February 27, 2017 | Cbonds
|Fitch Ratings has affirmed PJSC Kazanorgsintez's (KOS) IDR at 'B' and revised the Outlook to Positive from Stable. Fitch has also affirmed KOS's Short-Term IDR at 'B'.|
The Outlook reflects our expectations that KOS will maintain funds from operations net adjusted leverage (leverage) at a conservative level of below 2x (2015: -0.1x) as seen since 2014. The weaker rouble and broadly stable EU polyethylene pricing have boosted KOS's EBITDA margins to 38%-40% in 2015-2016E from 20%-22% prior to 2014. Coupled with the absence of significant capex or dividend outflows, this has allowed KOS to cut debt and improve liquidity.
The Outlook could be revised back to Stable if KOS's post-2017 investment strategy results in a more leveraged credit profile with expansion capex materially exceeding our current estimate of RUB50bn.
KEY RATING DRIVERS
Leverage to Remain Low: KOS's deleveraging has been faster than our previous expectations, as the weak rouble and resilient global polymer pricing have helped KOS to generate stronger operational cash flow since 4Q14 from its dollar-denominated exports (approximately 20% of total sales) as well as from healthy domestic sales. The company became net cash positive with leverage at negative 0.1x in 2015 (funds from operations adjusted gross leverage was at 0.6x). We consider the credit metrics as strong for the current IDR and we expect the company to remain net cash positive in 2017 and beyond until well into the next investment cycle.
Investment Strategy Uncertain: The company's intention to shift to large-scale expansionary investments from smaller-scale optimisation capex after 2016 and the current lack of visibility on the scope and schedule of such investments complicates our assessment of future FCF and re-leveraging trends. We currently estimate expansionary capex at around RUB50bn spread across 2017-2019. This together with the expectation of difficult market dynamics (which translates into a mid-single-digit decrease in global polyethylene prices) would lead to negative FCF of around RUB15bn per annum in 2018 and 2019 and leverage increasing towards 2x in 2019.
KOS's capex has been low for the past four years allowing the company to delever and arrive at robust credit metrics. We currently see a moderate risk from further expansion for KOS's ratings even in the case of a large project driving leverage up, as we expect higher leverage to be temporary and to be mitigated by the enhanced business profile through the resulting improved scale and product mix. However, there are still risks from a significant FX mismatch in project financing and/or a long project implementation period with remote benefits to the issuer's business profile and cash-flow generation, and at the same time significant pressure on leverage.
Medium-term Pricing Pressure: Russian polymer market pricing is moderately linked with European and Asian markets. The export markets have shown resilience despite cheaper naphtha (direct oil derivative) input on the back of resilient retail and transportation end-markets. Coupled with the weaker rouble, this led to the robust growth of Russian polymer prices in 2015 and 9M16. However, we expect to see intensified polyethylene capacity additions including those coming from the US and a gradually strengthening rouble creating double-digit pricing pressure for polyethylene, leading to a fall in revenue towards RUB60bn and margin dilution towards 20%-22% by 2019.
Key Supplier Risk Moderate: KOS renewed its ethane supply contract with PJSC Gazprom (BBB-/Stable) in 4Q15 for another 10 years with comparable terms and conditions. The contract links the ethane purchasing price with the polyethylene selling price, resulting in a stabilising effect on KOS's margins, which is positive as we expect a period of falling polyethylene prices. The contract secures ethane supply from KOS's key ethane supplier which lacks immediately available and sufficient alternatives.
Rating Constraints: The ratings are constrained by KOS's exposure to commodity chemicals, its small size relative to the global diversified chemical groups competing in its core polymer markets, single-site operations and limited product and geographical diversification. Finally, the ratings are discounted to reflect higher-than-average legal, business and regulatory risks in Russia (BBB-/Stable /F3) and a lack of information on KOS's ultimate beneficiaries.
Kazanorgsintez's rating of 'B' is adequately positioned relative to its closest EMEA chemical peer Nitrogenmuvek (B+/Stable) on each major comparative, including moderate scale and product diversification despite a significant domestic market share, and single-site operations. These factors differentiate KOS from higher-rated EMEA players like PAO SIBUR Holding (BB+/Negative). Although KOS has higher than average risks from the operating environment with weak systemic governance and a concentrated ownership structure, we do not apply a corporate governance discount due to the rating scale contraction in the 'B' rating category.
Fitch's key assumptions within our rating case for the issuer include:
- Russian polymer prices to undergo a double-digit decline in 2017 and another single-digit drop in 2018;
- Kazanorgsintez's volumes conservatively assumed flat at the 2016E level;
- USD/RUB of 61 in 2017 gradually appreciating towards 58 in 2019;
- capex and dividends to increase to within RUB25bn to RUB30bn range per annum from 2017 to 2019.
Future Developments That May, Individually or Collectively, Lead to Positive Rating Action
- Substantial improvement in business profile, scale of operations and/or product mix
- Better visibility on the future investment schedule
Future Developments That May, Individually or Collectively, Lead to Negative Rating Action
- (Outlook stabilisation) aggressive capex with remote business profile improvement leading to FFO adjusted net leverage above 3x
- Liquidity shortfall leading to FFO fixed charge coverage falling below 3x or liquidity approaching 1x;
- Increasing reliance on FX debt leading to material FX mismatch between debt and earnings.
Strong Liquidity: Liquidity was strong at end-1H16 as a result of positive 2015-2016 FCF, with cash and cash deposits covering RUB8bn outstanding debt. We expect that KOS's cash cushion will comfortably cover both the negative RUB5bn FCF expected in 2017 as well the remaining debt due in 2017-2018.
|Full company name||PJSC Kazanorgsintez|
|Country of risk||Russia|
|Country of registration||Russia|
|Industry||Chemical and petrochemical industry|