Nine Months 2014 Mechel OAO Earnings Call (US GAAP)

Dec 09, 2014 AM EST
MTLR.MZ - Mechel PAO
Nine Months 2014 Mechel OAO Earnings Call (US GAAP)
Dec 09, 2014 / 03:00PM GMT 

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Corporate Participants
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   * Operator
   *  Alexey Lukashov
      Mechel OAO - Deputy Director, IR
   *  Oleg Korzhov
      Mechel OAO - CEO
   *  Andrey Slivchenko
      Mechel OAO - CFO

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Conference Call Participants
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   *  Dmitry Glushakov
      Alfa Bank - Analyst
   *  Irina Trigub
      Raiffeisen Bank - Analyst
   *  Alexander Sychev
      Societe Generale - Analyst
   *  Nitesh Agarwal
      Citigroup - Analyst

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Presentation
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Operator   [1]
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 Please go ahead.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, 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 month 2014 results, which were reported today.

 With us from management today are Mr. Oleg Korzhov, Mechel's CEO, and Mr. Andrey Slivchenko, Mechel's CFO. 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 US Private Securities Litigation Reform Act of 1995.

 We 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 US 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 measures to the most directly comparable US GAAP financial measures are contained in the earnings press release, which is available on our website at www.mechel.com.

 At this point, I would like to turn the call over to Mechel's CEO. Mr. Korzhov, please go ahead.

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 Oleg Korzhov,  Mechel OAO - CEO   [3]
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 (interpreted) Good afternoon and good morning, dear ladies and gentlemen. We are very happy to welcome you at this conference call by the company covering the results of nine months of 2014.

 Our consolidated revenue was $5 billion. The consolidated EBITDA was $470 million.

 The overall market environment, with changes since last year, a strong decline in prices for our core products, makes me try and pay more attention to the third quarter rather than the nine months of the year.

 And looking at the results of the quarter, the group showed a slight decline in terms of revenue. But, the efficiency of our operations have improved. The adjusted operational profit in the third quarter grew by 161%, EBITDA by 28%. Profitability and EBITDA throughout the whole group improved by 4%, reaching 14% overall.

 A considerable contribution into the quarter results came from the steelmakers. The division shot up, having grown the EBITDA by 80% quarter-on-quarter, having shown the maximum level of profitability throughout its history.

 The operational profit grew almost threefold. And of course a major contribution came from the declining prices for inputs and a favorable environment in the steel product market.

 Nevertheless, it would not be correct to explain these dynamics solely through the external factors. Considerable contribution into the results of the steel division came from the steps undertaken to optimize its activities as part of the corporate strategy development which was endorsed by the Board of Directors in May 2012.

 Amongst measures undertaken, we took out of the division structure ineffective operations. We gave up inefficient sales of the products from third party producers, introduced changes into the system of planning and sales and marketing, expanded the shares of products with high added value.

 Specifically, this year we have already sold in excess of 100,000 tonnes of the rail product from the Chelyabinsk rail steel mill. And the fact that we are moving in the right direction is being confirmed by the good financial performance of the division.

 The mining division didn't show the kind of growth that the steelmaking division did. But, even against the current market and the minimum price, it was able to maintain profitability and EBITDA at a stable level quarter-on-quarter.

 The division continues to remain our core export operator, trying to recover the amounts of output which went down after the Bluestone was put on hold through an active expansion of production at the Elga deposit.

 Considering the year-end results, this mine will produce about 1,200,000 tonnes of coal. Its processing currently will be a continuous one throughout the full year after a successful completion of winterization of the beneficiation plant.

 And it is necessary to note that, through the achieved amounts of output, the Elga mine has already demonstrated a cost per tonne of product at the level of the Yakutugol, or Yakut Coal.

 The global market of the steel coal in third quarter showed stabilization. The quarterly benchmark stayed at the level of the previous quarter at about $120.00 FOB Australia for the hard coking coal of premium quality. The prices in the domestic market practically stayed unchanged.

 The prices in the global market for the iron ore product continued to fall down under the burden of the excessive supply and the slowdown of the Chinese economic development, which is the main consumer of the iron ore product.

 By the end of the quarter, they reached minimum levels after the global crisis of 2009, at a level of about $78.00 per the iron ore products CIF China.

