URALCHEM’s CEO Dmitry Konyaev interviewed by Kommersant and talks about debts, mines and Chinese companions.

The largest manufacturer of nitrogen fertilizers in Russia, Dmitriy Mazepin's URALCHEM, held back from buying back Uralkali shares, despite favourable terms. It already owns 20% of Uralkali's shares, in general. The issue was that the papers were pledged for a VTB credit and URALCHEM has already violated covenants within its scope twice. In the interview with Kommersant the company’s CEO Dmitry Konyaev, told us, how they managed to resolve the issue with the bank, if it is possible to make money on cheap gas and port terminals, and how much URALCHEM is going to lose on discounts for landowners.

— Nowadays, the global chemical industry is quite a complex situation. Can you see any prospects for change for the better?

— In general, the industry is very fragmented, and the situation is different in various segments. In some segments, there are huge difficulties, while the manufacturing of nitrogen fertilizers is now quite stable. It is obvious that this stability is primarily the result of us being engaged in the next production stage – the processing of natural gas.

If we consider the prospects, the processes occurring in the global mineral fertilizers industry are quite controversial and the situation is definitely difficult. This is mainly due to the global situation – a decrease in gas and coal prices following the decline in oil prices. These factors lead to the growth of supply in the fertilizers market, which is not supported by proportional growth in demand. That’s why urea prices this year have already reached the 2009 level, when we saw a huge after-crisis fall in prices.

Now, prices are mainly influenced by China. They introduced new facilities, which were delayed in commissioning for a long time. This year, the supply of urea from China is growing significantly, even as compared to 2014, which set a record in itself. However, Chinese companies cannot drop the prices in coal-based manufacturing below a certain level. For example, in May, at a tender in India, the Chinese refused to support price levels that were offered earlier by Iranian manufacturers. Even if the coal is cheap, there are still logistic expenses; moreover, the energy efficiency of coal is substantially lower than that of gas. That is why some manufacturers are less effective and have to reduce manufacturing volumes. The ones located close to port terminals and transfer terminals continue their operation. This limitation leads to insignificant growth in urea prices. Still, it is already clear that this year will be much worse than 2014, in terms of the global environment.

— Can you imagine the development of a situation that could make you stop some manufacturing lines?

— I think that is unlikely in the current conditions. It is possible, but only if the government introduces some measures associated with the rapid growth of gas prices. For now, the Russian nitrogen fertilizers manufacturing market is quite capable of competition.

— Is it possible to make an agreement with China concerning principles of work, such as Russian and Canadian manufacturers do in the potassium market?

— The nitrogen market is so fragmented and spread out across the world that it is not possible to coordinate pricing policies. Here, manufacturers work on the basis of their current costs and prime cost. Plants in Central Europe are loaded on a seasonal basis: they work when the prices are high and stop during low seasons. Prime cost allows for the stable operation of plants in Russia, the Persian Gulf and the USA.

— How is URALCHEM measuring up against other Russian manufacturers?

— If we take the basic indicator — EBITDA, then we had good results among our closest colleagues in the industry in 2014 ($923 million in 2014 — “Ъ”). If we take profitability as per EBITDA, then I would call our results outstanding. Financial results are primarily associated with the choice of product portfolio policy. Half of our actual portfolio is allocated to ammonium nitrate, which brings more profits per nitrogen unit than other products. We don't have as many complex fertilizers (NPK) as, for example, Acron, and we don't have foreign assets like Eurochem, which work at completely different gas prices. That is why it seems to me that this result is achieved by choice of product portfolio and accurate management work with operational effectiveness.

It is also important to remember that URALCHEM has quite complex logistics: we are located farther from borders and ports than other major players, but now our port capacities are our benefit. The terminal in Riga achieved good dispatch volumes in 2014 - 1.5 million tons, and this year we are planning to increase loading up to 2.3 million tons. Terminals allow us to batch goods at warehouses, which allows us to use the most optimal moments for dispatch from an economic point of view - the moments when the market goes up. That is how our second terminal in Latvian Ventspils, specializing in the transfer of ammonia, operates. We want to increase its load up to 500-600 thousand tons per year. In both assets, we hold the controlling stake and work with local stevedoring companies, using their management resources. We keep in mind that our specialization is manufacturing fertilizers, not logistics. Although we have URALCHEM-Trans (railway car-owning company) in our group of companies, that is just a downside of our economy—the inability to outsource all operations to external support departments.

— So was the strategy of purchasing port capacities successful?

