CEMEX - Q2 2023

Transcript

Operator (participant)

Good morning. Welcome to the Cemex Second Quarter 2023 Conference Call and Webcast. My name is Lauren, and I'll be your operator for today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. If at any time you require operator assistance, please press star three point zero, and we will be happy to assist you. Now, I will turn the conference over to Lucy Rodriguez, Chief Communications Officer. Please proceed.

Lucy Rodriguez (Chief Communications Officer)

Good morning. Thank you for joining us today for our Second Quarter 2023 Conference Call and Webcast. We hope this call finds you in good health. I'm joined today by Fernando González, our CEO, and Maher Al-Haffar, our CFO. As always, we will spend a few minutes reviewing the business, and then we will be happy to take your questions. Now, I will hand it over to Fernando. Fernando?

Fernando González (CEO)

Thanks, Lucy, and good day to everyone. I'm beyond pleased with our second quarter results, but before we drill down, I must congratulate our employees around the world who have been instrumental in our mission to recover profitability in the face of two years of extraordinary input cost inflation. It is your efforts and dedication that have led to this moment, and I am confident there is more to come. While sales grew 10%, EBITDA rose almost 30% as a result of our pricing strategy, growth investment contribution, and decelerating input cost inflation. Indeed, we have seen total cost as percent of sales declining for three consecutive quarters on a sequential basis, and for the first time on a year-over-year basis. This, coupled with pricing, has led to an expansion in our EBITDA margin in the quarter that is approaching our goal of recovering our 2021 margin.

Our growth strategy of bolt-on margin enhancement investments, which we adopted in 2020, is paying off and continues to ramp up as projects are completed. Our Urbanization Solutions business, one of the beneficiaries of this strategy, continues to expand rapidly. In climate action, we continue to execute on our Future in Action roadmap, posting significant quarterly CO2 reductions since 2020. Free cash flow after maintenance CapEx is growing both sequentially and year-over-year. Importantly, the strong earnings growth is accelerating our deleveraging trajectory, with the leverage ratio now under 2.5x. Our return on capital in the double-digit area continues to improve, expanding the margin to our cost of capital. Net sales rose double-digit with contributions from all regions.

EBITDA grew by 29%, reflecting not only the success of our pricing strategy and decelerating cost inflation, but also the incremental contribution of approximately $50 million from our growth investment portfolio and expanding Urbanization Solutions business. EBITDA margin expanded significantly, almost reaching second quarter 2021 levels. Free cash flow after maintenance CapEx rose as a result of higher EBITDA, coupled with lower working capital needs. While consolidated cement volumes were negative, the magnitude of the decline relative to first quarter shows improvement, driven largely by Mexico, SCAC, and the United States. In Mexico, in particular, cement volumes turned positive for the first time in two years, while U.S. volumes rebounded some from the weather issues of first quarter. Aggregates volume increased, reflecting growing infrastructure demand in Mexico, SCAC, and the U.S.

Despite a soft volume backdrop, prices in all regions continued to catch up to the cumulative cost inflation of recent years. Consolidated prices across our products rose between 11% and 18%. Importantly, cement and ready-mix prices increased sequentially, with all regions showing growth. EBITDA growth is largely explained by the contribution of pricing over incremental cost, our growth investments, and growing Urbanization Solutions business. The contribution of pricing relative to cost continues to grow, allowing us to increasingly cover the cost inflation of the last few years and expand our margins to levels close to our 2021 margin goal. Importantly, while still elevated, input cost inflation is easing after two extraordinary years of increases. Margin performance over the last three quarters has confirmed that we are well on our way to recover 2021 margins.

Second quarter margin expanded by approximately 3 percentage points year-over-year and sequentially, reaching 21.1%. This is happening despite the margin headwinds of product mix and lower volumes. The improvement is driven not only by pricing, but also by easing cost inflation and operational efficiencies as shown in the sequential decreases in COGS as percentage of sales over the last quarters. We continue making significant inroads in our decarbonization efforts, executing against our plant-by-plant 2030 roadmap. CO2 per ton decreased by 4.4% in the first half of 2023, with record levels for our two main decarbonization levers, alternative fuels and clinker factor. Since the launch of our Future in Action program in 2020, we have reduced CO2 by 11% in two and a half years, a reduction that previously would have taken us 14 years to achieve.

Importantly, our path to reach our 2030 decarbonization goal is profitable, as the levers we use either substitute for more expensive raw materials or fossil fuels. Indeed, the investments we make to deliver on our 2030 goals must meet the same return criteria as all growth projects. Future in Action, however, is not limited simply to our production process, but rather to decarbonizing the entire life cycle of our products and industry value chain. As such, we continue to develop our waste management solution business, Regenera. We achieved some important milestones in the quarter to position this business for growth. First, we successfully opened a new state-of-the-art construction, demolition, and excavation waste recycling center in Israel.

