Fitch Downgrades Usiminas to 'B+'; Outlook Revised to Negative
OREANDA-NEWS. Fitch Ratings has downgraded the foreign and local currency Issuer Default Ratings (IDRs) of Usinas Siderurgicas de Minas Gerais S.A. (USIMINAS) to 'B+' from 'BB' and downgraded the national rating to 'BBB+(bra)' from 'A+(bra)'. In conjunction with these downgrades, Fitch has assigned a Recovery Rating of 'RR4' to the securities that have been issued by Usiminas. The Rating Outlook has been revised to Negative from Stable. A full list of rating actions follows at the end of this release.
The downgrade reflects the faster than expected deterioration in the company's profitability and credit profile over the last few quarters, with limited recovery prospects over the medium term. Fitch expects Usiminas to struggle as it attempts to recover its steel volumes during 2016, due to the recession in Brazil and intense price competition in the export market. Furthermore, the company's iron ore business remains unviable, with limited logistical opportunities available for export sales.
The current industry dynamics have required the company to resize its operations. Usiminas recently announced that it will temporarily halt production at its Cubatao mill, which has a nominal annual production capacity of approximately 4.5 million tons (47% of total production capacity). The temporary stoppage will include the plants sintering, coke plant, blast furnace #2, and steel mill operations. The hot and cold roll operations will remain running during this period. The results of this temporary stoppage will lead to additional short-term costs. The capacity utilization rate of its other mill should climb, which will help dilute fixed costs at it. The length of the shutdown is currently unknown.
The Negative Outlook reflects Usiminas' challenges to recover its operating cash flow generation, to rebalance its capital structure and to refinance BRL3.9 billion of debt coming due in the next two years. Usiminas' debt covenants should be breached at year end and will require waivers from creditors. Furthermore, continued conflicts at the board of director's level will likely hamper the company's strategic focus and decision-making process during the difficult economic scenario.
KEY RATING DRIVERS
Deterioration of Domestic & Worldwide Steel Markets:
Usiminas' operating performance has been negatively impacted by the continued decline for domestic steel in Brazil. Flat steel consumption in Brazil was down 18% during the first nine months of 2015 with limited expectations of recovery over the near term. Brazil's industrial sector has declined for the 18th consecutive month with continued weakening prospects in the automotive, household appliances, and civil construction sectors. Excess global steel production capacity has increased to 735 million tons as of September 2015 from 611 million tons at the end 2014, which will continue to put downward pressure on international market prices and making high cost producers economically unfeasible. China alone exported 130 million tons of steel annualized through September 2015, a key driver of the lowest global steel prices seen in a decade.
Brutal Operating Environment:
Usiminas reported a material decline in operating performance during the first nine months of September 2015, which Fitch expects to persist during 2016. Domestic steel sales volumes declined 24% as weaker demand levels were experienced across many of Usiminas' end markets. Partially offsetting the decline in domestic demand was an increase in steel exports, particularly to the U.S. and Argentina. Steel volumes exported represented 27% of total volumes sold during the nine months ended September 2015, an increase from 17% during the prior year period. However, the offset in volumes sold in the domestic market compared to the export market will further lead to margin compression and increased working capital needs for exports.
Weakening Liquidity Position:
Usiminas' liquidity position has declined to BRL2.4 billion as of Sept. 30, 2015 compared to BRL2.9 billion as of Dec. 31, 2014. The company's cash-to-short ratio was 1.3x as of Sept. 30, 2015 compared to 1.7x as of Dec. 31, 2015. Current cash on hand can cover maturities through 2016 but will face refinancing issues for its amortization profile beyond 2016 if it does not lengthen its maturity schedule. Usiminas will breach its net debt / EBITDA covenant of 3.5x at year end, which it has on approximately 70% of its bank debt outstanding.
Unprofitable Iron Ore Business:
Usiminas has no ability to generate significant cash flow from its iron ore business due to lack of port access. The company cancelled its contract with the Sudeste Port during June 2015 after the port failed to open after more than three years of delays. Usiminas' cash cost per ton for iron ore was BRL51.3 in 3Q15, which is well below current iron ore prices. Fitch believes it is not likely that Usiminas will gain port access in the near term.
Rapid Increase in Leverage:
Usiminas' swift increase in net leverage to 6.8x for the LTM Sept. 30, 2015 compared to 2.1x during 2014 will likely further deteriorate over the next several quarters due to sustained challenging operating conditions coupled with further devaluation of the BRL. Steel cash cost per ton remained relatively flat during 3Q15 at BRL1,490 per ton. Approximately 40% of Usiminas' steel cash costs are denominated in USD. As a result, the weaker Brazilian real pressured costs to a degree. Most of this pressure was offset by lower iron ore and coal/coke prices. Steel adjusted EBITDA in 3Q15 totaled negative BRL81.8 million compared to a positive BRL205.5 million in 2Q15 due to lower volumes and prices in the domestic market coupled with higher COGS and operating expenses. Fitch projects Usiminas' net leverage to likely remain around 9x absent significant domestic volume improvement or price increases during 2016.
Cash Flow To Remain Under Pressure:
Fitch projects Usiminas' Funds from operation (FFO) to be reduced to approximately BRL350 million and for FCF to be negative in 2015, compared to FFO and FCF of BRL1.2 billion and BRL110 million in 2014. The company's expectations of lower capex requirements and improved working capital management will partially offset the lower levels of CFFO generation during 2016. Fitch projects Usiminas to generate negative to neutral free cash flow in 2016. Furthermore, Fitch expects Usiminas to have difficulty raising cash through any potential asset sales, as the company has very limited non-strategic assets it could dispose of coupled with the inability to monetize any asset sales at maximum value given the current market conditions.
--15%-18% decline in Steel Volumes;
--Limited price increases in 2016;
--Successful covenant waivers received from all banks;
--Successful refinance of 2016 and 2017 bank debt maturities due;
--2016 EBITDA margin of 6.3%.
Fitch could downgrade Usiminas' ratings further if the company is unable to negotiate its debt covenants and maturity schedule amortization, which would further pressure its liquidity position and increasing refinancing risks. Additionally, further deterioration in the company's operating cash flow generation or inability to sustain lower levels of capex could also warrant a downgrade.
An upgrade of the ratings for Usiminas is not likely in the near term. Fitch could revise the Outlook to Stable if the company refinances its maturities due over the next two years, successfully completes asset sales or an equity raise to reduce leverage, and/or material improvement in domestic steel demand in Brazil.
Usiminas' liquidity position has declined to BRL2.4 billion as of Sept. 30, 2015 compared to BRL2.9 billion as of Dec. 31, 2015, which Fitch expects to further erode. The company's cash-to-short ratio was 1.3x as of Sept. 30, 2015 compared to 1.7x as of Dec. 31, 2015. Current cash on hand can cover maturities through 2016 but will face refinancing issues for its amortization profile beyond 2016 if it does not lengthen its maturity schedule. Usiminas will breach its net debt / EBITDA covenant of 3.5x at year end, which it has on approximately 70% of the company's debt outstanding with banks.
FULL LIST OF RATING ACTIONS
Fitch has downgraded Usiminas' ratings as follows:
--Foreign currency IDR to 'B+' from 'BB';
--Local currency IDR to 'B+' from 'BB';
--National scale rating to 'BBB+(bra)' from 'A+(bra)';
--US$400 million notes due 2018 to 'B+/RR4' from 'BB'.
The Rating Outlook is Negative.