Q3 2011 Mechel OAO Earnings Conference Call
Dec 15, 2011 AM EST
Thomson Reuters StreetEvents Event Transcript
E D I T E D V E R S I O N
MTLR.MZ - Mechel PAO
Q3 2011 Mechel OAO Earnings Conference Call
Dec 15, 2011 / 02:00PM GMT
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Corporate Participants
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* Vladislav Zlenko
Mechel OAO - Director of IR
* Yevgeny Mikhel
Mechel OAO - CEO
* Stanislav Ploshchenko
Mechel OAO - SVP, Finance
* Oleg Korzhov
Mechel OAO - SVP Business Planning & Analysis
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Conference Call Participants
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* Dmitry Kolomytsyn
Morgan Stanley - Analyst
* Sergey Donskoy
Societe Generale - Analyst
* Mohammed Zaidi
Martin Currie Investment Management - Analyst
* Serbik Shenisa
Troika Dialog - Analyst
* Vasily Kuligin
Renaissance Capital - Analyst
* Valentina Bogomolova
Uralsib - Analyst
* Denis Gabrielik
Otkritie - Analyst
* Erik Danemar
Deutsche Bank - Analyst
* Dennis Verr
Prosperity - Analyst
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Presentation
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Operator [1]
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Welcome to the Mechel reports nine months 2011 financial results. My name is Ina and I will be your coordinator for today's conference. For the duration of the call, you will be on listen-only and at the end of the call, you'll have the opportunity to ask questions. (Operator Instructions).
I'm now handing over to your host, Vladislav Zlenko, to begin. Please go ahead, sir.
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Vladislav Zlenko, Mechel OAO - Director of IR [2]
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Thank you and good day, everyone. I would like to welcome you to Mechel's conference call to discuss our nine months 2011 results, which were reported today.
With us from management today are Mr. Yevgeny Mikhel, CEO; Mr. Stanislav Ploshchenko, Mechel's CFO; and Mr. Oleg Korzhov, Mechel's Vice President for Business Planning and Analysis. After management has made their formal remarks, we will take your questions to the presentation team.
Please note that during this call, management will make forward-looking statements, some of which may have been made in the press release. Some of the information on this conference call may contain projections or other forward-looking statements regarding future events or the future financial performance of Mechel, as defined in the safe harbor provisions of the United States Private Securities Litigation Reform Act of 1995.
I wish to caution you that these statements are only predictions and that actual events or results may differ materially. We do not intend to update these statements. We refer you to the documents Mechel files from time to time with the United States Securities and Exchange Commission, which contain and identify important factors that could cause the actual results to differ materially from those contained in our projections or forward-looking statements.
In addition, we will be using non-GAAP financial measures, including EBITDA, in our discussion today. Reconciliations of non-GAAP financial matters to the most directly comparable US GAAP financial measures are contained in the earnings press release, which is available on our website at mechel.com.
At this point, I'd like to turn the call over to Mechel's CEO. Mr. Mikhel, please go ahead.
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Yevgeny Mikhel, Mechel OAO - CEO [3]
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(interpreted) Good day and good morning to you, ladies and gentlemen. Welcome to the conference call on the Company's performance over the nine months of 2011.
I will start today's presentation with a general overview of the work done and of the current situation, and then I will pass the floor to the Senior Vice President for Finance, Stanislav Ploshchenko, who will cover financial results.
Company's performance in the nine months of the year and in the third quarter can be said to be quite good. Key financial performance indicators in the nine months of 2011 have significantly surpassed similar indicators for the previous year. Consolidated revenue for OAO Mechel for nine months of 2011 amounted to about $9.6 billion, EBITDA $1.9 billion and net profit $527 million.
The third quarter wasn't bad either. Despite the worsening of pricing environment for many products, we managed to demonstrate the growth of operational profit in comparison with the second quarter by 11%. It reached $529 million and EBITDA increased by 11% to $678 million.
On the whole, the previous quarter has seen a series of achievements which testify to the continuous improvement of Company's quality and its consistent progress in line with the strategy for business development.
At the previous conference call, we discussed the successful launch in August this year of coal production at the Elga deposit. In parallel with the gradual buildup of the production, we continue the work to construct the relevant infrastructure and, in the future, we plan to bring this deposit to its designed capacity of 27 million tonnes of coal a year.
In accordance with the plans made already until the end of this year, that is to say in the remaining two weeks of the year, we will complete construction of the railway to the deposit itself.
In the third quarter we started construction of a seasonal washing plant, and this way production of coking coal concentrate at the deposit will begin in the second quarter of next year.
In the reporting periods, there were several other advancements towards higher efficiency of the Elga projects in the future. We have made considerable headway in the implementation of the program to upgrade and expand capacities of the Port Posiet, which is our actual gateway to the Asian Pacific region. Already, at the end of 2012 we intend to bring the capacity of the port to anywhere between 7 million tonnes and 9 million tonnes.
In the third quarter, we have also implemented a number of measures aimed at ensuring stability of future freight traffic from Elga. In particular, a contract was made to buy 18 locomotives that will be used at the 315 kilometer railway track, Ulak-Elga, that connects the Elga coal deposits with the Baikal-Amur mainline. These locomotives will have several special features that will enable their utilization in mountainous terrain and in severe climate.
We have always -- we have also made progress in supplying the Elga pit with special mining equipment. We signed a long-term contract, an agreement of cooperation with one of the world's leaders in production manufacturing of mine down tracks, which provides for a large scale program of acquisition of this machinery.
We are also actively implementing the program to acquire new clients and to master new prospective markets for the sale of coal products. One of such prospective markets is India. Currently, the volume of deliveries of coal into this country is sufficiently lagging behind from the volume supplied to other countries of the region; namely, China, Japan, and South Korea. We know that South Asia has a lot of potential and that's why in September, in India, we established a joint venture that will be in charge of distributing metallurgic coal in this market that grows very fast.
