TEXT-S&P cuts West China Cement to 'B+'; outlook negative
(The following statement was released by the rating agency)
Sept 03 -
-- China-based cement manufacturer WCC's liquidity position has weakened, in our opinion. This may curtail the company's ability to weather challenging conditions as well as to implement its growth strategy.
-- We are lowering our long-term corporate credit rating on WCC to 'B+' from 'BB-'. We are also lowering our issue rating on the company's senior unsecured notes to 'B+' from 'BB-'. At the same time, we are lowering our Greater China regional scale ratings on WCC and the notes to 'cnBB-' from 'cnBB'.
-- The negative outlook reflects our view that WCC's annual sales volume may fall short of our base-case expectation and that the company's debt-to-EBITDA ratio may rise to above 4x and remain there.
On Sept. 3, 2012, Standard & Poor's Ratings Services lowered its long-term corporate credit rating on West China Cement Ltd. (WCC) to 'B+' from 'BB-'. The outlook is negative. We also lowered the issue rating on the China-based cement manufacturer's senior unsecured notes to 'B+' from 'BB-'. At the same time, we lowered our Greater China regional scale long-term rating on WCC and the issue rating on the company's notes to 'cnBB-' from 'cnBB'.
We lowered the rating to reflect our view of WCC's weakened liquidity position, given the company's low cash balance and high short-term debt.
WCC's cash balance fell to Chinese renminbi (RMB) 173 million as of June 30, 2012, from RMB560 million as of Dec. 31, 2011. The decline was mainly due to higher-than-expected cash payments for finalizing the acquisition of Shifeng Cement and for existing capital expansion. WCC has about RMB1.25 billion in short-term debt due within the next 12 months that it needs to continually roll over. We believe that WCC has solid relationships with onshore local banks. The company's track record demonstrates its ability to roll over its short-term working capital loans. Nonetheless, WCC's current liquidity position may require it to cut back its capital expenditure in the second half of 2012 to preserve cash. The company's absence of financial flexibility is no longer consistent with a 'BB-' rating.
In our view, cement prices in Shaanxi province may have hit bottom. WCC's gross margins have been improving since April this year. While we believe that the Shaanxi market is still in the early stages of recovery from a price war, recovery could be bumpy and uneven. We do not expect the company's profit margin to improve materially on a sustainable basis over the next 12 months. We also do not expect its gross margins to return to more than 40%, the level in 2010 and the first half of 2011. Oversupply, uncertain demand, and intense competition remain challenges in the Shaanxi cement market.
Over the past year, WCC's market position has improved. The company's acquisitions of Shifeng and Fuping Cement strengthen its market position in eastern Shaanxi. In addition, lower cement prices in Shaanxi have allowed WCC to gain market share in rural areas from inefficient producers. WCC's good market position has also enabled it to maintain some pricing premium in southern Shaanxi, although higher coal transportation costs somewhat lowered margins. WCC is eligible for certain local government rebates by producing low-grade cement using recycled industrial waste.
In our base case, we expect WCC's average selling price to be about RMB250 per ton in 2012. We have lowered our estimate of the company's sales for 2012 to 14.8 million tons from 15.78 million tons. We anticipate that WCC's financial leverage, as measured by a ratio of total debt to EBITDA, will increase to about 4.1x at the end of 2012. We expect the company's working capital requirements to remain high.
We believe WCC's liquidity is "less than adequate," as defined in our criteria. We expect the company's liquidity sources, including cash and equivalents, to cover its liquidity uses by less than 1x.
We don't view WCC's liquidity as "weak" because we expect the company to roll over its short-term working capital loans as they come due. WCC has a track record of rolling over working capital loans. In addition, the company maintains good relationships with a number of local onshore commercial banks.
Our liquidity assessment incorporates the following expectation and assumptions:
-- Liquidity sources in the next 12 months include cash and equivalents of about RMB173 million as of June 30, 2012, our projection of positive funds from operations of about RMB950 million, and onshore funding sources of about RMB230 million.
-- Liquidity uses include short-term debt of about RMB1,250 million (as of June 30, 2012) maturing in the next 12 months.
-- Liquidity uses also include our projections of working capital requirement of RMB200 million and capital expenditure of about RMB300 million. WCC has the flexibility to defer its capital expenditure.
The negative outlook reflects WCC's low cash balance and the company's need to roll over its high short-term debt due in the next 12 months. The outlook also reflects our expectation that WCC's annual sales volume may fall short of our base-case expectation and that its debt-to-EBITDA ratio may increase to more than 4x and remain there.
We may lower the rating if WCC's liquidity weakens further or the company's financial leverage increases to more than 5x for a prolonged period. This could happen if the operating environment deteriorates, cement prices and demand are weaker than we expect, or WCC's debt-funded capital expenditure is more than we anticipate.
We may revise the outlook to stable if: WCC replenishes its cash balance back to more than RMB400 million and restore its liquidity position to "adequate"; and the company's operating performance improves such that its debt-to-EBITDA ratio remains below 4x.
Related Criteria And Research
-- Methodology And Assumptions: Standard & Poor's Standardized Liquidity Descriptors For Global Corporate Issuers, July 2, 2010
-- Key Credit Factors: Business And Financial Risks In The Global Building Products And Materials Industry, Nov. 19, 2008
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
West China Cement Ltd.
Corporate Credit Rating B+/Negative/-- BB-/Negative/--
Greater China Regional Scale cnBB-/-- cnBB/--
Senior Unsecured B+ BB-
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