 (Inaudible -- technical difficulties) and was brought about by the growing demand on the part of the builders, investment into the main capital, and the growing mortgage financing during the previous quarter.

 As the result of the growing consumption in the market, we are watching a positive price environment, despite the competition becoming stronger through the new projects being developed for the production of the assorted steel for construction purposes which were launched into operation last year, which enabled our steel division to load up its capacity to the maximum and produce the product which is most sought after in the market.

 Despite all the positive achievements, the operations within the company do feel the shortage of working capital, encountering the problem of a shortage of funding.

 Thanks to the ruble devaluation, our debt went down by 9% during Q3. However, servicing this debt is still a problem for the company, even despite the backdrop of a better financial performance. So, this is, in short, what happened in the company during the past period.

 And now I would like to pass the microphone over to our Finance VP, Andrey Slivchenko, who will tell us more about the company's financial performance in between the segments of our business. And thank you very much for your attention.

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 Andrey Slivchenko,  Mechel OAO - CFO   [4]
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 Ladies and gentlemen, good evening, good afternoon, and good morning. Thank you for joining us today. There have been a few developments in the third quarter of this year I would like to draw your attention to.

 First, we have seen further increase in the profitability in the third quarter. The EBITDA reached $220 million, which accounted to a 28% increase from the previous quarter regardless of the decrease in revenues by 9%, and exceeded average 2013 level by about 22%.

 Out of $1.6 billion in revenues in the third quarter, 33% came from exports, with more than 70% contributed by the mining segment.

 The steel segment started to contribute more in 2014 to the group's EBITDA, 46% in nine months of 2014 compared to 29% in nine months of 2013.

 EBITDA margin doubled from the third quarter to -- from the second quarter, reaching 14%.

 Sales volumes in Q3 dropped both in steel and mining segments, which was the major factor for a profit decrease in the mining sector and did not allow the steel segment to have a higher result.

 Besides, low prices on coal and efficient financing of both segments led to reduced shipments and sales.

 Consolidated EBITDA for nine months of 2014 amounted to $470 million, with the EBITDA margin up to 9.3% from 8.9% a year ago.

 Gross margin increased to 37% in the third quarter. For the nine months of 2014, it grew from 30.5% to 35% year-on-year basis, as a result of higher marginal products in the steel segment and decreased costs of raws across the product range.

 Further, we saw additional effects on the currency devaluation on the costs, which will be more of an issue in the fourth quarter.

 The group realized operating income of $79 million for nine months of 2014, up from a loss of $596 million for nine months of 2013. If release of accruals for doubtful accounts, allowances, and tax provisions for previous years, adjusted operating income would amount to $124 million versus $216 million last year.

 Net loss for the nine months of 2014 amounted to $1.2 billion, a decrease of almost 46% as compared to the same period last year. The major pressure on the group's income was from the revaluation of the dollar and euro denominated debt, which contributed $734 million for the nine months, of which more than $550 million emerged in the third quarter.

 Adjusted net loss, less non-cash accruals attributable to the previous years, would amount to $321 million versus $329 million last year.

 Net debt as of the end of the third quarter amounted to $8.1 billion, down 9% over the quarter. It further decreased to $7.3 billion as of the beginning of December due to the devaluation of the Russian ruble.

 In the second quarter of 2014, we approached our major lenders with a restructure request. And afterwards, we requested other lenders to suspend the current repayments of principal and decrease the payments of interest until a global agreement on restructuring is reached between the company and its creditors.

 So, no repayments of principal have been made since the midyear except for servicing of the public debt. Thus, the decrease in the debt position was mainly due to the current depreciation.

 Reduced financial activities helped the company improve its cash standing and decrease its trade working capital only by another $175 million, resulting in minus $120 million of trade working capital by the end of the period.

 Thank you for your attention, and welcome with your questions.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [5]
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 Thank you. We will now take questions. We would ask the participants to please state their name and the company before asking their question, and to allow some time after for translation. Thank you.

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Questions and Answers
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Operator   [1]
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 (Operator instructions.) Dmitry Glushakov, Alfa Bank.

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 Dmitry Glushakov,  Alfa Bank - Analyst   [2]
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 (interpreted) The question is about the costs. And respectively, have you calculated what was the way that the ruble devaluation may have affected or will affect the general group or the separate divisions of the group during the fourth quarter?

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [3]
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 Thank you. The question will be answered by Oleg Korzhov.