The steel segment did very well in the third quarter. Among the contributing factors was the delayed seasonal demand for constructional long products, as well as a reduction in the cash cost on all main items of products against the background of correction of prices on feedstock.
The blast furnace No. 5 at the Chelyabinsk Metallurgical Plant was started in the third quarter after scheduled repair, and this gave a positive effect on the financial performance of the steel segment.
The cash cost of billet at the [CHMK] in the third quarter fell by more than 10%.
Given the favorable pricing environment in the Russian market, we emphasized domestic sale of the products produced by the Steel segment of the Company, which contributed to improvement of the division's economics.
Reduction in export deliveries generated an added value in terms of lower sales costs. And, as a result, operational profit in the Steel segment in the third quarter grew by more than 241% and amounted to $116 million.
In the Ferralloys division, I have to say that, in accordance with the previously announced plans, we started the 12 megawatt furnace at the South Urals Nickel Combined Plant. This was done within the framework of the scheduled switching of the plant to a more efficient technology of nickel ore smelting using electric arc furnaces.
Migration to this technology will enable the reduction in cash cost; and it will also enable the growth in the nickel production through higher recovery rate of nickel from ore.
In early December, we had a startup of the chrome bales workshop at the Tikhvin Ferroalloys Plant. This will increase the capacity of the smelt furnaces, and will also boost production of marketable chrome.
In the near future, we will complete the reconstruction of furnace No. 4 at the Bratsk Plant of ferralloys within the framework of this project for its technological upgrade.
In conclusion, I would like to note that we have made considerable progress during the year in our investment program across all divisions in the Mechel Group. At the same time, given the negative phenomena that we observe now in the global economy, since the middle of the year, we reviewed the volume of investment -- capital investment that will have to be made 'til the end of this year, and in the next year.
There is another priority of our strategic priority. Among such priority projects are Elga deposits; and the construction of universal rolling mill at the Chelyabinsk Metallurgical Plant.
Besides, in the fourth quarter, we reviewed our production plan, given the current plan, given the current market situation. We wanted to do this, to minimize the impact of the market volatility on our financial performance and cash flows. I'm sure that such measures will enable stable development of the Company in the short run; and will lay the basis for its dynamic growth in the future.
And now, I would like to pass the floor to the Senior Vice President for Finance, Stanislav Ploshchenko, who will give you all the details about the financial performance in all segments of our business. Thank you for your attention.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [4]
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Good afternoon and good morning, ladies and gentlemen. Today, we're reporting the third quarter of 2011, which has been the biggest contributor to the Group's financial results so far this year.
Although the commodity markets remain buoyant in the reporting quarter, most of the positive dynamics came from the Steel segment whose operating results more than tripled. However, before discussing it in greater detail, let's traditionally review the performance of the Mining segment.
As reported before, the Yakutogol Washing Plant reached full capacity towards the end of the second quarter, which allowed us to increase shipments of low [vol.] concentrate in Q3, by 280,000 tonnes.
During the same period, however, Southern Kuzbass was impacted by loss production from the shutdown of our [Sakharinsky] mine, which resulted in a roughly 90,000 tonne decrease in its sales, quarter on quarter.
At Bluestone, sales decreased by about 60,000 tonnes; due to the relative decrease in export volumes during Q3. Domestic sales are generally done FCA, whereas export sales are done on an FOB ocean port basis. The decreased volume quarter on quarter reflected, in fact, an increase in volumes and route to an ocean port.
The increase at Yakutogol, along with the decreases at Southern Kuzbass and Bluestone, netted to an overall increase of 150,000 tonnes, which delivered an additional $49 million of revenue.
The combination of higher shipments of hard coking concentrate to the seaborne market, versus lower domestic sales of semi-hard and semi-soft grade also resulted in a slight uptick in average realized price; whereas the contract price for the third quarter, in fact, as you know, was lower than the second one.
Sales of Antracite and PCI were almost flat quarter on quarter, both in volume and price.
The sales of thermal coal grew by around 190,000 tonnes, which is the period when the power generation restocks for the winter. The realized price has, however, gone down by 6% quarter on quarter, as a big part of that coal was low quality and middling, where output increased, along with the growth of coking concentrate production.
Iron ore sales edged slightly up, both in volumes and price.
The above factors combine for an overall 4% quarter-on-quarter increase in the revenue from sales to the third parties, to $1,015 million in Q3.
Cash costs across Mining operations were generally stable, except for Yakutogol, which experienced a marked improvement, with a $5 per tonne decrease, from $37 to $32 per tonne. Roughly $4 of that decrease was attributable to it having re-attained most of the operating efficiency that was lost, as a result of the accident at the [Nerungrin] Wash Plant, which we have previously discussed.
The weakening of the ruble, relative to the United States dollar, benefited our Russian mining operations as a whole, by about $1 per tonne.
Southern Kuzbass also experienced slightly lower maintenance during the period; thereby, enabling it to reduce cash cost by $2, from $37 to $35 per tonne.
Both Bluestone and Korshunov Mining Plants cash cost edged up by $2 per tonne; which was primarily related to high maintenance.
Overall, cost of sales increased by 10% to $613 million, which, in combination with increased sales volumes of 7%, led to a 5% quarter-on-quarter decrease in gross profit, to $785 million in Q3.
The additional cost, beyond the proportional increase, on the back of increased production, primarily related to purchases of third party coal of caking quality for our coke production, where the upward price trend was witnessed throughout the whole reporting period, as domestic prices generally lagged behind the international benchmark indications.
In December, we started test shipments of Elga's coal to our coke plant, which, in perspective, may replace the third party coal completely.
Selling and distribution expenses increased by 14%, to $265 million; the increase related to additional transportation costs, both rail and sea, incurred as a result of a 7% volume increase quarter on quarter; as well as increases in coke exports to Kazakhstan on [CBT] and DAF terms.
