Bangkok--1 Feb--Standard & Poor's
HONG KONG (Standard & Poor's) Feb. 1, 2016--Standard & Poor's Ratings Servicessaid today that it had lowered its long-term corporate credit ratings onBaoshan Iron & Steel Co. Ltd. and Bao-Trans Enterprises Ltd. to 'BBB+' from'A-'. The outlooks are stable. We also lowered the long-term Greater Chinaregional scale ratings on the companies to 'cnA+' from 'cnAA'. At the sametime, we lowered our long-term issue ratings on all outstanding seniorunsecured notes of Bao-Trans to 'BBB+' from 'A-', and the long-term GreaterChina regional scale ratings to 'cnA+' from 'cnAA'.
"We lowered the ratings on Baoshan because weak fundamentals in China's steelindustry are likely to reduce the company's profitability and cash flowleverage to levels below our earlier expectation," said Standard & Poor'scredit analyst Lawrence Lu.
We have lowered our assessment of the company's stand-alone credit profile(SACP) to 'bb+' from 'bbb-'. We continue to see a high likelihood that thegovernment of China will provide timely and sufficient extraordinary supportto Baoshan in the event of financial distress.
We believe conditions in the domestic steel industry are likely to remain weakover the next 12-18 months, given softening demand amid significantovercapacity. In our view, the industry is unlikely to recover in 2016, givenweak property sector demand, delays in infrastructure spending, and slowing
export industries. In addition, the fall in raw material costs could putdownward pressure on steel prices, in particular for commoditized products.
We forecast that Baoshan's ratio of debt to EBTIDA will stay at 3.0x-3.5x inthe next two years. Our estimate primarily reflects our view that thecompany's gross profit and EBITDA will remain under pressure because of lowselling prices. We therefore revised our assessment of Baoshan's financial
risk profile to significant from intermediate.
We anticipate that Baoshan's capital expenditure may remain high for 2016because phase two of its Zhanjiang project is in progress. We expect thecompany to trim its capital expenditure in 2017 and onward. Baoshan commencedthe first stage of production of its new capacity in Zhanjiang in September2015. The company aims to complete the project at the end of 2016, which will
solidify its market position in high-end steel products. We also expectBaoshan to maintain a market share of more than 50% in the high-end automotivesheets segment over the next two years.
We continue to view Bao-Trans as a core subsidiary of Baoshan because webelieve the two entities are strategically, financially, and operationallyintegrated. We therefore equalize the rating on Ban-Trans to that on Baoshan.
"The stable outlook on Baoshan reflects our expectation that the company willmaintain its financial strength over the next 12 months despite challengingconditions in China's steel industry," said Mr. Lu. "Baoshan's leading marketposition, focus on high-end products, and improving operating efficiency
underpin its credit profile. We expect the company's capital expenditure andcapacity expansion to reduce after the Zhanjiang project is complete."
The stable outlook on Bao-Trans reflects the outlook on Baoshan.
We may lower the rating if we revise our assessment of Baoshan's SACP to 'bb'or lower. The weaker SACP may result from deterioration in the company'sfinancial performance, such that its debt-to-EBITDA ratio remains above 4.0xon a sustained basis.
Such deterioration could happen if: (1) Baoshan's operating performance isweaker than we expected due to a significant deterioration in steelprofitability as a result of a continued oversupply of steel and volatility insteel and raw material prices; (2) the company's capital spending is muchhigher than we expected; (3) the Zhanjiang project's production andprofitability are materially below our expectation; or (4) the credit profileof Baoshan's parent Baosteel Group deteriorates materially.
We believe the potential for an upgrade is limited for Baoshan over the next12 months, given our expectation of a nuanced industry recovery and slowcapacity expansion during this time. However, we may raise the rating if weraise Baoshan's SACP to 'bbb-'. This could happen if the company's debt
leverage improves significantly, such that its debt-to-EBITDA ratio is below3.0x, and it generates positive free operating cash flows on a sustainedbasis. Such improvement could happen if demand-supply in China steel industryreaches equilibrium, steel profitability recovers, and operating efficiency
largely improves.