— Quite so. Now we have two terminals, and the one in Riga satisfies our needs for transferring bulk materials. We load part of our products through Vyborg and part through the Black Sea. We are completely balanced in this aspect. In theory, we can increase capacities in bulk material transfers in Riga a little bit, if that is reasonable from the business viewpoint.

— Are you considering any new acquisitions?

— We currently see no interesting assets for purchase in Russia, and international expansion is seriously limited. We will stay within our current perimeter and focus more on the optimization of operational activities.

— Have western sanctions against Russia affected URALCHEM in any way?

— Not directly. There were rumours that there may be some limitations in Europe, but those remained only rumours. We considered partial purchasing of complex equipment in advance, because we were afraid of risks in this segment, but we limited ourselves to just purchasing a range of spare parts.

— Has borrowing loans become any harder?

— Today, the company has quite a large external debt (net debt by the end of 2014 — $4.385 trillion— “Ъ”), which is primarily associated with purchasing a batch of Uralkali shares. Now, all our debt obligations are held by VTB. That is why we didn't enter the borrowed capital market to attract additional investments: we are able to finance all our current activities, investment projects and capital investments with our own operational money flow. This also allows us to service the debt within the scope of our agreement with VTB.

— Do you consider such indebtedness comfortable for your company?

— Well, of course, we'd like to have it smaller than that, because the debt/EBITDA ratio (4.7 at the end of 2014 — “Ъ”) is substantially higher than the generally accepted indicator values for businesses. On the other hand, we have a liquid batch of Uralkali shares within the scope of this debt, so the situation is under control. Regardless, we are going to continue working to decrease the level of indebtedness in the future.

— Until what level?

— We'd like to reach 2–3 EBITDA.

— At the end of last year and at the beginning of this year, you violated covenants within the scope of the VTB credit. How did you resolve these issues with the bank?

— The violation of the covenant at the end of the year was associated with an emergency at the second Solikamsk mine of Uralkali, which resulted in a serious price drop of the pledged batch of shares. However, we managed to resolve the situation with VTB and the violation was remedied before the end of 2014. There was another episode associated with the fact that as of 31^st December, the net assets value as per Russian Accounting Standards dropped below the value of the company's liabilities. That was caused by a re-estimation of foreign currency debt due to the ruble's devaluation. In both cases, we received confirmation from the bank that it won't demand prescheduled repayment of the credit.

— So you haven't revised the covenants?

— No, because everything went back to normal and all issues were resolved.

— Would you like to refinance this debt?

— It's a long-term loan – Seven years in duration. Now, there is no sense in introducing any suggestions to alter it: the rates have gone up and we managed to attract funds before the crisis.

— How is the situation with other credits?

— Actually we have no other major credits, only two small ones. In Latvia, we bought terminals for funds and borrowed from two European banks. However, terminals service their credits themselves; they are separate legal entities. There are no issues in that regard from the viewpoint of operational activities.

— Are there any risks that problems with servicing credits may occur again?

— No, I don't think so. We are able to fulfil our obligations to VTB from our own money flow and service the loans according to the conditions agreed upon in our liabilities to the bank.

— How is your work with your main partner in Uralkali – the ONEXIM group of Mikhail Prokhorov?

— Within the scope of working on the board of directors of Uralkali, we have a very constructive and fruitful relationship.

— Are you planning to change the size of your batch of Uralkali shares?

— It is too early to talk about that.

— Recently, Uralkali made a buyback of its shares. You decided not to sell anything, didn’t you?

— We decided not to take part in the tender.

— Haven't minority shareholders like Acron offered for you to purchase their batch of shares directly?

— No, they haven't made any such offers to us and we haven't discussed these issues with them.

— Uralchem tried to conduct an IPO several years ago. Are you going to repeat this procedure?

— We are not currently considering the possibility of attracting capital through a public offering via IPO. It is a complex issue and decisions must be made in a particular situation, including consideration of the particular needs of the company.

— You have had a conflict developing with Togliattiazot for several years. You own approximately 10% of its shares. How is the situation there now?

— We have particular demands of the management of Togliattiazot, both in terms of people, who are at the plant now, and to those who had long gone abroad. It is not clear to us, however, how one can manage a company while being in the USA or England. Not a single meeting of the board of directors of the plant was held in Russia. Believe me, it is impossible to run a plant for many years via videoconference calls—that's absurd. Our issues with them concern two aspects. One aspect is the physical management of the company, namely its effectiveness. We are concerned with repairs and modernization (if there are any), because Togliattiazot has the worst production figures in the Russian industry of nitrogen fertilizers. The plant is working at 60-70% of its capacity, while all others are working at 100% and more of their project capacity. That means that money is either not being invested or is simply being stolen. Also, no targeted industrial policy is in place there. That results in direct losses to us as minority shareholders.