This facility will be able to transform up to 600,000 tons of construction and demolition waste into recycled raw materials that can then be reintegrated into the construction value chain, conserving virgin raw materials. Additionally, in May, we established a partnership with PASA, a leading waste collection company, to operate a new facility in Puebla, Mexico's fourth-largest city. We expect the venture will manage over 50% of the city's municipal and industrial waste by late 2025, and be an important source of alternative fuels for our operations. This partnership has a direct impact on reducing waste sent to landfill and ensuring that non-recyclable waste is processed in an environmentally friendly manner while avoiding methane emissions. Now back to you, Lucy.

Lucy Rodriguez (Chief Communications Officer)

Thank you, Fernando. Our Mexican operations delivered strong results, with a double-digit increase in sales and high single-digit growth in EBITDA. As our pricing strategy continued to make inroads in offsetting the inflation of the last two years, EBITDA grew for the third consecutive quarter. EBITDA margin decreased primarily due to an unfavorable product mix, as ready-mix, bulk cement, and Urbanization Solutions grew faster than higher-margin bagged product and higher distribution, electricity, and labor costs. The alternative fuels substitution rate reached a record of approximately 44%, with four plants operating at levels above 50%. Our ability to source alternative fuels will be enhanced by the recent acquisition of the waste management business in Puebla. Cement volumes rose 1%, the first sign of demand recovery in two years, and grew 12% sequentially.

Demand was driven not only by continued strong bulk cement performance linked to formal construction, but also from market share recovery in bagged product. Ready-mix and aggregates volumes also benefited from strength in formal construction, with growth of mid-single digit and double digits, respectively. Volumes remained supported by nearshoring investments in border states and the Bajio region, as well as tourism, construction, and an accelerated execution of infrastructure projects ahead of national elections. Next month, our 1.5 million ton capacity expansion in Tepeaca will be fully operational, allowing us to serve the expected medium-term needs of the country. Demand is picking up in Mexico, and capacity utilization remains high, especially in the north and southeast regions. While we believe this new capacity fills an important demand need and will not be disruptive, as always, we have the ability to adjust overall production.

With the aim to continue recovering margins, we have announced additional price increases for cement and ready-mix in July. For 2023, we now expect low single-digit growth for cement volumes and high single-digit growth for ready-mix and aggregates. The U.S. had a record quarter benefiting from our pricing strategy, recent growth investments, and decelerating costs. The 87% growth in EBITDA and margin expansion reflects these trends, as well as the prior year's comparative base that was significantly impacted by heavy maintenance costs and supply chain disruptions. Cement and ready-mix pricing rose 15% and 21%, respectively, and increased low single digits sequentially. Price increases announced for the third quarter cover approximately 90% of our cement volumes. Aggregates pricing rose 11%, but declined 6% sequentially due to product mix.

Cement and ready-mix volumes rebounded from the significant first quarter weather disruptions, volumes continued to be impacted by weather, as well as a lower level of construction activity, declining by 8% and 10%, respectively. Cement volumes were also negatively impacted by the sale of a terminal and closure of some minor operations in 2022, as well as the conclusion of a major construction project. We estimate the impact of this, along with weather, represents around 70% of the volume decline. Aggregate volumes increased by 5%, benefiting from the opening of the new sand mine in Florida, as well as the acquisition of the Atlantic Minerals Quarry in Canada, which closed in April. Excluding the impact of these events, aggregate volumes would have been up 1%.

During the quarter, the housing market continued to stabilize, as tight inventory in the existing home market supports demand for new home construction. Single-family housing starts increased 11.4% in the second quarter versus first quarter, with permits increasing by 12.9%. We continue to see increased manufacturing and infrastructure construction in our markets, supported by the Bipartisan Infrastructure Law, the Inflation Reduction Act, and the CHIPS Act. Trailing 12-month infrastructure and industrial and commercial contract awards in our key states were up 26% and 4%, respectively, through June. Once again, our EMEA region delivered solid results despite a challenging demand environment. This quarter marks the seven consecutive quarter with year-over-year growth in EBITDA. Top line and EBITDA growth were mainly driven by our disciplined pricing and carbon strategy, as well as important contributions from growth investments.

Our growth investments are yielding results, with expected incremental EBITDA contribution of more than $40 million in 2023 for the region. Some examples of these projects include the alternative fuels facility in our Rugby plant in the U.K., the acquisition of the majority stake of ProStein company in Germany, which doubled our aggregates reserves in the country, the installation of state-of-the-art cement mill separators in Croatia that will allow for lower clinker factor and power consumption, and the new concrete paving product machine in Israel, among others. EBITDA margin in EMEA expanded by almost 1 percentage point to the highest level in seven quarters. Europe continues showing strong cement pricing momentum, with 28% growth year-over-year. Sequential cement prices rose 3% on the back of April increases in Germany and the U.K.

