(The following statement was released by the rating agency)
Oct 05 - Fitch Ratings has revised China Oriental Group Company Limited's (China Oriental) Outlook to Negative from Stable, following worse-than-expected deterioration in the company's operating environment. China Oriental's Long-Term Issuer Default Rating (IDR) has been affirmed at 'BB+'.
China Oriental's leverage, as measured by normalised working capital adjusted net debt/EBITDAR, may exceed 2.0x - a negative rating threshold - after the company announced a weak Q312 performance that may extend into Q412. Leverage was 1.6x at end-2011. Profitability has been under pressure from volatile prices of steel products and steel raw materials this year. A weak demand environment has further constrained the ability of steel producers to pass on raw material price increases to their customers, resulting in thinning margins for China Oriental.
Deceleration in China's industrial production growth in the first eight months of 2012 has led to widespread demand weakness among steel-using industries, including heavy equipment production, shipbuilding, rail locomotives, power equipment, and tractors. China's crude steel production grew only 2.3% over the same period, slightly better than the 2.1% growth in 2008 when crude steel production growth in China was at its slowest since the '80s.
Fitch, however, continues to believe that China Oriental can return to its previous profitability levels once prices of steel and its raw materials stabilise. Demand for steel continues to be underpinned by China's urbanisation; production of steel rebar, which is used for construction, grew 15.9% in the first eight months of 2012. China Oriental's key steel product H-section, which accounted for 52% of its self-manufactured steel products gross profit in H112, is used for infrastructure construction.
What could trigger a rating action?
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- leverage as measured by normalised working capital adjusted net debt/EBITDAR above 1.5x for two consecutive years or above 2.0x in any single year
- further working capital increases without a corresponding increase in revenue
- significant weakening of China Oriental's strategic and operational ties with ArcelorMittal, one of its major shareholders
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
-leverage below 1.5x over the next 12 to 18 months. However, as the current Rating Outlook is Negative Fitch's sensitivities do not currently anticipate developments with a material likelihood, individually or collectively, of leading to a rating upgrade.