General administrative and other operating costs decreased by 25%, to $76 million. The decrease was driven primarily by a $20 million decrease in payroll, and $9 million decrease in other operating expenses, as we incurred substantially fewer costs related to remediation works at [Siblinska] and Olzherassk-New mines.
All of the above translated into an 8% quarter-on-quarter decrease in EBITDA, to $512 million; or 37% of the revenue, versus 40% in the second quarter. The EBITDA margin decreased quarter on quarter from 40% to 37%. For the first nine months of the year, the EBITDA margin for the Mining segment also stands at 37%.
Net interest expense for the Mining segment increased by $15 million; mainly due to a $12 million reduction in interest received, as a result of repayment of inter-Group debt.
The profit tax fell by 56%, to -- or $67 million, due to higher tax asset carried forward at our coke plants, and lower profit of our Russian entities, under national standards, affected by the FX loss; which resulted from significant fluctuation in the ruble/dollar exchange rate for the period.
The effect of the currency translation adjustment for the entire segment in Q3 was a negative $290 million, resulting in a net income for the segment of $14 million.
Overall, for the first nine months of 2011, the Mining segment's revenue grew by 43%, to the same period last year, to $3,079 million. The gross profit demonstrated the same rate of growth, to $2,144 million; the gross margin improving only slightly from 54% to 55%.
The EBITDA grew by 36% to $1,431 million; representing 37% of the revenue, versus 38% last year.
The net income of $631 million was only 18% higher than the last year, as the segment posted a $99 million negative FX adjustment, versus a $[19] million positive figure for the compared period.
The realized prices in the Steel segment remained largely flat in the reported period, with appearing downward trend by the end of the quarter. Thus, the FCA price for both wire and stainless flat steel decreased by 7% quarter on quarter; whereas the price for long steel products decreased by 5%. At the same time, the rebar prices went up 4%.
The sales volumes in physical terms fell by 18% quarter on quarter, entirely at the expense of our third party resale operations, as we reduced purchases of billet from third parties. Its sales consequently fell by 57% in Q3, to 11% of the segment sales, versus 23% in the previous quarter; as you can see on this slide number 8. That reduction in revenue was partly compensated by the restart of the blast furnace, and the converter idled at [Chelyabinsk] steel plant for modernization in the second quarter.
That is demonstrated by the growth of third party alloyed long and stainless flat steel sales, which posted 20% and 19% quarter on quarter increase respectively. The combination of these factors led to a 13% decrease in the segment's revenue from third parties, to $1,796 million.
Cost of sales fell by 16% at the same time, which was mostly due to the increase of production in Chelyabinsk, following the relaunch of the previously idled aggregate.
The combination of cost of sale falling faster than the revenue, resulted in a 6% quarter on quarter growth in the gross profit, which posted $334 million in the reported period, or 18% of the revenue, versus 15% in the previous quarter.
The reduction in sales in the third quarter entirely affected exports, with direct effect on selling and distribution expenses, which fell by 25% quarter on quarter, to $136 million, or 12% of the revenue, versus 13% in the previous quarter.
The administrative expenses also fell by 14% to $67 million, largely as a result of payroll reduction.
Bad debt allowance fell by almost $6 million to only $3.3 million, as some of the specific provisions made for receivables and remain in Kazakhstan in the second quarter, were not increased in the third one. That all resulted in 22% quarter-on-quarter decline in operating expenses, to $218 million.
The combination of higher gross income and reduction in operating expenses, translated into 2.3 times jump in the segment's EBITDA, to $153 million. The EBITDA margin improved from 3% in the previous quarter to over 8% in the reported one.
The net interest expenses remained virtually unchanged at $84 million (sic - see press release); income tax expense increased by 16% to $4.8 million in line with the profitability growth.
The FX loss of $22 million was not significant for the segment, as most of its loan portfolio is denominated in rubles, which means that foreign exchange fluctuations do not affect its P&L as much as the Mining one.
Even the FX loss could not hinder this segment's return into profitability on a net basis, on the back of the growing operating result, posting the net income of $18 million versus $71 million loss in Q2.
For the first nine months, the Steel segment posted the revenue from third parties of $5.6 billion, a 40% growth over the similar period of 2010. The gross profit rose 19% and exceeds $1 billion.
The EBITDA increased by 31% to $369 million over the same period, whereas the net income before the FX effect decreased 3 times to $21 million due to a substantial increase in net interest expenses, resulting from more debt incurred by or transferred to this segment from other ones, as well as higher income tax expenses. The latter grew in 2011 due to the fact that the tax loss carried forward from the crisis years had all been used up in 2010.
The results of the Ferroalloys segment were mixed in the third quarter, as we saw different dynamics in price and sales volumes in different products. The downward trend in prices was more pronounced in nickel and ferrosilicon, where the FCA price decreased by 14% and 11% respectively, whereas chrome price decreased by 6%. The sales volumes of chrome grew in physical terms by 21%, as the ramp up at Voskhod mine continued.
The nickel sales volumes were 21% lower than in the previous one, due to the fact that the second quarter registered carry-over volumes from the first one and that was not the case in the reported quarter.
The sales volume of ferrosilicon decreased by 19% in physical terms, due to the continued modernization of one of the four furnaces.
The combination of lower prices and volumes, despite growing chrome sales, resulted in a 21% quarter-on-quarter decrease in revenue from third parties to $104 million. Inter-segment sales also decreased by 15% to $60 million.
The cost base was also mixed, with cash costs for nickel and chrome decreasing by 14% and 12% (sic - see slide 9) respectively, due to a fall in input prices for coke, chrome concentrate and electricity. Cash costs for chrome concentrate also went down by 5%, as production at the mine ramped up.
The cash cost of ferrosilicon, on the contrary, inflated by 5%, due to higher fixed costs resulting from idling one of the four furnaces for modernization, as announced previously in our CapEx program.
