Fitch Affirms OCP at 'BBB-'; Outlook Stable
OCP's ratings reflect its vertical integration, competitive cost position, exceptionally large ore reserves, and its leading market positions in phosphoric acid and phosphate rock. The ratings also capture the progress to date on OCP's transformational expansion strategy, which should translate in the near-to medium term into material cost savings, capacity increases and enhanced product diversification and production flexibility.
Rating constraints include the group's exposure to the phosphate fertiliser cycle; in particular investment spending is peaking at a time when market conditions are softening. Given its 94% state ownership and strategic importance for the Moroccan economy, OCP's IDR cannot be higher than Morocco's Country Ceiling of 'BBB'.
The Stable Outlook reflects our view that leverage should reduce materially following a temporary spike in 2014 as the group realises the benefits of its transformational investment programme.
KEY RATING DRIVERS
Large Reserves and Cost Competitiveness
OCP owns the largest reserves of phosphate rock in the world and ranks among the most cost competitive producers in the phosphates sector. The exceptional size of OCP's reserves (c.200 year life) is a key feature supporting the viability of the group's long-term expansion plans. With phosphate rock reserves becoming depleted and/or diminishing in quality and poor prospects for non-integrated producers, substantial capacity increases are not expected in the long run, although supply-driven pressure could come in the near term from Saudi Arabia (Ma'aden) or China. Profitability is supported by the group's full vertical integration into phosphate rock production.
Pipeline to Enhance Cost Position
The 234km slurry pipeline that links OCP's Khourigba phosphate rock mine to the processing hub of Jorf Lasfar was commissioned in 2014 and will be fully operational at the beginning of 2015 with progressive ramp-up of capacities during the year. With an annual capacity of up to 35 million tonnes (mt), it should considerably reduce requirements for energy, water, and road and rail transportation. We forecast an improvement in profitability in 2015, reflecting the enhanced cost base and, to a lesser extent, higher capacity utilisation rates and lower raw material costs. Under our base case, EBITDA margin is projected to increase to and remain above 30% from 2015 onwards, from 23% in 2013.
Progress on Transformational Capex Programme
In our view, the execution risk associated with the 2008-2016 phase of OCP's investment programme (including the slurry pipeline) has reduced materially with the progress made to date. The expansion of the mines (open pit) and beneficiation plants will yield a 5mt increase in annual phosphate rock production capacity to 35.1mt by 2016. At Jorf Lasfar, OCP has built two granulation plants with an annual aggregate capacity of 1.7mt and is completing four identical fully integrated fertiliser production units of 1mt each, to be commissioned between 2014 and 2016. In parallel, Jorf Lasfar's port infrastructure and storage facilities are also being expanded.
Leverage Increases on High Capex
OCP's funds from operations (FFO) gross and net adjusted leverage increased to 3.5x and 2.7x respectively at end-2013 and are expected to have increased further to around 4.0-4.5x on a gross basis and over 3.0x for net FFO leverage in 2014. These levels are above the upper limit for the current ratings and reflect continuing high investment levels and difficult market conditions in 2014. Our expectation is for net leverage to return within our forecast range of 2.0x-2.5x over 2015-2016. This assumes annual capex being maintained at an average of MAD22bn (partly debt-funded), and a gradual improvement in operating cash flow generation on the back of the cost efficiencies and new capacity.
At end-1H14, OCP had cash and cash equivalent reserves of MAD7.5bn against short- term debt of MAD4bn. The company also had short-term investment (tenors above 90 days) of MAD10.6bn. Under our base case, free cash flow (FCF) is expected to remain negative due to the high capex levels and we assume that OCP will continue to access the domestic and international bank and debt capital markets for its investment and refinancing needs. Other cash requirements include contributions to its private pension plan and dividend payments, which we believe can be tailored to match fluctuations in the group's cash flow generation.
Exposure to Cyclicality and Volatility
OCP is less diversified across nutrients than some of its competitors and its ratings are constrained by its exposure to the phosphate fertiliser cycle. While demographic growth and reduced arable land support long-term demand fundamentals for fertilisers, volatility in both pricing and demand is high and dictated by factors outside of producers' control. Erratic demand patterns from key consumers (e.g. India), adverse weather conditions or capacity additions can translate into material declines in cash flow generation. In mitigation, improvements in cost position, production flexibility and arbitrage options should afford OCP increasing flexibility during market downturns.
Despite its 94% state-ownership, OCP's ratings are not linked to that of Morocco (BBB-/Stable). We have assessed the operating and legal ties under Fitch's Parent and Subsidiary Rating Linkage methodology and regard them as weak. We view the group's ongoing transformation and strategic focus as evidence of an independently run profit-oriented business model with little influence from the state. Nevertheless, given OCP's strategic importance for the Moroccan economy, negative pressure on the sovereign's rating may have implications for OCP and would lead us to review the government's stance towards the group.
Key Man Risk
A departure of Mostafa Terrab, OCP's CEO and Chairman, and resulting succession risk could put pressure on the ratings. Although we recognise the high calibre and experience of the senior management team, Mr Terrab's vision and influence are critical to the successful execution of OCP's expansion strategy.
-Volume driven low-double digit revenue growth in 2015 as new assets developed under the capex programme become operational
-EBITDA margins to be sustained over 30% due to lower transportation costs resulting from commissioning of the slurry pipeline as well as higher fertiliser product sales
-Capex in line with management plans
Positive: Although not envisaged over the next one to two years, future developments that could lead to positive rating action include:
- Successful completion of the expansion programme with fundamental improvements in OCP's resilience to phosphate cyclicality
- FFO net adjusted leverage sustained below 1.5x
- Positive FCF generation through the cycle
Negative: Future developments that could lead to negative rating action include:
- EBITDA margins dropping below 15% (FY13: 23%) and/or FFO net leverage sustained above 2.5x indicating fundamental trends contrary to the base rating case
- Departure of Mr Terrab and resulting succession risk
- Pressure on Morocco's ratings accompanied by evidence of upstreaming or retention of cash (dividends, taxation) or strategic changes adverse to the credit standing of the group.