Fitch revises Outlook on Sime Darby issuer ratings to Negative

  • Business
  • Monday, 30 Mar 2015

KUALA LUMPUR: Concerns about Sime Darby Bhd’s rising leverage has seen Fitch Ratings revise the outlook on the conglomerate’s long-term foreign and local currency issuer default ratings (IDR) to Negative from Stable.

The international ratings agency said on Monday the IDRs and the company's senior unsecured rating are affirmed at “A”. Fitch affirmed the rating on the company's US$1.50bil Sukuk issue at “A”. 

“The revision in the Outlook to Negative follows a sharp increase in Sime Darby's funds from operations (FFO) adjusted net leverage to about 2.50 times in the first half of FY to 30 June 2015 (FY14: 1.52 times), well above the 1.75 times level at which Fitch would consider negative rating action.

“While Fitch expected the increase in leverage after the debt-funded acquisition of New Britain Palm Oil Ltd (NBPOL), the agency now estimates that the deleveraging process will take longer than initially expected due to the weaker than expected performance of Sime Darby's industrial equipment business and higher net debt to fund the property development business,” it said. 

Fitch said that due to the weak commodity environment, Sime Darby's industrial equipment business would continue to face challenges over the short to medium term.

It cited Sime Darby’s weak industrial division performance. The earnings before interest and taxation (EBIT) in Sime Darby's industrial division declined by 46% to RM316.2mil in 1H FY15 due to the continuing weakness in the Australian mining sector, which resulted in lower equipment deliveries and lower margin from product support sales. 

Profit in its Malaysia and Singapore operations also fell due to lower equipment and engine sales due to the slowdown in the construction, mining and shipyard sectors.

However, in China and Hong Kong, profit improved due to better margins from equipment deliveries. 

Commodity prices continued to fall to near marginal production cost, resulting in intense pressure on the product support business.

Under Sime Darby’s deleveraging initiatives, it proposes to undertake capital management initiatives that could include the listing of its motor division by end-FY16, which, if successful, would result in financial leverage declining towards Fitch's negative trigger of 1.75 times. 

Also, a significant proportion of Sime Darby's shareholders have opted for its dividend reinvestment plan (DRP), which reduced cash dividends paid by 23% to RM1.57bil in FY14. 

Of the RM1.80bil final dividend declared for FY14, only RM505mil (28% of dividends declared) was paid in cash.

“While Fitch expects Sime Darby to maintain its dividend payout ratio at about 50%, the cash payout is likely to decline due to the success of the DRP, which would help to reduce leverage,” it said.

Debt-funded acquisition: Sime Darby debt-funded the acquisition of a 98.84% stake in the Papua New Guinea-based oil palm company NBPOL for RM5.70bil. 

NBPOL has a land bank of 135,000 hectares, 12 oil mills and two refineries - one in PNG and the other in Liverpool, UK. 

This acquisition has resulted in an increase in Sime Darby's land bank by 16% and improved Sime Darby's capabilities to deliver oil palm products to Europe.

Low CPO prices sustained: Robust CPO output in Malaysia and Indonesia driven by improved productivity, a bumper soybean crop that has narrowed the differential between soybean oil and CPO prices, and a low crude oil price (to which CPO is closely correlated as CPO is a bio-diesel input) has resulted in sustained low CPO prices. 

As Sime Darby is an integrated low-cost CPO operator, its downstream division benefits from declining input costs. However, it added this was not adequate to offset the price decline. 

Fitch believed Sime Darby would tide over this period of low prices, but margins - in US dollar and per tonne terms - would remain depressed in the next 12 to 18 months.

Fitch's key assumptions within its rating case for the issuer include:

- Sime Darby's gross adjusted debt as of June 30, 2015 will include US$247.81mil (RM906mil) of NBPOL debt.

- Average FY15 CPO price would be RM2,200 a tonne and would rise by 5% per annum from FY16 to a maximum of RM2,550 in FY19.

- Sime Darby will pay down its gross debt from FY16.

- Annual capex will range from RM3.5bil to RM4bil from FY15 to FY17 and would decline to RM2.7bil in FY18 and RM2.0bil in FY19.

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