Vallourec - Boring as planned

All,

Please find our model here. 

Vallourec is moving out of our sphere with the bonds call constrained and the Company heading towards an investment grade rating. Vallourec continues to outperform our model and despite the increase in Working Capital (inventory for future orders), the business is in a strong position. The decision facing management is whether to refinance the 8.5% coupon bonds when they become callable in June or to wait until the Company has achieved Investment Grade status. The Company are holding a Capital Markets Day in September which may indicate they won’t refinance them at the earliest point, but we maintain 8.5% is too expensive for a Company likely to be less than 1.0x leveraged during FY23.

Investment Considerations:

- We still hold our 5% long position we took in October at 94%, but will be recycling this position in the near term for something more interesting. Whether or not management chose to refinance the bond this summer or once the IG rating comes, depends on management’s views of the future and how great a risk they are receiving from holding out for longer. For the record, we would wait. Vallourec continues to deleverage and despite no improvement in the permitted production rates in the mine, we envisage further deleveraging this year. 

- Vallourec continues to rationalise its operations, putting “New Vallourec” on track in respect of redundancies agreed in Germany, France and the UK. Vallourec has signed a sales contract for their smaller site in Germany (c.€40m proceeds) and the other site remains an ongoing process. All European social plan agreements (redundancies) have been finalised in FY22. With no upcoming maturities until June 2026, Vallourec remains a stable boring credit.

Working Capital:

- Working Capital expanded by c.€400m year over year, all accounted for in Inventory, which is driven by an increase in raw material and finished good prices. Net Receivables/Payables have remained relatively flat over the year. 

- This outflow is unlikely to be reversed in FY23 but should be near flat. Vallourec management was reluctant to guide as it will be influenced by the timing of mine production. 

The Mine:

- Civil works related to the restoration of the core Cachoeirinha pile have finished and the reinforced structure remained intact during the rainy season. The Company are awaiting the outcome of the request to release the core pile and resume full production post-approval, assumed for the beginning of Q2 (first month after release about 80% capacity utilisation, thereafter 100%). This is broadly in line with previous plans and will further boost EBITDA for FY23. 

- Current production is limited to c. 55% capacity or c. 1.4mt per quarter, versus normal production of 2.2mt per quarter, which is planned for Q3 and Q4. 

Going Forward:

- Due to Vallourec’s trajectory back to investment grade, we are unlikely to maintain our model. We are maintaining our position and will monitor the name going forward, but we fully expect interest to wane in this name. The current market capitalisation should give significant comfort to credit investors, with credit investors whose only concern is the call risk now on the name. 

Happy to discuss.

Tomás

E: tmannion@sarria.co.uk
T: +44 20 3744 7009
www.sarria.co.uk