On the other hand, there are still issues with export shipments of products through offshore schemes, which lead to losses in income for the company. These problems, however, are being solved. If we take a look at the dividends, in 2011 — 2.9 billion rubles were paid, in 2012–2013 — 3.9 billion rubles each, and in 2014, the board of directors recommended paying 5.3 billion rubles. However, the background with ammonia was constantly getting worse. I don't know how the company is getting more money for dividends, but I partially associate that with our pressure on them; we make the management and owners shift towards greater transparency in business. At the same time, even if the company is shifting to normal schemes of operation, there are still issues with the previous period when we weren't paid adequate dividends and certain facts of manufacturing capacities working for offshore structures were discovered. All these issues must be settled. We are ready to remain shareholders within our minority batch of shares.

— But 10% doesn't even grant a place in the board of directors, does it?

— That's a complicated question. We still don't see clearly who we should contact concerning this issue, nor who is really managing the company and who is the actual owner. That's why there is no sense in discussing this now - especially considering the annual meeting of shareholders. It was scheduled at 7 o'clock in the morning, on Sunday, the 24^th of May, but was acknowledged as abandoned due to the lack of a quorum. That's an approach to business that is 90% non-existent in Russia already. These people's approach is "middle of the 90s", if not "early 90s". If we issue a claim against the managing director, he packs his bags and leaves, and then they appoint the next one. Now, for example, the company is being run by an ex-IT director.

By the way, recently, Andreas Zivy (one of Togliattiazot shareholders) stated that URALCHEM put pressure on him to make him sell his shares. That's wrong. Actually, during our meeting with him, we discussed not a sale of shares, but our demands to pay fair dividends.

— Market rumours state that Togliattiazot periodically experiences problems with transferring ammonium via a pipeline to Odessa. As shareholders, you surely know what the problem is, don't you?

— The main problems Togliattiazot has are political in character. Sometimes, the plant even stops its operation when its owners can't find common ground with the Ukranian side. They get their valve shut off due to “technical problems”, although in reality, the ammonium pipeline can currently transfer all their volumes.

— You also have another "asset with problems" — Voskresensk Mineral Fertilizers (VMF), which is almost non-operational due to a lack of raw materials. What's coming next?

— That site is located in the Moscow region and has very good technological potential. The main problems of VMF remain the same – a lack of raw materials. The plant could work and produce granulated potassium and some other products, but the basic business must be operational too, which consists of manufacturing phosphorous fertilizers. Now, we are left with only one chain - sulphuric acid, phosphoric acid and granulation, and the amounts of manufacturing are approximately 300-400 thousand tons. The second chain was closed.

Under the existing conditions, this plant is near to being closed again because Acron gave us the contract for the excesses of their apatite concentrate from Oleniy ruchei, which they can't process themselves, for the first half of the year, but we have no contracts for the second half of the year. At PhosAgro, they are still explaining to us that within a single week, while we called back one offer and set out to propose another one, they contracted the whole amount of materials that we requested for VMF, which is 800 thousand tons. They are openly showing both us and the Ministry of Industry and Trade that these amounts are being exported. Everyone keeps silent and no claims are being raised. Therefore, the situation is complicated.

In parallel, we are working on a potassium granulation project. There are some results already, but as with any industrial enterprise, it requires adjustment and time. Prototype installations allowed us to receive the product we wanted, but problems are occurring for us when moving on to industrial-scale granulation. We are also trying to create products with higher added cost - water-soluble fertilizers.

At the same time, FAS has gotten actively involved in PhosAgro requests about the provision of discounts for raw materials, which are necessary for the production of fertilizers for the domestic market. However, the issue of apatite supplies, which is being exported instead of supplied to the domestic market, is still being ignored each time.

— You had a conflict with landowners at the beginning of the year concerning discounts on fertilizers. The manufacturers also requested discounts on raw materials for NPK. Can this issue be considered resolved?

— I hope it can be considered resolved, or else we will all see a strange situation. All companies have different product ranges, and all of them offered a different amount of support to farmers this sowing season. We increased the dispatch of ammonium nitrate in Russia by 28% and "froze" our January price in rubles. From December 2014 to May 2015, we delivered 835 thousand tons of all kinds of products into the domestic market. Direct shipments of ammonium nitrate were increased by 40%, up to 423 thousand tons.

