RAM Ratings: UMW performance to improve over next three years

KUALA LUMPUR: UMW Holdings Bhd , which recorded narrower pre-tax losses in its financial year ended Dec 31, 2017, could report an improvement in its operating performance over the next three years, says RAM Ratings.

RAM’s head of consumer and industrial ratings Kevin Lim said on Friday that UMW's improvement would be underpinned by better showing of its automotive, equipment and mechanical and engineering (M&E) divisions.

“Notably, cost pressures faced by the automotive division have started to ease this year and should moderate amid the strengthening of the ringgit,” he said.

Lim expects sales of heavy and industrial equipment, automotive parts and lubricants are also anticipated to gradually increase over the next three years. 

“The M&E division’s new aero engine fan-casing manufacturing operation will gradually ramp up production, leading to an improvement from its expected loss-making position this year and meaningful contributions from fiscal 2020 onwards,” he added.

To recap, in FY17, UMW reported pre-tax loss of RM549.94mil compared with RM2.13bil in FY16, mainly owing to lower impairments and its share of the smaller losses of its O&G businesses. 

UMW's largest unit, 51%-owned UMW Toyota Motor Sdn Bhd (UMW Toyota), reported weaker earnings and margins as it suffered the effects of the weak ringgit despite registering better-than-expected unit sales and earnings. 

Excluding the losses and provisions relating to the O&G businesses, the group would have recorded a pre-tax profit of RM409.06mil (FY16: RM516.25mil).

Lim anticipates UMW’s balance sheet to remain healthy over the next three years. 

UMW's debt load of RM2.76bil as at end-December 2017, with a corresponding gearing ratio of 0.66 times (end-December 2016: RM6.36bil, 0.93 times), is expected to increase to about RM3.5bil by end-2018, before gradually reducing over the next 2 years. 

UMW's gearing and net gearing levels are envisaged to respectively peak at around 0.7 and 0.45 times this year, and ease to below 0.60 and 0.30 times in the next two years. 

“Supported by stronger earnings from key divisions and the narrower losses of its O&G businesses, funds from operations (FFO) debt coverage is anticipated to improve to above 0.2 and 0.25 times in FY Dec 2019 and FY Dec 2020, respectively,” he said.

RAM Ratings has assigned a rating of A1 to UMW’s RM2bil perpetual Sukuk programme. 

Concurrently, the rating of UMW’s RM2bil Islamic MTN Programme (2013/2028) has been reaffirmed at AA2, underpinned by the group’s improving operating performance and financial profile. 

The ratings remain on Rating Watch with a positive outlook premised on UMW’s proposed acquisitions which could result in the Group owning a controlling stake in Perusahaan Otomobil Kedua Sdn Bhd (Perodua) and MBM Resources Berhad (MBM). 

Despite the major shareholders of MBM having rejected the proposed acquisitions, UMW continues to pursue the proposed corporate exercises.

RAM Ratings said the proposed acquisitions are still pending acceptance of offer from the relevant parties. 

The validity period for the offer will expire on April 30, 2018. 

If the proposed corporate exercises materialise, UMW is poised to become Malaysia’s largest automotive group, with a market share of close to half the total industry volume (TIV). 

Including Perodua’s complementary models, UMW’s enlarged automotive division offers models in almost all segments. Furthermore, MBM’s distribution franchises for Daihatsu and Hino will significantly expand UMW’s range of commercial vehicles. 

Total consideration for the proposed acquisitions, amounting to about RM1.4 bil, will be almost entirely funded by equity. 

“As such, we expect UMW’s balance sheet to strengthen post acquisition. Given that Perodua generates substantial earnings and cashflow, UMW’s debt coverage is also anticipated to improve,” it said.

The proposed perpetual sukuk is rated two notches below UMW’s long-term corporate credit rating to reflect the risk of deferrable profit distributions and the deeply subordinated right of the sukuk holders to claims in the event of insolvency, consistent with the criteria presented in RAM’s Equity Credit for Corporate Hybrid Securities, April 2016. 

The proposed hybrid security qualifies for 50% equity credit under our criteria paper. Nonetheless, the deferrable and cumulative periodic distributions are viewed as fixed charges – similar to interest payments on debts. 

Proceeds from the issuance of the proposed perpetual sukuk will largely be used to repay debts.

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