(The following statement was released by the rating agency)
Oct 09 - Fitch Ratings has affirmed Russia-based diamond producer OJSC ALROSA's (Alrosa) Long-term Issuer Default Rating (IDR) and senior unsecured rating at 'BB-' and Short-term IDR at 'B'. The Outlook on the Long-term IDR is Stable.
Fitch assesses Alrosa's standalone IDR at 'B+'. Alrosa's market position as the world's largest rough diamond producer by volume, with the market share of 28% in 2011, and competitive cost position are the key drivers of its standalone credit profile. The company's reserve base is also sound. It has more than 1.0bn carats of proved reserves, which gives an average mine life of more than 30 years.
The Stable Outlook reflects Fitch's expectations that the company will be able to maintain an acceptable liquidity position and refinance debt maturing over Q412-2013.
Fitch assesses Alrosa's link with its controlling shareholder, the Russian Federation ('BBB'/Stable), as medium, which provides a one-notch uplift to the company's standalone ratings. Support from the Russian Federation during 2008-2009 included the purchase of diamonds via the Russian State Depository for Precious Metals and Stones and financing provided via state-owned Bank VTB ('BBB'/Stable). The agency believes that Alrosa's importance as the largest employer and taxpayer in Sakha (Yakutia) ('BBB-'/Stable) would lead to further support if needed.
Increasing macroeconomic uncertainty and the global economy's material downward revision of growth prospects, including China and India, may negatively affect demand for diamonds despite increased demand and rising prices compared with 2011.
Over the past 12 months, Alrosa has continued to reduce uncertainty regarding operating cash inflows and also build its sales network with an increase in the share of sales under long-term contracts with major international and Russian clients to 68% in 2011 from 63% in 2010.
Alrosa faces mining cost inflation at a rate higher than general inflation, which may place pressure on the company's profitability over the next two to five years, but this is not unlike other mining companies in Russia. An expected increase in the proportion of underground mining will also affect the average cash mining costs. In H112, the company's cash costs per 1 ct of diamonds produced increased by more than 20% compared with 2011 according to Fitch's calculations.
Rating constraints include Alrosa's lack of product diversification with exposure to the price cycles of the diamond market, which follow global economic cycles (although these price cycles are typically not as severe as for other mined commodities), and its exposure to the weak Russian business environment with the associated higher-than average political, business and regulatory risks.
The rating also reflects the H112 purchasing of 100% interest in CJSC Geotransgaz and LLC Urengoy Gas Company from companies affiliated with Bank VTB and minority shareholders for a total cash consideration of RUB33.0bn. The transaction was mainly debt financed.
The intensification of the company's investment activity above Fitch's earlier expectations resulted in projected negative free cash flow during 2012-2014. However, the company has sufficient flexibility in its capex programme to allow postponement of up to one-third of capital expenditures in 2013-2014 in case of deterioration of market conditions.
The company's liquidity position has weakened since Fitch's last review of the company's ratings. The company has to repay USD1.7bn of debt, more than 40% of total, in Q412. However, the agency expects Alrosa to be able to successfully refinance its short-term debt. Difficulties achieving this goal will likely lead to negative rating action.
Fitch expects Alrosa to show revenue growth of 6%-8%, and an expected EBITDAR margin in FY2012 of around 40% with a decline in FY2013 to around 35% (FY2011: 48.3%). Fitch expects negative free cash flow margin during 2012-2014, which will lead to an increase of FFO adjusted gross leverage to around 2.5x by end-2012 and to around 3.0x by end-2013 (FY2011: 1.8x), due to intensification of capex and expected increase of RUB-denominated cash costs with a rate higher than general inflation.
WHAT COULD TRIGGER A RATING ACTION?
Positive: Future developments that may, individually or collectively, lead to positive rating action include
- FFO adjusted gross leverage below 2.5x on a sustained basis - FFO fixed charge coverage above 3.5x - EBITDAR margin above 32%
Negative: Future developments that may, individually or collectively, lead to negative rating action include
- Inability to roll over maturing debt and attract new financing to meet debt obligations - Reduction of support from the Russian Federation - FFO adjusted gross leverage above 4.0x on a sustained basis - FFO fixed charge coverage below 1.0x - EBITDAR margin below 20%