data demand, not only for wireless, which we've talked a lot about on this call, but also for connectivity on a wireline basis. Those growth drivers continue to be healthy. The movement of enterprises toward moving data to the cloud and off-premises continues to create opportunities for that business.", "We think those trends are intact, especially for the customer base that we serve. Our fiber business primarily serves large enterprises. We have very little exposure to medium and small businesses, and we don't do anything direct to consumer. On the large enterprise side, we see those trends toward off-premises and movement to the cloud to be sustainable drivers that are going to drive growth for a long period of time, and we're continuing to be thoughtful about how can we make those revenue streams more sticky." ] }, { "name": "Jon Atkin", "speech": [ "Great. Thank you very much." ] }, { "name": "Operator", "speech": [ "The next question is from Ric Prentiss of Raymond James. Please go ahead." ] }, { "name": "Ric Prentiss", "speech": [ "Thanks. Good morning, everyone. And, Dan, enjoyed getting to know you over these last seven years." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. Thanks, Ric. Me, too." ] }, { "name": "Ric Prentiss", "speech": [ "I want to start on the dividend side. You all know, I really like looking at cash more than the AFFO reported metric, but it looks like the midpoint of '24 AFFO, 3.005 billion, and that amortization of prepaid rent, the noncash item that you talk about, it was about 423 million. That kind of implies that a cash AFFO number would be more like ballpark 2.6 billion versus dividends might be like 2.7 billion. Am I thinking of that correctly and what other ways are there to kind of bridge that, get to working capital or other ways to get to that kind of how you pay the cash dividend?" ] }, { "name": "Dan Schlanger", "speech": [ "So, Ric, I would say, yes, you're thinking about that correctly. Looking at our AFFO, taking out the prepaid rent amortization to get to a cash level makes sense as a shorthand way to do so. And that number is going to be below our dividend at the midpoint when we look at 2024. And we believe, as Jay pointed out throughout his comments, is that given that we think that we're going to be returning out to growth in past 2025, that it made a lot of sense to keep the dividend where it is.", "And we can fund that dividend in all sorts of different ways. We don't have a liquidity issue of trying to figure out where the cash comes from. What we have is -- what we'll do is we'll continue to pay out the dividend, and then as the organic growth in the business continues to increase over the course of the next several years, we feel really comfortable with the trajectory of that dividend over time." ] }, { "name": "Ric Prentiss", "speech": [ "OK. And a couple of times, I think, Jay, you mentioned maintain the dividend in '24. Obviously, it's a board decision. But should we assume the intent is to maintain the dividend in '25 as well? And to Dan's point, there's other ways to pay it if cash is short." ] }, { "name": "Jay Brown", "speech": [ "Yeah, Ric. Obviously, we're setting the dividend policy for 2024, so I don't want to get ahead of ourselves and start talking about '25. But philosophically, the reason why we're referencing the low point is to help give you a view of this multiyear work through that we've got with the consolidation of Sprint and some of the headwinds that we've been facing. As you kind of referenced and walked through the math there of the gap, in essence, what we're saying is we expect that gap to be smaller in 2025 than it is in 2024.", "So, historically, as we've looked at the business, what we've done is sized up the cash flow generation of the business and we've paid out to shareholders in the form of the dividend the cash generated by the business in any given year. That's how we've set our dividend. As we got into this period of time, which we believe is a -- is an anomaly in the business, the consolidation of the carriers and work through the headwinds associated with more the macroeconomic changes, what we tried to do was look through those specific events that we were seeing on the horizon and look out beyond those events and try to figure out where do we think the cash flow generation of the business would be as the business normalized. As we looked through that, our view was it made sense to maintain the dividend in 2024.", "The gap will be the widest between that dividend payout and the generation of cash in the business in the first half of '24. And then it will close as we go to the second half of '24 and then into '25 and get beyond that, and we believe we'll return to a growth period of time once we get past 2025. So, we're, in essence, looking through these movements and in these events and trying to -- and try to set the dividend at a level that we could maintain in '24. The gap between the current level of dividend and the cash generation will be smaller in '25, and then we'll return to growth, we believe, in 2026." ] }, { "name": "Ric Prentiss", "speech": [ "Yeah. That's clear. OK. Thanks.", "One other question on my side on the small cells. I think you mentioned there were 5,000 nodes decommissioned in mid-'23 from Sprint. Was that within the second quarter or there's more of those to be decommissioned -- sorry, in third quarter? I assume we're done with it. And the 14,000 nodes for -- in '24, is that a gross or net number, or are they almost the same?" ] }, { "name": "Jay Brown", "speech": [ "On the 5,000, most -- there's a little bit of movement. Most of those have come out at this point, which is why you saw our total nodes and contracted nodes come down from 120,000 to 115,000. That's reflective of the churn. So, most of those have worked their way through.", "The number for 2024, when we talk about 14,000, gross and net are the same. So, we don't expect any meaningful churn in 2024 of small cell nodes. So, there is -- there's no offset there that you need to be made aware of." ] }, { "name": "Ric Prentiss", "speech": [ "Yeah. And the 10 million Sprint churn in the '24 guidance, is that basically, in essence, kind of a half year then of the 10 million reflective?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. Basically, exactly. It's the rollover of this year's churn hitting 2024." ] }, { "name": "Ric Prentiss", "speech": [ "And that gets back to that first half versus second half kind of concept. That's a contributing factor to second half being better then." ] }, { "name": "Jay Brown", "speech": [ "Yes." ] }, { "name": "Ric Prentiss", "speech": [ "Great. Thanks so much. Again, best wishes." ] }, { "name": "Dan Schlanger", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from David Barden of Bank of America. Please go ahead." ] }, { "name": "Dave Barden", "speech": [ "Hey, guys. Thanks for taking the questions. Just a couple on the small cell side. So, Jay or Dan, you know, with a 40% step-up in the rate of no deployment happening at a time when you're kind of shrinking the organization, what has to happen? How does that happen to kind of make that step-up because this is larger than we've kind of ever seen you guys do before? And then the second question related is should we assume that this is kind of the new normal, both in terms of discretionary capex and in terms of kind of no deployments for the foreseeable future or is this more of an anomaly and kind of more like the 10,000 node, you know, 1.2 billion discretionary cash capex is more of the norm? Thanks." ] }, { "name": "Jay Brown", "speech": [ "You bet. Good morning, Dave. On your first question, the changes that we made in terms of reduction of staffing happened almost exclusively on the tower side, and what we were adjusting the internal costs related to were both in the services business on the tower side, as well as on the tower operating side. And those were adjusted based on the volume of activity that we saw for tower leasing and the movement from those peaks of 5G down to the levels that we provided both -- we think we're going to deliver both in the second half of '23 and then as we go into 2024.", "As we think about resources on the small cell side, we believe our team and the growth in both use of technology and in refining some of the processes and making ourselves more successful at navigating through municipalities, which I talked about in some of my comments, I don't see a significant need for us to add additional resources to our fiber segment as we tackle this significant increase in the amount of nodes. Our team has been preparing for this. And one of the benefits of the long lead time that we have in that business is we can be really thoughtful about making sure we plan the work and engage the work and as well as looking for ways to do it more efficiently. The team has done a really good job of that.", "So, the job shrinkage and the reduction of costs has really not come from that segment of the business. And I believe we're prepared to deliver the growth that we're talking about with -- without material changes to the cost structure on the upward side. On your second question around the discretionary capex, you know, it's hard to give you a really long-term forecast about that because we haven't paired that with what do we think the demand is going to be and the amount of activity. At the -- at a given level of activity that's similar to what we're doing in 2024, I would say yes, we would expect the capex to be in and around that level if that's the level of activity that we're operating with.", "We're continuing to see the business move and navigate toward a greater percentage of co-location nodes. Those returns, as I mentioned to an earlier question, have come in at levels that we would expect -- we expected them to come in at. So, we're seeing the multitenant model, multitenant systems deliver returns that were in line with expectations. And then as we go out a long way, our view is generally that the carriers are going to need more small cells than what they're currently taking today as they densify the 5G network.", "And we believe that densification will continue as consumers use the network to an even greater degree. So, the total addressable market and the need for small cells, we believe, will have upward trends on it. And as those upward trends come, I think it creates the opportunity for us to put investment opportunities back through that rigorous process that I talked about in my comments around do these investments in those -- in particular markets that may have opportunity in them, do they make sense for us relative to other alternatives. And we'll just have to see how that unfolds to see whether it makes sense for us to pursue those or not." ] }, { "name": "Dave Barden", "speech": [ "Got it. Thanks so much." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "The next question is from Greg Williams of Cowen. Please go ahead." ] }, { "name": "Greg Williams", "speech": [ "Great. Thanks for taking my questions. Just echoing the comments for Dan. Wish you all the best and thank you for the support.", "Just the first question is on the higher cost for '24. Looks like it's up 30 million to 60 million, even after the 35 million cost savings. I'm just wondering if you can break out some piece parts there, if it's ground lease, escalations, etc. And then the second question is just on the comments around the small cell returns.", "You're saying it's just as good as towers on a multitenant system basis. So, is there any update to the lease up rates in small cells as we think over that vis-a-vis towers? Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. Thanks, Greg. I appreciate the comments, and then I'll start with the first question on higher costs in 2024. You hit on a bunch of them.", "So, the major cost increases that we experienced, we do have ground leases under our towers as the single largest line item that we have in our P&L on the expense side. And those ground leases increase at about 3% per year in cost. That has to be baked in. Secondly, we, like every other company, is faced with -- are faced with increasing costs for labor, for people who work here, people we're hiring because the cost of people is going up with inflation.", "And then lastly, we had some one-time savings in the back half of 2023 that won't occur going into 2024, which show a little bit more of an increase also. When you add those things up, you get to the type of cost increases you were just referencing." ] }, { "name": "Jay Brown", "speech": [ "Greg, on your second question around the returns, small cells have been historically and continued to be in our view would be -- will continue to be initially and with the first co-located tenant and the second co-located tenant on a particular system actually better than what we've seen historically from towers. When we put capital into the ground for small cells, we are at about double the initial yield on invested capital to what we are with towers. Whether those towers were acquired historically or built, our initial returns are more than double what a tower is. When we get to the second tenant on a small cell system, we're in the low double-digit range.", "Generally, with towers, in order to get to those kind of yields, as you can see in the supplement, we're well over two tenants in order to get to low double-digit yields on invested capital. And then when we get to a third tenant on a system, we're high teens, low 20% yields. You could see some of that in the disclosure that we gave last quarter around some markets that we've been in for a long period of time and have a significant number of multitenant systems. In some places where we've gotten to three tenants, we get very attractive returns that would exceed those of even towers historically.", "So, we're at the early stages of co-location, so we're not multitenant across the entire system yet. But we do believe, over time, like towers, over 25 years of adding tenants, we'll continue to see growth in those returns and yields and believe, over time, this business on the small cell side will continue to trend toward what we've seen in towers and will create a significant amount of shareholder value over time as we've been able to build assets in the best markets in the United States, those with dense populations and a lot of data demand. And believe, as the carriers densify the network, the assets that we have are going to result in a lot of co-location over many years, and that'll consistently drive increases in yields and growth in value creation for equity holders." ] }, { "name": "Greg Williams", "speech": [ "Great. Thank you." ] }, { "name": "Operator", "speech": [ "The next question is from Matt Niknam of Deutsche Bank. Please go ahead." ] }, { "name": "Matt Niknam", "speech": [ "Hey, guys. Thanks for taking the question. Just two quick ones. First, on AFFO per share growth, maybe if you can help us think through the moving parts driving the expectation for second half AFFO per share in '24 to be better than the first half.", "Is it improved leasing? Is there anything on the cost side in terms of ramp-up of savings to be cognizant of? And then secondly, on services, if you could just help us think through the progression from the, call it, 25-ish percent range in the third quarter to around the 50% exit rate by the end of next year? Is that linear or is that more of a stair step higher? Just how to think about the path there. Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. Matt, on the first question on what's driving the second half, it's really a combination of just normal kind of seasonality in our business, which we didn't see in 2023 and called out in 2023. It's a return more to how that works in 2024, and our business typically works in the second half of the year being a bit better than the first. In addition to some of the churn events that Ric was mentioning, we have -- we kind of hit the first half of the year, not the second.", "And so, we think that all of that added up would lead to the low point in AFFO being in the first half of 2024." ] }, { "name": "Jay Brown", "speech": [ "Matt, on your second question, I'm assuming you're referring to the margins in the business. Is that the question that you're asking? The expansion of the margins? Yeah. OK. The current margins, and there will be some bleed over this into the beginning of 2024 and around the 25% range, has to do with our exit of the construction services.", "Those would be the project management services that historically we performed to help our customers install on the assets that we have. Those margins in that business are much lower than the margins that we have on a go-forward basis, the services that we'll perform on a pre-installation, pre-construction for our customers. So, what you're really seeing is a mix change over the course of the year. As the legacy business ramps down and goes away and the business that we will continue to perform on a long going -- for the foreseeable future, the margins on that business are better.", "So, you're seeing that in the guide. And by the time we get to the second half of next year, virtually all of those legacy services that we'll no longer be performing will have been moved out of the results." ] }, { "name": "Matt Niknam", "speech": [ "That's great. Thank you both." ] }, { "name": "Jay Brown", "speech": [ "You bet, Matt. Thanks. Operator, we can take one more question." ] }, { "name": "Operator", "speech": [ "OK. The final question is from Brandon Nispel of KeyBanc Capital Markets. Please go ahead." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thank you for taking the question. Dan, thanks a lot for all your help over the last several years, and best of luck. Hoping you guys could unpack the tower leasing sort of both for 3Q and '24.", "You've always talked about sort of the contracted nature of this business, you know. But on a year-over-year basis, leasing went down roughly 40%. So, I was hoping you could sort of unpack the drivers from like a sequential or year-over-year standpoint and then talk about sort of your first half versus second half expectations for tower leasing in '24. And secondly, I was hoping you could unpack the churn that you've guided to, the 155 million, just from a tower, fiber, and small cell side, and then the one-off churns from the remaining Sprint cancellation.", "Thanks." ] }, { "name": "Jay Brown", "speech": [ "Sure. I'll take the first question, and Dan can walk through the numbers on the second question. Brandon, as we came to our tower leasing guide for '24, we looked at the activity that we were seeing from the customers. And embedded in that activity, about 85% of what's in the guide for 2024 at this point is contracted.", "So, there is some amount of rollover of activity that we'll see at the -- in this calendar year, where the tenant goes on the tower this year and then shows up for a full 12 months in calendar year '24. There is, by definition, about 15% that we still got to go get in calendar year '24 that we don't have line of sight to. And our view has been as we came off of the peak of 5G, that there is absolutely going to be a needed addition to tower sites of our carriers investing to add additional equipment to build out 5G. We're not done with 5G, and they're not done with macro sites.", "So, that activity will continue. And it's -- based on the conversations that we've had with them, the activity that we've seen, and the work that we see ahead, still believe that there's good activity on the macro tower side. Feel good about where the guidance is and feel good about where we'll be, not only in '24, but in the years beyond as the towers are still the most efficient way to deploy network capacity. And so, to the extent that macro tower sites can solve the need, the carriers, we believe, will continue to prioritize those assets and in the portfolio, and we'll continue to see good growth in towers for a long period of time.", "So, we've reset our expectations from where we were at the peak of 5G, but feel good about where we are from this point forward." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. And the second question on the $155 million of churn. On the tower side, it's going to be very similar churn in '24 to what we've seen in -- or what we think we'll see in '23, which is on the low end of our 1% to 2%. So, in the $30 million range of churn on towers.", "On small cells, similarly -- very similar to '23, we'll be about 1% of our tower -- of our small cells. So, without -- as long as you take out the Sprint cancellations. And in fiber solutions, as Jay mentioned, we believe the churn is coming down from closer to 10% in '23 to around 9% in '24. So, in the neighborhood of 115 million.", "When you add all those up, maybe 120. So, when you add all those up, you get to about $155 million total of churn." ] }, { "name": "Brandon Nispel", "speech": [ "Great. Thank you for taking the questions." ] }, { "name": "Jay Brown", "speech": [ "You bet. Well, thanks, everyone, for joining the call this morning. Appreciate the continued support, and we look forward to seeing and talking with you soon. And just want to thank our team broadly for all the work that they have done to deliver the results for '23 so far.", "We've got a good quarter ahead of us to finish out the year, and then excited about the opportunity to continue to grow the business as we get into 2024 and beyond. Thanks for joining. We'll talk soon." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2022-01-27	[ { "description": "Senior Vice President Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "Chief Executive Officer", "name": "Jay Brown", "position": "Executive" }, { "description": "Chief Financial Officer", "name": "Dan Schlanger", "position": "Executive" }, { "description": "Citi -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Bank of America Merrill Lynch -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "RBC Capital Markets -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "", "name": "Unknown speaker", "position": "Other" }, { "description": "Cowen and Company -- Analyst", "name": "Greg Williams", "position": "Analyst" }, { "description": "Credit Suisse -- Analyst", "name": "Sami Badri", "position": "Analyst" }, { "description": "Green Street Advisors -- Analyst", "name": "David Guarino", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Ladies and gentlemen, thank you for standing by, you're currently holding for today's Crown Castle Q4 2021 earnings call. At this time, we are assembling audience members and planned to be underway shortly. We'd like to thank you for your patience and ask that you please continue to stand by. Please standby, we're about to begin.", "Good day, and welcome to the Crown Castle Q4 2021 earnings call. Today's conference is being recorded. At this time, I would like to turn the conference over to senior vice president of corporate finance, Ben Lowe. Please go ahead, sir." ] }, { "name": "Ben Lowe", "speech": [ "Great. Thank you, Paula, and good morning, everyone. Thank you for joining us today as we discuss our fourth quarter 2021 results. With me on the call this morning are Jay Brown, Crown Castle's chief executive officer; and Dan Schlanger, Crown Castle's chief financial officer.", "To aid the discussion, we have posted supplemental materials in the investors' section of our website at crowncastle.com that will be referenced throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties, and assumptions and the actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the risk factors sections of the company's SEC filings. Our statements are made as of today, January 27th, 2022, and we assume no obligation to update any forward-looking statements.", "In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. So with that, let me turn the call over to Jay." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Dan, and thank you, everyone, for joining us on the call this morning. As you saw from our results last night, 2021 was a tremendous year for Crown Castle. We delivered 14% AFFO per share growth. We grew our dividend by 11%.", "We benefited from the highest level of tower application volume in our history, resulting in a 35% increase in core tower leasing activity and a 6% -- and 6% organic growth, leading the industry by a wide margin. We saw an inflection in the demand for small cells, securing commitments for more than 50,000 new small cells during the last 12 months, which is equal to 70% of the total small cells booked in our history prior to 2021. We entered into a new 12-year agreement with T-Mobile that provides committed long-term tower revenue growth, and we made significant progress toward our goal to achieve carbon neutrality for Scope 1 and 2 emissions by 2025 as we successfully sourced 60% of the total electricity we expect to consume this year from renewable sources. These results reflect the positive fundamentals underpinning our U.S.