The resulting picture was a 12% decrease in cost of sales, which in combination with a higher fall in revenue, ended up in a gross profit of only $2 million versus $19 million in the previous quarter.
The selling and distribution expenses grew by 29% to $7 million, all due to growth in chrome and ferrosilicon export sales; in the latter case, at the expense of the domestic market, offsetting lower nickel export sales.
The administrative expenses decreased by 19%, mostly due to a decrease in payroll. However, that was not significant to compensate for the growth in selling expenses, which resulted in operating expenses going up 11% quarter on quarter to $22 million. Consequently, the segment's EBITDA went down to just $2.8 million versus $19 million in the previous quarter.
Net interest expenses halved in the third quarter to just $8 million (sic - see press release), as some of the external debt was repaid, including the financing traced back to the acquisition of Oriel Resources and allocated to the Ferroalloys segment.
In the third quarter, this segment posted an FX gain of $16 million, due to the revaluation of dollar dominated inter-Group loans extended to other segments of the Group. The FX gain helped to reduce the net loss to $9.7 million in the reported period from $20 million in the second quarter.
For the first nine months of 2011, the Ferroalloys segment increased its revenue from third parties by 9% over the same period last year to $359 million, whereas inter-segment sales grew by 47% to $183 million.
The gross profit for the same period posted $52 million versus $57 million in 2010, as improvement in the ferrochrome business was not able to offset inflating prices for coke for nickel production and loss of additional income from ferrosilicon sales, due to the plant's modernization.
The EBITDA improved by 5% to $57 million for the same period or 11% of the revenue versus 12% in 2010.
The pre-FX net result improved by 43%, reducing the last period's loss to $59 million; adjusted for FX effect, the net loss for the first nine months of 2011 posted only $32 million versus $120 million for the same period last year.
The performance of the Power segment in the third quarter was expectedly typical for the time of the year, characterized by the lowest heat and electricity consumption. The revenue from third parties went down by 7% to $164 million; inter-segment revenue also decreased by 9% to $113 million.
The cost of sales decreased, albeit by a lesser rate, 5%, which resulted in a [$22 million fall] in the gross income to $48 million or 17% of the revenue versus 20% in the second quarter.
Lower sales also resulted in a 5% fall in operating expenses to $58 million. It all led to EBITDA reversing to $7 million loss in the reported quarter versus $5 million profit in the previous one.
With no significant FX effects and despite the 20% reduction in net interest expenses to $4 million, the net loss increased from $7 million in the second quarter to $13 million in the reported one.
Overall, the nine months result demonstrated a significant year-on-year improvement in third party sales, up 21% to $566 million. 26% of that increase is attributable to the consolidation of Rosu power plant, acquired in December 2010.
The inter-Group sales grew by 25% to $380 million. The gross profits remained flat at $219 million, with the gross margin decreasing from 28% to 23% due to higher input prices and lower output at Southern Kuzbass power plant, due to extensive maintenance in the first quarter, as well as relatively low profitability of the consolidated assets.
At the same time, the operating expenses ticked only slightly up by $3 million over the same period to $196 million. The growing electricity distribution tariff, which added $21 million to the operating cost base, was compensated by a $10 million reduction in bad debt provision, as well as almost a $5 million income from unutilized CO2 emission quarter sales by Rosu power plant.
As a result, this segment's nine months' EBITDA decreased by 14% to $34 million versus the same period last year or 3.5% of the revenue versus 5% for the previous period.
The net income fell to almost zero versus $8.6 million for the same period last year.
Now let's take a look at the consolidated picture. The segmental results combined in the revenue of $3.2 billion for the third quarter of 2011, 8% lower than in the previous one, mostly due to lower steel sales.
The gross income remained unchanged at $1.185 billion or 37% of the revenue versus 34% in the previous three months period, which is a notable improvement.
The EBITDA grew 11% to $678 million, as operating expenses fell by 7%, reflecting lower steel exports and absence of one-off payroll accruals made in the second quarter.
The sharp depreciation of the ruble versus American dollar resulted in a $296 million FX loss for the period, as compared to an $11 million gain in the second quarter.
Net interest expenses grew only by 4% to $154 million, as more debt raising was offset by the Company's successful efforts to lower interest rates. The FX loss resulted in a net income of only $26 million.
The revenue for the first nine months of 2011 has risen by 38% over the same period of last year to $9.6 billion. The gross profit grew by 31% at the same time to $3.4 billion. The EBITDA grew in a similar way by 32% to $1.875 billion. Despite such superior growth, the net income has grown by 14%, largely as a result of a $132 million FX loss in 2011 versus virtually nil in 2010.
Now let's turn to the cash flow analysis. The third quarter saw growth in both the Mining and Steel sales, with the exception of third party billet, as noted above, as the production at Yukutugol fully recovered and the construction season was in full swing.
However, by the end of the quarter, we witnessed a slowdown in the steel market, especially in Europe, fuelled by the political instability in the eurozone and contraction of dollar lending, which, coupled with increased funding costs for the European banks, started to affect the demand for steel products.
After an accelerated growth sales and expansion of MSG's operations that resulted in a higher inventory as of the end of the reported period, and at least 70% of their inventory growth in the third quarter is accounted for by our Steel segment; the rest attributable to Mining.
The stock turnover rate increased from 60 days to 80 days in Russia as well, as the market turbulence in Europe spilled over into our home market; remaining at this level through the months of October November.
The slowdown in the steel market also affected our related parties, whose products we sell through our distribution network. That also resulted in extended settlements. Another $63 million of working capital were attributable to the growing VAT and other tax receivables.
As a result, the operating cash flow remained near zero, or a mere $15 million negative figure. That also means that all our investments, which total $612 million in the third quarter, all of that being property, plant, equipment and mineral licenses, as well as $210 million of dividend payment were finance by debt, all of which was long term.
