(Repeat for additional subscribers)
April 4 (The following statement was released by the rating agency)
Fitch Ratings has downgraded China-based Yanzhou Coal Mining Company Limited's
(Yancoal) Long-Term Issuer Default Rating (IDR) to 'BB+' from 'BBB-'. The Outlook is Stable.
Fitch has also downgraded the rating on the dual tranche USD1bn notes issued by
Yancoal International Resources Development Co., Limited and guaranteed by
Yancoal, to 'BB+' from 'BBB-'.
Fitch revised Yancoal's Outlook to Negative from Stable in May 2013 to reflect
the company's weakened credit metrics due to the deteriorating coal market
conditions since 3Q12. Today's downgrade of Yancoal's ratings stems from our
view that coal prices will remain subdued for an extended period and Yancoal's
ability to further curtail operating costs is limited. Furthermore, the proposed
changes to coal resource taxes in China may have additional negative
implications on margins. These factors will result in weak credit metrics over
the next 24 months, although we expect Yancoal to generate positive free cash
flows post-2014 allowing it to gradually improve its credit profile. Yancoal's
still strong liquidity continues to be a positive factor. However, there is
little headroom under the revised ratings.
KEY RATING DRIVERS
Coal Market Under Sustained Stress: The deteriorating coal market conditions
have drastically weakened Yancoal's credit metrics. In 2013, Yancoal's average
selling price dropped 13%, materially weakening its operating cash generation.
Funds from operations (FFO) gross interest coverage weakened to 3.7x at end-2013
(end-2012: 4.5x), and FFO adjusted net leverage to 6.1x (end-2012 3.9x).
China's coal price has dropped to the lowest level since end-2008 and Fitch does
not expect market conditions to meaningfully improve in the short-term. The coal
market is still oversupplied with low cost imports and heated price competition
among China's large domestic mining companies. Furthermore, coal demand is
likely to remain sluggish given the overall deceleration in China's industrial
sector growth, increasing share of renewable capacity in power generation and
policy headwinds from China's initiatives to reduce environment pollution,
especially in eastern China, including regions where Yancoal's mine are located.
Negative Impact from Resource Tax: Fitch expects the new price-based resource
tax on coal mining - instead of a volume-based tax previously, which is likely
to be adopted in the near term, can exert further pressure on domestic coal
producers. The tax burden, expected to be around 5% of the selling price, is
roughly five times that of the current volume-based tax. While it is expected
that some other taxes can be netted off against the higher resource tax, it will
still increase the overall tax burden on the sector. However, we expect this
could accelerate market consolidation by squeezing out smaller, weaker players,
which could benefit larger miners such as Yancoal in the longer term.
Cost Cuts Helped, But Further Savings Challenging: Fitch recognizes Yancoal's
efforts in cost savings during the market downturn. In 2013, average cost of
sales of Yancoal's domestic mines fell by 15% in addition to the 11% drop in
selling, general and administrative expenses (SG&A). This result was achieved
through production system optimization, and labour cost and workforce cuts.
Fitch expects a good proportion of these benefits to be sustainable in the
medium term; however, opportunities for further cost savings are very limited.
Capex to Trend Down After 2014: Yancoal's capital expenditure was as high as
CNY9bn to CNY10bn per annum in 2012 and 2013 - mainly to develop new coal mines
in Australia and Inner Mongolia, and the methanol projects in Ordos. However,
these developments will be gradually completed after 2014, following which capex
will be confined to maintaining the production level. As such, Fitch expects
Yancoal's free cash flow to return to positive after 2014 and its credit metrics
to improve, although a return to pre-2012 levels is not expected in the
Linkages with Parent: Yancoal is 56.5% owned by Yankuang Group Corporation
Limited (Yankuang), which is wholly owned by the Shandong State-owned Assets
Supervision and Administration Commission (SASAC). The linkage is considered
weak-to-moderate, and therefore, Yankuang's weaker credit profile has not
constrained Yancoal's rating. Yancoal's large number of institutional minority
shareholders and the Hong Kong Stock Exchange listing rules provide a meaningful
counter-balance to Yankuang's controlling stake. Furthermore, Fitch has not
provided any rating uplift to Yancoal on account of any implied support from the
Shandong government. However, Yancoal benefits from good access to sources of
funds due to its status as an entity majority owned by the Shandong government.
It had cash balances of CNY10.9bn at December 2013 which offer a strong buffer
to its short term debt of CNY11.3bn and nearly half of its debt has maturity of
over five years.
Negative: Future developments that may individually or collectively lead to
negative rating action include:
- FFO fixed charge coverage lower than 3.5x
- Failure to reduce net FFO adjusted leverage to or below 4x on a projected
basis post 2015
- Sustained negative free cash flow after 2014
- Weakening of the sizeable liquidity buffer Yancoal currently maintains with
large cash balances, including any increases in dividend payments
- Higher-than-expected resource tax applied and/or less-than-expected netting
off allowed for other taxes paid against the higher resource tax
- Higher than expected increase in operating costs together with weak coal
prices sustained or a sustained further weakening of coal prices
- Any acquisitions that lead to a further deterioration of financial profile
Positive Triggers: We do not expect any positive rating action in the
medium-term given our expectation of weak market conditions and policy
developments that are generally adverse for the sector.