EBITDA in Europe rose 32%, while margins increased by 3.2 percentage points. Europe continues to post new records in climate action. The region is well on its way to match the EU's 55% 2030 carbon emissions reduction target. While volumes are currently depressed, we remain optimistic over Europe's prospects for the near future as the region pivots decisively towards a more circular economy, and construction is supported by multibillion euro projects related to green renovation, transportation, climate adaptation, energy reconfiguration, and onshoring investment opportunities. In the Philippines, cement volumes declined as a result of continued weakness in construction activity, driven by high inflation and interest rates, lower infrastructure spending, and a tough comparative base. EBITDA margin continued to be impacted by lower volumes and inflationary pressures, with particularly energy.

We believe second quarter marks an inflection point in energy cost as we adjust our fuel sourcing to a more efficient energy mix. For more information, please see our CHP quarterly earnings, which will be available this evening. Net sales and EBITDA in the South Central American Caribbean region grew double digits, driven by strong pricing contribution and decelerating energy costs. Cement volumes continued to be pressured by weak bagged cement demand, although bulk cement, ready mix, and aggregates showed positive performance, supported mainly by the infrastructure sector. After five consecutive quarters of EBITDA margin contraction, second quarter marks an inflection point with an expansion of 1.4 percentage points as a result of our pricing strategy and decelerating input cost inflation. In Colombia, cement volumes declined low single digits, driven by weak residential sector, which was partially offset by strong infrastructure-related activity.

We are optimistic on the medium-term outlook in Colombia, with ongoing work on the 4G projects and the rollout of additional infrastructure investments, such as the 5G projects and the Bogotá Metro. In the Dominican Republic, while weak informal cement demand weighs on bagged cement volumes, we continue to see good up activity in formal construction, primarily in tourism and infrastructure-related projects. In Panama, cement and ready-mix volume increased, mainly driven by infrastructure projects related to the metro, the fourth bridge over the canal, and highway expansions. Our operation in Panama remains an important export hub for sold-out markets in CAC. Now I will pass the call to Maher to review our financial developments.

Maher Al-Haffar (CFO)

Thank you, Lucy, and good day to everyone. We are very pleased with our second quarter results, with strong growth in sales, EBITDA, EBITDA margin, and free cash flow generation. These results speak to the success of our pricing strategy and increased operating efficiency, coupled with decelerating cost inflation and contributions from our growth strategy and Urbanization Solutions. As Fernando noted, we are achieving record levels of alternative fuels utilization and clinker factor. We also continue to increase our sales of blended cement, among other operating efficiencies, which not only get us closer to our decarbonization goals, but also reduce our costs and improve our margins. We have seen a significant improvement in our EBITDA margin year-over-year as cost inflation eases. This is particularly true in energy, with market prices for our main fuels trending down in the quarter.

While fuel costs on a per ton of cement basis increased 10.7% year-over-year, it declined 7.7% sequentially. We expect to see this improving trend in fuel costs to continue into the second half of the year. Higher EBITDA, coupled with a lower investment in working capital, partially offset by higher taxes, delivered incremental free cash flow of $243 million in the first half of the year versus last year. Working capital investment this year is lower than last year by $114 million, and we expect to end the year with an investment of less than half of what it is today. Working capital days for the quarter stood at roughly zero, up six days from 2Q last year.

This increase is due primarily to the inflationary impact in inventories, as well as higher fuel stocks that should be consumed as the year progresses. The increase in cash taxes is a consequence of stronger results, as well as the tax effect of foreign exchange on our U.S. dollar-denominated debt. Net income was slightly higher than the prior year. The increase was driven primarily by better operational results and a positive foreign exchange effect, partially offset by higher taxes and the premium paid for calling our 7.375% bonds earlier this year. We are happy with our accelerating glide path towards an investment-grade rating. As you know, this has been a strategic priority for us, as we believe it holds enormous value creation for our shareholders.

We have focused on delivering on results and reducing debt, translating into a reduction of leverage of approximately 1.7x over the past two and a half years. This year alone, our leverage ratio has declined 0.39x, ending the quarter at 2.45x, reaching the lowest leverage level since we started measuring this metric in 2009 in connection with our syndicated bank facility. As we get into the second half of the year, when our working capital cycle turns positive for us, we expect to further reduce leverage as EBITDA continues to grow and debt continues to trend lower. Now, back to you, Fernando.

Fernando González (CEO)

Based on first half results, I'm quite optimistic for the rest of the year. We have additional pricing increases scheduled in to roll out in several markets during the third quarter. We expect to see continued deceleration in key input costs, while the benefit from our growth investment portfolio should continue to scale. As a result, we are upgrading our EBITDA guidance to be in the $3.25 billion area, an approximate 21% increase year-over-year. For cash taxes, we now expect $400 million, driven largely by Mexico. The expected increase reflects stronger results as well as the tax effect of foreign exchange on debt. We have made some minor adjustments in regional volume guidance, where you can find detail in the appendix. Now, back to you, Lucy.