The net debt, however, increased only by [5%], or [$416 million], due to devaluation of ruble-denominated debt, as ruble depreciated against dollar in the third quarter. At the same time, the maturity structure of the debt portfolio improved, as the Company attracted over $1 billion of long-term debt, part of which was used to repay short-term debt.
We don't test debt covenants in our loans on nine-months' results. Nevertheless, net debt/EBITDA ratio stood at 3.5 times, as of the end of the period; the maximum allowed by our loan agreements. We are aware that we need to maintain it at this level, or below, 'til the end of the year. Therefore, the management has undertaken certain measures to comply with it.
Firstly, the investment program for the fourth quarter has been revised down significantly in size, with certain payments deferred until the first quarter of 2012.
Secondly, we have changed the focus of production and sales policy, having reduced the output of products, especially low and negative margin in the current market environment, while concentrating on the products with higher sales turnover rate.
And thirdly, we are targeting a reduction in the working capital in the current quarter, which will help to improve the operating cash flow.
Thank you, ladies and gentlemen, for your attention. We are ready to take your questions.
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Vladislav Zlenko, Mechel OAO - Director of IR [5]
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Thank you. We will now take questions. We would ask that participants please state their name and company before asking their question, and allow some time after for translation. When questions are answered in Russian, they will be followed by a translation, so you may ask your question in Russian also, and we will translate for you.
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Questions and Answers
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Operator [1]
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(Operator Instructions). Dmitry Kolomytsyn, Morgan Stanley.
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Dmitry Kolomytsyn, Morgan Stanley - Analyst [2]
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I have three questions. First, the -- your debt repayment in 2012 looks massive. Just was wondering how you're planning to deal with that and how much has been done in terms of refinancing, which I'm sure you're working on right now.
Also, can you please explain -- I know you've touched upon this several times, but can you again, maybe, summarize the nature of those ForEx losses? And that would actually be two questions that I have.
One other question that I have, what sort of losses or gains do you expect in the fourth quarter? Now that we're almost done with the fourth quarter, you probably have a good understanding of that.
And what sort of revenue breakdown do you expect in the fourth quarter, if that's possible? That's it for me.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [3]
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(interpreted) To answer your first question, if you're looking at slide 14 in the presentation, you will see that in 2012, about $2.5 billion must be repaid. In fact, you should look into the breakdown of that figure. $1.1 billion out of $2.5 billion is a committed revolving line, which is used to finance the working capital. Therefore, we will only have to repay next year $1.2 billion, or around that amount.
As to the bonds, and again, if you're looking at the slide, you will see the figure of $348 million (sic - see slide 14). All these bonds are loans with an offer, so unless the bonds' markets close altogether, all these bonds can be refinanced by assigning the coupon to the market. So we don't see any problems. We don't expect any problems or challenges in implementing this -- that repayment program. Thank you.
And we have always been the supporters of the idea of having a cushion, or something to fall back on. So if you take our -- the money on the accounts that we have and put it together with the credit lines that are still open to us, then we have approximately $2.1 billion, which is sufficient to repay the debt.
As to your second question about the nature of FX losses, if you look at our consolidated assets, then you will see that all of them are basically denominated in rubles. And if you look at slide 14, you will see that about half of our debt is denominated in foreign currency, and mainly it's US dollars. So wherever the ruble is falling, relative to the US dollar, we have a foreign exchange loss. Wherever the ruble is appreciating against the dollar, we have a gain.
As to our P&L items for the fourth quarter that are affected by the currency exchange rate, then everything will depend on the exchange rate, in terms of the ruble and the dollar, as of December 31 this year. Right now today, the exchange rate is RUB31.9 per $1, which is somewhat higher than RUB38.87 per dollar that we had at the start of the fourth quarter. So if the exchange rate remains the same, then there will be a revaluation -- a slightly negative revaluation, so there will be a slight loss, but not a big one.
As to your third question about the revenue breakdown, I guess you were asking about the breakdown between the [actual] segments. Actually we don't have any figures right now, and the year is not over yet, so I don't want to make any guesses, thank you.
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Dmitry Kolomytsyn, Morgan Stanley - Analyst [4]
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Okay, thank you very much.
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Vladislav Zlenko, Mechel OAO - Director of IR [5]
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We're ready for the next question please.
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Operator [6]
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Sergey Donskoy, Societe Generale.
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Sergey Donskoy, Societe Generale - Analyst [7]
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(interpreted) The first question is about the growing that comes from transactions with related parties, against the background of declining accounts receivable. What is the reason for this, and what is the trend that you expect for the fourth quarter?
The second question asks for details about the sales of [K-9] in the second and the third quarters. How did the prices and the volumes change across your main markets, including China and Ukraine?
And the third question is could you please provide figures for coal production at your main sites, in the second and the third quarter?
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Vladislav Zlenko, Mechel OAO - Director of IR [8]
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The first question will be answered by Stanislav Ploshchenko; the second and the third one by Oleg Korzhov.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [9]
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(interpreted) Regarding your first question about our relations with the related parties, as a matter of fact, we sell products of several plants in Russia and in Europe, who are third parties to us. And we also supply to those plants, to those production sites. And to be able to look at the big picture, we should be considering the whole year, not just one quarter.
The dynamics of relations in the second quarter, and the dynamics of the market also, in the second quarter, resulted in the decline of our settlements with the third parties, by almost $140 million, while the positive dynamics of the market in the third quarter, made us invest more into our relations with them.
The third quarter started very well, and then in September we have seen a decline in the demand and the growing volatility of the market. Therefore, the sale of steel products in the market decelerated. We were affected by this process as well as other producers in that field, and our warehouses as well as the warehouses of other companies in that field, have started to grow.
So the investment was made into production, but since the stock was growing, and it hasn't been sold yet, that's why we have seen an increase in our payments to third parties.
