'Growth doesn't come as a given' for
Brave is the company that embarks on a game-changing growth plan in today's volatile world. But as other global companies are retrenching, Sao Paulo-based Magnesita is seeking out new ways to expand its business empire. With operations in
The reason is clear, according to Flavio Barbosa, Magnesita chief financial officer (CFO): Self-sufficiency. Unlike many of its rivals, the company is aiming to become more and more vertically integrated, producing a greater portion of the materials it needs to keep costs low and keep a firm grip on supplies.
But there's plenty that needs to happen at home in
An edited transcript of the conversation follows.
Universia Knowledge@Wharton: Brazil's industrial output was recovering only slightly near the end of 2011, and economists have been busy lowering their
Flavio Barbosa: For us, it's been quite an experience because we have very large operations in
Leadership is the word that I like to use. The various European countries are going through different economic cycles and they maybe need different medicines for their symptoms. I think with clear leadership, things would be moving faster and that is what we'd like to see.
We know that it's not something that will be resolved quickly.
Universia Knowledge@Wharton: The
Barbosa:The macro variables seem to be very mixed. We haven't seen a period of consistent improvement in them yet. Now we're experiencing a sort of burst in demand for certain products, and we've been having weeks in which we're beating records in shipments. But we're not 100 percent convinced that it's sustainable. Not all the "cylinders" are clicking at the same time. Unemployment is still very high, which is concerning for us because the ultimate drivers of demand for our products in the supply chain is consumption of capital goods, like cars, which demand a lot of steel and refractory.
Universia Knowledge@Wharton: What's going on with your balance sheet strategy? Have you had to readjust your thinking about your capital structure since the beginning of the downturn?
Barbosa: Absolutely. There was a period when the company was very leveraged and we've been working very hard to bring the leverage down to what we believe is a better level in today's world. Pre-2008, all of the world's economies were pretty much moving in the same direction and there was growth everywhere. You could probably have had a little more aggressive capital structure then. After 2008, there's been a lot more short-term volatility in terms of cash flows. Companies need to work with lower leverage.
At the beginning of last year, we went out and raised more equity and now we're down to two times debt to cash flow. We believe this is a good capital structure because of everything we're seeing with the cyclicality of our sector, with each cycle becoming much more acute and happening much faster.
Now we have some very powerful projects under way for greater vertical integration and greater self-sufficiency in raw materials, which will give us a very good cost structure on a global basis. And there are some very exciting opportunities in industrial minerals, like the graphite used in electric vehicles and alkaline batteries. We believe our capital structure lets us make these investments in an accelerated way and deliver long-term shareholder value growth, even as it becomes more challenging for companies to find the right path for long-term shareholder value growth.
Universia Knowledge@Wharton: Other CFOs are saying that companies can no longer assume that they will achieve pre-2008 levels of growth. Is that your feeling as well?
Barbosa: We're not seeing the same type of growth opportunities in the near term that we once saw. Now growth doesn't come as a given at a macro level. You really have to find a niche where you can have real competitive advantage.
We have a very aggressive target. We want to grow at double the
Our goal is to become the largest and most profitable player in the refractory market globally. To become the largest, it will take organic growth through the initiatives I've just mentioned, but at some point in time, it will also need consolidation and acquisitions. More and more, companies are finding that organic growth is expensive and a long cycle now that the world is growing more slowly. We're even seeing companies paying very high multiples to grow. M&A has become almost a necessity in the world today.
But it is a different game. In most economies -- in
Universia Knowledge@Wharton: Where does Magnesita's focus on self-sufficiency fit in?
Barbosa: Today, we are 70 percent self-sufficient in terms of meeting our raw materials needs. Our goal is to become 90 percent self-sufficient over the next two to three years. We've outlined two projects that will take us to between 80 percent and 85 percent. One is in expanding our facility that mines high-quality magnesite sinter. The other is the development of our graphite deposits. That project is an interesting one because graphite prices went up 130 percent to 150 percent over the last two years, and 90 percent of the refractory solutions we produce need graphite.