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 Oleg Korzhov,  Mechel OAO - CEO   [4]
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 (interpreted) So, as far as the revenue and expenses are concerned, I shall explain in terms of the way the US dollar exchange rate affects us.

 So, the revenue of the company in dollar denomination by month is about $110 million, $120 million. This is the amount of our export revenue from the sale of our products.

 Now, if we take a look at the costs, then the company doesn't have too many other costs which are denominated in US dollars. Primarily this is the interest which we are paying to the banks. That amounts to about $110 million a month.

 By about -- or about $15 million of this is the input, the raw materials, primarily the iron ore coming from the Sivaglinskoye supplies, and approximately RUB11 million that we are paying for freighting. So, there is still some additional cost for ferroalloys which is also collating to the US dollar exchange rate of no material value.

 So, in totality, against the $120 million in revenue, we have got about $40 million, $45 million of costs denominated in US dollars. So, if we take that apart, all the rest should be considered as the additional revenue for the company coming from the devaluation of the ruble.

 Depending upon the currency rate, you may estimate what is the profitability of the company out of the exchange rate fluctuation.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [5]
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 Okay. Next question, please?

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Operator   [6]
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 Irina Trigub, Raiffeisen Bank.

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 Irina Trigub,  Raiffeisen Bank - Analyst   [7]
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 (interpreted) So, several questions. The first one is naturally about the company's debt. Looking at slide number 15, which is amongst the pages of your presentation, you are showing quite a -- in excess of $2 billion of debt outstanding. Could you please tell us what is the plan that the company has to refinance this debt, and when Mechel can be expected to reach some sort of an agreement with its lender banks? So, this was the first question.

 Now, the second question, could you prompt us and tell what is the level of CapEx that you are planning to have by the end of 2014 and specifically for Q4, and if possible also give us the figures for your 2015 capital expenditures?

 And the third question, does Mechel intend to sell any additional assets? And what is it going to do with its Ukrainian asset, which is the Donetsk Electrometallurgical Plant, the Bluestone, and any possible divestures that you are planning for 2015?

 And the last question, how much Mechel is planning to produce from its new rail manufacturing facility in 2015? Thank you.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [8]
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 Thank you. The first question will be answered by Andrey Slivchenko.

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 Andrey Slivchenko,  Mechel OAO - CFO   [9]
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 (interpreted) As we mentioned recently, we are reaching agreements with smaller lenders about the restructuring of our debt. We have restructured our debt in leasing operations with VTB Leasing.

 We reached an agreement in the recent past with Uralsib Bank. We are in the process of reaching the final agreements with the Moscow Credit Bank and the Bank of China.

 And in as far as the banks are concerned which are part of the pre-export finance syndicate, we have put together a working group. The banks are meeting us halfway.

 We haven't yet achieved a final preliminary agreement. However, we have initiated the dialogue about restructuring our debt within this syndicated instrument.

 The key element in this restructuring process is undoubtedly the agreement to be reached with the banks with the government participation in them. Almost one of these days we have been able to arrive with Gazprom Bank at a compromise option for restructuring our debt. And we submitted this agreement, a draft of this agreement, to Sberbank and VTB for their subsequent clearance.

 At this point in time, it is difficult to be precise about the exact timing. But, I do feel that in some near future we will be able to achieve an agreement about restructuring with all of the banks mentioned.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [10]
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 The next question will be answered by Oleg Korzhov.

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 Oleg Korzhov,  Mechel OAO - CEO   [11]
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 (interpreted) And I will start by the order of appearance, and first is about our cost for capital construction and investing into capital construction.

 So, if we take apart our Elga project, which as you know is being funded under the project finance arrangement, then the cost to maintain our investment in 2014 will amount to approximately $100 million, approximately $25 million per every quarter, a similar situation we envisage to be in Q4, where we plan that the cost would amount to about $25 million.

 As we used to mention previously, we have practically put on hold all of the investment project and all of the allocations, except the ones which are intended to maintain the operations and the acquisition of the equipment which is intended to substitute the worn and torn one, as well as the ability to bring down the cable.

 Now, in terms of the similar plans for next year, we are not planning any considerable increase. As we used to say in the past, we have minimized all of the costs related to our investment activity. So, we shall just remain at the cost to maintain our operational position.

