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April 22 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has affirmed the National Long-Term Ratings of Indonesia-based palm oil producers PT Sinar Mas Agro Resources and Technology Tbk (SMART), PT Ivo Mas Tunggal (IMT) and PT Sawit Mas Sejahtera (SMS) at AA(idn), and revised their Outlooks to Stable from Positive. SMART, IMT and SMS are wholly owned by Golden Agri Resources Ltd (GAR). At the same time the agency has also affirmed SMART’s IDR3trn bond programme and its IDR1trn bonds due in 2017 and 2019 issued under the programme at ‘AA(idn)'. The rating assigned to the bond programme is no assurance that bonds issued under the programme will be assigned a rating, or that the rating assigned to a specific issue will be the same as that of the programme.
‘AA’ National Ratings denote expectations of very low default risk relative to other issuers or obligations in the same country. The default risk inherently differs only slightly from that of the country’s highest rated issuers or obligations.
Strong Parental Linkage: The ratings on SMART, IMT, and SMS reflect their strong linkage and strategic importance to GAR. Combined, these companies account for over 70% of GAR’s planted area and annual crude palm oil (CPO) production, which means that the absence of any of these subsidiaries will directly impair GAR’s overall profile.
Shifting Profile, Outlook Revised: The Outlook revision reflects Fitch’s view that significant improvements in GAR’s consolidated financial profiles are not anticipated over the medium-term, and that the headroom for rating upgrades for the rated subsidiaries has diminished. GAR’s FFO-adjusted leverage increased to 4.6x at end-2013 from 3.5x at end-2012, driven by lower CPO prices and plantation productivity, coupled with higher working capital requirement from both downstream and trading activities. This is in contrast with our initial expectation that GAR would be able to begin to deleverage from 2013, which underpinned the Positive Outlook.
GAR intends to expand the group’s downstream processing and value-added operations so that its upstream and downstream businesses are more balanced, compared with an upstream-driven business model in the past. While Fitch acknowledges GAR’s strategic shift for business stability over the longer term, the high working capital requirement to support this shift will limit the group’s ability to deleverage, which will constrain the rating at the current level. Nevertheless, Fitch expects the overall financial profile to gradually improve, albeit slightly, in the next 24 months driven by expectation of higher plantation productivity and amortising debts.
Business Profile Underpins Rating: While leverage is now expected to be higher than previously, GAR’s position as the world’s second-largest palm oil producer by planted area and the contributor of almost 10% of Indonesia’s total annual CPO production supports the ratings. GAR also has a favourable plantation profile, with 47% of the planted portfolio at prime mature age and its productivity metrics are among the highest in the industry. The group’s growing downstream capacity also provides margin stability through commodity cycles, while logistics and trading platforms are expected to improve its competitive position over time.
Margin Compression: The group’s consolidated CPO cash costs increased by about 7% yoy, primarily due to lower plantation productivity and higher labour costs. At the same time, global CPO prices were low during 2013 and downstream sales and trading accounted for a bigger proportion of consolidated sales at about 41% (2012: 37%). The downstream and trading business typically earns EBITDA margin in the low single digits, much lower than the margins in the upstream business. These factors pushed down GAR’s EBITDA margin to 9.5% at in 2013, from 12.3% in 2012. Assuming CPO prices remain constant, Fitch expects higher plantation productivity to offset higher labour costs. As a result, GAR’s EBITDA margins are likely to stabilise at 10%-11% over the medium term even though the group continues to expand its downstream and trading activities.
Diversified Funding Access: The group has a history of debt restructuring, which was a constraint on its access to funding. However, access has improved in recent years and this is reflected in the ratings. GAR has been listed on the Singapore Exchange since 1999 and has been diversifying is funding sources, which include issuance of Malaysian ringgit-denominated sukuk, Indonesian rupiah-denominated bonds and convertible bonds. On 4 April 2014, it established a USD1.5bn multicurrency medium-term note program on the Singapore Stock Exchange. GAR also has a more diversified banking relationship, which is particularly important to support its high working capital needs and to ensure an efficient cost of funds.
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- GAR’s FFO-adjusted leverage at more than 4x on a sustained basis. Fitch estimates it will remain at above 4x in 2014 but will fall to below 4x after.
- Deteriorating plantation operating profiles resulting in a decline in GAR’s consolidated EBITDA margin to less than 8.5% on a sustained basis Positive rating action is not expected over the medium term because GAR’s strategic shift will result in a consolidated leverage profile that is more consistent with the current rating and because of GAR’s exposure to commodity price cyclicality.