Bangkok--4 Apr--Fitch Ratings
Fitch Ratings (Thailand) Limited has revised Siam City Cement Public Company Limited's (SCCC) Outlook to Negative from Stable and affirmed its National Long-Term Rating at 'A(tha)'. The agency has simultaneously affirmed SCCC's senior unsecured rating at 'A(tha)' and National Short-Term Rating at 'F1(tha)'.
The Negative Outlook reflects the risks that challenging domestic conditions may impede an improvement in SCCC's profit margin and its ability to deleverage to a level consistent with its rating. SCCC's financial leverage, following acquisitions in 2016-1Q17, is likely to remain elevated for longer than we had previously envisaged. The deleveraging delay is due to SCCC's weakened operating performance in 2017, a slower recovery of Thailand's cement industry than we had expected, and increasing challenges in regional cement markets. The Outlook could revert to Stable if there is a recovery in SCCC's domestic operations, reflected in a sustained increase in cement prices from the bottom in 2017 and an EBITDA margin above 21% in 2018. This should result in leverage, as measured by FFO adjusted leverage, falling to below 3.5x by end-2018. The ratings could be downgraded if operating performance remains weak and deleveraging is further delayed.
KEY RATING DRIVERS
Delayed Deleveraging: Fitch expects SCCC's FFO adjusted net leverage to remain high, above 3.5x by end-2018, and decline to 2.5x-3.0x in 2019-2021 as we believe a recovery in domestic cement demand will support revenue growth and profitability improvement. SCCC's financial leverage increased to 4.6x at end-2017, instead of decreasing to about 3.0x as we had expected, due to a continued contraction in domestic cement demand and despite an equity injection of about THB17 billion. The government has expedited capex on infrastructure projects, which would make a domestic cement demand recovery more apparent in 2H18 and allow the company to deleverage.
Profitability to Recover: Fitch expects SCCC's EBITDA margin to recover to 21%-22% in 2018-2019 after a two-year decline in 2016-2017 to 20% and 19%, respectively (2015: 23%). Its 2017 EBITDA margin was dampened by the contraction in cement prices and domestic demand, while the margins from its operations in Sri Lanka and Vietnam remained healthy. We believe the pressure on domestic margins will ease in 2018, supported by a demand recovery and a cement price increase, together with the benefits from the implementation of SCCC's cost-saving plan since 2017.
Moderate Revenue Growth: SCCC's revenue is likely to grow in all of its operating markets over the next couple of years, mainly supported by our expectations of a demand recovery in Thailand, a full-year contribution from Vietnam (10-month consolidation in 2017), and increasing production capacity in Sri Lanka. However, the revenue from exports to Cambodia is likely to drop as SCCC's unconsolidated joint venture in the country started production locally in 2018, which would replace imports from Thailand. Fitch expects total revenue growth of 5%-8% a year in 2018-2019.
Increasing Diversification: Fitch expects SCCC's broader geographical diversification to help reduce the risk of single-market concentration in Thailand and smooth out the company's earnings. Higher-margin contributions from its regional operations softened the impact of the weak domestic market on EBITDA margins in 2017. Revenue contribution from its operations outside Thailand rose significantly to THB19.6 billion in 2017, representing 45% of total revenue (2016: THB8.8 billion, 26% of revenue).
Strong Market Position: SCCC is Thailand's second-largest cement producer with a stable market share of 27%-28% based on sales. SCCC has defended its market position against increasing supply and heightened competition in its domestic market over the past two years with its strong brand, pricing flexibility and the sacrifice of some of its profit margins. SCCC also has a strong market position for its regional cement operations. It is Sri Lanka's largest player and the sole owner of clinker production in the country with a market share of 35%-38%, and it is also south Vietnam's second-largest player with 20%-22% market share.
Vulnerable to Energy Prices: SCCC's EBITDA margin is highly sensitive to coal and electricity energy costs, which account for more than 70% of total production costs. Fitch expects average coal prices in 2018 to be higher than in 2017. However, SCCC has secured prices for more than 80% of its coal requirements in 2018.
DERIVATION SUMMARY
SCCC has a weaker business profile than its closest peer in the cement industry, The Siam Cement Public Company Limited (SCC, A+(tha)/Stable), in terms of operating scale, SCC's domestic market position as the country's largest cement player, and diversification across geographies and businesses. SCC's stronger business profile and strong credit metrics account for the one-notch difference in ratings. The notching could widen, subject to SCCC's deleveraging efforts over the next year, which is reflected in the Negative Outlook.
SCCC has a stronger business profile than Tipco Asphalt Public Company Limited (TASCO, A-(tha)/Stable), a leader in Thailand's asphalt market. SCCC has a larger operating scale and stronger earnings visibility in the cement sector compared with TASCO's position in the asphalt industry. The cement industry is a larger market and has wider end-user segments than the asphalt sector. Moreover, the operating performance of asphalt producers is more vulnerable to fluctuations in the prices of raw materials, mainly crude oil. SCCC's stronger business profile more than offsets the company's higher financial leverage relative to that of TASCO.
KEY ASSUMPTIONS
Fitch's Key Assumptions Within Our Rating Case for the Issuer
- Revenue from Thailand operations to grow slightly at 2%-3% in 2018 and 4%-7% a year in 2019-2020
- Revenue from Sri Lanka operations to rise by 13%-15% a year in 2018-2019 and about 10% in 2020, partly supported by capacity expansion
- Revenue from Vietnam operations to increase by 15%-17% in 2018, partly due to a full-year impact, and 3%-6% a year in 2019-2020, partly supported by capacity expansion
- EBITDA margin at 21%-22% in 2018-2020
- Dividend payout ratio to remain high above 70%
RATING SENSITIVITIES
Developments That May, Individually or Collectively, Lead to Positive Rating Action
- The rating Outlook could be revised to Stable if there is a recovery in SCCC's domestic business as reflected by a strong return to profitability; EBITDA margin improvement to above 21% by end-2018; deleveraging such that FFO adjusted net leverage is below 3.5x at end-2018.
Developments That May, Individually or Collectively, Lead to Negative Rating Action
- If the positive rating sensitivities are not met, the rating could be downgraded.
LIQUIDITY
Manageable Liquidity: SCCC had THB5.4 billion of debt maturing within the next 12 months as of end-2017, 90% of which were short-term loans and revolving credit facilities for working capital. Its liquidity is supported by cash on hand of THB1.7 billion at end-2017 and strong refinancing ability through its credibility and its record of strong access to local debt-capital markets and bank funding.