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [10]
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(interpreted) Now you requested the structure of sales at Yakutugol for the coke and coal concentrate, let's look at Ukraine first. The volume of shipments in the Ukraine was 360,000 tonnes in the second quarter and 225,000 tonnes in the third quarter. The prices were $310/$320, on the DDO basis in the third quarter, and $280/$290, same basis, in the fourth quarter.
South East Asia, the second quarter, overall deliveries, 500,000 tonnes, third quarter 310,000 tonnes; the prices in the third quarter were $300/$310 FOB basis for (inaudible); and the fourth quarter, same basis, $270/$275. The prices for the second quarter were around $310/$330.
Now let's take China. In the second quarter, our shipments to China were 284,000 tonnes. In the third quarter, they increased significantly to 790,000 tonnes. The sale price in the second quarter to China was $220/$230 [received] basis. And we are not selling K-9 pure; we are selling it in a mix. And in the third quarter, the prices were approximately at the same level, $220/$230.
And also, in the second and third quarter we shipped approximately 40,000 tonnes of coking coal concentrate to India. And the prices there were more or less on par with the prices for South East Asia.
The overall production of coal in the third quarter was 7.3 million tonnes. From Southern Kuzbass came 3.6 million tonnes; Yakutugol delivered 2.2 million; and Bluestone 1.5 million tonnes.
In the second quarter, the total production was 6.5 million tonnes. 3.3 million tonnes were coming from the Southern Kuzbass; 1.8 million tonnes from Yakutugol; and 1.3 million tonnes from Bluestone.
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Vladislav Zlenko, Mechel OAO - Director of IR [11]
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We are now ready for the next question.
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Operator [12]
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Thank you. Mohammed Zaidi, Martin Currie.
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Mohammed Zaidi, Martin Currie Investment Management - Analyst [13]
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Just two questions. Going back to the debt issue, just wanted to find out what are the implications of a potential breach of covenants if that were to occur?
And the second question is if the current weakness that you talked about in the market continues into the first half of 2012 then what further steps will the Company have to take to manage its debt position, given its debt covenants get reset to a lower level for 2012?
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Vladislav Zlenko, Mechel OAO - Director of IR [14]
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Stanislav Ploshchenko will answer the questions.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [15]
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(interpreted) To answer your first question, you know that the covenants, per se, they don't mean anything terrible; it is just a level at which the Company should address the banks to discuss the future steps. And there are other companies that operate quite normally whose net debt to EBITDA ratio is higher than 3.5.
We understand that the higher is this ratio the less possibility the Company has to invest in its own development. So if we fail to observe the covenants then -- well, first of all, should this happen, I'm absolutely sure that our -- that we will not violate them dramatically; it will just be a slight violation. And then we are absolutely sure that we will be able to come to an agreement with the banks -- with the bank syndicate and change them if necessary. And besides, there won't be any serious implications for the final policy of the Company.
Yes, we realize that it may involve higher debt servicing fees; or it will also curtail our opportunity -- our possibility/capability to invest into the Company's projects. But we have already reviewed our CapEx program for the next year, and we are sure that the steps that the Company has already undertaken will enable it to, first of all, service the debt, and to also maintain its key projects. Thank you.
And if this bad environment on the market persists into 2011, you know that Mechel is not a mono-producer; we don't have just one product, and we don't service just one market. We are a diversified holding and we will be able to adjust our production and sales policy in such a way as to, first of all, support our debt, and also to support our priority projects.
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Vladislav Zlenko, Mechel OAO - Director of IR [16]
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Next question, please.
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Operator [17]
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[Serbik Shenisa], Troika.
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Serbik Shenisa, Troika Dialog - Analyst [18]
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I have four questions, if I may. First of all, in your presentation you say that the adjusted net debt is $8.7 billion, whereas I am getting $9 billion. And by the way, by EBITDA I am getting 3.6 net debt to EBITDA ratio. Could you please comment on this, how you are getting $8.7 billion?
And second question is you said that you might revise your CapEx for next year to leave only important projects. Could you please comment how much you need to finish these important projects for next year, giving a breakdown for Elga and the universal rolling mill?
And the third question is if situation worsens in the global steel market and coking coal market and the banks impose tough position, could you or will you revise your dividend payments on preferred shares? Could you potentially cancel them?
And my last question is what's your current working capital? And what is the optimal level of working capital you see in the breakdown for your Mining division, and Steel business and Mechel Service Global? Thank you.
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Vladislav Zlenko, Mechel OAO - Director of IR [19]
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Stanislav Ploshchenko to answer the questions.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [20]
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(Interpreted) I will answer your questions one, three and four and Oleg Korzhov will take question two about CapEx.
Now speaking about the adjusted net debt indicator, we have an agreement with the banks to include into the calculation of net debt, not just the money on the accounts, not just the cash, but also all bank deposits of up to 180 days. At the time of preparing this report, we had $250 million on such deposits. So that's how we arrived at $8.7 billon.
As to preferred shares and the dividends, it's not the decision of the management; it's the shareholders' meeting that instructs the Board of Directors -- it's the Board of Directors that discusses that matter with the Shareholders' Meeting, and these events take place around April and May 2012.
However, in our agreements with the banks, there are no limitations or constraints on the payout of dividends on preferred shares. And in the current market environment, we do not see any need to change our policy in this respect.
And your last question about the working capital and the optimal level for the working capital, we could be speaking about the optimal level of working capital if it were a mono-company, a company that produces just one product. However, in a diversified holding this is a rather flexible notion and depends very much on the market situation on any given segment.
It is declining in the Steel segment, where our inventories are high; they went up. It is also going down in the Mining segment, although the market situation is better there. But in terms of [steering], the working capitals I think that we could discuss several hundreds of millions of dollars. There is this potential in the Company.