 And depending upon the kind of cash flow that we will have next year and the budget that we endorse, these levels will remain in the range of $100 million to $150 million a year.

 Answering the second question, which is about the universal rolling mill, in 2014 we plan that the amount of production would amount to 120,000, 125,000 tonnes, out of which approximately 100,000, 115,000, maybe even 120,000 tonnes will be the construction steel, and about 10,000 to 11,000 tonnes will be rail.

 For next year, we are planning to significantly increase the amount of production at this facility. And so, I think that the overall output would amount to approximately 350,000 tonnes next year.

 We currently are undertaking a very serious effort, together with Danieli Company, to expand our construction steel at the mill. And as of April next year, we are planning to considerably expand the offering and, through that, considerably expand the amount of production.

 Now, as far as the certification of our rail products are concerned, we are doing this work according to the preplanned schedule. Right now we have already done the preliminary tests and the larger test in the Railroad Research Institute. So, the first shipment of rail was already installed at the experimental rail link.

 And so, the tests are going to start which would shoo demand to about 150 million gross kilometers, which is the requirement of the railroad company. And so, the plan is to complete it by the end of the second quarter next year.

 And after the tests are completed, we are expecting that the certificate will be issued to our first shipment. And as of that period, we will be planning to start shipping our rails to the Russian railroad company on a regular basis.

 And now, as far as the third question about the sale of our assets is concerned, as we have previously stated the second stage of our divestiture program is where we are looking at the possibility of selling the following assets; Kuzbass Marketing and Sales Company, the American Bluestone company, Donetsk Electrometallurgical Plant, and [Moscox], which are the facilities which are currently being actively considered and discussed.

 And we have an understanding and we have various bids that we received so far. The most advanced in terms of the sale is Bratsk ferroalloy plant and Kuzbass Marketing and Sales Company, which have almost reached a homestretch in terms of the sale.

 As far as Bluestone is concerned, we have done a lot of preparatory work. And as of today, we have a number of commercial bids for the acquisition of this asset from third parties.

 We are in an active discussion with these potential buyers in as far as the price and the settlement principles are concerned. So, we are planning that in the nearest future we will be also reaching a sort of homestretch frame.

 As far as the Donetsk Electrometallurgical Plant is concerned, the situation is not a straightforward one. You know that we have stopped this operation because of the economics.

 And so, to speak today about relaunching its operation again is a bit of a problem and is wrought with challenges because of economic considerations. And the sale of this asset is also meeting with difficulties.

 Unfortunately, the economic and political environment there doesn't make it possible for us to bring in a buyer either to start working at that facility or continue looking simply for a potential acquirer for this asset.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [12]
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 Thank you. The next question, please?

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Operator   [13]
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 Alexander Sychev, Societe Generale.

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 Alexander Sychev,  Societe Generale - Analyst   [14]
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 (interpreted) Several questions in this one. The first is, what is the volume of reserves that you were able to sell during this quarter?

 The second is about the South Kuzbass. And specifically, the production of coal at South Kuzbass reached the minimal level during the past three years. What is the reason behind it and what are the plans that you are having for Q4 this year and 2015?

 The third question is about Elga, how much coal you sold during Q3 and what was the mix in between the coking coal and steam coal. And the average sale price, what was it?

 And the last question, could you explain why, in one of the slides in your presentation, for a second quarter in a row the average coking coal sale price is not less than the PCI anthracite coal price? Thank you.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [15]
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 This question will be answered by Oleg Korzhov.

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 Oleg Korzhov,  Mechel OAO - CEO   [16]
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 (interpreted) Well, sorry if I'm going to miss some of the bits of your questions, and I would be asking you to kindly repeat if there is something I missed in making notes on my side.

 So, as far as the amount of production and shipping from the South Kuzbass coals in Q4, we are planning that the volume of production and shipment in the fourth quarter would equal the third quarter. Principally there are not going to be any changes.

 Now, if we compare the volumes of production in between 2014 and 2013, it is true that, in as far as the shipments are concerned, there is a bit of a decline. Last year we shipped to our consumers 22,700,000 tonnes of product. This year we are planning to reach the level of 21-some million tonnes.

 The deviation of 1,600,000 tonnes comes from several factors. The first was Bluestone, about 1,700,000 tonnes of shipment that we didn't do this year. We added Elga in our overall shipments for about 800,000 to 1 million tonnes for the year. But, we also have the negative of 600,000 tonnes in South Kuzbass, whereby Yakutugol continues to maintain the same levels as last year.

