Johannesburg, 31 July 2017 – Global Credit Ratings has today downgraded the national scale debt ratings for ARM Cement Limited to BB(KE) and B(KE) in the long term and short term respectively. Concurrently the Commercial Paper rating has been downgraded to B(KE). The ratings have been placed on Rating Watch and are valid until January 2018.
SUMMARY RATING RATIONALE
Global Credit Ratings (“GCR”) has accorded the above credit ratings to ARM Cement Limited (“ARM”) based on the following key criteria:
ARM’s focus in FY16 was on completing the large investment by the UK development finance institution CDC. As per the transaction, CDC invested USD140m to purchase a 41.66% stake in ARM, making it the single largest shareholder. The CDC investment has been critical in supporting the credit rating of ARM. Not only has the funds received helped ARM substantially de-gear the balance sheet (debt reduced to KES13.2bn at FY16 from KES24.4bn at FY15), but CDC has been instrumental in bolstering the management team and improving corporate governance.
Nevertheless, ARM continues to evidence substantial financial strain and is in the process of negotiating a new capital injection into the company, as well as a long term refinancing facility. It was initially expected that a refinancing agreement could be reached in July 2017 (as indicated in GCR Public announcement on 29 June 2017). However, ARM is currently engaging external advisors to investigate potential equity investors and other funding options, and thus the process is likely to be somewhat protracted. Thus, any additional funding flows will likely only be received in 2Q FY18. Accordingly, liquidity pressure and funding strain is likely to persist until a new funding arrangement is agreed. Positively, ARM has concluded an agreement for the sale of its non-cement businesses, which would allow it to reduce a portion of its debt before FY17.
From an operational perspective, concern is raised to the deterioration in the operating environment, particularly in Tanzania. On the production side, ARM has not been able to attain sufficient capacity utilisation to achieve the projected margins for its Tanga clinker plant due to electricity and coal supply problems, while sales have been impacted by weaker demand and severe pricing pressure in the country. ARM has taken a number of steps to ensure that these pressures ease in 2H FY17, with indications of initial success, but it will take some time before the operations return to full capacity. Once at capacity ARM has entered into agreements to sell excess clinker to other cement companies in the region, which should bolster earnings. The Kenyan operations have also not met expectations in 1H FY17, due to plant shutdowns, but as the plants are now back on stream, 2H FY17 should be stronger.
The interest charge is likely to reduce to around KES1bn in FY17, from the KES3bn reported in FY16, as debt has been halved and much of the expensive short term facilities redeemed. However, the expected weak 1H FY17 earnings, will negatively impair debt serviceability. Overall, cash flows will remain under strain until there is a noticeable improvement in operating performance.
The Rating Watch recognises the fluid position of ARM at present and the possibility for both positive and negative movements in the short term. Positive rating movement is dependent on the finalisation of the equity transaction and debt restructuring, such that ARM is restored to a sustainable funding structure. Conversely, delays in reaching a refinancing arrangement, will result in continued liquidity constraints, which would prejudice ARM’s ability to meet debt obligations. Continued poor earnings performance will also impact sustainability.
|NATIONAL SCALE RATINGS HISTORY|
|Initial Rating (October 2001)||Last Rating (June 2016)|
|Long term: BBB(KE)||Long term: A(KE)|
|Short term: A3(KE)||Short term: A1(KE)|
|Rating outlook: Stable||Commercial paper: A1(KE)|
|Commercial paper: n.a||Rating outlook: Stable|
|Sector Head: Corporate and Public Sector Ratings|
|Senior Credit Analyst|
APPLICABLE METHODOLOGIES AND RELATED RESEARCH
Global Master Criteria for Rating Corporate Entities, updated February 2017
ARM Cement rating reports (2001-2016)
RATING LIMITATIONS AND DISCLAIMERS
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GLOSSARY OF TERMS/ACRONYMS USED IN THIS DOCUMENT AS PER GCR’S Corporates GLOSSARY
|Balance Sheet||Also known as Statement of Financial Position. A statement of a company’s assets and liabilities provided for the benefit of shareholders and regulators. It gives a snapshot at a specific point in time of the assets the company holds and how they have been financed.|
|Capital||The sum of money that is invested to generate proceeds.|
|Cash Flow||The inflow and outflow of cash and cash equivalents. Such flows arise from operating, investing and financing activities.|
|Corporate Governance||Corporate governance broadly refers to the mechanisms, processes and relations by which corporations are controlled and directed, and is used to ensure the effectiveness, accountability and transparency of an entity to its stakeholders.|
|Credit Rating||An opinion regarding the creditworthiness of an entity, a security or financial instrument, or an issuer of securities or financial instruments, using an established and defined ranking system of rating categories.|
|Debt||An obligation to repay a sum of money. More specifically, it is funds passed from a creditor to a debtor in exchange for interest and a commitment to repay the principal in full on a specified date or over a specified period.|
|Gearing||With regard to corporate analysis, gearing (or leverage) refers to the extent to which a company is funded by debt and can be calculated by dividing its debt by shareholders’ funds or by EBITDA.|
|Interest||Scheduled payments made to a creditor in return for the use of borrowed money. The size of the payments will be determined by the interest rate, the amount borrowed or principal and the duration of the loan.|
|International Scale Rating LC||International local currency (International LC) ratings measure the likelihood of repayment in the currency of the jurisdiction in which the issuer is domiciled. Therefore, the rating does not take into account the possibility that it will not be able to convert local currency into foreign currency or make transfers between sovereign jurisdictions.|
|Long-Term Rating||A long term rating reflects an issuer’s ability to meet its financial obligations over the following three to five year period, including interest payments and debt redemptions. This encompasses an evaluation of the organisation’s current financial position, as well as how the position may change in the future with regard to meeting longer term financial obligations.|
|Margin||A term whose meaning depends on the context. In the widest sense, it means the difference between two values.|
|Net Profit||Trading/operating profits after deducting the expenses detailed in the profit and loss account such as interest, tax, depreciation, auditors’ fees and directors’ fees.|
|Redemption||The repurchase of a bond at maturity by the issuer.|
|Risk||The possibility that an investment or venture will make a loss or not make the returns expected. There are many different types of risk including basis risk, country risk, credit risk, currency risk, economic risk, inflation risk, liquidity risk, market or systemic risk, political risk, settlement risk and translation risk.|
|Shareholder||An individual, entity or financial institution that holds shares or stock in an organisation or company.|
|Short-Term Rating||A short term rating is an opinion of an issuer’s ability to meet all financial obligations over the upcoming 12 month period, including interest payments and debt redemptions.|
|Working Capital||Working capital usually refers to the resources that a company uses to finance day-to-day operations. Changes in working capital are assessed to explain movements in debt and cash balances.|
SALIENT FEATURES OF ACCORDED RATINGS
GCR affirms that a.) no part of the rating process was influenced by any other business activities of the credit rating agency; b.) the ratings were based solely on the merits of the rated entity, security or financial instrument being rated; c.) such ratings were an independent evaluation of the risks and merits of the rated entity, security or financial instrument.
ARM Cement Limited participated in the rating process via face-to-face management meetings, teleconferences and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.
The credit ratings have been disclosed to ARM Cement Limited with no contestation of the ratings.
The information received from ARM Cement Limited and other reliable third parties to accord the credit rating(s) included;
- Audited financial results of the Company per 31 December 2016
- Four years prior audited financial statements
- Analyst presentation
- Full details of funding facilities and use of CDC proceeds
- Detailed financial forecast model
- Documented proposals for relevant transactions
The ratings above were solicited by, or on behalf of, the rated client, and therefore, GCR has been compensated for the provision of the ratings.