-centric business, as our customers are busy upping and deploying their nationwide 5G network, resulting in robust activity across our towers and small cells from new installations and amendments.", "As we start 2022, we expect elevated levels of tower leasing to continue this year and anticipate leading the industry once again with the highest U.S. tower revenue growth, supporting our announced 11% dividend increase, which is well above our seven to 8% target. Our customers are also committing to the next phase of their 5G build-out that will require the deployment of small cells at scale to increase the capacity and density of their networks as more spectrum deployed across existing macro towers is not sufficient to keep up with the growth in mobile data demand. With that in mind, I believe 2022 will be an important transition year for our small cells and fiber business as we prepare to accelerate our deployment of small cells from the approximately 5,000 nodes this year, to what we expect will be more than 10,000 beginning in 2023.", "Dan will cover the financial results for 2021 and our updated expectations for '22 in a bit more detail. So I'm going to focus my comments on our strategy to create significant shareholder value by providing profitable solutions to connect communities and people to each other. We are focused on delivering the highest risk-adjusted returns for our shareholders by investing in shared infrastructure assets that lower implementation and operating costs for our customers while generating solid returns for our shareholders. As a result, we continue to solely invest in the U.S.", "market because we believe it represents the best market for wireless infrastructure ownership with the most attractive growth profile and the lowest risk. Over the last 25 years, the performance of our tower assets has proven the value of this strategy. We began investing at approximately 3% yield. And today, those assets now yield more than 11%.", "We are building value from this strategy again with our small cell and fiber business. Since the beginning of our small cells and fiber strategy, investors have had two primary questions. would small cells be required at scale and would customers co-locate on the same assets to drive attractive returns? Today, I believe these questions have been answered. At a time when our customers have been upgrading a record number of our tower sites for 5G, we secured commitments for more than 50,000 new small cell nodes.", "This is in addition to the 55,000 small cell nodes we have on air today. Importantly, a significant portion of the 50,000 new nodes will be co-located on existing fiber assets at attractive returns. So clearly, we have very positive answers to these key questions. Small cells are required at scale and will be co-located on existing assets.", "As these small cells are deployed, they will contribute to network performance, which history has taught us, will attract additional small cells as carriers compete on network quality. This dynamic is similar to our tower experience, where a significant driver of the value created has been from carriers deploying more spectrum on existing towers to keep pace with mobile data demand growth. As a result, I believe this is just the starting point for total small cells needed by wireless networks. This view is further supported by recent work completed for us by third-party experts that predict a long-term environment where small cells accelerate.", "As the clear leader in small cells, we are uniquely positioned to benefit from this growth. The advancement of our small cell strategy continues to remind me of our journey as the U.S. tower industry developed, ultimately creating significant value for shareholders. Although it's easy to forget, there was significant investor skepticism during the early years when we were proving out the tower business.", "During that time, we faced questions about the long-term return potential of the business. The negative free cash flow profile and when or if ever, it would inflect and whether we would ever see customers co-locate on the same assets since each carrier had different spectrum portfolios and unique network requirements. Those questions were eventually all answered for U.S. towers.", "But oftentimes, the turning points in the business that address those questions only became widely accepted after the fact. I see a similar pattern with our small cell business. I'm convinced that this period is one of the most important proof points for the small cell business model. We have more than $15 billion invested in more than 80,000 route miles of high-capacity fiber connecting 55,000 small cells that are on air and concentrated in the top U.S.", "market. The weighted average life of this capital is less than five years and already yields nearly 8%. Following the recent commitments for small cells, we have more than 60,000 contracted small cell nodes in our backlog, including a record number of colocation nodes that we expect will increase the overall yield on our invested capital. This sets us on a course to accelerate growth in our small cell business beginning in 2023 as we expect to deploy more than 10,000 small cell nodes next year, with the potential to scale from there.", "We also continue to see opportunities to add to the returns we are generating from small cells by leveraging the same shared fiber assets to pursue profitable fiber solutions growth. We remain disciplined as we allocate capital to these opportunities with decisions driven by return targets, consistent with how we've executed our fiber strategy from the start, by focusing on small cells as the key driver of long-term value creation. So to wrap up, we had a terrific 2021. We expect to once again lead the industry with the highest U.S.", "tower revenue growth in 2022. And we see the recent large-scale small cell commitments as the beginning of a thematic move in the deployment of future wireless networks, for which we are well-positioned as the clear leader. I believe our strategy, capabilities, and unmatched portfolio of more than 40,000 towers and more than 80,000 route miles of fiber concentrated in the top U.S. market, put Crown Castle in the best position to capitalize on the current environment and to grow our cash flows and our dividends per share, both in the near term and for years to come.", "Because of our position, Crown Castle provides an excellent opportunity for shareholders to invest in the development of 5G in the U.S., which we believe is the best market for communications infrastructure ownership, with this attractive growth and low-risk profile. Importantly, we provide this access to such attractive industry dynamics while delivering a compelling total return opportunity, comprised of a high-quality dividend that's currently yielding over 3%, with expected growth in that dividend of seven to 8% annually. And with that, I'll turn the call over to Dan." ] }, { "name": "Dan Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay discussed, 2021 was a great year for Crown Castle, and we expect the momentum to continue in 2022 as 5G deployments continue at scale. With our comprehensive offering of towers, small cells, and fiber solutions, we're able to support our customers' expanding infrastructure needs as network architecture evolves. Turning to Slide 4 of the presentation.", "Full year 2021 results exceeded our prior expectations, with site rental revenues increasing 8%, adjusted EBITDA increasing 12%, and AFFO per share increasing 14% when compared to full year 2020 results, excluding nontypical items. Some of the outperformance in 2021 was due to approximately $10 million of additional site rental revenues, $10 million of additional expense reductions, and lower-than-expected sustaining capital expenditures, the majority of which we do not believe will recur in 2022. The 8% year-over-year growth in site rental revenues included approximately 6% growth in organic contribution to site rental revenues, consisting of approximately 6% growth from towers, 10% growth from small cells, and 3.5% growth from fiber solutions. Turning to Page 5.", "We have increased our full year 2022 outlook to reflect the additional $250 million of straight-line revenues associated with the long-term agreement with T-Mobile that we announced earlier this month. Other than these additional straight-line revenues, our 2022 outlook is unchanged. These additional straight-line revenues reflect the significant additional contracted tower revenue growth that comes with the new agreement, but they do not contribute to 2022 AFFO. In addition to the contracted tower revenue growth, the agreement with T-Mobile includes a contractual commitment for 35,000 new small cell nodes over the next five years.", "The agreement with T-Mobile also results in several events related to the decommissioning of the Sprint network, including tower nonrenewals that are expected to reduce site rental revenues by approximately $200 million in 2025, small cell nonrenewals that we expect to reduce site rental revenues by approximately $45 million, with the majority occurring in 2023, and approximately $10 million of additional fiber solutions nonrenewals in 2022. Importantly, except for these discrete events, we expect consolidated annual tower and small cell nonrenewals to remain within our historical range of one to 2%. Turning to Page 6. We now expect growth in the organic contribution to site rental revenues in 2022 of 235 million to $275 million.", "The reduction in the expected growth in organic contribution to site rental revenues, compared to our prior 2022 outlook announced in October, reflects the impact from the $10 million of nonrecurring revenue that contributed to fourth quarter 2021 results, while our 2022 outlook remains unchanged. We expect we will generate 4.5% consolidated growth in 2022, consisting of approximately 5.5% from towers, which we believe will be the highest U.S. tower growth rate in the industry again this year, 4.5% from small cells, and 3% from fiber solutions. As many of you may be aware, in our third quarter 2021 earnings release, we broke down our organic growth to show total new leasing, growth in prepaid rent amortization, and a new concept we call core new leasing, which excludes the impact of prepaid rent amortization.", "Based on feedback we've received since adding core leasing activity to our disclosures, starting with our first quarter earnings release, we will speak to organic growth, exclusive of the impact of prepaid rent amortization or what we'll call core organic growth. This presentation provides information investors can use to analyze our performance that we believe and we've been told is more consistent with other companies in our industry. As I have mentioned, and you can see on Page 7, the majority of the outperformance in our 2021 AFFO is not expected to recur in 2022 and, therefore, impacts year-over-year growth despite no changes to our 2022 AFFO expectations. Turning now to our balance sheet.", "We finished the year with approximately five times debt to EBITDA on a last quarter annualized basis, in line with our leverage target. During 2021, we improved our balance sheet by extending the weighted average maturity to nine years and reducing the average borrowing cost to approximately 3.1%. Part of why we've extended our debt maturities and emphasized fixed as opposed to floating-rate debt was to protect our ability to grow our dividends even during periods of increasing interest rates, and we believe we have done exactly that, which is another example of our focus on driving the highest risk-adjusted return to our shareholders. Looking forward, we expect our discretionary capital expenditures to begin to trend higher as we accelerate the pace of small cell deployments.", "With a record level of colocation nodes in our backlog, which require less capital relative to anchor builds, we expect to be able to fund this higher level of investment with free cash flow and incremental debt capacity while maintaining our investment-grade credit profile. So to wrap up, 2021 was a great year for us with record tower activity driving significant financial outperformance. After leading the industry in 2021, we expect to again generate the highest U.S. tower growth in the industry in 2022 with core tower leasing activity approximately 50% higher than our trailing five-year average.", "Over the past 12 months, we have booked over 50,000 small cell nodes, equal to almost 70% of the nodes we had booked in our history prior to 2021. We see this as an inflection in the demand for small cells and expect to accelerate growth in our fiber segment in 2022 and beyond. Longer term, we believe we are in -- we are strategically positioned to benefit from all phases of the 5G build-out with our comprehensive infrastructure offering that provides us the best opportunity to consistently deliver dividend growth as wireless network architecture evolves and our customers' priorities shift over time. And with that, Paula, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "Thank you. [Operator instructions] Our first question will come from Michael Rollins with Citi." ] }, { "name": "Michael Rollins", "speech": [ "Thanks and good morning." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Mike." ] }, { "name": "Michael Rollins", "speech": [ "A couple of questions, if I could. First, on the tower side. I'm curious, given the comments you made about leasing activity, if you could frame the backlog on the tower side that Crown is carrying into 2022, and maybe give us a sense as you look at what the carriers are doing, how much of their footprints are covered by the bookings and the billings that you've recognized to date? And what might be on the come? And then just separately on small cells, if I could just ask one other question. Given the comments about the ramping small cell demand that you've highlighted over the last few months, does it make you want to take a more expansive strategy to add fiber outside of maybe that top 25, 30 markets that you've been historically focused on and be prepared for a more expansive small cell deployment cycle from your customers? Thanks." ] }, { "name": "Jay Brown", "speech": [ "You bet. On your first question around the backlog in towers, obviously, as we spoke to, we had the highest level of activity in the company's history during 2021, and we're expecting that level of activity to continue into '22. And if you frame it in terms of historical context, what's really unique about this cycle is that we've got four carriers deploying -- you've got AT&T, Verizon, T-Mobile, and DISH, all deploying network. They've got significant amount of spectrum to be deployed, and they have the capital to be able to deploy that.", "I can't think of another time in history of our business where we've had four well-capitalized carriers with spectrum and the desire to deploy network. So we're certainly riding the wave of that. In terms of what they're touching similar to past upgrade cycles, the focus for the three legacy carriers is to touch the sites where they are already existing on the assets, on the macro assets. And we would expect the next phase of 5G build-out will be to densify their network.", "And we expect that some portion of that densification is going to happen through new installations on towers that they're not located on. But a big part of that, we see that happening in terms of small cells and the 50,000 nodes that we booked over the last 12 months. The commitments from them, I think really just speak to that is that second phase of network deployment as they start to try to densify the network and the need there is going to be both macro sites as well as significantly needing a lot of small cells in order to do it. So in terms of the footprint being touched, they're going to touch virtually all of their existing sites as they upgrade through 5G.", "And that will take a few years to happen. So feel good about the activity that we're going to see again in '22. And then as we get to periods beyond that, we'll update you as we get later into the year and give our guidance in October later this year. On your second question around the activity for fiber, we're -- we've been focused on building and owning high-capacity fiber in dense urban areas in the top U.S.", "market. And our strategy has been based on our view that as data demand grows, it will grow most significantly in the densely populated areas of the U.S. And those are the areas where macro sites, in particular, won't be able to handle all of the network capacity that's going to be created. So I think as a general rule, you're going to continue to see our investments focused in those top markets.", "There are going to be some markets outside of the top 25, top 30 markets where we will go and build nodes for our carrier customer, but we wouldn't do that on a speculative basis. So to the extent that one of our customers has a market, we assess that market as having good, attractive economics at an entry point similar to what we've talked about our return thresholds have been and we see lease-up from other carriers who are going to need those same areas, then we would be open to expanding that. But I think you're going to see the concentration of the capital as well as, frankly, the activity from the carriers to be really focused on those top U.S. markets." ] }, { "name": "Michael Rollins", "speech": [ "Thanks." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Moving on, we'll go to Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "All right. Thank you very much. Good morning. I want to talk about M&A, if I could, for a little while.", "You've been fairly quiet in terms of your activity over the last couple of years here. I know you've talked in the past about interest in developed markets. There's a lot of activity in Europe. So perhaps you could just update us on that.", "And then the other would be on ground leases. It looked like it was a fairly quiet year in terms of extending and purchasing ground leases. So any color there on perhaps being able to continue to own more and push the maturities at? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Sure. Good morning, Simon. On your first question around M&A and how we think about this, core to the business around towers and small cells is certainly our focus, and really don't see anything outside of our core business of towers and small cells that would be of any interest to us. Around what markets to be in, I mentioned this a couple of times in my comments, we look at the U.S.", "market as the most attractive market in the world for investment in the kind of infrastructure that we want to own. We think the growth profile is most attractive here. And we also think the risk is the lowest. And so as we've assessed both developing markets as well as developed countries, we just -- we don't see those two characteristics exist in the markets.", "And so we've stayed solely focused on the U.S. We continue to watch what's developing in the world and to see if maybe our calculus in our view would change over time with some characteristics. But based on the work that we've seen today, we just don't -- we don't -- we haven't seen anything that's attractive to us -- and frankly, we're really excited about the opportunity to put capital work and continue to invest in the U.S. market because it does have that low-risk and high growth -- and we see that growth continuing unabated for a long period of time.", "So really excited about the opportunity in the U.S. I think we have plenty of places to put capital to work here in the U.S. On the second question around ground leases. Now this has been an initiative we've been out for about 15 years.", "Our average ground leases are well over 30 years remaining on them on average. And so as we look at the ground underneath our assets, we're focused on both extending the leases to the extent that they start to get inside of the kind of a 10- to 20-year period of time. And then where it makes sense to bring those leases on balance sheet in the form of an acquisition, we're certainly open to doing that. And at different points in time, as the markets move around, we get opportunities that arise.", "And we'll continue to do that. But given the maturity of the portfolio, there's not really any pressure on us to feel like we need to put capital to work to buy ground leases. So we'll do it. It's opportunistic when the financial returns make sense." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. And just to add to the maturity of the portfolio point there, Simon. Over 80% of our leases are either owned or greater than 20 years and the average life of the leases that are not owned are over 35 years. So as Jay mentioned, there's just no pressure for us to do anything unless the financial returns make sense at this point." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks a lot" ] }, { "name": "Operator", "speech": [ "And next, we'll go to David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey, guys. Thanks so much for taking the questions. I guess just two. The first would be, just over the last couple of days, we've heard new news to a degree from Verizon pulling forward, accelerating their C-band build with extra capital, getting in the hands of [Inaudible].", "And then T at the same time kind of pushing back their build-out with respect to waiting for 110 to do a one tower climb. I just wanted to kind of see how that lined up with what you were expecting for the year and how you set your guidance, etc.? And then I guess the second question for the T-Mobile deal, in terms of the nonrenewals, how do those nonrenewals manifest themselves? Does -- is it a hot cut on January 1? Does it happen ratably over the course of the year? And specifically with respect to the 10 million we're losing in fiber in '22? Thanks" ] }, { "name": "Jay Brown", "speech": [ "Good morning, David. On your first question, I would just -- without being really specific about individual carriers, I think the activity, as I spoke to a minute ago, that we saw in '21 and expect to carry into '22, we haven't seen anything that would cause us to look at our guidance and have to shift our expected growth in revenues. The -- we have pretty good visibility, as you know -- pretty good visibility into what their deployment plans are. And so to the extent that to adjust those plans, we're probably six to nine months away from seeing any impact in what we do.", "So it starts to -- if there is a movement upward, it would push it pretty late into this year and wouldn't have a real meaningful result impact on our results in calendar year '22. It probably more portends what's going to impact as we start to think about site rental revenue growth going into 2023. So we'll continue to watch it and be responsive as they work on their 5G network." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. And David, to speak to the nonrenewal point, as we talked about when we announced the agreement, on the tower side, we think it's going to be a $200 million impact to 2025, which you can assume happens the first of the year and it's $200 million through the course of the year. So it's all of that. On the small cell side, it's a similar portion.", "It's about $45 million, the majority of which is in 2023. Again, you can just assume that happens at the beginning of the year and impacts the entire year. And the $10 million is a fiber solution churn in 2022 is an impact of, again, $10 million to the total revenue in 2022. So I think you can -- for modeling purposes and how you think about it, just assume that happens on January 1.", "And it just -- it impacts revenues negatively by $10 million." ] }, { "name": "David Barden", "speech": [ "OK. Great. Thanks for the help, guys." ] }, { "name": "Jay Brown", "speech": [ "Yep" ] }, { "name": "Operator", "speech": [ "And next, we'll go to Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Hey. Good morning, guys. Thanks for taking my questions. First one for Dan.", "It looks like your cash tower cost of service is up about 9% year over year in the quarter. It was up about 7% last quarter. In the past, it's been pretty muted. And looking at unallocated G&A in the quarter, it was kind of higher than it's been before, too.", "So maybe talk a little bit about what's behind that cost growth and how we should think about the trajectory from here? And then I have a follow-up." ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. If you look year-over-year, it's relatively stable. So it's just when costs come in and what happens on a quarter-to-quarter basis. I would think that when you think about the cost structure, especially in our tower business, it's pretty stable over a long period of time.", "So I would just ask that when you look into it, Nick, look at the year-over-year growth as opposed to any quarter-over-quarter moves, and that probably is more indicative of what's going to happen through the course of long periods of time, including in our 2022 guidance." ] }, { "name": "Nick Del Deo", "speech": [ "OK. OK. So nothing unusual going on there to call out. Yeah.", "I guess the second one on small cells. You kind of thinking about the T-Mobile and Verizon deals, do they presumably structure those deals to cover their anticipated needs for the foreseeable future? Kind of thinking about the cadence of signings going forward from customers with long-term deals like those, is it appropriate to think that it might be several years before they come back to do more with you and kind of a feast or famine outlook? Or are there reasons to think that they might come back to the well more -- on a more regular basis before those deals conclude?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, Nick. I would say framing that, I would think about two things. The first thing I would think about is the 50,000 node commitment that we received is a hard contractual commitment. So there's a balance whenever the carrier -- we're working with the carriers around contracted future leasing activity, whether it's on towers, for amendments or new installations or in the case of small cells, we're not going to get 100% of what they think they're going to build contracted and committed that early.", "So I wouldn't -- we don't view this and don't think this is 100% of everything they're going to need or contract for because they're just not going to make that level of commitment. The second thing that I think is -- when I think about your question is the amount of and scale of the commitment relative to historical activity is really, frankly, astonishing. We've said this a couple of different times, but we've been at this for 10 years. We've got 50,000 nodes on air.", "And in the last 12 months, we've gotten 50,000 nodes commitment. So it feels to us like this is a very significant turning point. And I think that turning point and the commitment from the carriers while we think about it in terms of -- in my comments, I talked about the return elements, the revenue growth elements, and why it's important there. But the other aspect of this is how difficult these are to build, I think, is very well understood by our carrier customers.", "And so there's an element to this of the carriers know they're going to need the site. And unlike towers where we can get them on air in six months, there has to be significant planning that goes into this. And they recognized the difficulty of it, which I think is really the value proposition that we bring to the table of and ability to deliver these nodes and implement. And so it's really a statement of confidence also in our operating ability in addition to the macro elements of what's needed in order to make their networks work.", "And I think the combination of those two things is just really compelling." ] }, { "name": "Nick Del Deo", "speech": [ "OK. That's helpful. Thanks, Jay." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "And moving on, we'll go to Jon Atkin with RBC Capital Markets." ] }, { "name": "Jon Atkin", "speech": [ "Thanks. So I noticed that the cash yield on invested capital showed a nice sequential increase during 4Q for fiber. And can you speak a little bit as to what drove that?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, John. A couple of things drove it. One is just performance in the business as we continue to add more revenue to existing fiber, either through -- both through fiber solutions and colocating small cells on the assets we already own. So I think part of that is just the continuation of proof that this business does generate incremental returns that add to the overall yields.", "But I think there was a little bit of it that the -- when we called out some expense reductions in the fourth quarter that we didn't expect. Those hit on the fiber side and therefore increased the gross margin and ultimately, the yield because we -- that calculation is in last quarter annualized. So we got the benefit of that kind of onetime $10 million reduction in expenses. So some of it is from that too, but the majority of the increase in the yield is because the business is just performing well and we're increasing the revenue and returns on the assets that we already own." ] }, { "name": "Jon Atkin", "speech": [ "So on the tower side, it was in the kind of the low 11% range. And do you expect fiber to -- what pace does fiber kind of converge toward that 11%? How do we think about that?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. So first of all, on the tower side, there is substantial growth there, and that's all just in the performance of the towers. We are continuing because this business is a great business to add revenue on existing towers, which increases the yield, which we would anticipate to happen in 2022 as well. The timing of when we're going to get the fiber business to an 11% yield, we've always had a hard time answering that question specifically because it really matters not only the amount of small cells we get but how many are co-located.", "As Jay pointed out, though, we're going to make significant progress toward that, given the 50,000 that we just booked. Because not only do we get a lot, a significant portion of them are going to be co-located on the existing assets, which will drive that yield up. And what's so important to understand about that is at the same type of maturity time frame of towers, we were much below the 8% that we're on at the fiber business right now. So we think that the proving out of the small cell business is happening faster than what happened with towers and that we will get to those 11%.", "And as we've talked about, as we get to three tenants for an overall small cell deployment, we'll get into the -- that drives the returns up to the mid- to high teens. So we feel like there's a lot of upside that is going to be realized in our fiber business, and those yields will creep up and approach in where we are with towers and towers will continue to increase also. So hopefully, you'll continue to ask the question of when are you going to get to the 12% on towers or the 13% on towers. And we'll keep saying we're going to chase it with small cell." ] }, { "name": "Jon Atkin", "speech": [ "On the 50,000 small cells, you talked a lot of that colocation. Any kind of rough numbers you can share on the capital intensity of that? And then more broadly for the business, given all the MLAs you now have in place, how do we think about the 2022 growth outlook? And how much of that is now contractually locked in under MLA terms? Thanks." ] }, { "name": "Dan Schlanger", "speech": [ "The capital intensity on the colocation is substantially lower than capital intensity on anchor builds. And as we start getting clarity around what the timing is of building those nodes, both anchor builds and colocations within the 50,000, we'll continue to update you on the capital. But right now, what we believe is that the capital in 2022 will remain relatively consistent with what we saw in 2021. But it's clear that, over time, we would anticipate that to go up because we're going to increase the number of nodes being put on air from what we expect this year to be 5,000 to what we expect next year to be over 10,000.", "So we expect an increase in capital but not commensurate with the increased number of nodes because the capital intensity is coming down. On the long-term MLAs and the percentage under those, we think of our MLAs as the way we structure the growth. So whether we put it in an MLA or take it a la carte, that growth is going to occur because our assets are so important to the functioning of the network. And we've signed a lot of MLAs, but we always think about what is the best present value we can get within them.", "And whether we go a la carte or more holistic pricing is really dictated by the NPV we get plus the benefits that both we and our customers get from having holistic pricing, just making it easier to operationalize. But we also always leave room for upside through that. So we're not pricing all of our tower capacity and saying that's what we get paid within our MLAs. We're pricing it with respect to how much activity we think is going to happen.", "So we believe that the contracts provide all of that, both the underlying contractual obligations plus the upside and the operational ease that comes with having more pre-described pricing, which is really all it is because -- like I said, however, we want to monetize the growth, we think there's going to be growth and we are monetizing it." ] }, { "name": "Jay Brown", "speech": [ "And Jon, one of the things maybe just to think about that that I would add to Dan's comments around the MLAs is the more nearer period that you think about, the more certainty we have of that revenue stream. And as we get toward outer years, the more optionality we have toward the upside. And we would think about it that way. And obviously, our counterparties think about it that way as well because the nearer the term, the more certainty they have as to what exactly what they're going to need.", "And as we get into outer periods, then we end up with more optionality toward future growth. So this is just the nature of the way those contracts end up coming together usually." ] }, { "name": "Jon Atkin", "speech": [ "Thanks very much." