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April 22 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has affirmed India-based agricultural processing and trading company REI Agro Ltd’s (REI) Long-Term Issuer Default Rating (IDR) at ‘B+’ and revised the Outlook to Stable from Positive. The agency also affirmed the company’s senior unsecured rating at ‘B+'. At the same time Fitch has withdrawn REI’s ratings because the agency believes the ratings are no longer relevant to its coverage. Fitch will no longer provide ratings or analytical coverage for REI.
The Outlook revision reflects Fitch’s expectations that REI is unlikely to maintain interest coverage (defined as EBITDA/gross interest expense) above the 2x threshold in the medium term. This is primarily because REI was unable to issue a proposed US dollar bond in early 2013, it faces the impending payment of most of its outstanding foreign currency debt in November 2014, and it had weaker EBITDA margins because the sales mix shifted in favour of its trading business.
Lower Profitability and Interest Cover: Fitch expects REI’s interest coverage ratio to remain below the 2x threshold over the medium term, and its EBITDA margins to stabilise between 10%-12%, which is lower than the 15%-21% range in the three financial years that ended March 31, 2013. REI’s current business risk profile combined with its lower interest coverage is in line with a ‘B+’ rating.
Sales Mix to Stabilise: Sales from trading, which has lower profitability than rice processing, accounted for nearly 60% of REI’s revenue in FY13 compared with 54% in FY12. Fitch expects REI’s sales mix to stabilise over the medium-term as the company is likely to increase the utilisation of its spare manufacturing capacity.
Market-Leading Position, Lower Price Volatility: REI’s ‘B+’ rating is supported by its market-leadership and integrated business model in India’s basmati rice industry. This in turn, is supported by REI’s well-known brand and strong distribution network within India. The company is also expanding in key export markets in the Middle East and has established a distribution network via its subsidiaries to support its branded rice sales.
Branded basmati rice has historically exhibited lower price volatility compared with most other agricultural commodities. This is due to the limited supply of basmati rice, the lengthy time needed for processing and maturing, as well as strong demand stemming from a niche segment of rice consumers.
Working Capital-Intensive Operations: REI’s ‘B+’ rating also reflects its working capital-intensive operations, which result in negative free cash flow and high funds flow from operations (FFO) net leverage (FYE13: 3.7x). The company’s working capital intensity is driven by its need to hold processed basmati rice in inventory for 18-24 months as part of the maturing process. Fitch expects REI’s free cash flow generation to turn positive from FY15 because capex is likely to decline following a peak in FY12 and FY13.
Moderate Liquidity: Over INR10.6bn of REI’s scheduled maturities fall due in FY15. Over half of this consists of foreign-currency bonds issued in FY10, which have an option for bondholders to convert their notes to common equity. However these bonds are currently deep out-of-the-money and are unlikely to be converted to equity by November 2014, which leads to refinancing risks for the company. As a result, REI’s average borrowing costs will increase, with the rise likely to be exacerbated by rising domestic interest rates. However the company’s highly liquid inventory provides creditors with a solid buffer in a stressed scenario.