Fitch rates South Oil LLP at 'B'; places on RWN
MOSCOW. June 30 (Interfax) - Fitch Ratings has assigned Kazakhstan-based South Oil LLP (South Oil) Long-term foreign currency and local currency Issuer Default Ratings (IDR) of 'B' and a National Long-term rating of 'BB(kaz)'.
The agency said in a statement: "The agency has simultaneously assigned South Oil's planned KZT1bn local bonds issue an expected local currency senior unsecured rating of 'B'(exp) and expected national senior unsecured rating of 'BB(kaz)(exp)'. All the ratings have been placed on Rating Watch Negative (RWN).
"The RWN reflects the fact that based on 2010 IFRS financials, South Oil is likely to have breached financial covenants stipulated in the guarantee agreement in relation to the loan provided to South Oil's related party and guaranteed by South Oil. The company intends to obtain a waiver from the bank and to renegotiate the level of the financial covenants. Fitch will resolve the RWN once the company obtains a waiver from the bank and anticipates a Stable Outlook.
"South Oil's ratings incorporate the company's small scale of operations and Fitch's expectations that the company will continue to successfully implement its production expansion strategy. Fitch believes that although the company's strategy is exposed to execution risk, this is mitigated by its track record of output growth and the fact that the second of its two main assets is already at the production stage.
"The ratings also take into account the fact that South Oil's operational profile compares well with that of its similarly rated peers. The company benefits from a relatively high reserve replacement rate, solid reserves life and adequate cost structure.
"In addition, the ratings consider South Oil's strong financial metrics, demonstrated by its high profitability and coverage ratios and relatively low leverage-related ratios. The company compares well with its oil and gas counterparts rated in the 'B' rating category based on its 2010 EBITDAR margin of 60.9%, FFO adjusted leverage of 0.9x and CFO interest coverage of 9.9x.
"Fitch expects South Oil to maintain solid cash flow generation over 2011-2012 due to favourable oil market fundamentals and anticipated production growth. The company's cash flow from operations/capex ratio was above 1x during 2008-2010 and Fitch anticipates that this trend will persist in 2011-2012. Although Fitch forecasts the company's leverage-related ratios to increase over the next three years given Fitch's conservative oil price deck (USD75/bbl for 2011 and USD65/bbl for 2012) and the expected impact of cost inflation on the company's profitability, these ratios will still remain comparable to those of its similarly rated peers.
"At the same time, Fitch views South Oil's liquidity as weak given the company's reliance on short-term, mostly secured debt to fund its growth strategy, low cash position and Fitch's expectation that the company will remain free cash flow (after capex and dividends) negative over 2011-2012. Short-term debt accounted for 80% of total debt at end-2010, with 20% of the remaining debt falling due within 1-2 years. The company's cash position of KZT290.6m at end-2010 was insufficient to cover its short-term maturities of KZT9.4bn. In addition, Fitch does not view South Oil's dividend payments as conservative, which contribute to the company's negative free cash flow.
"Fitch also notes the evolving nature of South Oil's corporate governance standards, which are weaker than those established by some of its Kazakh competitors, which have either tapped international capital markets or undergone an IPO. Fitch believes that the company's plans to enter capital markets are likely to become a driver of its corporate governance enhancement."