So what do we need to do now – demand an additional discount on gas? PhosAgro says that they must get a discount on ammonium, phosphorus and potassium, while they ship phosphorus within their own company, so they are in fact giving themselves a discount. Uralkali has long been providing discounts on potassium for their whole amount of raw materials delivered to the domestic market, via the so-called transport differential. The situation with ammonium doesn't really make sense: NPK manufacturers have capacities to produce it, and therefore, they are going to produce fertilizers to export from their ammonium, while others will supply them with raw materials that are discounted for the domestic market. Therefore, all manufacturers except PhosAgro at the meeting in the government (declared that they were satisfied with the current clear and transparent system of raw materials delivery for manufacturing NPK. No one wanted to open this Pandora’s box, as this was going to create problems, not eliminate them.

— What about discounts for landowners next season?

— We need to discuss mechanisms to prevent those types of emergency situations. The Russian economy is currently in a much worse situation than the global one. At the beginning of the sowing season, we received a strict order from the government stating that prices on the domestic market must not follow the growth of global prices and ruble's devaluation. Therefore, a consolidated decision was made to "freeze" ruble prices for the entire sowing season. From an income perspective, it created a substantial negative impact on results in the first and second quarters, because the last shipments are still being made.

— So the situation can repeat itself?

— We are not going to abandon the market and leave the Russian agricultural sector without our support. Schemes for discount provisions must be discussed within the scope of the Ministry of Industry, the Ministry of Agriculture, the agrarian committee of the State Duma and the Federation Council. This year, no one expected the crisis or such a significant devaluation of the ruble; it was growing like a snowball, and there was a kind of hysteria. For example, there was a suggestion to introduce custom duties on the export of fertilizers. It is possible to stop the industry, even to nationalize it, but the solution lies in dialog and the choice of logical methods. Now, it's almost summer; the thrill is gone and the situation with currency rates is more stable, so I think we'll find a solution.

— Are the variants being discussed already?

— The sowing season will end and the Ministry of Agriculture will summarize the results. I think the discussion will start in June or July.

— How can you estimate your losses by freezing the prices?

— That's tens of millions of dollars. That's quite substantial, but the introduction of export duties would have obviously resulted in much bigger losses.

— What is the amount of your investments program in 2015? Are there any changes in it due to the crisis?

— Our investments program is completely realized from the results of our operational activities. In 2014, they amounted to $106 million main funds: $60 million was used for the modernization of worn-down equipment, and $35 million went into investment projects. I think that we will maintain the same amount of investments. Firstly, they'll be used in maintaining our current capacities, replacing worn-down equipment, and its modernization. This is important, because during the crisis, in 2009, we substantially cut financing, aimed at maintaining our production capacities, and then we had to allocate additional funds for this goal. That is why we are trying to remedy all problems and "illnesses" while we can.

— What financial results are you expecting this year?

— It's hard to make any forecasts, as the first six months are more or less within the scope of our business plan, but it's hard to say what to expect in the second half of the year. Either way, the results are going to be approximately 20% worse than those of 2014. Negative profit possibility depends on currency exchange rates and debt re-estimation, especially considering such large credit leverage. The current rate of the ruble is quite rational, and our business plan is developed close to the current rate +/- 2 rubles, so I hope that we'll stabilize in that range.

— What export trends do you think are the most interesting, and for what products?

— As a large-capacity supplier, we always consider logistics first and foremost. You earn more in places that you can effectively reach in terms of logistics. For us, the main trends remain Latin America (Brazil and Mexico) and Europe. If you consider the global trend of development, and fertilizer’s sphere of application, then there is clearly significant potential in Africa. First of all, this is because the African continent is underusing fertilizers on a colossal scale. Additionally, China as a large sales market has begun to show a reduction in fertilizer application, so Africa looks like a huge prospect. We are trying to develop an active presence on that market, and we have recently won a large tender in Kenya and opened a representative office in Morocco.

— You were trying to remove duties for the import of nitrogen fertilizer into the USA within the scope of court proceedings, but lost the case. What are you going to do now?

— It was all about one of our niche products. We couldn't understand why we could ship it to the EU, but not to the USA. However, America is just a small market for this product, the amount being in the hundreds of thousands of tons at the most. It won't replace shipping ammonium nitrate to, say, Brazil. Still, we try to stand up for our interests where we think that they are being discriminated. One must understand that most fertilizers are manufactured and consumed in the sales markets. Within this concept, the Russian situation is quite unique. In Soviet times, we created excessive capacities for manufacturing fertilizers, which couldn't be consumed within our country, considering the amount of manufactured products. Therefore, we need to sell it abroad, so the only question is the cost of logistic expenses.

— Your competitors are now actively developing the system of end-user delivery and expanding sales schemes. What strategy does URALCHEM adhere to?