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Nice one, everybody." ] }, { "name": "Jay Brown", "speech": [ "Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "Happy New year, belated. A couple of questions, if I could. One, definitely appreciate the focus on core, we call it cash leasing. Also like you guys reporting by segment, the core leasing activity.", "Hopefully, we get that by quarters as we go forward. A couple of questions on the Sprint T-Mobile items that you discussed earlier this year and touched on this call. Are we right that -- I think you said maybe 5,000 nodes would get decommissioned by -- small cell nodes get decommissioned by T-Mobile in the '23 time frame. Should we assume that the 10,000 is a gross add of nodes, not a net add of nodes?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. Yeah." ] }, { "name": "Jay Brown", "speech": [ "The net add of nodes." ] }, { "name": "Dan Schlanger", "speech": [ "No. No, the 10,000 of gross-out of nodes. The 5,000 will be decommissioned in 2023. So yeah, the 10,000 is the gross or more than 10,000, and then the 5,000 will be decommissioned." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense. Because the gross would obviously lead to new lease activity and the decom will go to churn?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah." ] }, { "name": "Jay Brown", "speech": [ "Correct." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Second question on the T-Mobile small cell. I think you also mentioned there was a five-year specific member commitment but is the 35,000 node commitment spot over the five years? Is it spread over a longer period of time and be getting several questions on that one." ] }, { "name": "Dan Schlanger", "speech": [ "Yes, the 35,000 node commitment is spread over five years." ] }, { "name": "Ric Prentiss", "speech": [ "Great. And then it looks like you guys simplified the Sprint churn, the $200 million hitting in 2025, and then churn kind of hangs in the one to 2% range other years. Should we assume that it goes more toward the 2% range than the 1% range though as we think about it? Just trying to understand -- because I think you previously acknowledged that you had $679 million ballpark of Sprint leases. So just trying to think of how we should think about the 200 million versus that 679 and over what period of time might they be coming off?" ] }, { "name": "Jay Brown", "speech": [ "Yeah, Rick. As we get into those outer periods, obviously, there's probably a little bit of movement as you would expect from year to year. So we're trying to give you a range that in each of the years we would be within. So we would expect it to kind of be one to 2%.", "And I don't think, at this point, we're ready to be more precise than that range." ] }, { "name": "Ric Prentiss", "speech": [ "OK. Can you give us an idea of how much total Sprint churn you expect to occur if it was 679 was the most exposure and 200 is kind of lump sum? Can you give us an idea of how much Sprint churn you expect to occur over a multiyear period then?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. I think when we get out into the outer periods of time and history has been such great place to go back and look at how these networks get deployed and what ends up happening when there's consolidation churn. Today, putting a precise answer on that question, I don't think we have -- we don't have great visibility toward that. We can range-bound it.", "We know kind of the outer limit of it around the 2%, the lower end of kind of 1%. And as they deploy the network and upgrade it to 5G as T-Mobile goes through that process, there were going to be some sites for sure that they're going to not need. There will probably also be some sites that today they look at and may be on the list of potentially losing that ultimately will have need as data growth occurs. So I think as we get into those outer years, we'll be able to give you a better estimation.", "But in terms of modeling, when we look at the total business, we think as we look at the contractual committed revenues on our assets today, we're pretty confident we'll be inside that -- in between that one and 2% churn in any years other than the specific years, we were calling out." ] }, { "name": "Ric Prentiss", "speech": [ "Makes sense. One other quick housekeeping one. In the supplement, I guess, the settlement has not been updated for the new straight-line adjustment for T-Mobile. But should we assume, again, ballpark Zip code, that the straight-line adjustment that went up by $250 million in the '22 guidance, should that straight-line adjustment kind of dropped by 50-year change by 50 million a year, just kind of theoretically?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. I won't speak specifically to the $50 million a year, but you're right that that $250 million will drop over time. And it will ultimately, obviously reverse toward the back half of the 12-year agreement. So yeah, it's going to be somewhere generally in that range." ] }, { "name": "Ric Prentiss", "speech": [ "That's good. Yes. I expect in 1Q, you'll give us kind of the more detailed schedule as you have time to kind of finish it up?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah. Yeah. Well, it's just -- it didn't happen in the period that we are reporting on in the supplement. So we wanted to put it in the period that it actually occurs.", "So we'll have that all laid out really well in our supplement after the first quarter earnings." ] }, { "name": "Ric Prentiss", "speech": [ "Make sense. Thanks for all of the answers and everybody stays well. Hope we're moving into a much better 2022." ] }, { "name": "Dan Schlanger", "speech": [ "Agree." ] }, { "name": "Jay Brown", "speech": [ "You too, Ric." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Phil Cusick with J.P. Morgan." ] }, { "name": "Unknown speaker", "speech": [ "Hi. This is Amir for Phil. Two, if I may. You guys have talked over the years about a second and third tenant on small cells being accretive to return.", "How should we think about these colocations and pricing that first tenant and later driving up the return?" ] }, { "name": "Jay Brown", "speech": [ "Sure. So the pricing environment that we've talked about for years is unchanged. We've seen the economics, whether it's the two large deals that we spent a lot of time talking about this morning or as we do one-off markets with the carriers, we've seen that pricing stays in line. In terms of our underwriting, we typically see a six to 7% initial yield on invested capital as we add a second tenant to those same assets or on that same network, we get into the double digits return, so above 10% yield.", "And then as Dan mentioned earlier, by the time we get to the third, then we're into the mid-to-high teens in terms of our yields on invested capital as we add that third tenant. We've seen that pricing basically be unchanged for the last five or six years. And so those are the economics you should expect as we add additional tenants. Typically, when we're underwriting these investments, we will be -- we don't do anything speculatively.", "So we'll start off with some sort of six to seven -- in the neighborhood of six to 7% initial yield on that investment. We're building it for a carrier purpose-built. And in order for us to sign up for that, we're going to have a view on future tenancy and what will go there. And the things that we underwrite are going to have at least one additional tenant beyond that anchor tenant.", "So we're underwriting things with yields that are into the double digits and then over time, getting and achieving that lease up to drive our returns above our -- well above our cost of capital." ] }, { "name": "Dan Schlanger", "speech": [ "And one of the things that we've talked about historically and remains to be true is that when we talk about a second tenant, it doesn't have to be a second specific customer that the first tenant coming in and densifying on their own network can be their own second tenant. And we will see the economics that looks almost exactly the same, whether it's the same company or a different company as the second tenant. And that's true in these agreements as well as any time that we're seeing the densification on the existing network, that those will drive returns that are very consistent with everything Jay just talked about." ] }, { "name": "Unknown speaker", "speech": [ "That's helpful. Thank you. And then my second question, in the material, you guys note that the carriers are planning the next phase of the 5G build that requires small cell that scale. Can you expand on what those conversations are looking like?" ] }, { "name": "Dan Schlanger", "speech": [ "I'm sorry, what was the last part of the question?" ] }, { "name": "Unknown speaker", "speech": [ "Can you expand on what those conversations are looking, like, talking to the carriers about like the next stage of the 5G build that requires the small cell?" ] }, { "name": "Dan Schlanger", "speech": [ "Yeah, Amir. I'll only speak to it at a really high level, and then I would let you inquire of each of the carriers as to how they're thinking about it. The conversations that we have brought to fruition the 50,000 nodes that they committed to. And so we have an understanding of how they're thinking about their markets, where they're wanting to densify, how they're thinking about putting it in places where we have existing fiber or not.", "So we have a good view of that. But specifically, how they're thinking about spectrum management and densification, that's really a question that I think they should speak to." ] }, { "name": "Unknown speaker", "speech": [ "Great. Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Operator", "speech": [ "Moving on, we'll go to Colby Synesael with Cowen." ] }, { "name": "Greg Williams", "speech": [ "It's Greg Williams sitting in for Colby. I have two questions, if I may. One, I just wanted to revisit the idea of AT&T's messaging yesterday about one-tower climb. I don't want to talk about that customer specifically, but what is the one-tower climb or a one-touch program mean in terms of impacts on your leasing expectations? Specifically, if the radios aren't ready for late spring, early summer, if it's one piece of equipment or two pieces of equipment, how does that impact your lease-ups and the way your contracts are constructed? Do you price on space equipment? I know some of your peers comprise on a frequency-specific level.", "The second question is just on the services business. How are we going to see services volume on the tower side compared to 2022 versus 2021? And what are the gross margins looking like for 2022 on service margins? Thanks." ] }, { "name": "Jay Brown", "speech": [ "Thanks, Greg, for the questions. On the first question, I think it's a thoughtful approach to try to limit the number of truck rolls that you have in the network. And so obviously, AT&T is being thoughtful about how they're thinking about truck rolls and a number of times to touch a site because it just increases the cost of that activity. It doesn't matter that much to us in terms of our ultimate financial results on-site rental revenue, whether it's one or two touches in order to get to the steady state or the final state of the network.", "We're obviously happy to work with our customers as they do things like try to eliminate the number of truck rolls that they have in order to help them accomplish those lower-cost deployments. In terms of the pricing in the second part of your question related to that, we price based on space used up on the top of the tower, space used at the base of the tower, the ground space that the equipment takes up as well as our agreements are oftentimes spectrum-specific as to what they're deploying or using on those sites. So all three of those elements can impact the ultimate price on the site. On the services question, we expect services, as we talked about in terms of tower activity, to be similar in '22 as it is in '21.", "We have a similar expectation around the services business in '22, relatively similar to what we saw in 2021. The timing in the quarters may change a little bit. But as you think about it in the totality of the year, our outlook assumes that services is about the same in '22 as it was in '21." ] }, { "name": "Greg Williams", "speech": [ "That's helpful. Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Dan Schlanger", "speech": [ "Operator, may we have time for two more questions?" ] }, { "name": "Operator", "speech": [ "Thank you. And next, we'll go to Sami Badri with Credit Suisse." ] }, { "name": "Sami Badri", "speech": [ "All right. Thank you very much for fitting me in. There were some references made earlier about the difficulty of the small cell business, and this is kind of the rationale for the competitive advantage that you guys have built over many, many years and even trenched yourselves and have been able to watch where the puck is going. And another dynamic that really kind of entered in 2021 was the increases of costs and decreases of labor firepower for a lot of organizations involved in the telecommunications industry.", "Is this environment conducive of a dynamic where telcos will begin outsourcing more of their telecom infrastructure builds over time rather than in-sourcing?" ] }, { "name": "Jay Brown", "speech": [ "Yeah. Good morning. Thanks for the question. We believe that to be the case.", "Certainly, the economic proposition that we have to the wireless operators on the tower side has proven out over 25 years that the shared infrastructure model reduces the cost of the network for the operators, and it has played out over a long period of time very successfully. That exact same dynamic is at play with small cells, where we're willing to put up the capital and then deploy the capital initially and then share it across multiple operators such that each operator has a much lower cost of operating than what they would have if they own their own and each of them built their own network. So we absolutely see those dynamics at play. And what you're highlighting around an environment where labor costs increase, inflationary pressures may drive up interest rates, I think it just underpins our value proposition to our carriers that we're happy to provide the capital at a much lower cost than what the markets can provide them capital because of the opportunity that we have to see returns from multiple operators across that same asset.", "So that's the business model and feel like we're really well-positioned for that. And in a period of time where we're trying -- where everyone is trying to figure out ways to reduce overall costs, we're a very good alternative as they think about network deployment." ] }, { "name": "Sami Badri", "speech": [ "Got it. Thank you. And then one comment or question actually on just some of the FAA and airline type things that we've been seeing. Has there been any change in payments or negotiations or on an account contract that you have with your major customers regarding some of the noise that non-telco constituents are making?" ] }, { "name": "Jay Brown", "speech": [ "There has not been any change in the behavior of our customers. And we don't expect there to be any impact to our 2022 outlook." ] }, { "name": "Sami Badri", "speech": [ "Thank you." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Dan Schlanger", "speech": [ "Operator, maybe we have time for one more." ] }, { "name": "Operator", "speech": [ "Thank you. And that final question will come from David Guarino with Green Street." ] }, { "name": "David Guarino", "speech": [ "Thanks. Two questions I'll ask them upfront for you. The first one is on valuations for fiber assets have moved significantly higher over the past year. Do you think it might make sense to recycle a portion of your fiber assets that maybe aren't as well suited for small cell colocation? And then the second question is on data centers.", "You guys have made some small investments in data centers, but what are your thoughts on a larger-scale data center acquisition? And do you see enough evidence today that data centers and towers under the same roof make strategic sense? Thanks." ] }, { "name": "Jay Brown", "speech": [ "You bet. On your first question around valuations for fiber, I think the world is starting to see the real value of fiber and the necessity of it for small cells. And a desire for folks to try to figure out a way to invest in that space has certainly driven up the valuations. We've talked for years around our strategic focus and what the interest in fiber is for us.", "We wanted to be in the top U.S. markets and we wanted to acquire fiber that was dense in those markets and had a lot of capacity. And as we said, I think it was coming on now about four years ago, we really didn't see any more meaningful acquisitions in the U.S. or opportunities to acquire fiber that kind of met those criteria of dense urban markets, high-capacity fiber.", "And so the majority of what we have been investing in since then has been building fiber in markets for carriers to deploy small cells. So when I look at our capital base and the assets, there's not a portion of those assets that are extraneous to the strategy of any meaningful amount. The assets that we acquired and bill were really in the locations that we chose, and we didn't buy large nationwide portfolios of assets that we look at and say, OK, these are underperforming or unlikely to perform long term. So like the asset base that we have, I think we're going to be able to drive really nice returns across them over a long period of time.", "And I think the actions of the last 12 months really speak to the opportunity that lies ahead. So feel good about where the assets are. On your second question around data centers, large-scale data centers, we don't see that as core to our strategy. I don't see a need to own data centers.", "I don't see how it relates, frankly, to the edge data centers that will ultimately be needed as wireless networks ultimately expand. So I don't see owning or operating large data centers as a part of our business model, and it's frankly not something we're interested in doing. We're focused on investing our capital in the towers and small cells. We think that's the highest growth opportunity in the U.S.", "and see a lot of opportunities to deploy capital there as well as drive great returns for our shareholders. And so we're going to stay focused there. And if ultimately, we get to our upside case for small cells. And certainly, I think the edge data centers will come around, and we're well-positioned given our fiber footprint the benefit from those edge data centers if we get into the upside case outcomes for small cells.", "We'll certainly take advantage of where our hub sites are and our assets are located to capture that edge data demand but don't see large-scale data centers playing out in our strategy. So appreciate the question. Did you have a follow-up?" ] }, { "name": "David Guarino", "speech": [ "Yeah, just to clarify. When I said large scale, I was referring more to a larger platform, not necessarily a hyperscale data center, but it sounds like based on your response, that same would hold true. The timing is not there yet from your view. But in the future, you could be more open-minded to a smaller edge data center strategy? Is that correctly agreeing on what you said?" ] }, { "name": "Jay Brown", "speech": [ "Well, I think I'm trying to separate the difference between the large box data centers and the edge data centers, we see potential on the horizon for edge data centers to come to fruition in the wireless networks. In the use cases, in order to get to a place where edge data centers are a meaningful opportunity for us, we're talking about cases that are upside cases. As we think about small cells, we'd have to get to that kind of level of data demand in the U.S. So if we get to kind of the upside cases on small cells and fiber and edge data centers are an opportunity, we feel like we're really well-positioned with the assets that we have to capture that, and we would absolutely be willing to build out sites.", "We've made some investments in Vapor IO. We have a good position there. It's an edge data center company. They've done well.", "We've built a number of their assets on our sites. And so we've got a good partnership there, and we're watching the development of that space. But for it to become meaningful in our operating results is a pretty big run from where we are today in terms of total data traffic that would be needed. And so that's where I would see our opportunity.", "But don't see or frankly, I don't see an opportunity in the big box data centers today or in the future as being really a part of our core strategy." ] }, { "name": "David Guarino", "speech": [ "That's [Inaudible]." ] }, { "name": "Jay Brown", "speech": [ "You bet." ] }, { "name": "Dan Schlanger", "speech": [ "Well, thank you, everyone, for joining this morning. And let me just conclude by thanking our employees for a job well done in 2021. The level of activity is remarkable. The way you delivered for our customers was outstanding.", "And so thank you for all of your work. I know you're already busy working on 2022 but thank you for what you accomplished in '21, and I look forward to talking to all our investors next quarter. Thanks for joining." ] }, { "name": "Operator", "speech": [ "[Operator signoff]" ] } ]
CCI	2021-01-28	[ { "description": "Vice President Of Corporate Finance", "name": "Benjamin Raymond Lowe", "position": "Executive" }, { "description": "President And Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Executive Vice President And Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "Citi -- Analyst", "name": "Mike Rollins", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon Flannery", "position": "Analyst" }, { "description": "Deutsche Bank -- Analyst", "name": "Matt Niknam", "position": "Analyst" }, { "description": "Cowen -- Analyst", "name": "Colby Synesael", "position": "Analyst" }, { "description": "Goldman Sachs -- Analyst", "name": "Brett Feldman", "position": "Analyst" }, { "description": "Raymond James -- Analyst", "name": "Ric Prentiss", "position": "Analyst" }, { "description": "Barclays -- Analyst", "name": "Tim Long", "position": "Analyst" }, { "description": "JPMorgan -- Analyst", "name": "Phil Cusick", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "David Barden", "position": "Analyst" }, { "description": "RBC -- Analyst", "name": "Jon Atkin", "position": "Analyst" }, { "description": "LightShed -- Analyst", "name": "Walter Piecyk", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nick Del Deo", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Kurn", "position": "Analyst" }, { "description": "KeyBanc Capital Markets -- Analyst", "name": "Brandon Nispel", "position": "Analyst" }, { "description": "Oppenheimer -- Analyst", "name": "Tim Horan", "position": "Analyst" }, { "description": "Green Street -- Analyst", "name": "David Guarino", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day, and welcome to the Crown Castle Q4 2020 Earnings Call. [Operator Instructions]", "At this time, I'd like to turn the conference over to Vice President of Corporate Finance, Ben Lowe. Please go ahead, sir." ] }, { "name": "Benjamin Raymond Lowe", "speech": [ "Great. Thank you, David, and good morning, everyone. Thank you for joining us today as we review our fourth quarter 2020 results. With me on the call this morning are Jay Brown, Crown Castle's Chief Executive Officer; and Dan Schlanger, Crown Castle's Chief Financial Officer. To aid the discussion, we have posted supplemental materials in the Investors section of our website at crowncastle.com, which we will refer to throughout the call this morning. This conference call will contain forward-looking statements, which are subject to certain risks, uncertainties and assumptions, and actual results may vary materially from those expected.", "Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today, January 28, 2021, and we assume no obligation to update any forward-looking statements. In addition, today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com.", "So with that, let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Ben, and thank you, everyone, for joining us on the call this morning. As you saw from our announcements last night, we delivered another year of solid growth in 2020. We expect to generate double-digit AFFO growth per share in 2021, and we secured our largest-ever small cell commitment with the 15,000 node award from Verizon to support their 5G build-out. Dan will discuss the results in our full year 2021 outlook in a bit more detail in a minute, so I want to focus my comments on two areas: our strategy to maximize long-term shareholder value while also delivering attractive near-term returns and the recent positive developments that increased my confidence on our strategy and growth opportunity. I believe our strategy and unmatched portfolio of more than 40,000 towers and approximately 80,000 route miles of fiber concentrated in the top U.S. markets have positioned Crown Castle to generate growth in cash flows and dividends per share, both in the near term and for years to come.", "Despite the challenges presented last year, we continued to build on our long history of consistently delivering compelling growth through various market cycles, highlighting both the strength of our business model and the significant value-creation opportunity our strategy provides to shareholders. One of the core principles of our long-term strategy is to focus on the U.S. market because we believe it represents the fastest-growing market for wireless network investment with the least amount of risk, leading to superior long-term returns. The demand for our shared infrastructure is fundamentally tied to the insatiable demand for mobile data in the U.S., which increased by 30% again last year. Because these growth outlook and market fundamentals are so compelling, the U.S. wireless market continues to attract a disproportionate amount of capital investment.", "This dynamic is again apparent with the C-Band spectrum auction with gross proceeds of more than $80 billion. During my more than 20 years at Crown Castle, large-scale wireless spectrum auctions in the U.S., like this one, have followed a consistent pattern. First, industry observers questioned whether the capital required to secure the valuable spectrum will crowd out investment in wireless networks. And second, these questions are answered with long periods of sustained significant investment. Similar to the past, the seemingly insatiable demand for data drives the need for additional spectrum. Further, the only way the spectrum can meet the demand is for our customers