Lucy Rodriguez (Chief Communications Officer)

Before we go into our Q&A session, I would like to remind you that any forward-looking statements we make today are based on our current knowledge of the markets in which we operate and could change in the future due to a variety of factors beyond our control. In addition, unless the context indicates otherwise, all references to pricing initiatives, price increases or decreases, refer to prices for our products.

Now, we will be happy to take your questions. In the interest of time, and to give other people an opportunity to participate, we kindly ask that you limit yourself to only one question. If you wish to ask a question, please press star followed by one on your touchtone telephone. If your question has been answered or you wish to withdraw your question, press star followed by two. Press star one to begin. The first question comes from Ben Theurer, from Barclays. Ben?

Ben Theurer (Managing Director)

Yeah. good morning, Fernando, Lucy, Maher. Congrats on this very strong results, first of all. My one question is really around the announcement you've just made and said that you continued to increase prices and, you know, targeting like, I think 90% of the volume in the U.S., you said, with another price increase. Clearly, we have seen in some regions maybe a little bit of an impact on volume. My question really is, how should we think about your willingness to continue to boost pricing, even in light of maybe some of an impact on volume and maybe some market share losses?

Would you consider at some point also being maybe a little less aggressive on pricing as cost pressure comes down, to ultimately gain back some of the volume, which then should in turn also be somewhat margin accretive? Just the balance between pricing versus a little bit of volume loss, how you think about this?

Fernando González (CEO)

Thanks, Ben. As you mentioned, you know, we have to carefully balance the equation. Let me start by saying that our pricing strategy, you know, in the last during 2022 and the first half of the year, and the months to come, is really adjusted because of the very high level of our inflation, I mean, our cost and expense inflation. It's really the level of inflation that is guiding the level of pricing. As we have mentioning, you know, inflation is moderating, but it's still double digits, meaning it's not disappearing at all. We need to continue monitoring the impact of this inflation, you know.

As an example, inflation of the cost per ton in U.S. dollars, at a consolidated level, was in the second quarter, 13%. We cannot stop considering these levels of inflation and considering them in our future pricing strategies. Regarding the balance or the potential impact of this pricing or price strategies, and regarding our market position or participation. In every market might be different because of different reasons, but we are always evaluating the contribution of pricing and also evaluating our position in the market. What we see is a process that takes months, takes quarters, particularly when you are the one leading the price increase, which in some markets, that is the case.

In other markets, that is not the case. We don't lead, we sometimes we follow. We have to evaluate the consequences in our market position and then taking the time to, if a market position was impacted, then taking the time for us to recover that market share. you know, in our experience, you know, it might take periods of six to nine months for the full process to go through, meaning increasing prices, evaluating the impacts, you know, rethinking on what is it that needs to be done, et cetera.

There is a, you know, there is a saying, and to me, it's kind of simple, "Your market share loss to pricing, you can gain it back through pricing." So far, you know, I don't or we don't observe a particular deterioration in market shares because of our pricing strategies. What you can expect is that as long as inflation continue at these high levels, we should continue a similar pricing strategies.

Ben Theurer (Managing Director)

Okay, perfect. Thank you very much, Fernando. Congrats again.

Fernando González (CEO)

Thanks.

Lucy Rodriguez (Chief Communications Officer)

Thank you, Ben. The next question comes from Anne Milne from Bank of America. Anne, please go ahead.

Anne Milne (Managing Director of Emerging Markets Corporate Research)

Good morning, Fernando, Maher, Lucy. Congratulations on the great quarter. It must feel very good to have such good numbers. First of all, I just want to congratulate you as well.

Fernando González (CEO)

Thank you.

Anne Milne (Managing Director of Emerging Markets Corporate Research)

Sure, on the change in the outlook from Fitch last night on your BB+ rating to positive outlook. That just leaves a hair now before you get one investment-grade rating. I was just wondering, did they provide a timeframe for the upgrade? Does this upgrade change anything on pricing on your financial instruments, which would probably be loans, in this particular case?

Maher Al-Haffar (CFO)

Yeah. Thanks, Anne, for the question. Yeah, we're quite happy with the Fitch action. Just for those who have not, may not have seen it, you know, we've got a positive outlook on the external debt, and we also had an upgrade in our long-term debt in Mexico from AA- to AA, with a positive outlook as well. Pretty much on all categories, as you said, we're a hair away from, you know, the next potential upgrade. Typically, when Fitch and I, you know, I, I, this is my perception, is that typically, when they do get to a positive outlook, they have an internal. I don't know if it's a requirement or a tendency to review the rating within six to 12 months.

And, you know, they've kind of indicated that from reading between the lines and talking to them, that, you know, we're probably within close to half a turn based on the way that we measure our leverage from their investment grade kind of parameters. Whether they will, you know, take us there this year, early next year, you know, that's up to them, of course. We have to wait and see how things evolve. You know, I think, you know, they're constantly in touch with us, and, you know, we're updating on our results, and we're quite excited by the action that they have taken, you know, on a day like today. I mean, it was great.