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [21]
------------------------------
(Interpreted) Now, to answer your question about our investment program in 2012, right now, all the figures that we have are not final. They are still being discussed. But we are looking at for 2012 investment program is roughly $1 billion to $1.1 billion, and the main attention will be paid to our chief projects, the universal rolling mill and the Elga project.
Actually, here we exercise two approaches, one of them is the revision of the investment plan and all the secondary projects for the Company were postponed 'til the middle of 2012. They haven't been cancelled, but they were postponed by six months.
And the second approach that we used is cost optimization. In case of the universal mill, we have reviewed the technology and it will allow us to save in terms of our CapEx there.
And in Elga we are actively doing construction using our own label, our own means and forces, we have established a Company, [Metallurgshachtspectzstroy], that will us to reduce the involvement of contractors and subcontractors.
As to how much we will need to fully finance these projects, you know that the universal rolling mill project must be completed in 2012. And the total investment that will go into the project is about $300 million.
As to Elga, it's really difficult to say now because it's a multi-staged project. And our estimate for the first stage, for the first phase of the Elga project was $2.8 billion. As of the beginning of 2011, $720 million have been already invested into the project. By the end of 2012, we expect that it will be around $750 million/$780 million.
In 2012, we plan to invest into Elga around RUB10 billion to RUB15 billion, which is about $450 million/$500 million. And we expect that investment into Elga in 2013 will be at the same level, more or less, as was in 2012 -- or as will have been in 2012.
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Vladislav Zlenko, Mechel OAO - Director of IR [22]
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Next question, please.
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Operator [23]
------------------------------
Vasily Kuligin, Renaissance Capital.
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Vasily Kuligin, Renaissance Capital - Analyst [24]
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(interpreted) The first one is about the Elga deposit. How much coal do you expect to mine there in 2012 and 2013? And you have told us about the washing plant, will it be started in the first quarter next year?
The second question is about Vanino Port. When do you expect to announce construction there? And what is the expected CapEx into this project?
Question three is related to the falling EBITDA in the mining complex. What are the main factors? What are the main assets that are contributing to this decline?
And question four refers to Yakutugol and its recovering production. Is it already running at full capacity?
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Vladislav Zlenko, Mechel OAO - Director of IR [25]
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Oleg Korzhov will answer the questions.
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [26]
------------------------------
(interpreted) I'll start with the last , because it's the easiest one to answer. The washing plant there was running at full capacity since July so it has been operating in the last six months, no problems.
Now, to your first question about expected production of coal at Elga in 2012 and '13, we have made these announcements previously, and we still stick to them. We expect to mine up to 2 million tonnes at Elga in 2012; up to 3 million tonnes in 2013; up to 6 million in 2014; and so on, and so forth. These are the same plans that we announced in the past, and we are on track. We believe that they will be realized.
To answer your question about the washing plant, again, we only have to repeat the plan what we announced previously. In the middle of 2011, we entered into a contract for the delivery of equipment for this site. Right now, the design of the infrastructure has been completed.
In autumn, we build a schedule for construction work there. In December, we started the work on the foundations. In the first quarter, we expect the shipment of the equipment and the assembly of this equipment on site. And in the second quarter of 2012, the washing plant should be put to its capacity. The design capacity is 1 million tonnes a year -- sorry, it's 3 million tonnes.
About the Vanino Port, right now there is work going on on the feasibility studies, there are no cost estimates. And we believe that all this preparatory work will be finished around the first or second quarter of 2012, and we will decide on the future of this project in the second quarter of 2012.
As to the EBITDA -- falling EBITDA in the mining segment, you know that recently in the fourth quarter especially the market was down, especially the market of coking coal. So it's only logical that the EBITDA would be falling, but we can't really say how much it will decline. And besides, it's not the financial policy of our Company to make any forward-looking statements.
Now, as to the differences in EBITDA level in the third and the second quarters, we have seen the most decline in EBITDA for the Southern Kuzbass. In the second quarter, we had to suspend the Chelyabinsk mine. Another contributing asset was the Korshunov mining complex, and our coking plant. But at the same time, EBITDA went up by 25% in Yakutugol, and by 60% at
------------------------------
Vladislav Zlenko, Mechel OAO - Director of IR [27]
------------------------------
We're now ready for the next question, please.
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Operator [28]
------------------------------
Dmitry Kolomytsyn, Morgan Stanley.
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Dmitry Kolomytsyn, Morgan Stanley - Analyst [29]
------------------------------
Just a quick question on your inventories breakdown. I don't know if that question was answered before, but if you could give some breakdown, what the $2.4 billion really consists of, that would be great. Thank you.
------------------------------
Vladislav Zlenko, Mechel OAO - Director of IR [30]
------------------------------
Well, since -- we need some time to check out the data. We'll do it, and in the meanwhile, we'll take the next question please, and then come to this one, after that.
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Operator [31]
------------------------------
Sergey Donskoy, Societe Generale.
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Sergey Donskoy, Societe Generale - Analyst [32]
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(interpreted) Could you please discuss the change in sale prices at Bluestone, in the second and third quarters?
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Vladislav Zlenko, Mechel OAO - Director of IR [33]
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Oleg Korzhov will answer the question.
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [34]
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(interpreted) At Bluestone, in the second quarter, the sale prices were $320/$330 FOB (inaudible) US. In the third quarter, more or less the same level, $310/$320].
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Vladislav Zlenko, Mechel OAO - Director of IR [35]
------------------------------
And now, we're coming back to the previous question. Stanislav Ploshchenko will answer the --
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [36]
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(interpreted) Now, the breakdown for our inventories, as of September 30, 2011, approximately 60% was finished products; 30% feedstock and materials; and 10% work in progress.
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Vladislav Zlenko, Mechel OAO - Director of IR [37]
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We're ready for the next question, please.
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Operator [38]
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(Operator Instructions). Valentina Bogomolova, Uralsib.