to deploy it on towers and small cells. I am confident that we will look back in the years to come and recognize how important this auction was for the development of nationwide 5G in the U.S. In addition to deploying more spectrum, cell site densification has always been a key tool that carriers have used to add network capacity, enabling our customers to get the most out of their spectrum assets by reusing the spectrum over shorter and shorter distances.", "The nature of wireless networks requires that cell site densification will continue as the density of data demand grows, particularly given the higher-spectrum bands that have been auctioned in recent years and that have shorter propagation characteristics. slide three illustrates this point. The higher-frequency spectrum bands are valuable because they provide our customers with the ability to significantly increase network capacity given how much more spectrum is available in those higher frequencies. However, as you can also see on this slide, the signal travels over shorter distances, requiring more cell sites. As a result, we expect both the deployment of additional spectrum and this densification trend to drive significant demand for our tower and small cell assets for years to come. To address this sizable and growing opportunity, we have invested nearly $40 billion of capital over the last couple of decades in shared infrastructure assets that we believe are mission critical for wireless networks.", "Our tower investments began more than 20 years ago when we built and acquired assets that we could share across multiple customers, providing a lower cost to each customer while generating attractive returns for our shareholders over time as we leased up those assets. More recently, as wireless network architecture evolve to require a network of cell sites that is much denser and closer to the end users, we established the leading small cell business in the U.S. with the same thought process in mind: provide a shared infrastructure solution that lowers the cost to each customer while generating compelling returns for our shareholders over time as we lease up those assets. We believe the addition of small cells and fiber to our strategy both complements our tower business and provides substantial potential upside to our 5G growth strategy. To that point, we recently signed two strategic agreements.", "In November, we announced a 15-year agreement to lease DISH space on up to 20,000 of our tower sites. This strategic agreement established Crown Castle as DISH's anchor tower provider and includes certain fiber transport services to further support their nationwide 5G build-out. This agreement will contribute to our financial results over time as DISH deploys on our tower sites, and we expect to start in the back half of this year. We're excited to partner with DISH to support their long-term infrastructure needs and look forward to working with them as they deploy nationwide 5G network. As we announced yesterday, we are also excited that we have expanded our strategic relationship with Verizon by signing a long-term small cell agreement to support Verizon's 5G ultrawide band and 5G nationwide deployment. Under this agreement,", "Verizon has committed to lease 15,000 new small cells, representing the largest small cell award in our history and demonstrating the value of sharing small cell and fiber infrastructure assets with multiple customers. While we believe it is our ability to provide the full breadth of wireless infrastructure assets that allowed us to secure the agreements with DISH and Verizon, highlighting the benefits of the unique portfolio we have built over the last 20 years. With our 40,000 towers and 80,000 route miles of high-capacity fiber concentrated in the top U.S. markets, we believe we will continue to reap the rewards of our investments as our customers continue to roll out their nationwide 5G network. As we noted in our press release, late last year, T-Mobile notified us that they were canceling approximately 5,700 small cells that we initially contracted with Sprint. The majority of the small cells were yet to be constructed and would have been located at the same locations as other T-Mobile small cells once completed. The Sprint cancellation resulted in T-Mobile accelerating the payment of all contractual rent obligations for those small cells as well as the payment of capital costs we had already incurred.", "In addition to receiving the future rent associated with the canceled nodes, the small cell locations are now again available for future customers. And this development does not impact the long-term growth opportunity for our small cell business. As a result, we finished 2020 with approximately 50,000 small cells on air, and we have meaningfully increased our backlog of small cells committed or under construction to approximately 30,000. As I reflect on 2020, I'm proud of how well our team delivered for our customers and our shareholders during a difficult operating environment. Looking forward, I'm excited about the growth opportunity as our customers embark on what is likely to be a decade-long investment cycle to develop 5G in what remains the best wireless market in the world. Our strategy remains unchanged as we focus on delivering the highest risk-adjusted returns for our shareholders by growing our dividend and investing in assets we believe will drive future growth, and I believe Crown Castle offers shareholders an unmatched opportunity to benefit from the launch of 5G wireless networks.", "We provide a compelling total return opportunity with a high-quality dividend yielding more than 3%. We are delivering the highest tower revenue growth rate in the U.S. among our peers. We expect to generate double-digit AFFO per share growth this year, even before 5G spending occurs in earnest. Our customers are affirming the value we bring with our comprehensive portfolio of shared infrastructure assets by entering into long-term agreements to access those assets, and we are investing in new infrastructure assets that we expect will extend the opportunity to grow dividends per share 7% to 8% per year. I believe this combination is as compelling for future value creation as we've ever seen at Crown Castle.", "And with that, I'll turn the call over to Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks, Jay, and good morning, everyone. As Jay mentioned, our 2020 financial results add to our long history of consistently delivering attractive growth. Specifically, we increased dividends per share by 8%, which reflects our commitment to return capital to shareholders and demonstrate our ability to grow through various market cycles. We delivered approximately 6% growth in organic contribution to site rental revenue, and we continue to improve our financial flexibility as we lowered our weighted average borrowing costs, extended the average maturity of our debt and reduced our leverage. Before I walk through the financial results in more detail, I wanted to briefly discuss the nontypical items described in our earnings release yesterday that impacted fourth quarter and full year 2020 results.", "The Sprint cancellation Jay mentioned generated the biggest of these impacts, including an increase to other operating income, partially offset by a related increase in operating expense and the write-off of capital already spent on the construction of the canceled nodes. Additionally, we implemented a reduction in staffing primarily in our fiber segment that resulted in associated severance costs in the fourth quarter. The fourth quarter and full year 2020 net benefit of these nontypical items, which were not contemplated in our prior full year 2020 outlook on both adjusted EBITDA and AFFO, is approximately $286 million. We do not anticipate the nontypical items will have a material impact on our 2021 outlook, which remains consistent with the outlook we've provided in October. To make the financial figures in this earnings presentation more comparable, full year 2020 results and growth figures for full year 2021 have been adjusted to exclude the impact of these nontypical items. Turning to slide four of the presentation.", "Full year 2020 results were consistent with our prior expectations with site rental revenues and adjusted EBITDA increasing 4%, while AFFO increased 9% when compared to full year 2019. The 4% growth in site rental revenues included approximately 6% growth in the organic contribution to site rental revenues, consisting of approximately 5% growth from towers, 15% growth from small cells and 3% growth from fiber solutions. Focusing on investment activity during the year, we deployed approximately $1.5 billion toward discretionary investments in 2020, including $1.2 billion for fiber and approximately $320 million for towers. These investments were balanced with approximately $2.1 billion paid in common stock dividends or $4.93 per share, representing 8% growth when compared to dividends paid during 2019. Now turning to slide five. Our full year 2021 outlook remains unchanged with 4% growth in site rental revenues, 5% growth in adjusted EBITDA and 12% growth in AFFO.", "As shown on slide six, the expected 4% growth in site rental revenues includes approximately 6% growth in the organic contribution to site rental revenues, consisting of approximately 6% growth from towers, 15% growth from small cells and 3% growth from fiber solutions. As a reminder, DISH has publicly stated they expect to begin their network deployment later this year, so our outlook does not include a material contribution from DISH's build-out. Likewise, our recent agreement with Verizon is not expected to have a material impact on 2021 results. As it relates to the balance sheet, we finished the year with approximately four times debt to EBITDA on a last quarter annualized basis, which includes the net benefit from the nontypical items discussed earlier. Adjusting to include those items as onetime impacts that are not annualized, our leverage would have been approximately five times.", "During 2020, we improved our balance sheet flexibility by extending the weighted average maturity by nearly two years, reducing our average borrowing cost by 40 basis points and reducing our leverage to our target of approximately five times. Looking forward, our expectation for 2021 capital expenditures remains unchanged at approximately $1.5 billion. We expect we will be able to once again fund this discretionary capital with free cash flow and incremental borrowings, consistent with our investment-grade credit profile. As I wrap up, we are excited about the positive demand trends in the U.S. wireless market and the opportunity we see to translate that demand into double-digit growth in AFFO per share this year.", "Looking further out, we believe our focus on the U.S. market and our ability to offer a broad portfolio of towers, small cells and fiber solutions, which are all integral components of communications networks, provides us the best opportunity to deliver superior long-term, risk-adjusted returns for our shareholders. Before we open the call to questions, I want to also mention that we were recently informed by the SEC that they have concluded the previously disclosed investigation and that they do not currently intend to pursue an enforcement action.", "With that, David, I'd like to open the call to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] And we'll take our first question from Mike Rollins with Citi." ] }, { "name": "Mike Rollins", "speech": [ "Thank you. Good morning. Just curious if you could spend some time discussing more of the small cell deal that you announced with Verizon in terms of how to think about the economics for this larger small cell deal versus maybe some of the others that you signed. How much might be on existing infrastructure versus infrastructure debt to be built and how that can flow through the P&L over the next few years? Thanks" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Thanks, Mike. Good morning. A few things I would mention about this. And obviously, we're careful about the commercial terms under which we negotiate with the customers, but I think there are a few things that we can speak to related to it. First is the returns that we would expect to gain from this agreement are consistent with the long-term approach that we've taken with deploying small cells. So initial yields of 6% to 7%, if they were to be the anchor deployment and then if they were to be a co-location on existing infrastructure, it would take those returns into the yields on invested capital into the low double digits. So from a return standpoint, really consistent with what we've seen historically. We don't know the exact locations that these nodes that they've committed to will ultimately land in, so I can't be more specific than that.", "In terms of what the returns will look like, we'll have to let some time pass and see as they identify the locations, and then we'll update that, obviously, as we go. I do think broadly, this is a -- the Verizon agreement is a real affirmation of our small cell strategy, and they believe there's real value in a third party providing the infrastructure to them. And I think we're in a great position to do that. So we're focused on making sure we deliver for them and help them get their 5G launched. And this agreement is really -- it's the floor. It's the beginning of what we think is a big start toward 5G, and I think we'll see more of this as time passes as we work to build out these 5G networks, but this is the early days and the start of something pretty exciting that we're doing with Verizon." ] }, { "name": "Mike Rollins", "speech": [ "Thanks." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Simon Flannery with Morgan Stanley." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks very much. Just following up on that. You've got 30,000 in backlog now. And any ability to think about taking that 10,000 per year install rate higher, anything that maybe under Chairman Rosenworcel would might see some action at the FCC to help on any of those items? And then on C-Band, presumably, the carriers now know what markets they want in. Do you think you'll see much in terms of prepositioning during '21? Or is it really most of the activity is going to be in '22 at this point?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Simon, thanks for the questions. Obviously, we're trying everything we can to increase the speed at which we deploy small cells. It's a very difficult and challenging activity to get through the process of working with local communities, making sure the way we design these is consistent with the aesthetic that they would want in their particular communities. And so I don't really have any update to the time line that we're typically seeing as we deploy these. It's generally kind of two to three years from the time that we identify a location to where we're ultimately able to build them. But there is a lot of work that we're doing, trying to figure out ways to do that faster for our customers. And obviously, it's to the benefit of their networks to be able to get them out there faster. But there's also a component to this that, as we've talked about, similar to towers, these are very high barriers to entry at the local community level. And so the careful work that we have to do with those communities to make sure we're sensitive to the aesthetics that they want as well as building these within the parameters that they desire into their community is critically important and something we're really focused on making sure we balance those two desires for speed as well as doing things the right way.", "The question on the FCC and the support that we've seen from the regulatory agency there over time, I think, will continue. Obviously, it's a big push of the current administration to have broadband for all, and they have been very supportive in their public comments about the need and necessity for 5G to be deployed in the U.S. and to lead the world in 5G deployment. So I think the operating environment in which we're both co-locating on existing assets as well as making investments into future assets, I think the environment that we see from a regulatory standpoint will be pretty similar to what we've seen over the last several years. On your last question around C-Band and the impact on 2021. Obviously, the auction is just drawing to a conclusion now, and I think we will see later in this year as the carriers start to speak about what their actual deployment plans for that spectrum will be.", "As we think about the outlook that we've provided, we really didn't include any impact from C-Band. And I think given the calendar, it's probably unlikely that, that would contribute to our financial results in calendar 2021. But as we get into the year and the auction gets completely wrapped up and carriers can speak to the spectrum positions that they gained, I think we'll be able to provide more clarity at that point, probably later this year as we think about 2022 and beyond." ] }, { "name": "Simon Flannery", "speech": [ "Great. Thanks for that." ] }, { "name": "Operator", "speech": [ "Next, we'll go to Matt Niknam with Deutsche Bank." ] }, { "name": "Matt Niknam", "speech": [ "Hey guys. Thank you for taking the question. Just two, if I could. One, on the reduction in staffing, any more color you can provide in terms of what drove this? And maybe where we should think about future cost savings to be recognized? And then secondly, maybe a little bit related to this. In terms of the fiber business, if you could talk to any change in terms of the day-to-day or strategic outlook for the business with a new COO for fiber now in place." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Thanks, Matt. On your first question around the reduction in force, that was focused primarily in the fiber on the network side. We're always focused on trying to operate the business as efficiently as possible. And in those efforts, we found some opportunities to gain some synergies, and so we did that in the fourth quarter of last year. Obviously, there were a number of employees that were affected by that and had done a great job for us, and I wish them all the best in their next endeavors. As I think about, strategically, around small cells and the fiber business and what we're seeing, there are a lot of positive developments.", "Obviously, the completion of the agreement with Verizon is a really positive development. We're going to be working hard for them to help them get their network on air. The beginning of the launch of 5G creates another opportunity for cell site densification and then the work that we've talked about over the last several years around 4G. I think the carriers are going to continue to densify their 4G networks. In addition to the investment that they've made -- that they're going to make on the 5G side, I think we'll continue to see 4G sites deployed and -- over time there. Great to have our new COO in place, Chris Levendos. He's been with the company for a number of years. I think he'll do a terrific job on an operating basis and operating that business efficiently, and he's off to a great start. He's been in the role since December one and doing a great job and look forward to the work he'll do ahead." ] }, { "name": "Operator", "speech": [ "Next, we'll go to Colby Synesael with Cowen." ] }, { "name": "Colby Synesael", "speech": [ "Great. Two, if I may. Obviously, a lot of debate on the cadence of T-Mobile churn or, I guess, the legacy Sprint churn over the next several years. Some of your peers have started to give color on what that might look like, even beyond 2021. And I think you guys have actually mentioned that we could start to see some of that come through in 2023. Can you give us just a little more on the quantification of what that could look like in 2023? And then my understanding is that the next big chunk, if you will, would come in 2028. Just curious if that's correct, and again, just trying to get a better sense on the quantification. And then my second question. Of the $362 million that was recognized as it relates to the Sprint small cell contract cancellation, how much of the total contract value does that $362 million equate to?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Colby, I'll take the first question, and Dan can speak to some of the specifics on the cancellation. Big picture, Colby, I would go back to some of the things that we've talked about in the past. And I know you're referencing some of the materials that are available in our supplement, which I would encourage investors to take a look at, if we break down details by customer by year. Big picture, there's five years weighted average remaining on the T-Mobile and legacy Sprint contracts. There's about -- on a consolidated basis, there's about 5% of our revenues that are overlapping sites, sites where both Sprint and then legacy Sprint and T-Mobile are co-located on. And we've used that as kind of a bookend of what the potential impact around churn could be. At this point, there are no specifics of what their plans are that we have to share. So being specific about what will exactly happen in '23 or '28, we're not prepared to speak to that because we don't know.", "Broadly, though, I think, and this is where your question is going, broadly, we're always open to working with our customers on structures that meet their needs without compromising our own economics under those lease agreements. We were really intentional several years ago with both Sprint and T-Mobile about extending the agreements that we had -- tower agreements that we had with them over multiple years, and that's why we sit here today with five-year weighted average life remaining. Obviously, that gives us significant ability to navigate through the work that they're going to do around finding synergies in their network. And I think they will find synergies in the network, and we'll be impacted to some degree by that.", "But I think it's also true that we've grown through past events of churn, past events of consolidation, and I'm comfortable that we'll be able to do the same. So as we talk about our long-term goal of being able to grow the dividend 7% to 8% per year, we think about that in the context of a multitude of different opportunities and risks at the top line. And on balance, I think we'll be able to navigate through the one that you're raising here without any significant challenges to our long-term growth rate and targeted dividends per share." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. And Colby, this is Dan. I'll take the second question you asked around the $362 million. That is a payment for the future rent that we would expected -- we would have expected to have received on all of the nodes that were canceled as well as the capital that had been spent to date on those nodes. So I think the short answer is it's all of the future value of the contract that we got paid late last year." ] }, { "name": "Colby Synesael", "speech": [ "And just a real quick follow-up to Jay's response. I mean, assuming -- I guess, regardless if it's a churn or not, am I correct in thinking that the next big chunk of legacy Sprint leases up for renewal is in 2023 and then the next one in 2028?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes, Colby. Yes. There's an agreement that expires that has some amount coming on in 2023 and then the next one is 2028. But as Jay mentioned, that's going to be a part of how T-Mobile thinks about their network. And just because the agreement comes up doesn't necessarily mean that it's churning that year, so we're going to be working through that with T-Mobile. As Jay mentioned, we have a good relationship with them and happy to talk to them about how they want to manage those sites in connection with the entirety of their network, which is where we'll head over the course of the next several years with them." ] }, { "name": "Colby Synesael", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Brett Feldman with Goldman Sachs." ] }, { "name": "Brett Feldman", "speech": [ "All right. Thanks. So yes, as you pointed out correctly during your presentation, virtually all of the spectrum that's going to be deployed from here to support 5G networks is that frequency that's much higher than what we've seen in use in the current networks. And so it makes sense that the current site density is insufficient to fully utilize them. So the question I have is what about the tower inventory? Tower, historically, have been built in locations that are optimized around the frequency bands carriers were using. So are you seeing an emerging opportunity to maybe more meaningfully reengage your tower construction business for your own use because it's been a while since you've materially built out your portfolio?", "And then are there any other infrastructure categories that might become increasingly attractive for you to invest in as carriers look at a new degree of density, whether that's helping them build out indoor systems where they can make better use of these high frequencies and maybe looking at the economics around rooftops? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks, Brad. Good morning. Obviously, the deployment of the spectrum and the acquisition of the spectrum by the carrier is going to need both macro sites and small cells. And similar to the past deployments, I think probably in the early days, we'll see that more weighted toward the macro site. But the -- where you went with your question around the build of additional assets, the opportunity to build additional towers in the U.S. is really, really limited, and I don't think anything about this spectrum auction is going to change that. So I would not expect that you're going to see either our own allocation of capital or, frankly, investment across our industry broadly, whether that's the large players, public players in the space or even the smaller players in the space. I don't think you're going to see a significant increase in the amount of tower build that happened in the country. It is very, very difficult to co-locate -- or to build new assets, new tower assets in the top 100, top 150 markets in the U.S.", "That is basically blanketed with an -- with the tower infrastructure that's there today. The opportunity to densify is really going to come with fiber and small cells. And it's why we made the investment many years ago, got ourselves into the space and started to learn how to build it, how to deploy it and get the right kind of assets for where the world was headed. We saw this densification coming and the need for it, realized that macro towers wouldn't be able to entirely meet that need. And so we began to invest in the complementary assets of small cells and fiber that are going to make this densification possible. So I think you'll see co-locations on towers. Towers is going to see a great amount of growth from the deployment of these spectrum bands, and then I think you're really going to see the reason why we originally made these investments and have continued to make the investments.", "As densification happens, I think that will happen in great amounts on fiber and small cells. Are there other areas of infrastructure that are interesting to us? You spoke to in-building. There are some small number of in-building systems that we are doing. We find venues to be attractive when they meet our rigorous approach to allocating capital, if they exceed our returns and we think there's co-location there. Some of those make sense. But frankly, in terms of the scale of investment, it's really relatively small compared to what we see in the more public right-of-way opportunities to do infill and site densification with small cells and fiber, complementing the tower portfolios that are out there. So I don't see anything on the horizon currently that would cause us to deviate from our plan of the primary investment opportunities in front of us are small cell related." ] }, { "name": "Brett Feldman", "speech": [ "If I can just ask a quick follow-up question. Your customers, your carrier customers have generally been able to use all of the spectrum bands that they hold licenses for off of their macro tower locations. Are you expecting that any site that they occupy today will eventually be upgraded to use the new mid-bands they're acquiring? Or do you think it's going to maybe be a subset of your towers that are in the right geographic locations to help with those frequencies?" ] }, { "name": "Jay A. Brown", "speech": [ "I think If we took a long view and not kind of -- I don't think you're asking this question over the next two to three years because I would defer on that answer. But if I think about long term, 10 years, 15 years, 20 years out, in the top 100 markets, I think virtually all of the spectrum bands that the carriers have today will be operating all of those spectrum bands over time. The carriers will upgrade their equipment. They'll add additional lines and antennas and ultimately be broadcasting all of the spectrum bands that they have for the -- on the vast, vast majority of the macro tower sites that they're on. And then I think based on the amount of usage that ultimately happens, you'll see them be targeted in terms of the deployment and densification inside of those markets to supplement and extend the -- and expand the network capacity by utilizing fiber and small cells to make those macro sites as efficient as they possibly can.", "That generally happens over a period of time. So if we go back in history and watch and look at how the carriers have deployed network, you can almost look at kind of the top urban markets, the most densely populated, and those will see the benefit of this kind of activity first. And then over time, you'd see that expand out to the more suburbia as well as to other markets that maybe are not quite as densely populated. So I think it's a long game and probably focused, at least initially, on the top markets." ] }, { "name": "Brett Feldman", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Next, we'll go to Ric Prentiss with Raymond James." ] }, { "name": "Ric Prentiss", "speech": [ "Hey guys." ] }, { "name": "Jay A. Brown", "speech": [ "Good morning, Ric." ] }, { "name": "Ric Prentiss", "speech": [ "A couple of questions. On the small cell side, given the Verizon contract within the Sprint's cancellation, how should we think about pacing of adding small cell nodes each year over the next several years? Is 10,000 still kind of a good number, knowing that you don't have all the details on Verizon yet?