October 25, 2017 / 9:08 AM / 4 months ago

Fitch Rates Sritex's Proposed US Dollar Notes 'A+(idn)'

(The following statement was released by the rating agency) JAKARTA/SINGAPORE, October 25 (Fitch) Fitch Ratings Indonesia has assigned PT Sri Rejeki Isman Tbk's (Sritex, BB-/A+(idn)/Stable) proposed US dollar-denominated domestic medium-term notes due in 2020 a National Long-Term Rating of 'A+(idn)'. The Indonesia-based company expects to utilise the proceeds from the notes to refinance its bank debt. Sritex's ratings reflect its profile as Indonesia's largest integrated fabric and garment manufacturer, its increasing operating cash flows, and its moderate financial profile. We expect Sritex to reduce its leverage (defined as net adjusted debt/EBITDAR) to around 3.0x by end-2017, from 3.9 at end-2016, as it completes its new production capacity. Leverage was still high at 3.7x at end-1H17 because of an increase in working capital associated with a production bottleneck in its finished-fabrics division. This has since normalised and we expect the new capacity to be fully operational by the year's end. The proposed notes are rated at the same level as Sritex's 'A+(idn)' National Long-Term Rating because they represent senior unsecured obligations of the issuer. 'A' National Ratings denote expectations of low default risk relative to other issuers or obligations in the same country. However, changes in circumstances or economic conditions may affect the capacity for timely repayment to a greater degree than is the case for financial commitments denoted by a higher rated category. KEY RATING DRIVERS Working Capital Normalising: We expect Sritex's cash conversion cycle to normalise to less than 190 days by end-2017, from a high of 217 days at end-June 2017 and 181 days at end-2016. The working capital increase in 1H17 was temporary and driven by a production bottleneck. The new production capacity in the finished-fabric division took longer than expected to be commissioned, while the production capacity of the spinning and weaving divisions, which are key raw materials for finished fabrics, had already increased. Sritex's cash conversion cycle may ease more than we expect if the new capacity is fully operational before the year end as the company expects. Improving Operating Cash Flows: We expect Sritex's EBITDA to increase to USD150 million in 2017 and USD170 million in 2018, from USD130 million in 2016. This is being driven by growing sales volumes following the production capacity expansion. We expect the company to generate neutral to positive free cash flows in the next two years due to its improving operating cash flows, and because its capex will reduce to levels required to maintain its current operations, which we expect will range from 2.5% - 3.0% of revenue annually over the same period. Vertical Integration, Growing Exports: We expect around 55%-60% of Sritex's revenue to stem from the export of finished fabric and garments over the next two years, up from around 50% in 2016. Sritex sources yarn and raw fabric from its own mills and produces speciality garments, such as military uniforms, which have higher profit margins. The company is a nominated supplier to several of its main buyers, which is a key credit strength, and is supported by its record of punctual delivery to customers' required quality and cost. Sufficient Production Capacity: Sritex is Indonesia's largest vertically integrated fabric and garment manufacturer. Subsequent to its expansion, the company now has an annual production capacity of 654,000 bales of yarn, 180 million metres of greige cloth, 240 million yards of finished fabric, and 30 million pieces of garments. DERIVATION SUMMARY Fitch compares Sritex with peers such as PT Pan Brothers Tbk (A(idn)/Stable), and PT Sumber Alfaria Trijaya Tbk (Alfamart, AA-(idn)/Stable). Pan Brothers is a small garment manufacturer with high leverage due to the aggressive expansion of its production capacity over the last two years. Sritex has considerably larger operating scale and a stronger financial profile than Pan Brothers, which justifies Sritex's ratings being two notches higher. Alfamart operates the second-largest network of mini-market retail stores in Indonesia. Its rating is underpinned by its solid market share, strong competitive position over larger format retail stores, and the non-discretionary demand for most of its products. Thus, Alfamart has a stronger business risk profile than Sritex, which supports its higher National Long-Term Rating. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Revenue growth of 12% in 2017 and 10% in 2018 - EBITDA margin of 20% in 2017 and 2018 - Capex / revenue of 2.9% in 2017 and 2.5% in 2018 - Cash collection cycle to reduce to less than 190 days by end-2017, from 217 days at end-June 2017 RATING SENSITIVITIES Developments That May, Individually or Collectively, Lead to Positive Rating Action - We do not expect positive rating action for the next two years as Sritex's leverage, measured by net adjusted debt/EBITDAR, is likely to remain high for its ratings as it ramps up sales to utilise its new production capacity. Developments That May, Individually or Collectively, Lead to Negative Rating Action - Inability to lower leverage to around 3.0x by end-2017 (2016: 3.9x; 2017F: 3.3x; 2018F: 2.9x) - A sustained weakening in EBITDA margin (2016: 19%) LIQUIDITY Comfortable Liquidity: At end-June 2017 Sritex had a cash balance of USD110 million and approved but undrawn credit lines of USD313 million, compared with USD30 million of its existing domestic medium-term notes maturing in October 2017, and a USD18.4 million bank loan maturing in 2018. Aside from these, the earliest significant debt maturity is in 2021, when its USD350 million of unsecured notes fall due. Given the completion of its expansionary capex, we expect Sritex to generate neutral free cash flows in the next 12-18 months. Contact: Primary Analysts Olly Prayudi (National Ratings) Director +62 21 2988 6812 PT Fitch Ratings Indonesia DBS Bank Tower 24th Floor, Suite 2403 Jl. 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