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Valentina Bogomolova, Uralsib - Analyst [39]
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(interpreted) On the same subject, about the expected performance in the Steel segment, and the Ferroalloys segment, in the fourth quarter; whether the increase in performance that was achieved in the Steel segment is sustainable? And as to the Ferroalloys segment, there, the costs are going up, while the prices are going down. So what is your vision for quarter 4?
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Vladislav Zlenko, Mechel OAO - Director of IR [40]
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Stanislav Ploshchenko will answer the question.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [41]
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(interpreted) I can only give a general answer to this question, because, of course, we observe the transient pricing, but we will not be able to give you any final figures, at this time.
The pricing environment in the Steel segment has been marked by a downward trend. But things are not as bad as they were in 2008, when the market almost disappeared. Now we have a market, and we are selling 7,000, 8,000 or even 9,000 tonnes through [national] service in Russia alone. The prices are going down, but not dramatically so. And the feedstock prices are going down as well, so these items -- a few items move in parallel.
In the Ferroalloys segment, nickel prices are also down in the fourth quarter, in comparison with the third quarter. But the prices of coke are also going down, although at a slower pace. So the profitability of this segment is expected to shrink somewhat.
And as to the ferrochrome and ferrosilicon, there, the prices and the costs have not changed much in those quarters.
And when I spoke about the 9,000 tonnes that [national] service sells, I meant 9,000 tonnes a day, of course.
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Vladislav Zlenko, Mechel OAO - Director of IR [42]
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We're ready for the next question.
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Operator [43]
------------------------------
Denis Gabrielik, Otkritie.
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Denis Gabrielik, Otkritie - Analyst [44]
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(interpreted) About the CapEx program, one of them is actually a point of clarification. Is my understanding correct that, in 2012, your overall CapEx program will amount to about $1.1 billion? I just wanted to confirm that.
And the second one, what are the projects that you postponed for the next year? Thank you.
------------------------------
Unidentified Company Representative [45]
------------------------------
(interpreted) As to your first question, yes, we confirm that figure, $1 billion to $1.1 billion of investment in 2012.
As to your second question, well actually, it will be very difficult to answer it, because our Company has about 200 projects of different sizes and scales, so probably it would be best if I just listed the ones that we consider to be a priority and that will remain in our investment program.
Those include the universal rolling mill; the Elga project; the reconstruction of the furnace at the Bratsk Ferroalloy plant; the development of the Posiet Port; the Voskhod plant; the second stage of the [Sakharinsky] mine; the grinding and mixing complex; and the development of underground mining at Bluestone.
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Vladislav Zlenko, Mechel OAO - Director of IR [46]
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Next question please.
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Operator [47]
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We currently have no further questions coming through. (Operator Instructions). Erik Danemar, Deutsche Bank.
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Erik Danemar, Deutsche Bank - Analyst [48]
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One question with regards -- if there's been any update with regards to your intention for the Donetsk Electrometallurgical plant; with your strategic intentions there? Thank you.
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Vladislav Zlenko, Mechel OAO - Director of IR [49]
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Stanislav Ploshchenko will answer the question.
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Stanislav Ploshchenko, Mechel OAO - SVP, Finance [50]
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(interpreted) This deal has not been closed yet. We are still very interested in this asset, but the market has changed and that's why we are currently negotiating new terms of acquisition. Before that, the original agreement provided for deferred payments 'til the first quarter of 2014, but now we would like to extend that period.
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Vladislav Zlenko, Mechel OAO - Director of IR [51]
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We're ready for the next question, please.
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Operator [52]
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[Dennis Verr], Prosperity.
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Dennis Verr, Prosperity - Analyst [53]
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(interpreted) Prosperity would like to get a breakdown of coal sales from the three main assets that Mechel has, and also the information about the prices is requested.
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Vladislav Zlenko, Mechel OAO - Director of IR [54]
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Oleg Korzhov will answer the question.
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [55]
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(interpreted) What Mechel suggests is for all interested parties to subtract the cost of transportation from the prices that have been already provided to you in answer to the previous questions. So if we take Yakutugol then shipments to Ukraine, in those shipments, the transportation cost is about $54. The shipments through Posiet have the transport component of about $40. Deliveries from Bluestone, there the transportation cost is about $50.
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Dennis Verr, Prosperity - Analyst [56]
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(spoken in Russian).
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [57]
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(interpreted) Production at the South Kuzbass; the coking coal from South Kuzbass on the FCA basis, second quarter 62,000 -- sorry, these are the prices in rubles, RUB6,200 to RUB6,400 in the second quarter. Third quarter, RUB6,400 to RUB6,500. And the fourth quarter, RUB5,300 to RUB5,500.
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Dennis Verr, Prosperity - Analyst [58]
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(spoken in Russian).
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Oleg Korzhov, Mechel OAO - SVP Business Planning & Analysis [59]
------------------------------
(interpreted) And it will be rather difficult for us to give you the answer to the volumes of sales from different assets, because again, we have several assets, and we also use coal from them and we blend it with coals from other assets. So if you really want to get the answer to this question, then we will need time to prepare and then we will get back to you with the answer.
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Vladislav Zlenko, Mechel OAO - Director of IR [60]
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We are now ready for the next question.
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Operator [61]
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We have got no further questions coming through, so I'll hand it back to your host to wrap up today's call.
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Vladislav Zlenko, Mechel OAO - Director of IR [62]
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Ladies and gentlemen, thank you for taking the time to join Mechel's nine months 2011 financial results conference call today. The replay of the call will be available on Mechel's website. If you have any further questions, please contact the IR office. Thank you again from all the team here. Goodbye.
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Operator [63]
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Ladies and gentlemen, thank you for joining. You may now disconnect your line.
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Editor [64]
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Portions of this transcript that are marked (interpreted) were spoken by an interpreter present on the live call. The interpreter was provided by the Company sponsoring this Event.
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