Now, in terms of refinancing, yes, I mean, you know, although we're quite comfortable with our maturity profile for our liabilities, as you've seen from the presentation that was distributed this morning, you know, clearly, this upgrade and the feedback we're getting from the capital markets, should give us the opportunity before the end of the year to do some liability management that should improve the, you know, the debt stack going forward. But I, I can't say exactly, you know, what that would be. Now, in terms of, you know, improving our cost of borrowing, I mean, the answer is yes. I can't speculate on, you know, that impact at this point in time.

I mean, it depends when we will do it. It depends on what the capital market conditions are. you know, if I were to take a look at our, you know, where our bonds are trading, and I think you know better than I do on a daily basis, when our bonds are trading, but the longer bonds are trading at Z-spreads that are, you know, close to around 250, 245. If I compare those bonds to some of our peers, you know, the peers, albeit have higher ratings, are materially tighter than that. I, I don't want to speculate on, you know, when we, and if we go about any refinancings, you know, what the pricing impact is likely to be. We see this as a journey.

I mean, obviously, as you could imagine, you know, we see this as a journey, and we, you know, as we continue to improve our credit ratings, we do expect to reduce our cost of financing and increasing, you know, free cash flow. I don't know if that answered the question. If there's any follow-ups, I'll be more than happy to address.

Anne Milne (Managing Director of Emerging Markets Corporate Research)

Ok. Yeah, just the only follow-up would be, how are the conversations with S&P going? That would be the second one that you're concerned, that also has a BB+.

Maher Al-Haffar (CFO)

I, you know, I really can't comment, but I think today, you know, with the results that we've seen today, and with the track record and the acceleration on pricing, and the recovery and the expansion of price compared to cost on a consolidated basis, should be good news for both of our rating agencies. You know, I can't comment on any ongoing conversations with them.

Anne Milne (Managing Director of Emerging Markets Corporate Research)

Okay, well, thank you very much. Congratulation on the positive outlook and the upgrade, and, and, the great quarter.

Maher Al-Haffar (CFO)

Thank you very much, Anne.

Anne Milne (Managing Director of Emerging Markets Corporate Research)

Thank you.

Lucy Rodriguez (Chief Communications Officer)

The next question comes from the webcast, from Paul Roger, from BNP Paribas Exane. It looks like your CO2 per ton of cement fell 4.4%, and clinker factor fell 1.1 percentage points in the first half. This is a bigger decline than peers. What's driving this outperformance? Is it catch-up or something specific in your decarbonization strategy?

Fernando González (CEO)

Okay, well, thanks for that question, Paul. Let me start by saying that the short and a fraction percent of this quarter is pretty well aligned to what has happened in the last maybe 10 quarters. You know, in 2021, 2022, we started making reductions of this size when we put in place our Future in Action strategy and started speeding up, complementing, and properly executing that strategy. If you remember, we've been reporting that in 2021 and 2022, we have reduced CO2 per ton of cement by around 9.5%, which is, in two years, you know, is a reduction that used to take us a decade.

What I'm saying is that, you know, late 2020, we put in place a strategy, started executing in 2021, and it's paying off, and it's paying off not only this quarter, but for the last 10 quarters. Is this a catch-up? We have realized that the reduction that we have systematically doing in the last two years and a half is higher than the one from our competitors. Maybe in very early stages that was the case, but, you know, by the end of last year, using CO2 per ton of cement as a proxy, our numbers were either equal or better when compared to other peers. I particularly referring to this quarter or to last quarter, you know, we cannot call it a catch-up.

What is it that we're doing? Well, you know, what we've been commenting, which is using as much as possible the, let me call them the traditional levers to reduce CO2 in production of cement, which is offering lower carbon products in the market through our Vertua family of products. Reducing the clinker factor, offering more composite cements in different markets, increasing the level of alternative fuels, particularly the ones with high contents of biomass. In the second quarter of this year, the use of alternative fuels was 36.5%, which is the highest in the industry, at least when compared to companies that make public reporting on this data. A couple of notes on this regard.

You know, in Europe in particular, 70% of our fuels are alternative fuels, is the highest figure in Europe. In Mexico, you know, our largest plant, the Bianca, is more than 60% in alternative fuels, and Mexico as a whole is around 40% in alternative fuels. We've been making lots of progress through some investments and increasing and improving all these levers, which, by the way, I have to always to remind everybody that these are very profitable investments. You know, the last couple of investments we did in Europe, in Rugby and in Rüdersdorf, you know, is to increase the use of alternative fuels up to 90%. Alternative fuels that where we are paid to use them. It's very accretive investments in these terms.

At the same time, we're increasing the use of, you know, I'm repeating things you all know, you know, increasing the use of renewable electricity, green electricity. Just to mention a few examples in Scope 1 in cement. I think the important part is, we, by now, after introducing our strategy Future in Action two years and a half ago, what we're doing is showing, demonstrating that we are also delivering. You know, we are proving action, not just promises. At the same time, we are very pleased because economically it's been an attractive transition so far. What is it that you can expect? More of the same, plus the five projects we are developing in carbon capture. That's not for the next quarter or the next couple of quarters.