 As far as the South Kuzbass is concerned, there are several reasons as to why the shipment volumes went down. One of the basic reasons is because [Olzherassk] mine this year had to go through the reassembly of the lathe. And so, we didn't do any work there.

 On top of it, I should say that the funding issues with financing the operation of our mining division, because of the working capital difficulties, do affect our overall operational efficiency.

 And that basically were the reasons of the H1, where we had to keep up with all of our financial obligations with the bank. And so, we had to bring working capital sufficiently down. So, that is a reflection of a situation whereby, in a number of assets where we had to incur maximum expense because of the stripping that we have to do, we had to go through this problematic period.

 But, as far as 2015 is concerned, we have planned that the volumes' outlook will be at the level of 2014. We do not envisage any prerequisites for them to go down.

 In April, we are planning to relaunch the [Olzherasskian] mine. And that would give us an additional volume of production. Additionally, we also plan to grow our output from Elga as well as add its volumes to the overall shipments.

 And as far as the question is concerned about the changes in the reserve statistics that we would bring into our operations during Q3, as far as the stock of steel products in our warehouses, the situation didn't change.

 We basically entered into the third quarter and exited from it with the same level of stock as far as the coal products are concerned. In terms of the stock levels maintained at our warehouses, they went down by approximately 700,000 tonnes.

 And now I will try and answer the question about Elga, in as far as I was able to note it down. The volumes of production at Elga during Q3 were 520,000 tonnes, the shipment volumes, bearing in mind the volumes processed by the plant, 317,000 tonnes, and the 105,000 tonnes coking G grade concentrate, and the balance was the energy and steam coals.

 And as far as the price for the Elga coal is concerned, the coking concentrate was sold during Q3 at the price of approximately $70.00, $75.00 VCA, FCA. The energy coals were sold approximately at the price of $20.00, $25.00 on the same basis.

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 Alexander Sychev,  Societe Generale - Analyst   [17]
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 (interpreted) Now, this is the repeat of the question which was seemingly missed in the overall responses. So, the question was about the fact that slide number five shows that, during the second quarter and the current quarter, the coking coal prices were lower than the anthracite and the brown coal prices. The question is why is that so.

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 Oleg Korzhov,  Mechel OAO - CEO   [18]
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 (interpreted) Sorry for this slight delay. We have now found exactly the slide that you are referring to.

 So, let me explain that in Q3 -- and let me begin by saying that the coking coal concentrate prices haven't really changed in Q3. They were effectively the same as during the second quarter.

 Now, the price changes as far as the anthracite and the PCI grade coals are concerned happened because of the shipments we did during the third quarter to Ukraine. And that is -- I mean, during the third quarter, the prices considerably went up, as a result of which the average price become higher than the coking concentrate prices.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [19]
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 The next question, please?

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Operator   [20]
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 (Operator instructions.) Nitesh Agarwal, Citigroup.

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 Nitesh Agarwal,  Citigroup - Analyst   [21]
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 Hi. Thanks for the presentation. This is Nitesh from Citi. I just wanted to confirm on your net debt situation at the beginning of December. What was the approximate net debt including financial lease liabilities at the beginning of December? Thank you.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [22]
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 Could you please repeat the question? The connection is not very good.

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 Nitesh Agarwal,  Citigroup - Analyst   [23]
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 Yes. My question is what was the approximate net debt including financial lease liabilities at the beginning of December? Thank you.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [24]
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 The question will be answered by Andrey Slivchenko.

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 Andrey Slivchenko,  Mechel OAO - CFO   [25]
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 (interpreted) The net debt amount is $7.3 billion, which is the figure that we are registering in the beginning of December.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [26]
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 Next question, please?

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Operator   [27]
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 We have no more questions. (Operator instructions.) There are no question in the queue.

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 Alexey Lukashov,  Mechel OAO - Deputy Director, IR   [28]
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 Ladies and gentlemen, thank you for taking the time to join Mechel's nine month 2014 financial results conference call today. The replay of this call will be available on Mechel's website.

 If you have any further questions, please contact the Investor Relations office. Thank you again from all the team here.

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Operator   [29]
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 That will conclude today's conference call. Thank you for your participation, ladies and gentlemen. You may now disconnect.




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