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Ric, our assumption, as we gave the guide and we talk about our 7% to 8% per year growth in dividends per share is based on a level of activity that's pretty similar to what we're seeing today. Obviously, over time, our long-term view would be that there's going to be a demand and a need for a greater number of small cells than that which would increase our pace. But for the near term and as we think about our 7% to 8% per year guide for growth in the dividends per share, that's based on activity that's relatively similar to what we're seeing today." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And is that 7,000, 10,000? Just trying to scale it in our model, thinking through the growth rates." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. It's about 10,000 per year, yes." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. Sure. Great. Okay. And then on Verizon, are there aspects of the -- given that we see Sprint cancellation, is the Verizon deal more of a take-or-pay contract? Is it an MLA sales contract? How should we think about -- not getting into too much of the specifics, but just kind of the commitment level for Verizon" ] }, { "name": "Jay A. Brown", "speech": [ "?Yes. So as I mentioned earlier, we try to avoid getting into too much detail around the commercial -- the key commercial terms of the agreement. But what -- the commitment there, it's similar to what we would have seen historically from a tower standpoint, where the carrier is making a commitment to us of a certain number of sites. And obviously, we're making a commitment to Verizon to extend the capital to deploy those small cells for them. So as we get into the agreement and time passes, then we'll be identifying together the appropriate sites that meet our rigorous return thresholds. And there may be other locations that they have an interest to build small cells that really don't clear our investment hurdles, and they'll end up finding -- building it themselves or finding another third party to provide those.", "But we'll really just have to go through a passage of time and see ultimately how that comes out. But the commitment is 15,000 small cells over a long period of time. They're making a 10-year commitment to us in terms of rent on those 15,000 sites, and the rent will commence once we install and build the small cells. And as I mentioned earlier in one of the answers to the question, the returns are really consistent with the returns that we've talked about historically, if we end up anchor building a portion of those as well as the economics around what co-location will look like." ] }, { "name": "Ric Prentiss", "speech": [ "Okay. And last one is a left-field technology question that we seem to get every 10 years, at least, as far as what's out there. We get a lot of incoming questions about satellites, low-orbit satellites, what the impact is from low-orbit satellites on wireless companies, the tower companies. Specific to SpaceX Starlink, but also a newer one, AST & Science, can you talk a little bit about how you view where satellites position is in kind of this future world?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. The dynamics and physics of the way these wireless networks work, in the places where we operate infrastructure towers and small cells and fiber, I really don't see any opportunity for satellite to be a meaningful component of the network. Frankly, I think it will be a very, very small component, if any at all, over time. The ability to transfer data quickly as well as the time it takes to move the data from earth to even a low-orbit satellite is going to create just too much latency in the network to be a viable competitor to the terrestrial-based infrastructure that makes up the vast majority of the infrastructure in the market today. I think there are places, though, particularly really rural locations where some of the low-orbit satellite opportunities could be really interesting of a way of the delivering broadband to places that just economically don't make sense to build terrestrial networks, too. And then the other place where I think there will be opportunity over time is in disaster recovery situations where you have -- we've seen this happen in Puerto Rico a couple of years ago and other places where there's a targeted area that needs to be covered.", "And I think you'll -- you may see some solutions. People have talked about balloons. They've talked about satellites. I really think those are short-term solutions, except in rural locations, but could be helpful in a disaster recovery situation where there's a small area of the terrestrial network that's been removed as a result of a natural disaster, could be interesting in those locations. But beyond that, I really don't see any meaningful portion of the wireless networks that are going to be handled that way. And I think you can point to -- obviously, we can point to the agreements that our customers are signing. If you look at what DISH just committed to us on -- for the deployment of their network as well as the behavior of our customers, I don't -- I think our contracts speak to the fact that they believe this is -- this terrestrial-based infrastructure and towers and small cells is the way that networks are going to be deployed over the long period of time." ] }, { "name": "Ric Prentiss", "speech": [ "Hence, it's law of physics or law of physics." ] }, { "name": "Jay A. Brown", "speech": [ "Haven't changed." ] }, { "name": "Ric Prentiss", "speech": [ "Exactly. Thanks Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Alright. Thanks, Ric." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Tim Long with Barclays." ] }, { "name": "Tim Long", "speech": [ "Two questions, if I could. First, on the network services side. I think last quarter, there was talk of a little bit more activity coming up, but it looked like it was down a little bit in the quarter. Understanding it's a lumpy business, could you just kind of give us a sense if there's anything specific to that? And how we should think about that rolling over the next few quarters?", "And then the second one, maybe just a little higher level. I wanted to go back to the C-Band. If you could talk a little bit about your expectations. Given the price tag for this spectrum reportedly is much higher than anyone thought, do you think at any point this changes the dynamics for your businesses, maybe for build versus lease on small cells or fiber or any change potentially to the cadence of what you'd expect and maybe touching the towers given the impact on telco fundamentals?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. Tim, it's Dan. I'll take the first question on services. The revenue we saw in the fourth quarter was very much in line with what we expected out of services, and the gross margin was as well once you take out the impact of the nontypical items we've been discussing. So I think it would be fair to say that the activity levels are consistent with what we would have expected. As is typically the case going into the first quarter, there's seasonality to it. So we would expect a downtick going into Q1 in the services business and also some incremental costs that we see that generally happen in the first quarter around property taxes and employee expenses, things like that. But nothing that I would say is indicative of a change in our expectation around activity that's happening in the tower business going forward." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. To your second question, Tim, and I spoke to some of this in the prepared remarks. But there's a long history of what happens in the U.S. after large spectrum auctions, and that leads to a significant demand for our tower infrastructure and believe this will be similar for our fiber and small cells. And this is a dynamic that will be beneficial to our industry and particularly to our company, and we expect that to be the exact same case once the C-Band spectrum is in the hands of carriers and they're ready to deploy it. More spectrum is obviously needed. Much has been written on this topic. The FCC has talked about it. The carriers have talked about it that more spectrum is absolutely needed in order to meet this 30-plus percent annual demand of growth in wireless data. And the significant investment that the carriers are making today in that spectrum can only meet that growing demand and generate for -- generate returns for our customers once it's actually deployed.", "So spectrum goes first and then the operators then deploy that spectrum, and that goes really well for the infrastructure providers. To the extent, as you were alluding to, that the size of the check raises questions about the capacity for future investment going forward, I think it further highlights the value proposition that we offer as a shared infrastructure provider. We're offering capital, in essence, to the wireless carriers across our towers and small cells, and it's cheaper for them to deploy that spectrum that they acquire across the shared asset because we're willing to take the risk that we'll be able to get multiple users and thereby reduce the cost to the carriers of deploying that spectrum across the market.", "So I think it feeds right into our value proposition, and it's one of the most encouraging things that happens in our infrastructure business. Once the spectrum is in the hands of the operators, we're able to come alongside the operators and provide a shared infrastructure solution to help them get it deployed. And I think the C-Band auction is just another example of how the run rate -- the runway of growth is extended in the business and should lead to great things in our industry and for our business." ] }, { "name": "Tim Long", "speech": [ "Okay. Thank you very much." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Phil Cusick with JPMorgan." ] }, { "name": "Phil Cusick", "speech": [ "Hey guys. Thanks. Just a little bit of a follow-up on a couple that have been asked. First, on the small cell pace. With Sprint canceling 5,000 or 6,000 sites, can you maintain that 10,000 pace this year? It seems pretty optimistic. And again, for next year, if those Verizon backlog numbers are going to probably take five years -- three to five years to get in. And then on the services side, you gave us some good read. What are you seeing from the municipal approvals at this point?" ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Good morning, Phil. On pacing, we mentioned in the release and in our comments that about 1,000 of the canceled nodes were expected to be put on air in 2021, so we'll go through the year and see kind of where we end up. But I think in and around -- as I mentioned before, in and around that 10,000 small cells deployed per year is what our expectation is. So we would expect to fill up those 1,000 in another way. And then in the years beyond that, again, our best view at the moment is that we'll be at that pace of about 10,000 per year. And if that changes, then we'll go through the process of updating that. But that's our expectation based on what we see today. In terms of what we're seeing from municipalities, I made this comment in my prepared remarks about a credit to our team for how they've navigated through difficulties. This would be an example of how difficult the operating environment has been. Obviously, all of us working in an office environment have gone through the process of working from home and what that means.", "That's a little more challenging when you are working with municipalities and gaining the rights to get construction permits and zoning permits. And our teams have done a terrific job this calendar year in working with the municipalities as the processes have had to change without slowing down our ability to deploy the infrastructure that's so critical for our customers. So it has absolutely changed in the operating environment in terms of how the blocking and tackling of gaining a zoning permit, how does that happen. It's absolutely changed, but our team has done a terrific job of navigating through that and getting to the place where our ability to deliver for customers was unaffected." ] }, { "name": "Phil Cusick", "speech": [ "Can I follow up on the small cell side? You mentioned filling those sites in a different way and maybe again in '22. What's the conversation level like with carriers? Do you have more sort of major backlog discussions that things that aren't signed yet aren't in the backlog but maybe to the tune of this Verizon deal?" ] }, { "name": "Jay A. Brown", "speech": [ "So I think what I'd speak to is we're constantly having conversations about the network and the opportunity for us to provide the infrastructure to them, both on the tower side and on the small cell side. And the dynamics that are in the market today in terms of the spectrum deployment, the growing demand for data, the obvious need for the carriers to continue to invest in their network to meet that growing demand for data are leading to conversations that give us confidence that we'll be in and around that pacing of about 10,000 small cells per year. One of the things -- just thought might bring up in terms of making parallels to the history and passage of time of small cells and towers. If you think back over the last 20 years of the tower business, the commitments that have been made by the carriers and that have been announced when they commit to a number of new installations or new sites with us, those commitments help establish protocols that enable us, both sides of the agreement, to work collectively and easily through the deployment cycles. And the establishment of a number, like in the case of the Verizon commitment of 15,000 small cells, it enables both parties to set up some ease of doing business together that, frankly, just make it easier for us to go through the process of deploying infrastructure for them.", "The same thing has been true on the tower side. But if you zoom out and think about the last 20 years, the same thing was true on the tower side. The carriers, over time, have made commitments to us for a certain number of new sites that they'll co-locate on or that we'll build for them, but those are a fraction of the overall tower activity that they ultimately did with us. I think the same thing is true on the small cell side. So commitments by the carriers are helpful. I think they're helpful data points for investors to look at and to see that there's commitments by the carriers toward future deployment. But our expectation is that this is more the start of the floor of the activity and that the business will follow more the pattern of the history of the tower business where it establishes the ability for the companies to do business relatively easily.", "But ultimately, the amount of sites that gets deployed will be far in excess of the sites that just show up on commitments that are talked about in grand scale. And that's the nature of the type of business that we're doing, where this is really a local business. So working with the local markets at each of the carriers to ensure that we're providing an infrastructure solution that meets their need at the local market area is really how we transact with our customers. And some of these agreements, like the one with Verizon, enabled that to happen more easily." ] }, { "name": "Phil Cusick", "speech": [ "Thanks, Jay." ] }, { "name": "Operator", "speech": [ "And next, we'll go to David Barden with Bank of America." ] }, { "name": "David Barden", "speech": [ "Hey guys. Thanks very much for taking the question. Two, if I could. So we've talked a lot about the capacity limitation for the small cell build in terms of incremental nodes. If you look at the glide path of revenue growth in '20 from the first quarter, 18% to the jumping-off point 13% range for fourth quarter, what are the levers that you can pull if you can't pull the volume lever to get to the kind of 15% growth target that you guys talk about? Is that bottleneck in terms of deployment actually may be an advantage for you guys to lever in terms of initial yields? If you could talk about that. And then the second question was, you evolved on a ton of work on DISH and what they might be doing with open RAN and then beating that to death.", "But one of the things that has come up in that is that there's this new generation of multi-beam antennas that have much broader range than normal, and that's what DISH's intention is in order to exploit a pretty diverse spectrum portfolio. Do you see any line of sight to the possibility that the carriers are kind of forced through the C-Band process, simply that every one of their towers to kind of come back and maybe economize on their footprint on a tower?" ] }, { "name": "Jay A. Brown", "speech": [ "You bet. Dave, as you know, I think my comments around the pace thing probably still hold. I'm not sure there's much more to add there in terms of we think we're going to be building about 10,000 per year. The places where we could increase the pace of that building would largely be around gaining municipality approvals, permits. And I don't see anything in the current environment that would suggest the pace at which we're doing that would increase or decrease meaningfully from the current operating environment. But we're going to continue to work at it and see opportunities. To the extent that we get kind of a breakthrough there and that changes, we'll obviously let you know. The other thing I would just mention about this is that the amount of revenue that are -- is added site rental revenue that comes online from small cells is based on the return profile of the systems that we're building or that carriers are deploying on, so there can be pretty significant variance in terms of what those revenues look like on a per-node basis based on the environment in which we're putting those nodes into and what the underlying costs associated with that deployment is.", "We think about pricing small cells much more on a return basis rather than just the price per node. It's driven by what our returns are. So that may be part of what causes -- as you kind of do the math and think about it, that's probably the -- one of the places that I would point to is maybe a little bit of a difference in the way that we think and as we're operating the business. On your second question around DISH and the antennas and how do the carriers economize their network, I think the carriers will continue to use technology to reduce the amount of cell sites that are ultimately needed or antennas or lines that are ultimately needed on infrastructure. It's a way of reducing their deployment costs for deploying sites. And we've seen that happen over a long period of time. I know there've been a number of studies that have talked about how the use of next-generation antennas over time have increased the ability for the carriers to cover a particular location.", "We've talked about MIMO antennas and the benefits of those of reducing some of the deployment costs. And I would expect the carriers will continue to be really thoughtful about how they allocate the capital and use technology to reduce the cost of those deployments. And ultimately, that adheres to our benefit. As they reduced the actual cost to deploy, it enables there to be more capital for them to deploy additional sites. So it's synergistic in terms of the densification process that they use technology to reduce the costs. They're able to put more of that capital into densifying their network, which obviously a [Indecipherable] benefit." ] }, { "name": "David Barden", "speech": [ "And Jay, if I could just follow up on your earlier comment. So is it -- is the law of large numbers spend simply going to grind down the rate of growth in small cells?" ] }, { "name": "Jay A. Brown", "speech": [ "I would look at, big picture, we spent some time talking about top line growth in the business, but we're much more focused around at the bottom line, what do we think we can deliver for shareholders? And that growth in dividends of 7% to 8% per year per share, we think we can do that over a long period of time. Obviously, the law of large numbers is at play in our business because it's a fixed asset that's put in the ground. And then upon which, we start to add co-location and growth. And when we have one tenant on them and add the second tenant, the revenue grows by 100%. And then when we add the third tenant, the growth rate on that individual asset is much lower than it was when we added just second tenant. So absolutely, the path that has been followed by towers will be followed by small cells where the growth rate comes down.", "But growth rates don't ultimately drive the value in our business. It's about the return on the invested capital that ultimately adheres to the benefit of shareholders. So our focus around where we're investing the capital and where we see the growth opportunities are about expanding those returns across that investment base and the assets that we own. So yes, at the top line, it will come down over time, but that doesn't necessarily parallel to the growth and the returns that we ultimately achieve by the -- through the asset investments that we've made." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And David, this is Dan. Let me just add one thing. Jay mentioned this earlier. We believe that, over time, we're going to see more demand than this. And so you can say that at a constant level of 10,000 a year, the growth rate would go down because of the law of large numbers. But it's not our anticipation that 10 years from now, we're going to be putting 10,000 nodes per year on air. We anticipate that number will be significantly higher. So the transition Jay is talking about like what happened with towers from a higher growth rate to a lower growth rate will happen, and it will just take a really long time because we think that we're at the very beginning of the 5G investment cycle, and this is a decade-long investment that is going to be required to meet the demands that are coming. And a lot of that's going to go to small cells, and we're just now seeing the beginnings of that." ] }, { "name": "David Barden", "speech": [ "Thanks. Thank you guys for your comments." ] }, { "name": "Operator", "speech": [ "Next, we'll go to Jon Atkin with RBC." ] }, { "name": "Jon Atkin", "speech": [ "Thanks very much. So a couple of questions. On DISH, you talked about second half's activity. And I just wondered about -- from a revenue recognition standpoint, do you see that commensurate with completion of site construction? Or is the timing dictated more by kind of higher-level MLA considerations?" ] }, { "name": "Jay A. Brown", "speech": [ "Jon, it's going to show up in our revenue as they deploy the site. As we identify the location and then they deploy those sites, then the revenue will start to run through our site rental revenues. So the impact we would expect will be relatively limited in our 2021 financials, and then we'll just have to see -- as we give guidance for '22, we'll update that as we get further along. But the impact to the site rental revenue specifically will be tied to the actual deployment schedule." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. And Jon, we tried to talk about this the last time we had a discussion around DISH. But it's a little odd that we have a contracted payment that we have with DISH that's going to come. We won't recognize that until we identify those sites because you have to have a lease, which is a single site, before we can start recognizing site rental revenues on a lease. So we have contracted payments, but what will happen and run through the income statement will be very much associated with the activity that we see from DISH on a site-by-site basis." ] }, { "name": "Jon Atkin", "speech": [ "Thank you. On the small cells with Verizon, I just wondered the -- does that commitment incorporate small cells that were already in your sales pipeline from that customer? Or is it additive?" ] }, { "name": "Jay A. Brown", "speech": [ "It's additive. So there are small cells that are in the pipeline doing with them that would not be included in that 15,000 commitment." ] }, { "name": "Jon Atkin", "speech": [ "And then lastly, on headcount. There's quite a lot of job openings on your website, and a lot of them seem to be kind of field-related roles related to fiber and network and so forth. And so I just want to get a sense as to kind of what the trajectory is to expect? And are we seeing kind of realignment in the type of role within that segment? Or what explains kind of the reductions that you saw but also the fact that you seem to have quite a lot of openings in that for the same segment." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. From a big-picture standpoint, as you think about building your model and where our financial results are, I think the operating expenses that we've disclosed would be our view for 2021. And I don't frankly see based on the comments that I was making around pacing, I don't really see any change to that. We're constantly making sure we have the right talent in place. And depending on the markets that we're operating in and where we're deploying activities for customers, we're going to need to make sure we have the right resources in those markets for that kind of activity. So I wouldn't point to anything relative to your question that I think changes the financial outcome or the economics of the business." ] }, { "name": "Jon Atkin", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Next, we'll go to Walter Piecyk with LightShed." ] }, { "name": "Walter Piecyk", "speech": [ "Thanks. Hey Jay, I think a couple of years ago at one of the conferences, we talked about kind of this establishing your fiber position and waiting for this inflection point to really get the returns on the fiber business. And we talked about like tens of -- hundreds of thousands of small cells sale. I'm just looking at this Verizon deal. It took four years for I think it's whatever it is, 15,000 sites. The scale just doesn't seem to be there, and that's a four-year commitment. When do you think this inflection point is going to happen?