You know, it will take a little bit longer, but the process continues and hopefully as successful as it has been in the last two years and a half.

Lucy Rodriguez (Chief Communications Officer)

Thank you, Fernando. The next question comes from Vanessa Quiroga, from Credit Suisse. Vanessa?

Vanessa Quiroga (Head of Mexico Equity Research)

Yes, hi. Thank you, and also congrats on the results. I want to go back to the topic of U.S. pricing, because you already reached the 2021 margins, but you are indicating that you still need price increases to catch up with cost inflation. How can we understand the your targets in this case, should we expect maybe a slowdown in margin recovery in the second half? How can we understand this current strategy on prices with margins at these levels already? Thank you.

Fernando González (CEO)

Thank you, Vanessa. Maher, do you want to take that?

Maher Al-Haffar (CFO)

Sure. Vanessa, I think that, you know, first, obviously, the comp in the second quarter, as Lucy mentioned in the remarks, right? I mean, it's a tough comp and because of, you know, because of weather, because of heavy maintenance costs, supply chain disruptions, you know, all the comments that Lucy made. I think that, you know, one quarter doesn't make, you know, doesn't complete a pricing strategy, right? I mean, I think we're looking long term, and we certainly continue to see, as Fernando said, we continue to see input cost inflation, although it's decelerating, and, you know, demand is quite tight.

I think that, you know, our pricing strategy continues to be in place, and, you know, we have some announcements that have been made for July and August in several of our markets. Lucy, I don't know if you want to comment on that, but, you know, we're reasonably confident that we should get an important part of that. Leaving that aside, even if we were just to take a look at, you know, prices as they are, if they don't change throughout the year, throughout the rest of the year, we're looking at probably another 13% of pricing increase effect in the second half of the year.

You know, this is something that we have to continue modulating, frankly, and we have to continue moderating the inflation in our business in the U.S. Certainly, you know, things are slowing down, but there's still inflation, and we need to make sure that we continue to recover that, frankly. Lucy, I don't know if you want to add to that.

Lucy Rodriguez (Chief Communications Officer)

Sure. I mean, maybe just a couple things. We did announce a second round of pricing, increases in all markets in the U.S., except for Northern California, which was hit by very, very bad weather, as you know, in first quarter. Obviously, we're in the process of rolling those out, so we'll have to wait and see, how it goes. We are, you know, we are very hopeful. I think on the cost side, too, it's important to remember that as we've seen volumes come down in the United States, it's allowed us to moderate imports, which were, you know, obviously are lower margins. We've been able to slow those down, which has been helpful.

Finally, on the cost side, we also, in the case of fuels, United States is more heavily dependent on fossil fuels as we ramp up our alternative fuels strategy in the U.S. Much of our fossil fuels that we're using this year are actually locked in at higher prices than what we're seeing in the market. I think as we go forward, we should see some relief as those contracts start to reprice. I think that's it. Thank you very much.

Vanessa Quiroga (Head of Mexico Equity Research)

Thank you. Thank you.

Lucy Rodriguez (Chief Communications Officer)

Vanessa, hopefully. Yes. Great. Okay. The next question comes from Nik Lippmann from Morgan Stanley. Nick?

Nik Lippmann (Chief LatAm Equity Strategist)

Hi, thanks for taking my question. Of course, congratulations on the very strong numbers. I was wondering if you can just comment on the importance of U.S. imports in the quarter. I think it was about 1/3 a year ago, just to have a comparison there. If you don't mind, we've noticed an increased debate around a sort of a cost-plus escalator in the pricing system, the cement pricing in the U.S. Is that something you're looking at? How would you feel about it? You know, something you think could be attractive or not attractive, sustainable across the cycle? What, what are your thoughts on that idea? Thanks.

Lucy Rodriguez (Chief Communications Officer)

Sorry, Nik, before we go forward, could you repeat the escalator question again? I'm not sure that we understood that.

Nik Lippmann (Chief LatAm Equity Strategist)

Yeah. I think some of your peers, and certainly some of your clients on the ready-mix side are trying to push for kind of a cost-plus pricing structure in parts of the U.S. market. It's been mentioned by, I think, Martin and a couple other of your peers, and we hear it a lot with some of the ready-mix guys. Is that something that you've looked at at all? If not, then that it's a very quick answer, that you haven't looked at it.

Lucy Rodriguez (Chief Communications Officer)

Maybe I will start out on the imports, just quickly. The imports on a year-over-year basis, were slightly higher than last year, and I think this really reflects that in the first quarter of this year, we reduced imports significantly, so we've begun to see those come in, come into play. Maybe with regard to the second question, we do have escalators in place in our contracts, I think I don't have the exact specifics, Nik. It's primarily in ready-mix, and we can get back to you with further information on that, but we do have escalators in place, and they're working very well.

Nik Lippmann (Chief LatAm Equity Strategist)

Is it something that affects a material percentage of your cement volumes in the U.S., say, about 1/3?