We started the project looking at our refractory strategy, and feasibility studies made us realize that there was a huge opportunity to develop a new business and become a relevant producer of graphite. There is a supply and demand imbalance in graphite today, driven by an accelerated demand curve in electronics. The more people want to carry energy around with them in cell phones, the more graphite the world needs. And the best technologies for electric vehicle batteries today use a lot of graphite.
So we looked further into it and also realized that electric vehicles, which are not yet at the mass production and rollout stage, may be getting very close to an inflection point. Most analysts believe that in two or three years, we're going to see a much higher sell-through of electric vehicles. Then the demand for graphite will grow very fast. One electric vehicle demands on average 20 kilos of graphite.
We started with a 40,000-ton-a-year project to achieve self-sufficiency and now we're looking up to 100,000 tons a year in order to become one of the largest producers of graphite. It's interesting that the Chinese dominate large supplies of graphite. Similar to rare earth, they decided to reduce their graphite exports to the rest of the world because they realize how strategic it is.
Chinahas many initiatives to reduce pollution levels in their big cities and they believe electric vehicles would be a good way to get there. Since they've moved a lot of the industries far from the big cities, a lot of the pollution in the big cities is due to the increasing rate of penetration of vehicles. They want to push the penetration of electric vehicles very hard. Technology already allows for electric vehicles to travel 50 kilometers to 60 kilometers a day before their batteries needed recharging. It's already a reality in terms of technology. Now it's a question of cost. Today, half the cost of an electric vehicle is the battery.
Universia Knowledge@Wharton: What would assure you that Magnesita's graphite strategy is on track?
Barbosa: In the short term, it's very important for us to get the first stage of 40,000 tons done. The main challenge there is that we really accelerate the process of getting the environmental license. Environmental licenses in Brazil are harder and harder to obtain. I respect that. That it is the right approach. Fortunately, our project is in an area of Brazil that is almost like a desert so the environmental impact is very minimal and we're very confident that we'll obtain the license. It's now a question of timing and going through the process. In Brazil, there are so many mining projects that the system to analyze all of them is a little overloaded.
Putting the first 40,000 tons into production will give a lot of assurances to the market and potential partners that have approached us, like battery manufacturers looking for graphite outside China. They are concerned about China's attitude and not really being a reliable graphite supplier. A number of Japanese and Korean players that have very good technologies are resisting putting plants in China and are looking for good supply chains outside the country to avoid having to bring their technology into China. Getting a license would give us a lot of credibility to go to the next phase of expansion and become a real force in this very exciting industry.
Universia Knowledge@Wharton: Taking a look at you and your finance team, what needs to happen to achieve that goal?
Barbosa: The most important piece of what we need to do is continue to focus on return on capital. More and more, investors are looking for companies that have a consistently high return on capital. To become the largest player in our sector, we need to have a strong "currency" -- our mineral reserves -- because at some point, we will need to be part of an industry consolidation. It's very hard to become the largest today by simply growing organically.
This industry is very fragmented, predominantly with players that are not vertical. It's very easy for us to look at a company and see great potential and synergies in terms of cost savings by bringing in our own minerals versus having to buy from the market. But if we need to use our other "currency" -- our shares -- for large acquisitions, I've been pushing our team and
Universia Knowledge@Wharton: Is being a CFO in Brazil specifically, and Latin America generally, today much different than a few years ago?
Barbosa: It is very different than just a few years ago. The capital markets in Brazil are much more stable, more developed than when I started my career a few years ago. The sophistication of the banking solutions for companies in Brazil is almost on par with those for companies in developed markets.
Brazilhas great access to dollar funding if we want it, with channels that are appropriate for us, and an advantage of very strong commitment from the government to support our development. We are financing a number of our mining projects here with the Brazil development bank. In our case, Brazil is the best place for us to be based to manage the company globally.
Universia Knowledge@Wharton: Is your role as CFO just as international as it would be if you were in the U.S. or Europe?
Barbosa: I probably spend half of my time outside Brazil. I'll be in China next week, and the U.S. the week after that. We treat global opportunities as seriously [as anyone else]. We're looking at the big countries, but we're also expanding in Middle Eastern countries, like Turkey and Egypt, and a number of other countries in Asia, like Korea. They may not be on the radar of other companies but we have enough reach and "brain power" to spread ourselves around the four continents.