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think I would point to the Verizon agreement again to some of my earlier comments. I think it represents a significant investment on the case of -- by Verizon. It's the largest in our company history in terms of the commitment by any customer to us. So from a scale standpoint, it would point to sort of a meaningful increase or inflection point, as you described it, from what we've seen historically. I think that -- and I made these comments a little bit earlier around thinking about the Verizon agreement is more of a floor than a ceiling, but the agreement is also a significant investment commitment of capital on our part. And as you know, when we invest for these multiple -- as we invest -- make those investments, we're thinking about multiple carriers that are ultimately going to need these sites in order for us to make those investments. And we're not going to do all of the small cells in the market. So there are going to be locations, markets, where, frankly, the growth in small cells are not going to align with places where we think there will be multiple carriers. And so we're not going to do it all.", "And the carriers need flexibility when they make commitments to be able to go out and build where they're -- they have need but in places where our -- we don't think our returns are going to align with that. And when that happens, then they'll either use another third party or they'll build it themselves. So I think there will be -- as Dan was speaking to a moment ago, I think there will continue to be growth over a long period of time, and we will see increasing numbers of small cells. And I think the Verizon agreement is sort of a first step toward the benefit that's going to come with 5G and the increased need for small cells. And I think you'll see -- you are going to see, I believe, millions of small cells ultimately in the U.S. market. And we'll get our share of those in places where we own the fiber, but there's also going to be lots of places where the carriers decide to do it themselves. And some of that will be because, frankly, we don't see the opportunity to put capital to work at risk-adjusted returns that make sense for our shareholders." ] }, { "name": "Walter Piecyk", "speech": [ "So why don't you think Verizon would have, at the time, if I'm understanding the agreement correctly, use the opportunity of a negotiation to also secure small cell locations that are co-locations on top of -- -- it sounds like all the 15,000 is -- are going to be tied to capex. I mean it would seem like if you're going to do a four-year agreement, especially that long period of time, kind of like you would have a master lease agreement that you'd also secure rights or commitments to doing some level of colo, which shouldn't seem to be the case here." ] }, { "name": "Jay A. Brown", "speech": [ "No. Please don't take my comments to be inferring that we're going to build all anchor nodes for them. That's not the case. The locations haven't been identified, and I would expect that portions of these will be co-locations on existing systems. It makes their deployment faster and..." ] }, { "name": "Walter Piecyk", "speech": [ "Right. So that's actually my initial point where that's like the aggregate amount. And some, you will get additional tenants on. But some, it is the additional tenants. Let me just try the question one more way. Forget about law of large numbers. Again, I realize that the small cell opportunity is massive over time when it comes. But if you only add, again, a certain number of nodes every year, by definition, the law of large numbers kicks in. So is there a time frame when you would think that the 15,000-or-so nodes that you're activating per year, whether co-location or newbuilds, inflect up to something more meaningful like 50,000?" ] }, { "name": "Jay A. Brown", "speech": [ "Well, I think it's relative to the investment base and relative to the number of assets and markets that we own. The business -- I mean just stepping back from it. And it's a good question to say, \"Okay. At what point do you ultimately get the returns in the business?\" And I think a couple of quarters ago, we went back and walked through kind of what we saw on the tower space. It took us nearly or like I think a little over 10 years just to get to the point where we were clearing the cost of capital on the tower side from a return standpoint. This is a business that's marked by making sure we get the right locations early and then, over time, incrementally growing those returns. And there's nothing that I see in the small cell business that would say our yield on invested assets from a fiber standpoint is north of 7% today, and it's basically right around where our blended cost of capital is. And I don't see anything on the horizon that would suggest to me that we're going to market -- see a significant increase in the yield in that capital.", "What I do think will happen over a long period of time through operating the business well, adding co-locations is we'll incrementally increase that yield over a long period of time, such that when we look back after 10 or 20 years, we look at it and see the benefit of the investment that we're making, which is really incumbent upon us then as we think about where do we put the capital, we're trying to align that with the places that are most likely to need that lease-up over a long period of time in the exact same way that we did it with towers. And as we talked about a couple of quarters ago, as we took a deep dive into certain markets, then we'll update that again and the midyear of 2021. As we go down to the market level and to the asset level, we can see it playing out exactly like that, where in certain markets where the investments are really new and early, the yields on the invested capital are relatively low.", "In markets where we've been in for a long period of time and the assets have started to see the co-location, then the returns that you're asking about start to come to fruition. Big picture, the entire pie of opportunity, we think, directionally, is going to increase over time. And if you ask my really long view, then, yes, I think there is going to be a day when we're doing meaningfully more small cells than what we're doing in the calendar year. But then we'll have to look at, \"Okay. What's the appropriate capital base against that?\" And as time passes, then we'll update you on what that looks like and where the opportunity is." ] }, { "name": "Walter Piecyk", "speech": [ "Okay. Thank you." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Nick Del Deo with MoffettNathanson." ] }, { "name": "Nick Del Deo", "speech": [ "Good morning, guys. You hit on everything substantive I wanted to ask. Just thought maybe one accounting question for Dan. Maybe can you break out how the $76 million in incremental Opex related to nontypical items was spread between the various line items?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure, Nick. Happy to. It's about $25 million in cost of sales, about $10 million that impacted service gross margin and around $40 million in G&A." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. And the G&A, how much of that was segment level versus unallocated overhead?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "I would say about half-and-half, segment and unallocated overhead." ] }, { "name": "Nick Del Deo", "speech": [ "Okay. Great. Thanks, Dan." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Spencer Kurn with New Street Research." ] }, { "name": "Spencer Kurn", "speech": [ "Hey guys. Thanks for letting me in. I just had a question. I was a little bit curious Verizon signing a big small cell deal combined with T-Mobile, Sprint small cell deal at the same time. On the T-Mobile cancellation, was there an opportunity for them to repurpose those 5,700 small cells that Sprint had contracted with you for other locations? Or was there another reason why that small cell contract ended up being canceled and repaid?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Spencer, thanks. I think that's probably a question you should ask T-Mobile. They gave us notice that they wanted to cancel the nodes at the end of late last year, and so we just worked through it with them. But in terms of their rationale or their reasoning for doing that, I'd let them speak to that." ] }, { "name": "Spencer Kurn", "speech": [ "Okay. Understood. And just one more, if I may. In the past few months, you've signed two large, long-term leasing deals, one with DISH and one with Verizon. My question is are these deals in any way a function of a shift in your selling strategy, maybe from negotiating leases on a site-by-site basis to taking a more holistic approach to your portfolio?" ] }, { "name": "Jay A. Brown", "speech": [ "I think they are different in one respect. They're different because of the actual dynamics that are occurring in the market in the situations that the customers are in with the assets. In the case of DISH, they have no existing infrastructure or they're not on any meaningful number of tower sites in the market. So they're deploying a nationwide network, and it is helpful and cost-effective for them to pick an anchor provider upon which they design their entire network around. They chose Crown Castle to do that, we believe, in part, because of the quality of our tower assets as well as our ability to deliver fiber transport services to them. And that means that they're anchoring or building, designing their network around our sites. We think that creates a significant opportunity for us, both in the near-term years to come, but also over the long term, as they deploy that network. I can't think of another example in the last 15 years where a carrier, from scratch, was looking at deploying a nationwide network.", "So I think the basic idea of having to deploy a network from scratch drives the need to pick an anchor provider and then work closely with them, and we're obviously pleased to be their partner and working hard to deliver on their expectations of getting their network built. In the case of Verizon, again, I would point to some of the comments that I made before that whenever there's a commitment of size like this and obviously the largest one we've ever done with a carrier with Verizon this quarter that we're announcing, this creates, really, an opportunity for us to work together through some of the operating protocols to make sure that we're able to work together well. And the commitment and size enables us to go do that work together as to how we're going to work together. And we think it's a good start for the deployment of 5G small cells, but it's just to start and think there will be more to come. I think there will be some operating benefits going through this for us and then ultimately the returns as we both co-locate those nodes on existing infrastructure and then deploy capital to build anchor nodes for them in places where we think there will be future returns." ] }, { "name": "Spencer Kurn", "speech": [ "Got it. Thanks so much." ] }, { "name": "Operator", "speech": [ "And next, we'll go to Brandon Nispel with KeyBanc Capital Markets." ] }, { "name": "Brandon Nispel", "speech": [ "Thanks for taking the question. I'm curious if you could just comment on the pacing of 3G network shutdowns and the impact that churn could have on your business. I know some of your customers have sort of delayed and pulled forward both 3G network shutdown?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Brandon, similar to history, as the carriers transition from the current generation, whatever that is, to the next generation of infrastructure, they go through a process of going through their network, generally starting in the most urban densely populated areas, converting those networks into the new generation, in this case, converting toward 5G, and then over time, moving themselves out from that core to more rural locations. And the carriers have been in the process of converting 3G networks into 4G networks for better part of the last decade. And I think as we build out 5G, that will be at least a decade-long process would be our estimation. And you'll see the carriers continue to convert legacy 3G into either 4G or maybe skipping a generation and going directly to 5G. The sites upon which they were previously, we would expect those will be largely repurposed into the next generation of communications infrastructure." ] }, { "name": "Operator", "speech": [ "We'll move to the next question. Next, we'll go to Tim Horan with Oppenheimer." ] }, { "name": "Tim Horan", "speech": [ "Thanks guys. So Jay, do you think ultimately the mid-band spectrum we need like twice as much cell sites as we would given the limitations on physics? And can you talk about what type of ARPU risk you would expect as they upgrade each one of these cell sites? I know there's a million moving parts. The antennas are smaller, that there's MIMO in it, maybe they're deploying C-RAN with it, but just rough idea on both of them. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Ultimately, the number of sites that will be needed will be a function of what's the growth rate of traffic and demand from a wireless standpoint. I think the table that we put into the presentation is helpful because it shows directionally the move and the need for investment toward site densification. How much site densification ultimately happens I think will be a function of what's the growth rate in data. And under, I think, any scenario that you could come up with, we feel really good about where we're positioned against that growth rate and think that we'll be able to continue to deliver on our long-term target of 7% to 8% per year growth in our dividends per share. On your second question around ARPU, I think I'd defer that to our customers and let them speak to what they see as the revenue opportunity per user as the spectrum bands get deployed and built out." ] }, { "name": "Tim Horan", "speech": [ "Well, I was referring a little bit more how much revenue you could get per cell site for upgrades roughly. I mean the antennas are a lot smaller, and it's much less money than a 600-megahertz upgrade to do a 3.5. Or any thoughts around how much more they have to spend per site?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure, Tim. As they deploy the spectrum, sometimes we'll see on a tower site, based on traffic or usage that -- or need that they have, they'll deploy a full installation. And that may be nine antennas and lines or more. And occasionally, we'll see it more in the form of an amendment where they're swapping out antennas, increasing size of antennas, and it's really a site-by-site decision that the carriers are going to make. So being really specific as to what the opportunity of dollars per site will ultimately be for us is probably more precise than we're able to be. But directionally, in terms of return on assets, both on the tower side and on the small cell side, I think the deployment of these spectrum bands enables us to increase both our revenues and gross margin at the per-site level and then most importantly increase our yield on assets over time as we lease up the assets." ] }, { "name": "Tim Horan", "speech": [ "Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Operator, may we can take one more question before wrapping up." ] }, { "name": "Operator", "speech": [ "Next, we'll go to David Guarino with Green Street." ] }, { "name": "David Guarino", "speech": [ "Hey, just a quick one. I just want to follow up. I think it was on a question Spencer had asked. Could you guys give your view on T-Mobile's activity on the small cell leasing side over the next few years? And the reason I asked is just trying to understand the rationale for making a large upfront payment today rather than just amending the contract, assuming that was an option." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. David, good morning. We really don't like to speak to our customers' deployment plans. Let them -- we want to let them speak for themselves around why they make the decisions that they make around network investment and view. These sites that they canceled were locations where T-Mobile is going to have small cells, and I believe they just thought they didn't need the Sprint co-locations in those same locations. But beyond that, I think that's really just a question for them to speak to the way that they were thinking about their network over a longer period of time." ] }, { "name": "David Guarino", "speech": [ "Okay. That's helpful. And then on the Verizon deal, just circling back to that. Do you guys anticipate needing to make additional investments in fiber? Or was the agreement specifically for small cell nodes on top of the fiber you guys have already laid? And then depending on the answer to that question, is there any change to your discretionary capex guidance for '21 that you provided last quarter?" ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On the first question, there will be some places where we need to build some additional fiber for them as a part of the capital that we'll spend on their behalf to extend the network. There'll be other places where they'll be able to co-locate on fiber that we've already built or acquired. In expanding out your question, just broadly, I would say it does not change our view around acquisitions or the -- or our interest in those acquisitions. I think from this point forward, the vast majority of what will happen in the space will really be organically built rather than acquisitions. And I think our capital and investments will be focused more around those organic builds rather than looking at acquisitions in the market, even though some capital will be expended on -- and needed for the Verizon deployment of small cells. Thanks, everyone, for joining this morning. And I just want to give a shout-out to our team one more time. Thanks for all the work that you did in 2020 to deliver for the customers. Obviously, a really challenging operating environment, but you all did a terrific job delivering for them and providing great returns for our shareholders. So thanks to the team, and thanks, everyone, for joining the call this morning. Talk soon." ] }, { "name": "David Guarino", "speech": [ "Alright. Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks everyone for joining this morning. I just wanna give a shoutout to our team one more time. Thanks for all the work that you did on 2020 to deliver for the customers. Obviously, really challenging operating environment but you all did a terrific job. Delivering for them and providing great returns for our shareholders. So, thanks to the team and thanks to everyone for joining the call this morning. Talk soon." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]
CCI	2020-02-27	[ { "description": "Vice President of Corporate Finance", "name": "Ben Lowe", "position": "Executive" }, { "description": "President and Chief Executive Officer", "name": "Jay A. Brown", "position": "Executive" }, { "description": "Senior Vice President and Chief Financial Officer", "name": "Daniel K. Schlanger", "position": "Executive" }, { "description": "JP Morgan -- Analyst", "name": "Philip Cusick", "position": "Analyst" }, { "description": "Morgan Stanley -- Analyst", "name": "Simon William Flannery", "position": "Analyst" }, { "description": "Bank of America -- Analyst", "name": "Joshua Matthew Frantz", "position": "Analyst" }, { "description": "RBC Capital -- Analyst", "name": "Jonathan Atkin", "position": "Analyst" }, { "description": "Cowen and Company -- Analyst", "name": "Colby Alexander Synesael", "position": "Analyst" }, { "description": "Citigroup -- Analyst", "name": "Michael Rollins", "position": "Analyst" }, { "description": "Raymond James & Associates -- Analyst", "name": "Richard Hamilton Prentiss", "position": "Analyst" }, { "description": "MoffettNathanson -- Analyst", "name": "Nicholas Ralph Del Deo", "position": "Analyst" }, { "description": "UBS Investment Bank -- Analyst", "name": "Batya Levi", "position": "Analyst" }, { "description": "Oppenheimer & Co. -- Analyst", "name": "Timothy Kelly Horan", "position": "Analyst" }, { "description": "New Street Research -- Analyst", "name": "Spencer Harris Kurn", "position": "Analyst" } ]	[ { "name": "Operator", "speech": [ "Good day and welcome to the Crown Castle Q4 2019 Earnings Call. Today's call is being recorded. At this time I would like to turn the conference over to Ben Lowe. Sir please go ahead." ] }, { "name": "Ben Lowe", "speech": [ "Thank you Katie and good morning everyone. Thank you for joining us today as we review our fourth quarter 2019 results. With me on the call this morning are Jay Brown Crown Castle's Chief Executive Officer; and Dan Schlanger Crown Castle's Chief Financial Officer. To aid the discussion we have posted supplemental materials in the Investors section of our website at crowncastle.com which we will refer to throughout the call this morning. This call this conference call will contain forward-looking statements which are subject to certain risks uncertainties and assumptions and actual results may vary materially from those expected. Information about potential factors which could affect our results is available in the press release and the Risk Factors sections of the company's SEC filings. Our statements are made as of today February 27 2020 and we assume no obligation to update any forward-looking statements. As you saw from our press release yesterday we've restated our historical financials. Of the financial information we discuss in this call includes the expected effect of the restatement. In addition today's call includes discussions of certain non-GAAP financial measures. Tables reconciling these non-GAAP financial measures are available in the supplemental information package in the Investors section of the company's website at crowncastle.com. So with that let me turn the call over to Jay." ] }, { "name": "Jay A. Brown", "speech": [ "Thanks Ben and thank you everyone for joining us on the call this morning. As you saw from our results we closed out another year of solid growth in 2019 which included generating the highest level of tower leasing activity in more than a decade. I believe our strategy and unmatched portfolio of more than 40000 towers and approximately 80000 route miles of fiber concentrated in the top U.S. markets has positioned Crown Castle to generate growth in cash flows and dividends per share both in the near term and for years to come. Dan will discuss the results for full year 2019 and the full year 2020 outlook in a bit more detail. So I want to focus my comments this morning on two key points. First we expect 2020 to be another year of significant growth in cash flows and dividends per share.", "And secondly I'm excited about the long runway of growth for Crown Castle as we are sitting on the doorstep of another investment cycle by our customers as they deploy 5G. On the first point we expect to grow AFFO per share in 2020 by approximately 8% supported by similar levels of growth in our tower and fiber segments when compared to 2019. We expect the elevated level of growth that we expect that we experienced in 2019 to continue with similar levels of tower leasing this year as our customers respond to the ongoing growth in mobile data demand. Uncertainty around the outcome of the pending merger between T-Mobile and Sprint caused a decrease in activity during late 2019 and early 2020. However we believe this slowdown will ultimately prove temporary and short-lived as we anticipate a significant increase in industry activity in second half of this year as clarity around the merger drives a ramp in 5G investments. Within our small cell and fiber businesses 2019 was a terrific year as we've successfully deployed approximately 10000 small cell nodes making the making it the highest year of production in our company's history.", "We expect to deploy another 10000 small cell nodes this year as we continue to respond to the significant increase in demand from our customers while at the same time navigating ongoing hurdles that remain challenging with many municipalities and utilities. We finished 2019 with more than 40000 small cells on air and another approximately 30000 in our construction pipeline as we remain the leading U.S. small cell provider in terms of scale and capabilities. Adding to the returns we are generating from attaching small cells to approximately 80000 route miles of fiber we generated 3% revenue growth from our fiber solutions business in 2019 and we anticipate similar levels of growth this year. We see a path to further improve our returns over time by sharing the same fiber asset across this larger addressable market of fiber solutions customers that require high bandwidth connectivity including large enterprises healthcare institutions and government agencies. Simply put 2019 was a great year of growth. And 2020 is shaping up to be similar albeit potentially more back-end loaded than we previously expected.", "And as excited as I am about 2019 and 2020 I'm even more excited about the bigger picture. We have positioned Crown Castle with the right assets in the right market with market-leading capabilities to deliver value to our customers and generate shareholder returns for decades to come. As is often the case the natural tendency is to overestimate what is possible in any given 12-month stretch while underestimating the dramatic change that can occur over a 10-year period. Looking back over the last decade we have significantly expanded our tower business from approximately 22000 towers in the U.S. generating approximately $1.5 billion in annual site rental revenue in 2009 to where we are today with 40000 towers generating nearly $3.5 billion in annual site rental revenue. We also established a common stock dividend during that time that provides a consistent return of capital to our shareholders currently totaling $2 billion on an annual basis or nearly 35% of our total revenues. Further we have built a market-leading position in small in the small cells industry and have invested approximately $15 billion of capital to establish fiber footprints in prime locations across the top U.S. markets where we see the greatest long-term demand. While making those significant investments in assets and capabilities that we believe will expand our future growth opportunity as 5G is deployed our equity market capitalization has increased from less than $10 billion to over $60 billion generating a compound annual total return of greater than 18% for our shareholders during the last 10 years.", "And the combination of the market dynamics and our unique portfolio of assets sets us up for a long runway of continued growth as the wireless industry embarks on an investment cycle to deploy 5G. This has the potential to make the next 10 years look a lot like the last 10. The current demand environment that is generating the highest levels of tower leasing activity in more than a decade is largely tied to our customers investing heavily in their 4G networks to keep pace with the 30% to 40% annual data demand growth. On top of that continued investment we anticipate significant long-term demand for our infrastructure as 5G becomes a reality and wireless networks expand from connecting everyone to connecting everything. Adding to my optimism I believe recent industry developments will help to accelerate the deployment of 5G in the U.S. We believe the new T-Mobile along with AT&T and Verizon are in a great position to leverage their scale and valuable spectrum assets ultimately promoting more investment across the industry.", "Adding to the opportunity this is the first time in more than a decade that we have had visibility into a potential new customer entering the wireless market at scale with DISH networks looking to deploy nearly 100 megahertz of spectrum over the next several years in order to compete with the established operators and meet significant build-out requirement. And finally there are several large spectrum auctions on the horizon that we believe will bode well for the future tower and small cell demand. With our unmatched asset base and expertise operating in the best market in the world for communications infrastructure ownership I believe Crown Castle is in a great position to capture these substantial long-term opportunities and consistently deliver a return of capital to our shareholders through a high-quality dividend that we expect to grow 7% to 8% annually. And with that I'll turn the call over to Dan to go through some of the more specifics of the quarter and the last year." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Thanks Jay and good morning everyone. We delivered another great year of financial performance in 2019 with several highlights. We grew dividends per share by approximately 7% reflecting the underlying growth in our business and our commitment to returning capital to our shareholders. We generated the highest level of tower leasing in more than a decade. We accelerated the deployment of small cell nodes by delivering approximately 10000 small cells last year the highest annual production in our history and we continued to improve our financial flexibility by increasing commitments under our revolving credit facility to $5 billion while also lowering our weighted average borrowing cost and increasing the average maturity on our debt by refinancing $1.9 billion of debt at attractive long-term rates. As I walk through our full year 2019 results and our updated outlook for 2020 please note that where applicable all financial figures reflect the impact of the restatement we disclosed in our earnings release yesterday which I will discuss shortly.", "Turning to our full year 2019 results on slide three of the presentation. Relative to the midpoint of our prior outlook the outperformance in site rental revenues was primarily offset at the adjusted EBITDA and AFFO lines by lower contribution from services tied to a slowdown in activity during the quarter fourth quarter. As Jay mentioned uncertainty around the outcome of the pending merger between T-Mobile and Sprint led to lower activity levels in late 2019 that we believe will continue through early 2020 before rebounding later this year. As a result we expect our financial performance in 2020 to be more back-end loaded than we previously anticipated particularly in our services business. Turning to slide four and looking at full year 2019 in more detail. Site rental revenues increased by $298 million inclusive of $290 million in organic contribution to site rental revenues. That equates to just over 6% growth. That 6% growth is comprised of approximately 6% growth in towers 17% in small cells and 3% in fiber solutions.", "Moving on to investment activities during the year. We deployed approximately $2.1 billion in capital expenditures including $1.9 billion of revenue-generating capital expenditures comprised of $1.4 billion in fiber and approximately $450 million in towers. Additionally during 2019 we returned significant capital to our shareholders through our quarterly common stock dividend totaling $1.9 billion in the aggregate or $4.58 per share representing growth of approximately 7% compared to full year 2018. From a balance sheet perspective we ended 2019 at approximately 5.5x debt to EBITDA. We remain committed to our investment-grade credit rating and anticipate a glide path back to our target leverage of approximately 5x by the end of 2020 based on the expected EBITDA growth throughout the year. Turning to our full year 2020 outlook. Starting on slide five of the presentation. You can see our outlook remains unchanged apart from the effect of the restatement. To wrap up 2019 was another very successful year for Crown Castle.", "We are excited about the growth opportunity going forward as 5G deployments are just beginning and are expected to drive significant demand for our tower and fiber infrastructure. Currently we are seeing the benefits from the investments our customers are making in wireless networks to keep pace with increasing data demand which allows us to provide near-term returns through a high-quality dividend that we expect to grow 7% to 8% annually. At the same time we're making significant investments in our small cell and fiber business that we believe will position Crown Castle to take advantage of the long-term growth trends Jay discussed earlier and generate shareholder returns for decades to come. Before opening the call up to questions I'd like to spend a minute addressing the restatement of our previously reported financial statements as described and detailed in our press release yesterday.", "In connection with our year-end procedures and after receiving the previously disclosed subpoena from the SEC we engaged in a review internally and with our independent auditors of our accounting policies for our tower installation services. Following that review we decided with our auditors to seek additional input from the Office of the Chief Accountant of the SEC also referred to as the OCA regarding whether a portion of our tower of our installation services revenues should be recognized over the term of the lease of the installation work of the lease the installation work is associated with. After consulting with the OCA we determined that our historical practice of recognizing the full transaction price as service revenue upon completion of the installation was not acceptable under GAAP. Instead a portion of the transaction price for our installation services specifically the amounts associated with permanent improvements recorded as fixed assets represents a modification to the lease to which the service work is related and therefore should be recognized on a ratable basis as site rental revenues over the associated remaining lease term.", "To be clear this restatement only impacts the results in our tower segment and has no effect on our fiber segment. It is important to note two key facts as it relates to the restatement. First over the term of customer lease contracts we will recognize the same cumulative amount of total revenue and total gross margin as our historical practice. And second the new accounting treatment will have no impact on our net cash flows our business operations or our expected dividend per share growth going forward. As noted in our release our consultation with the OCA was not part of the previously disclosed SEC investigation or subpoena. Based on our internal review we continue to believe that our capitalization and expense policies which were the subject of the subpoena are appropriate. We will of course cooperate fully with the SEC including in connection with the review of those policies. With that Katie I'd like to open the call up to questions." ] } ]	[ { "name": "Operator", "speech": [ "[Operator Instructions] Our first question will come from Philip Cusick with JPMorgan." ] }, { "name": "Philip Cusick", "speech": [ "Hey guys, a couple first on the restatement. Can you give us some examples of the types of projects where the accounting on revenue has changed and why you're confident that the cost should be capitalized versus expensed in a ratio where they are today? And then second can you give us any update on progress in the small cell business on applications and permitting timing? Thanks." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure Phil. I'll take the first part of that and leave Jay for the second one. The types of projects we're talking about is when we do services work in essence what we're doing is putting new equipment on to our towers. In order to do that we have to add some permanent improvement to those towers. So think of something like a bracket or a mount that holds the antenna in place. As we do that we're creating a permanent asset that we believe adds to the value and the revenue-generating potential of that tower going forward. And as we do that we have to capitalize we believe we need to capitalize those because those are permanent improvements as I just said.", "That capitalization leads to the deferral of revenue of that portion of the services work that is associated with the capital. So as we put that piece of equipment on the tower that adds value to the tower we defer the revenue associated with that and we capitalize the cost associated with it. The reason we're comfortable with that and remain comfortable with our capitalization policy is we do believe that we're adding to the permanent revenue-generating potential of the tower going forward and therefore it is a capitalized portion of the work to add to the fixed asset base that we have in place." ] }, { "name": "Philip Cusick", "speech": [ "And does this now more closely match the expensing versus capitalization on the cost side?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. It does. It defers the revenue and capitalizes and then it depreciates that over time." ] }, { "name": "Philip Cusick", "speech": [ "How are those roughly related in terms of size?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "How are those -well you can see that what we do is the capital is around for 2019 it was around $210 million. That's the revenue that we are removing from the services business. And then we get about $110 million of the amortization of prior and 2019 work in 2019 related to what we had done historically and then amortize up through 2019." ] }, { "name": "Philip Cusick", "speech": [ "Sorry I meant more on the cost side the relative ratio of expense versus capitalization of those costs. How are those similar or different to the revenue side?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "I'm sorry Phil I'm having a hard time following the question. The relative ratio of the capitalization to the expense?" ] }, { "name": "Philip Cusick", "speech": [ "On the cost side if you in terms of the cost you're generating how much of it are you capitalizing or versus expensing immediately alongside the revenue?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. So the amount of cost that we're capitalizing is a little higher than the amount on a percentage basis a little higher than the amount of revenue that we're deferring just because we have margin associated with some of that. So it's pretty close but it's probably slightly higher on the cost capitalization percentage of expense as it is the deferred revenue as a percent of revenue. But it's pretty close." ] }, { "name": "Philip Cusick", "speech": [ "Okay. And then on the applications and permit timing?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. Happy to take that one. I think we made great progress during 2019 clearing a number of different hurdles around municipalities and utilities and we're getting better in terms of how we approach the projects how we some of the work the pre-work that we do in order to get ready to launch a new project in a market. Certainly the the feedback and help that we received during the calendar year from the FCC and their new policy was helpful. As I've mentioned in past calls their help was mostly effective in markets where we were at a complete standstill and they clarified the time line to be able to go through the process as well as the cost associated with doing that. So that was helpful and I think reflective of the comments that both Dan and I made around put 10000 of these nodes on air during calendar year 2019.", "We would've loved to have done more obviously but that was the highest level of production we've ever done in the company's history. And so our team worked incredibly hard to get to the place where we could deliver at that kind of scale. And we think 2020 plays out very similar to that about 10000 nodes that we'll put on this year but we're continuing to work on the broader efforts around the best way to overcome some of the continuing hurdles and challenges of getting through municipalities and utilities. And every time this question comes up one of the things that I think is important to keep in context is a lot of the hurdles associated with this I don't think are ever going to go away. So I don't ever anticipate that our time line today of between 18 and 36 months to get these small cell nodes on air I doubt that there's ever a time when we're telling you that we're able to get these done inside of a calendar year on average.", "The time lines are long because we have to work with the municipalities and the utilities both to navigate some of the existing infrastructure but just to make sure that these assets comply with the desired aesthetics in the community. And the barriers to that entry are incredibly high just like the tower business. So I think long term we will always be overcoming the hurdle or the challenge of getting these things on quickly. That's largely a relational work that we need to do with municipalities and communities that we're putting this infrastructure into and making sure that we balance appropriately the need for the infrastructure and the desired aesthetics of the community in which the infrastructure is going into." ] }, { "name": "Philip Cusick", "speech": [ "Thanks" ] }, { "name": "Operator", "speech": [ "Thank you, Our next question comes from Simon Flannery with Morgan Stanley." ] }, { "name": "Simon William Flannery", "speech": [ "Oh, great, thank you. Good morning Great. Just continuing on the small cell. Maybe you could just share a little bit of the kind of same-store sales what's happening on a nodes per mile and your ability to lease it up. And does that is there any change there in the permitting if you already have the fiber deployed and somebody wants to add another node? And then just on the enterprise fiber business. Any changes in your go to market and kind of your sales force or anything like that to help drive the bookings engine? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "You bet. On the first questions around small cells we're seeing similar levels of lease-up to the existing assets that we've seen over the last few months that we've talked about I guess the last couple of quarters that we've talked about. We're continuing to see a desire from the wireless operators to go on fiber that we built originally for an anchor tenant in mostly top 10 markets in the U.S. where the preponderance of the investment has been made. We're still seeing significant activity and lease-up on that legacy fiber. And then the density of new nodes when a carrier ask us to construct additional fiber to build has stayed relatively similar. So we're in the neighborhood of two to 2.5 nodes per mile. And then as we see a carrier come back and want to go on that existing fiber I'd say generally across the country the build-out is similar to that. I think you could and in a more upside case as we think about long term both from what's currently being driven for 4G as well as what we expect in 5G when Dan and I talk about kind of the upside opportunity that we have and why we're so excited about the quality of these assets over a decade I think back to the learnings around towers.", "And in the early days of towers 20 years ago when the assets were built we looked at the landscape and saw that there was going to be some lease-up associated with the assets. But we sit here today 20 years later and the lease-up was far in excess of anything that we underwrote when we made those initial investments. And I think the parallel on the small cell side is we're underwriting these investments assuming current levels of data traffic and the need for these assets in 4G and at the same time the underlying drivers for the need of the asset data growth which is continuing to grow at 30% to 40% per annum and 5G coming we believe give us the opportunity that the underwriting criteria and the underwriting assumptions that we've made on these assets may prove to be much lower than the actual usage of the assets over the long term and therefore creates lots of opportunity for additional return well beyond what we're underwriting.", "And everything that we're seeing in the market today what we saw throughout 2019 and all the conversations that we're having currently in 2020 and as the carriers we think were starting to see the early glimpses of real 5G activity as we head toward the end of 2020 give us a great deal of comfort that the lease-up is coming and the density with which we've underwritten these assets will be at least as good as what we've expected." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And just building on that a little bit Simon we're still building about on activity levels about 70% anchor builds and 30% lease-up. So we're continuing to add miles of fiber to accommodate the type of lease-up Jay is talking about. And what we think we're doing is getting those as kind of the first-mover advantage. So when we go into a market we build that fiber we're there. It does provide us a competitive advantage for getting that lease-up. And if we're right that the lease-up could be significantly more than what our underwriting has been then we're just building more and more of that upside into our asset base as we go along. And therefore one of the questions you asked is the node per mile that really hasn't changed much. It's been in that neighborhood of one node per mile on average if you look at just the fact that we have 80000 miles and about 70000 nodes on air under construction. It hadn't change much because we keep building miles of fiber that we think is just embedding more and more of that upside that Jay was talking about." ] }, { "name": "Jay A. Brown", "speech": [ "Simon did you have another question on that topic before I go on to fiber solutions?" ] }, { "name": "Simon William Flannery", "speech": [ "No. No. Go on on the fiber yes." ] }, { "name": "Jay A. Brown", "speech": [ "Okay. On the fiber solutions side we continue to I think get better at running that business. As we talked about and Dan talked about specifically in the guidance for 2020 we're assuming similar level of net growth as we had in 2019 so about 3% growth in the business. We continue to believe that that those are a very attractive form of and sources of revenues in the across the fiber assets as they add to the incremental yield across the assets. So we're getting I think we're getting better at both identifying and building a pipeline of future tenancy and the strategy is playing out exactly as we thought. We're focused on the small cell opportunity. We think that's the biggest driver of the long-term returns of the fiber business. And along that as we're chasing the biggest opportunity and the biggest driver of returns we want to supplement that with the opportunity of putting enterprise clients on the on that same fiber plant and that's playing out similar to what we expected as we talked about it both last year and then going into 2020." ] }, { "name": "Simon William Flannery", "speech": [ "Thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Your next question comes from David Barder Barden from Bank of America." ] }, { "name": "Joshua Matthew Frantz", "speech": [ "Hey, guys, it's Josh on for Dave. Verizon said they expect to deploy about 5x more small cells in 2020 versus last year. Maybe if you could provide any sort of insight as to what role you're playing in that and maybe you can also speculate on how you think that's possible kind of given the permitting issues and the steady deployment volumes you guys are having. And then secondly is there any relationship between the SEC subpoena and the restatement you did yesterday? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "On your first question Josh I think I'm not going to comment specifically on Verizon or their plans. At least we try as much as we can to avoid speaking specifically to any one customer what their build-out plans are. So I'd refer you there to Verizon to get more color on what they're expecting for '20. I would say more broadly I think their comments match what you hear from all of the wireless carriers and that is the historical pace at which we've been doing small cells is nowhere close to the long-term demand for small cells and the need for small cells. The reality of the networks today given the data traffic and the amount of spectrum that is today available or will in the future be available the density required in the network is just not possible without the use of small cells. So macro sites continue to be the lowest cost most efficient way for them to deploy spectrum and to handle data demand. But the density of those sites we you just can't get them dense enough in order to meet the total market demand which is why small cells are necessary.", "So I think you're going to see comments similar to Verizon and others have made those kind of comments about the large-scale necessity of small cells. I know a lot of industry observers have made comments like there's going to need to be well over one million small cells built over the next decade and we certainly believe that to be the case. The last thing I'll say about that topic is we're not underwriting that we're going to continue to capture the same level of market share that we have historically. I think as we've talked about the business we've been pretty clear that we've been capturing about 50% of the total activity in the market for small cells. We're not going to build fiber in every location in the U.S. in order to continue to keep pace with it. And I think from the carrier comments I think there's an expectation that we have that the carriers are going to build small cells well beyond the top 100 markets in the U.S. in terms of total number of nodes that will ultimately get built.", "We may not follow them to all of those markets. The vast majority of our capital thus far has been invested in the top 25 markets and particularly in the top 10 markets in the U.S. And I think over time the driver of our revenues and continued investment is more likely to be biased toward those top markets in the U.S. than it is everywhere in the U.S. And so as a as you see the total addressable market grow and I think you will see it grow we're going to be selective in terms of where both we invest the capital and that investment of capital will drive kind of the subsequent view of how many nodes do we end up on our fiber.", "The trajectory though I think is right in line with everything that I said in my prepared remarks about the drivers of 4G and 5G and the growth in data necessitates a significant increase in the number of small cell deployments relative to where we are today. So those kind of multipliers when I hear our customers talk about that I'm really encouraged about how we've positioned our business and give rise to the comment that I made around the optimism that I have not just for 2020. But over the next decade there's going to be a lot of growth. And I think we're very well positioned to capture a significant portion of that both in terms of towers and on the fiber side as they spend on small cells." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. And Josh let me just address the second part of your question which was the relationship between the subpoena and the restatement. The clearest answer is they really don't have to do with each other. The subpoena is ongoing and we will update when we have something to update. And it had to do as I mentioned in my statement had to do with the capitalization policies we have in place around our installation services business. On the restatement what I would say though is when we've gone through our year-end review and after having received that subpoena we looked at all the policies around our installation services business. And like I mentioned we remain comfortable with the capitalization policies we have in place.", "But what we did in conjunction with our independent auditor was we found a part of the installation services revenue recognition that was sufficiently technical and nuanced enough that we with our internal auditor decided that we needed to go seek some input from the Office of the Chief Accountant of the SEC. And having done that we then figured out that we needed to restate because of a change or the way we had done it historically was not acceptable. So like I said they're not related but it did drive us down the path that led us to the OCA." ] }, { "name": "Joshua Matthew Frantz", "speech": [ "Got it. Thanks for taking the question." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Jon Atkins with RBC." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks very much. I wondered if you could maybe give a little bit of an update on edge compute and Vapor and kind of thoughts around those opportunities. And then as it pertains to your tower business and I think we're still kind of working through the math as it pertains to the restatement but you appear to be guiding toward a healthier leasing year this year compared to last year despite it being back-half weighted. So am I correct in that assertion? And if so what's driving that given the back-end nature of this year? Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. On the first question around edge and Vapor Vapor IO is a company that we made an investment in a couple of years ago. They're focused on edge computing and providing an ability to put small-scale data centers if you will at the very edge of the network namely at the edge of the network means the tower sites. We made an investment in that a number of years ago because we believe there's significant opportunity in both managing data traffic and reducing the cost of the movement of that traffic as traffic grows and the interconnectivity of people who want to connect at the very edge of the network. And I think as we move toward 5G it's going to open up even more opportunities at the edge both for compute power and for connectivity of folks who want to get at the very edge of the networks.", "I think our tower sites are very well positioned to capture that opportunity. If you think about it on a base level around just a real estate play the tower sites provide a location for the equipment to be located and to build these colocation facilities at the edge of the network. So I think tower sites are well positioned for that. And a significant amount of the overall wireless traffic is going to be going across those towers. So it makes logical sense to put these facilities at the edge of it when you're putting them at the edge of the network to put them at the tower sites. The other component of our business though that I think will equally benefit is the fiber that we have. And I think as we move toward the 5G world and even as we're seeing in 4G fiber becomes a vital inseparable part of the wireless networks.", "And the link as the world moves much more toward C-RAN and O-RAN is to connect sites with fiber both the macro sites and the small cells over fiber. And I think the assets that we have will grow in increasing value as that happens. And the synergies around those two assets I think open up opportunities for us uniquely for things like Vapor and that's why we made the investment. I would say just as a the one cautionary part of this is it's still really early. So we're getting revenues from Vapor and we've deployed a number of colocation facilities but it's not a meaningful portion of our revenues. It's not driving our guidance yet but we do think the returns and the opportunity are worthy of the investment that we made and the opportunity that lies ahead. If the world helps as we think it will could one day be meaningful. So we're pretty excited about that. Your second question around the tower update and Dan can step in if maybe a little more specifics if that's where your question is going.", "The change in tower revenue is related to the effect of restatement. And we have maintained our assumption in terms of total leasing for total tower leasing activity for 2020 is the same as what we had previously when we gave our guidance for 2020. So we've shifted it to be a little bit more back-end loaded. But in terms of total activity we don't actually see a slowdown year-over-year when compared to 2019 and that's pretty exciting. As I mentioned in my comments 2019 was the highest level of tower leasing activity that we've had in a decade more than a decade. And we think 2020 is shaping up to be similar in terms of its level of activity. So the uplift that you're referring to I think is just the effect of the restatement and the amortization of the deferred revenues that Dan was walking through in his earlier comments." ] }, { "name": "Jonathan Atkin", "speech": [ "And then on small cell tenancy growth as well as kind of build-to-suit activity you talked about the 30-70 split. Is that relatively weighted evenly across national carriers? Or is it more of a narrower subset given the emphasis that one of your customers has on its One Fiber initiative?" ] }, { "name": "Jay A. Brown", "speech": [ "Similar levels of activity across the industry. There is as I was making the comment in my a minute ago I think to Josh as the carriers think about the deployment they are focused as our capital is focused largely in the top 25 top 10 markets in the U.S. is where a preponderance of the focus and capital is going currently. So they're colocating. That's where most of the colocation would be. To the extent that we're making investments beyond that the ratios would be a little bit higher in terms of new assets being built relative to colocation. So our more legacy assets would have higher levels of additional tenancy and then our newer assets as we go out from that core obviously would increase. But I wouldn't draw I would draw a distinction geographically rather than drawing a distinction among customers in terms of the type of activity that we're seeing." ] }, { "name": "Jonathan Atkin", "speech": [ "Thanks very much." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Colby Synesael with Cowen & Company." ] }, { "name": "Colby Alexander Synesael", "speech": [ "Great. Two questions. One is Jay if you look out a year plus from now and you think about the T-Mobile-Sprint merger and what's happening with DISH do you think there's a bigger opportunity for Crown specifically as it relates to your fiber business opposed to your tower business just given where those companies are in terms of their fiber build-outs and what they actually own? And then secondly your commentary around this year being potentially more back-end loaded when would you have to see the imprint in activity for that ultimately proved correct in terms of translating into revenue? And if we don't see that by that period of time is there actually a risk that you might have to end up producing your 2020 guidance? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. Colby on your question I think the opportunity if you look at kind of the assets that we have and the scale of those assets and as we move from 4G into 5G there's going to be a tremendous amount of opportunity on the tower side. And from just purely from a scale standpoint nominal dollars I think towers will still outpace what we see from a fiber and small cell standpoint. I do think though as we move toward as we move toward 5G and my comments around the density required in the networks the returns the incremental returns and the total returns on the assets over time yes I think we will be benefiting on fiber disproportionately relative to towers because of the total amount of activity relative to the size of the capital investment that we've made there.", "And that leads to kind of the upside opportunity that Dan and I have spoken a lot about and why we're in the business. Our returns on invested capital today of about 6% to 7% initially get pretty close to covering our cost of capital out of the gate. The incremental returns beyond that are very attractive. And as we've got these assets that we think are unique and very valuable over time as whether it's T-Mobile and Sprint or Verizon-AT&T or others as they come across those assets I think we're going to see a really nice increase in the yield on those assets over time. And that incremental change from kind of the 6% to 7% to the step to more than covering our cost to capital and delivering an equity return that change in yield I think will be more significant around fiber and small cells than what it is in towers but believe towers is going to continue to do well as we see growth on the tower side.", "To your second question about the back-end nature of the year I would go back to kind of a real basic of the way our business operates and how we think about our guidance for any given year. There are three buckets of revenue for which we're always looking forward to the next year and making sure that we sort of count them in order to come up with our outlook. The first bucket is leases that we signed in the previous year. So your question related to 2020 we look at all of the leases that we signed during 2019 and then turned on air during 2019 but only received a portion of the full year's revenues during 2019. So we turned to lease on in October of 2019. We only received three months of rent from that lease in 2019 but we'll receive 12 months of rent in calendar year 2020. So that looks like significant growth in 2020 from those leases that were turned on.", "The second bucket of activity is related to leases that we signed during 2019 and we know they're going to turn on air in 2020. And given the timing of how long it takes to turn on tower leases now that sort of takes us through about halfway through calendar year 2020. So those leases have already been signed. We know where they're going. We know what we're going to be paid on those leases and we're just scheduling out those rents to be turned on. They had no contribution to 2019 but they're known today. And then the third bucket which is by far the smallest bucket is leases that we're working on today that ultimately will be turned on and will make some contribution to our revenues. Those generally will come on air the back half of this year if not the fourth quarter of this year as we go through the process.", "And we may not have perfect visibility of those but that's why we give a range of revenue outcomes for the calendar year. It basically is making up for that third bucket of OK if we do really well we come in at the high end of it. If we don't do quite as well we come in toward the lower end of it. But that's a relatively small portion of the guidance. And relative to the activity level the spread on the guide or the outlook is pretty wide in terms of what could happen with those leases because of the timing of them. And in totality though most of the revenues that we turn on this year are more known at this point. So that's probably the best way to think about how we gave our outlook and why we're comfortable saying we think the total leasing activity for calendar year 2020 is going to be pretty similar to 2019." ] }, { "name": "Colby Alexander Synesael", "speech": [ "So your point totally being that in that if you are go ahead." ] }, { "name": "Jay A. Brown", "speech": [ "No go ahead please." ] }, { "name": "Colby Alexander Synesael", "speech": [ "I was just kind of just make sure I understood it. So you the point Jay was making was that if you guys don't see the back the increase in activity if you will in the next quarter or two that translates into that more back-end loaded year come through the way that you're anticipating you still are likely to be at that lower end is it that range being as wide as it is." ] }, { "name": "Jay A. Brown", "speech": [ "That's the way we think about putting together our outlook correct. And it's why when we get on these calls and we start to talk about the business we tend to zoom out really quickly. So we'll talk about the year and then we start to talk about much more the long-term nature of the business because whether those whether a license turns in on in October of 2020 or January of 2021 has very little impact on the total return. And it's why we talk about kind of our dividend growth of 7% to 8% annually over a long period of time and the reason why I circle back on kind of a decade-long look. Any one quarter is really not determinative in terms of how the business operates. We're much more driven by the macro trends of what are what is the need for investment i.e. what is data growth mobile data growth and then how are assets positioned relative to that. And as I look at the landscape things like additional spectrum coming the growth in data a new entrant all of those signs point toward much greater activity.", "And we'll kind of see how the year plays out. We think the range that we've given is a pretty good outlook of what we think the incremental activity will be toward the back half of the year. But regardless of where we fall in that range of the outlook I think the dynamics and the underlying trends of the business look really positive over the long term." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Colby the only thing I was going to add is that there's more volatility on our services business than what Jay was talking about on the tower leasing. So if that comes to be where the activity gets pushed out it would come into our services business and may and that could impact 2020. And that's where we would if anything happen it would be there. So we don't we actually see the activity coming back. We feel pretty comfortable with it. Otherwise we wouldn't have affirmed our guidance but that's where it would come you would see the impact." ] }, { "name": "Colby Alexander Synesael", "speech": [ "Thank you, Dan." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Michael Rollins with Citi." ] }, { "name": "Michael Rollins", "speech": [ "Hi, thanks. And good morning Two if I could. The first one is just going back to the economics of the network services business. If we walk away from the income statement and just think about for every $100 that a customer gives you for the full complement of network services including any augmentations or reinforcements of your tower how much of that after all those investments all the people expenses like on a net to cash basis how much of that $100 do you get to keep in your pocket? And then the second question is that you mentioned the glide path to get back to 5x net debt leverage. Have you contemplated using equity to try to accelerate that glide path or increase your flexibility to augment other investments? Thanks." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. So on the first one Mike I would say some in the neighborhood of $40 is what we would make after that $100 if you just say that's the cash that we come out with regard to the services business. On the glide path I what I would say is we're committed to investment-grade rating and we will get back to our 5x debt to EBITDA. We believe as we pointed out that based on the year that we have and the EBITDA growth that we expect throughout 2020 that we will get back to that 5x by the end of the year. If something changes then we might have to use equity as we've always said as a way to fill any gap that happens between the amount of capital expenditures and dividends we have and the amount of leverage capacity we generate by increased EBITDA and the cash flow we generate through our AFFO. So we always have that option open but we believe at this point that we have leveraged capacity and that the glide path works. But we are committed to investment-grade rating and we'll do what we need to do in order to maintain it. And Mike you asked the question the first question there around kind of stepping back which I think is I think it's helpful. I want to just take the question step back even maybe even a step further from just the economics around services and talk a little bit about how do we think about services and the site rental components of our business. We pay our current dividend from the recurring cash receipts from site rentals. The services and whether it's the deferred revenue amortization that Dan was discussing earlier in his comments or prepaid rent all of those are related to activities that enable us to grow the dividend from its current level. As you know and we've referenced it several times we think we can grow the dividend over the long term 7% to 8% annually based on all the positive industry trends that I've been mentioning in my comments during the call. But with that growth comes the need for us to spend capex to both improve our existing assets and to build new assets. And we pass a portion of these capex costs to our customers in the form of upfront payments and services and other things thereby in essence reducing our net required investment for growth. These upfront payments they are not necessary to fund our dividend. So the cash margin if you will we don't think about that as funding our dividend. Or maybe said another way if the growth in our business were to stop entirely I would expect our dividend would continue at its current level. And then the capex associated reimbursement services all of those would come down to a much lower level than what we're currently experiencing. So there's nothing about the restatement here that changes that dynamic. We sized historically and our current we size the dividend and we'll size the dividend payout based on the recurring cash components of our business. And then the elements that are more volatile or the net cash as you kind of asked the question those are just indications of growth that help offset the net capital investment that we need to make." ] }, { "name": "Michael Rollins", "speech": [ "Thanks very much" ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Ric Prentiss with Raymond James." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Thanks, morning, guys." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Morning." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Two quick ones I think on the restatement and then one more strategic question. On the revenue side of the restatement it goes into amortization of prepaid rent amortization of deferred rent. Am I right in thinking that that level in 2019 was now like $460 million up $50 million year-over-year? And how much do we expect amortization of prepaid rent then would grow from 2019 to 2020?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "So first the answer to your question is yes you're right. It goes through prepaid rent amortization. And to further yes you're right for $460 million in 2019 and that is $50 million of growth over 2018. We would anticipate that it grows in the neighborhood of $60 million to $65 million again into 2020. So the amount of prepaid rent amortization into 2020 is around $525 million." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Makes sense. And the other question the restatement is on the cost side. To Phil's question you talked a little bit about how it is capitalize those items you put on because it does help make the tower a better asset long term. But I assume that capex goes into growth capex and then gets depreciated which would not be an AFFO correct?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "That is true." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Okay. And then the more strategic one for Jay or whoever CBRS is another interesting topic. You've talked about auction bands coming out. A lot of people looking at the CBRS auction coming up in June as a potential to see more indoor systems developed. What is your thoughts on CBRS and indoor? And would that be someplace that you might put capital to work? Or is there just so much opportunity in outdoor not that interested?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. We're really excited about the long-term opportunity that CBRS brings. And I would say we think there's opportunity both indoor and for outdoor applications. I think initially you're right and the bias will be toward indoor applications initially. It's going to be interesting to watch these the private auctions for some of these licenses and what the opportunity is there. We also think that the open spectrum the public spectrum that will be deployed that there's opportunity for us to use the infrastructure that we own both on the fiber small cell and tower side that there's going to be opportunities around that long term. The component of CBRS that's the same. As you know Ric from everything that's happened in the past in terms of the deployment of spectrum is the broad deployment of spectrum regardless of what name it gets needs the infrastructure that we own. So we look at it and think maybe initially it may be more biased toward indoor but we think there's outdoor applications. And over time that spectrum will be used to meet the growing demand for mobile data and that's likely to benefit well beyond venues or indoor applications." ] }, { "name": "Richard Hamilton Prentiss", "speech": [ "Okay, so thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Nick Del Deo with MoffettNathanson." ] }, { "name": "Nicholas Ralph Del Deo", "speech": [ "Hey, thanks for taking my questions. First as we look ahead is there any reason to think that you won't be able to monetize the coming wave of integration-related amendment activity at the same level as your peers? I know you don't like to comment on specific customers. But to put a finer point on it I'm trying to understand if the capacity rights you granted to T-Mobile back in 2012 as a part of that acquisition remain a relevant consideration today." ] }, { "name": "Jay A. Brown", "speech": [ "Sure Nick. No I don't believe there's any reason why we won't be able to monetize that. It's been a few years since this was a significant topic of conversation on our earnings calls. But for the most part we've burned through the space rights that our anchored tenants had on those transactions. And so I think it was somewhere in the 2018 time frame that we started talking about that virtually every new tenant that we had was generating additional revenues as they touch the tower and that's still the case today. We haven't done any transactions that would've changed that. So I think as we see incremental touches whether that's the form of in the form of first-time installments or new amendment activity that's going to be driving revenue. And I think you can see from our results and expectations around 2019 2020 that those elevated levels of activity are coming as a result of both amendments and new first-time installs." ] }, { "name": "Nicholas Ralph Del Deo", "speech": [ "Okay. That's good to hear. Second one on small cells. Can you talk a bit about the mix of spectrum bands that are underpinning the small cell bookings that you're taking today versus what it was a few years ago? I guess I'm trying to understand the degree to which deployment just given the pipeline today are primarily in higher frequency bands like millimeter wave versus midband." ] }, { "name": "Jay A. Brown", "speech": [ "I think initially when we first went into the business many people thought that the only areas where spectrum bands would be used on small cells were the millimeter wave. The reality is the carriers are using the small cells across all of the bands that they owned. And we will see in a given geography a carrier will oftentimes start their initial deployment with one spectrum band build out small cells for that band and then come back and add additional nodes across that same run of fiber thereby providing lease-up for us if you will and adding additional spectrum bands beyond their initial deployment. But the vast majority as we talked about the number of small cell nodes that we both have built the 40000 that we've built and the 30000 that are in the pipeline almost all of those would be midband spectrum. We're not at the point yet where we're deploying significant numbers of millimeter wave small cells. I think that would be unmodeled upside if you will. When we talk about the fact that we underwrote 4G deployments and build-outs that's under the assumption that small cells would only be used for kind of midband spectrum. So millimeter wave and things that will be used for 5G those are unmodeled upside in the way that we underwrote the assets." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Yes. I think part of that Nick is because the carriers use small cells to offload some of the tower congestion. So whatever bands are on those towers can go onto the small cells because when a lot of people gather in one area it takes up all the capacity the tower has and putting small cells there then allows the tower to become useful again. And that does require a similar band and similar coverage that would happen with the tower. So we're seeing it across all spectrum bands as Jay is talking about." ] }, { "name": "Nicholas Ralph Del Deo", "speech": [ "Thanks, guys." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Batya Levi with UBS." ] }, { "name": "Batya Levi", "speech": [ "Great, thank you a couple of questions first on the restatement. Can you just explain why the amortization of the tower installation work goes onto the site rental side as opposed to staying on the service side? And how much of the 5.9% organic growth for the quarter came from that amortization piece? And then secondly you mentioned the services business being a little bit lumpier and soft right now. Can you talk about the profitability of it in the quarter if there were any onetime expenses that really lowered the margin contribution? And lastly on churn. I think churn picked up about 50 bps sequentially. Any items to call out there? Thank you." ] }, { "name": "Daniel K. Schlanger", "speech": [ "Sure Batya. I'll start with the first question you asked on site rental revenue versus services. Because the portion of the services that we are now deferring become a modification of the lease they therefore become a portion of the site rental revenue as opposed to services. So it's the way the accounting works. It's how we were part of the reason that we went and discussed this with our auditors and ultimately with the OCA is because this is a nuanced accounting treatment. And where we end up is that to defer once we defer these revenues where we recognize that amortization is in site rental revenues. With regard to the amount of growth that's happening in site rental revenues in the fourth quarter it's probably 50 basis points or so that's related to this restatement." ] }, { "name": "Jay A. Brown", "speech": [ "You want to do services profitability?" ] }, { "name": "Daniel K. Schlanger", "speech": [ "Services." ] }, { "name": "Jay A. Brown", "speech": [ "Yes. On the services side there weren't any onetimers in the quarter that drove an outcome either to the positive or to the negative for what we reported. We did not have any onetimers in the quarter. And I think the profitability we that you can see from the historical statements is what we would expect going forward. And then on the last question that you asked around churn that we talked about it I think last quarter. Most of the churn has worked its way through in terms of we've received notice of the churn but it wasn't reflected yet in the results. So the uptick was expected. And similar to the comments that I made around the buckets of revenue those would be leases that went away late in the year that will have a full year impact in 2020. After you get through 2020 we expect that the amount of churn that we see in the business comes back down toward the lower end of our guide of 1% to 2% annually of churn. So we're working off the very end of the consolidation churn that happened from the carriers several years ago and we think it'll go back to a more normalized level beyond that." ] }, { "name": "Daniel K. Schlanger", "speech": [ "And just to be clear on that that is all tower churn that we're talking about there. So that increment came because the activity was on the towers and everything that Jay said was around the tower side of business." ] }, { "name": "Batya Levi", "speech": [ "Okay, thank you." ] }, { "name": "Operator", "speech": [ "Thank you. Our next question comes from Tim Horan with Oppenheimer." ] }, { "name": "Timothy Kelly Horan", "speech": [ "Can we just focus on the fiber a little bit? Can you talk about the ability to leverage the conduit and fiber on the ground maybe with other services? And what are you seeing from a competitive environment? And I guess by other services are you trying to build out in areas where you can tie into office buildings apartment buildings gay centers? And are you seeing anyone kind of overbuild in the areas that you're building out at this point? And I just had a quick follow-up. Thanks." ] }, { "name": "Jay A. Brown", "speech": [ "Sure. When we decide to take on fiber projects we look at holistically what we think total return on that fiber could be. The primary driver as we said of our strategy around fiber is based on what we believe will be necessary for the wireless networks specifically what will be necessary for small cells. And as we look at that opportunity that determines what markets what areas of the country are of interest to us in terms of owning fiber assets so heavily driven by what we believe the wireless opportunity is. As a component of that though we then start to look at once we've determined whether or not it's interesting from a wireless standpoint then we want to capture as much revenues as we possibly can along that route path from universities hospitals large financial institutions or other enterprises that may need to use that fiber. But the strategic decision around where is driven by our assessment of what's necessary for wireless.", "And then from there we want to maximize the return on the assets. So it's many customers as we can possibly get to use that asset increases the yields and return on the asset it makes sense for us to do. We're not seeing an overbuild of any material nature. The assets are really expensive to build. And to the extent there's existing assets there we find that people allocate their capital to other places where the assets don't exist. I think what has become increasingly clear because of the amount of fiber that's necessary in order to build out small cells is there's no plant in the ground that can meet this need today. And so there needs to be a significant investment broadly across the entire U.S. in places where we will build and we won't build for dense high-capacity fiber to be built because it doesn't exist today. And it's why our strategy in terms of what we think the growth opportunities are is much more leveraged toward the opportunity for us to build new fiber. We just don't see any opportunities to go out and acquire the fiber because it just it doesn't exist." ] }, { "name": "Timothy Kelly Horan", "speech": [ "And just a clarification your 50% flow share on small builds is that where you have infrastructure? Or is that do you think the entire market?" ] }, { "name": "Jay A. Brown", "speech": [ "We think it's the entire market as we've measured it over the last several years." ] }, { "name": "Timothy Kelly Horan", "speech": [ "Great, thanks." ] }, { "name": "Jay A. Brown", "speech": [ "And we have time for one more question operator." ] }, { "name": "Operator", "speech": [ "Thank you. Our final question will come from Spencer Kurn with New Street Research." ] }, { "name": "Spencer Harris Kurn", "speech": [ "Hey, guys, thanks for taking the question. So you disclosed your total share of revenue from your tenants. You've got about 20% from each of Verizon AT&T and T-Mobile about 15% for Sprint. I was wondering if you could provide some color on how that breaks down for small cells specifically. And do you skew toward any of the carriers?" ] }, { "name": "Jay A. Brown", "speech": [ "The general answer is it's very similar in terms of small cells is what it is on the tower side. We're we've seen activity across all of the carriers on the small cell side." ] }, { "name": "Spencer Harris Kurn", "speech": [ "Okay. And then one follow-up. It seems that T-Mobile and Sprint are likely to shift their focus toward macro towers over the next few years as they integrate their networks. Could you just provide some thoughts on how the merger impacts your view of your ability to ramp your small cells backlog over the next couple of years? Would it potentially stall growth? Or are you seeing enough demand outside of Sprint and T-Mo that you can grow through it?" ] }, { "name": "Jay A. Brown", "speech": [ "Yes. You bet. I think there's two factors that in terms of broad assessment of what will happen with Sprint and T-Mobile over a long period of time I think they will as they said publicly they'll look to rationalize some sites where they have overlap where both of them are located on the same site. I think they will rationalize some macro sites over time. As you know we have pretty long-dated leases there and some portion of those sites probably will be rationalized as they think about the network. But we think the amount of new sites that they will take on in order to build out and broadcast the spectrum bands that they'll be acquiring from Sprint as a part of the transaction they're going to need a lot more macro sites both because of spectrum that they're acquiring that is not currently broadcast today by Sprint and spectrum that is being broadcast that they may adjust the way their network plays out. And that broadcast of that spectrum will happen through a combination of both macro sites and small cells.", "And we think we're very well positioned to capture components of both of those and certainly very well positioned on the small cell side. As I think about kind of the broad opportunity with them I would really go back to the comments that I made around the whole industry and the way that our assets are positioned relative to the demands coming from 4G build-out and 5G build-outs. And I think we're very well positioned with what we've done with T-Mobile to help them accomplish their goals of building out 5G." ] }, { "name": "Spencer Harris Kurn", "speech": [ "Got it? Thank you." ] }, { "name": "Jay A. Brown", "speech": [ "You bet.Well I want to just thank everyone for joining the call this morning. Obviously we expect 2020 to be another significant year of growth in cash flows and dividends that we're excited about and even more excited about the long runway of growth that sets up for us as we're sitting on the doorstep of another big investment cycle by our customers as 5G is coming. So thanks for joining the call this morning. Look forward to talking to you soon." ] }, { "name": "Operator", "speech": [ "[Operator Closing Remarks]" ] } ]

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