— Well, we were actually the first to start doing things like opening offices abroad – in Europe and in Brazil. Currently, we are steadily dispatching 80-85% of our export shipments through direct contracts with end-users at export markets, without using the structures of global traders. Now, the issue with sales lies more in the sphere of purchasing from local distributors; it is on another level, beyond just opening local offices to sell our products directly. This scheme is actively used by the Norway’s Yara, and also by North American suppliers in Brazil.

Global manufacturers of fertilizers concentrate more on building their own distribution systems. Here, the experience of Agrium, having the largest distribution network in the USA, is quite interesting. For this company it is a separate segment of business, just like manufacturing. Yes, the sales segment is less marginal, but is has the right to exist as a kind of business. We are also considering this opportunity.

— What about Russia?

— In Russia, distribution makes sense in regions where agriculture is economically feasible and beneficial. It is Central Russia, the Black Earth region and the South of Russia, while the regions of our presence are considered more risky from agricultural point of view. However, we are still considering the idea of developing our own sales network.

— URALCHEM is introducing new products into its product range, and some of them are quite specific. What consumers are they aimed at and is there a demand for such products?

— They are aimed at consumers, manufacturing products with high additional costs. On the one hand, income and profitability is much higher for niche products than for a standard product range, but we are manufacturing and selling 6 million tons of fertilizers per year, so for us, the money flow from niche products is much less in comparison. We make good money selling them, but they don’t represent enough to keep the company afloat. That is why we need to maximize our production of ammonia, urea, and ammonium nitrate, as well as continue to develop niche products. Everything must be balanced.

— In times of crisis, everyone is concerned with optimization. What prospects do URALCHEM have in this sphere? Are you considering a reduction of staff?

— The solution here is not some mindless staff optimization, but instead getting rid of non-core functions. For example, we are outsourcing transport functions, as it is a competitive environment, so it's better for us to purchase this service on the market, along with cleaning services, food supply and others. On the other hand, investments into equipment must result in dividends. That is why we are working to reduce emergency stops and increasing daily outputs at current capacities, as well as working with non-liquid assets and frozen residual stocks. The whole world is doing that, so we don't need to invent anything new in this field. All actions associated with operational efficiency bring results that can be digitalized and seen in financial outputs.

For example, we have just finished a project that took us several years – the creation of a unified service centre. We accumulated all related services and rendered it remotely to all holding companies on the basis of the Perm's Mineral fertilizers site: accounting, financial functions, IT-services. And we are seeing real economy by reducing the number of clerks at local companies and by centralizing all functions in one place.

Interviewer: Olga Mordushenko.

Dmitry Vladimirovich Konyaev

Personal profile

Born in 1971 in Petropavlovsk-Kamchatsky. Graduated from the economic faculty at the MSU, received an MBA degree in marketing at California State University Hayward. From 1998, he occupied several executive positions in major industrial and trading companies. In 2002, he became the commercial director of LLC Mineral trading, and from 2003 to 2005 – the business development director of Fertexim Ltd (Singapore). From 2005, he was the director of the Singapore office of Uralkali Trading SA (trader of Uralkali), and then he was a commercial director of LLC "Constructive bureau". In 2007-2011, he was a commercial director of OJSC URALCHEM and from 2011 – the managing director of the company. Since 2007, he has been a member of the board of directors of URALCHEM. Now, he is also a member of the boards of directors of several companies in this holding. He is married and has two children.

"URALCHEM"

Company profile

OJSC URALCHEM was created in 2007. The company occupies first place in Russia in the production of ammonia and ammonium nitrate and second place in the production of urea. Production capacities of ammonia are more than 2.8 million tons, of ammonium nitrate - more than 2.5 million tons, of urea - more than 1.2 million tons, of phosphatic fertilizers and complex fertilizers - 0.8 million tons. The holding includes the Azot subsidiary in Berezniki, OJSC Mineral fertilizers (Perm), OJSC Mineral fertilizers plant of Kirov-Chepetsk chemical works, and OJSC Voskresensk Mineral Fertilizers in the Moscow region. URALCHEM also owns 20% of OJSC Uralkali stocks and 9.9% of OJSC TogliattiAzot stocks. The parent company of URALCHEM is URALCHEM Holding Plc. (Cyprus). Through CI-Chemical, approximately 95% of Uralchem Holding is owned by the chairman of the board of directors of URALCHEM, Dmitriy Mazepin, while other shares belong to management personnel. URALCHEM’s revenue amounted to $2 billion in 2014, EBITDA - to $923 million, profitability as per EBITDA - 46%, and net debt - $4.39 billion. The CEO of the company is Dmitry Konyaev.