CFOs are being tasked more and more with investor relations and media relations. I would say I spend at least 20 percent to 30 percent of my time talking with investors and equity analysts, trying to pass on a clear message of what our strategy is. Probably 30 percent of my time is spent on long-term growth. That involves being very close to the operating team, developing joint ventures and analyzing new markets to understand where steel is going to grow and where we should stake our next flag. The other 40 percent of my time is looking inward, at monthly performance and the reporting cycle, which is somewhat related to investor relations.
Our quarterly results have become a very important way to communicate to the market, as it signals both our short-term and long-term performance. So I try to spend quite a bit of time being transparent and having a very clear communication strategy about what is happening at the company and where it is going.
Another part of creating shareholder value is by developing a wide shareholder base. Today, more than 30 percent of our shareholder base is made up of international investors, from around 15 percent two years ago. We've done a good job in engaging international investors in our business plan.
Finding the right investor mix is also important, and having value investors who understand our strategy -- especially in mining, where the cycles of project maturation tend to be longer. We need to find investors who can ride the cycle with us and understand how we can unlock value.
Universia Knowledge@Wharton: What are your priorities in 2012?
Barbosa: We still have to focus a lot on the execution of our mining projects. That's number one. The first part should be completed in March. I am somewhat involved in that because it is a transformation of our cost structure. The second part is really communicating the value creation opportunity of our minerals strategy to the market. Today, we do not think the market is giving us credit for that part of value creation. So a priority is making sure we have good information to share with the market in terms of the potential of the projects, getting the market comfortable with the roadblocks we may have in terms of obtaining licenses and all that. We still have a little bit of capital structure to work on this year in terms of adjusting our mix of currencies.
Ultimately, we need to generate cash this year. Even though we have some large capital expenditures related to the projects, there is a great opportunity to reduce working capital a little bit more. We did a great job last year, getting a higher return on capital, and reducing working capital is one way of getting there and increasing profitability. We'll be inward focused, getting employees closer to the operating side in the region focusing on opportunities to bring down working capital, by at least another 15 days in our cash conversion cycle.
There is one priority that is a little bit "softer," but one that I've been working very hard on -- developing a culture of ownership so that our managers act more like owners and understand concepts like return on capital. We're doing that by equipping out teams with visibility on everything that they do to run their business and how much capital they're using, and giving them direction about how they can adjust capital and profitability to get to the targets that we have. Sometimes you look at business opportunities that have great profit margins but they also require a lot of capital, while you have other opportunities with low profit margins but require very little capital so that they actually create more shareholder value.
Universia Knowledge@Wharton: Other companies are saying that getting the "brain power" they need is tough in Latin America and that there is a skills shortage. Is that what you're finding?
Barbosa:It is very tight in Brazil. But what has been interesting is that a number of young, U.S.-educated professionals are looking at the BRIC [Brazil, Russia, India and China] countries and other growth markets in a different light to even when I did my MBA in the 1990s. A number of professionals realize that there are great opportunities for their careers in countries like Brazil, Russia, India and China.
Magnesita has a great global trainee program, which we put in place last year to look for outstanding university graduates. We have a few in China, Europe, the U.S. and Brazil. We're now launching the second year of the program. It's amazing to see how well prepared the undergraduate students are that we've been getting, how multilingual they are, how prepared they are to really succeed in a global world. It's refreshing to see.
We haven't had a problem with human capital. It's something we've been able to manage. But it takes a true commitment and real investment to develop selection programs and reach out to the pools of talent. You can find them but you have to work hard at it.
Universia Knowledge@Wharton: You began your career in Brazil as an electrical engineer, before spending a number of years in banking in the U.S. and then returning home and back to industry. What lies ahead for you?
Barbosa: I'd like to believe I could be
Republished with permission from http://www.knowledge.wharton.upenn.edu -- the online research and business analysis journal of the Wharton School of the University of Pennsylvania