Lucy Rodriguez (Chief Communications Officer)

I mean, it's primarily in ready-mix rather than cement, and cement typically has less contracts to begin with. I think that it's primarily on the ready-mix side more than the cement side.

Nik Lippmann (Chief LatAm Equity Strategist)

Got it. Thank you.

Lucy Rodriguez (Chief Communications Officer)

Thank you, Nik. The next question comes from the webcast, from Francisco Chávez, from BBVA. My question is on your guidance for cash taxes. Can you give us more color on the material increase in cash taxes and in your effective tax rate? Is this a one-off? Maher?

Maher Al-Haffar (CFO)

Yes. Thank you, Paco. Let me start by saying that we have kind of a unique situation because most of our debt is denominated in dollars, but that's not the issue. The fact that it's in Mexico is the issue. Because of that, any effects appreciation, as you have seen, the peso has appreciated almost 14% this year. That creates a taxable income for Mexican purposes. Now, that is a one-time event to the extent that we don't continue to see an appreciation of the peso, because the comparison is always to the prior period. You know, I can't tell you, I can't speculate what the peso is likely to do, but so far it has appreciated.

You know, we have to pay on a monthly basis the estimated cash taxes. You know, that's a conversation that we have with the Mexican authorities, and we're doing that. But because of that appreciation and because of the outlook for the rest of the year, we felt that it's important to change the guidance in terms of the cash taxes. Now, the other element that impacts taxes, is the fact that our results are much better. I mean, you know, clearly, we have to pay more taxes as a consequence of that. Now, compared to last year, the reason that we have a bit of an uptick is because last year we had accumulated NOLs that were substantially consumed last year.

Again, because of a similar effect, we had the appreciation, we had high inflation. Both of those two items contribute to kind of increasing our taxable income for the Mexican authorities. This year, the inflation is likely to be less. That's an end of year kind of event. In terms of effective tax rate, I think it's very important that when you take a look at effective tax rate, the appreciation that is caused by the effects does not show up in our revenues. If you're looking at taxes on the basis of, you know, of net income or revenues, either of the two, you're gonna see an inflated tax rate. You really need to kind of, you know, need to adjust for that effect.

If you do, you know, we think that our tax rate is, you know, pretty much in the middle of the pack of the industry. It's not extraordinarily high. We do believe unless you have further appreciation of the peso, which would have positive impact on our business, the effect should be one-off. I hope that answered your question?

Lucy Rodriguez (Chief Communications Officer)

Great. Thank you, Maher. The next question comes from Bruno Amorim, from Goldman Sachs. Bruno?

Bruno Amorim (VP of Equity Research)

Yes. Thank you, Lucy. I have two questions. One is a follow-up on a prior question on where we are in terms of the margin recovery process. You know, I do get your point that, you know, it takes time to offset higher costs. As a matter of fact, sorry, if you deliver on your EBITDA guidance, this is gonna be the highest level, you know, in several years, right? It seems that the job to recover high input costs has already been done. You know, what's next for the company? Should we expect, you know, higher volumes at maybe constant margins at the currently good levels in the next few years? Are you still gonna push for higher margins in the next few years? That's the first question.

The second question is on the guidance. If we apply the typical seasonality between the second quarter and the second half of the year, you know, this implies on an EBITDA closer to $3.5 billion for the full year, which is 8% above your guidance. Any reason to believe seasonality would play out differently this year, or is there any degree of conservativeness in your guidance? Thank you so much.

Fernando González (CEO)

Thanks for the question, Bruno. Let me start by commenting the process that we have gone through, the way, you know, basic and relevant variables have been evolving and our reaction. You know, we saw high inflation hitting everybody, hitting our cost structure and expenses in late 2021. Since then, what we've been doing is putting in place a pricing strategy that allow us. Well, the original idea was for a pricing strategy allowing us not to lose margins, but it didn't happen that way. We lost margins in 2022. We continue with the idea of recovering margins of 2021. That has been the north in this pricing strategy. As we commented in a previous question, we are almost there.

We have almost recovered, 2021 margins. Remember, it's been a quarter, we need to recover it all year long. Also, I also commented that even though, this year we are having the benefit of a pricing strategy plus a moderation in inflation, you know, making the contribution in EBITDA larger than last year, we still have double-digit inflation. As you can imagine, the margin can deteriorate. We do have a double-digit inflation. The precise number I mentioned was 13%. You know, you better continue monitoring and do whatever it takes not to deteriorate the level of margins that we finally achieved in the second quarter.

We wanna continue our strategies, assuring that we will fully recover the margin that we used to have in 2021. Now, regarding the other comment or question you made on estimates on our guidance, you know, if you remember, we gave a guidance early during the year for the whole year, and then after the first quarter, we decided not to comment on guidance because it was, you know, there were some positive signs, but they were not conclusive, we preferred to wait until today. Now we are guiding to the $3.25 billion. You know what?

There might be, who knows, there might be some upside risk, as you have suggested, because of the basic ratio of the proportion of the first half compared to the second one. That might be the case, but for the time being, we feel more comfortable with the current figure. The fact that we've been able to almost recover margins is not a guarantee of the success we will have in pricing strategies in the next six to 12 months. We wanna be prudent and let's see how it goes. I think your observation is valid.

Bruno Amorim (VP of Equity Research)

Thank you so much. Very clear, and congratulations on the results.

Fernando González (CEO)

Thank you Bruno. Thank you.

Lucy Rodriguez (Chief Communications Officer)

Thank you. The next question comes from Adrian Huerta from JPMorgan.

Adrian Huerta (Executive Director)

Thank you, Lucy, everyone. My question is a bit, also related to the previous one, but in a different way. What did you imply in terms of margin for the second half, for the guidance, for the new guidance that you have?

Fernando González (CEO)

I mean.

Lucy Rodriguez (Chief Communications Officer)

Maybe, maybe I'll, I'll start.

Fernando González (CEO)

Yeah. Go ahead.

Lucy Rodriguez (Chief Communications Officer)

Just by saying, Adrian, as you know, we don't typically guide to margin. I think that that's probably the best answer any of us can give you right now. I don't know if you have a different question, we're happy to take it, but as you know, we do not normally guide to margin.

Adrian Huerta (Executive Director)

Okay, fine. Fine, Lucy. I'll pick another question then.

Lucy Rodriguez (Chief Communications Officer)

Good try, Adrian.

Adrian Huerta (Executive Director)

Why the increase in net debt in the quarter when you have positive free cash flow?

Maher Al-Haffar (CFO)

I mean, why the increase in net debt? I mean, we, we do have a number of investments that we are making that, you know, are below the line sometimes, like the acquisitions of Atlantic Minerals. We bought some additional lands and reserves in the U.S. In addition to that, we made a small acquisition in Israel. You know, there's a negative impact because of derivatives. There's the, you know, the coupons on the perpetuals, for instance. All of that adds up, and that's kind of what gave us a little bit of an increase in net debt. It's a minor, it's a minor increase. I mean, it's nothing to write home about, Adrian.

Adrian Huerta (Executive Director)

Okay. Thank you, Maher.

Lucy Rodriguez (Chief Communications Officer)

Maybe just to just add on, Adrian, I, you know, the, the acquisition that Maher suggested, Atlantic Minerals, Israel, for example, it amounts to about $100 million in total, which I think would explain that difference that you're talking about.

Adrian Huerta (Executive Director)

Okay. Well, thanks.

Lucy Rodriguez (Chief Communications Officer)

Okay.

Adrian Huerta (Executive Director)

Thanks a lot.

Lucy Rodriguez (Chief Communications Officer)

Thank you, Adrian. We have time for one more question. We're trying to be cognizant of those analysts who have a lot of earnings on call today. The last question comes from Gordon Lee, from BTG Pactual.

Gordon Lee (Head of Research)

Hi, everybody. Thank you very much for the call. I'd like to add my congratulations. I have a question that's similar to Anne's, but from the equity perspective, Fernando, which is, you know, given the, the obviously the very robust operating outlook, the fact that on your guidance, you would be close to 2.2x leverage at the end of the year, assuming flat net debt. I was wondering what your latest thinking was in terms of the potential timing and the form as well of cash returns to shareholders. I don't know whether you have any sort of updated views on that, now that we're past the first half. Thank you.

Fernando González (CEO)

Thanks for the question, Gordon. I think, you know, what we've been commenting is that we would like to systematically start paying dividends and continue having the option of share buybacks once we achieve investment grade. Now, the question is, you know, when is it that we're going to be achieving investment grade? You know, seems like, you know, we are closer to that option. I think, by early next year, we will know what the situation will be, and we might. Let's see how it goes. At this point in time, we don't know, but we might start paying dividends and/or buying back shares.

We cannot disclose, you know, the specific way we might be doing it, but we will communicate that timely. Again, depending on us achieving investment grade, or at least to be, you know, so close to it, so we might start paying dividends next year. It's not a, it's not a commitment, it's not a statement, it's just a comment to sort of, you know, answer your question in terms of when and how.

Whenever we start, you know, we want to start with, as you can imagine, you know, if we are at a leverage ratio of 2x, and we have already some commitments with investments in growth and others, you know, we are gonna start with not a small, but a moderate type of dividend to be increased to time. That's what I can comment, Gordon.

Gordon Lee (Head of Research)

Perfect. Thank you very much. That's very clear. Thank you.

Fernando González (CEO)

Thank you.

Lucy Rodriguez (Chief Communications Officer)

Thanks, Gordon. We appreciate you joining us today for our second quarter webcast and conference call. If you have any additional questions, please feel free to contact investor relations, and we look forward to seeing you again on our third quarter webcast that will take place on October 26th. Many thanks.

Operator (participant)

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect from the call.