Fitch Downgrades Arendal to 'CCC'
The downgrade reflects the lack of progress the company has made toward refinancing its short term debt, including its USD100 million notes due during May 2016. The current low oil price scenario has caused Arendal's major customer, Pemex, to reduce capex and extend its supplier payment terms. This has resulted in significant lengthening of the company's working capital cycles as its receivables with Pemex have grown. Positively, Arendal's reputation and overall business profile continue to move forward as evidenced by its increasing project backlog. This implies, however, that the company will need additional debt to fund the working capital needed to support these new projects, adding one more challenge to its current financial situation.
The expected Recovery Ratings of 'RR4' reflect average recovery prospects given default. 'RR4' rated securities have characteristics consistent with securities historically recovering 31%-50% of current principal and related interest.
KEY RATING DRIVERS
Customer and Project Concentration
Arendal has gained increasingly larger projects which have helped the company grow rapidly, but this growth has come with large-project concentration risks. A single large project can at times represent 40% of revenues or more. Additionally, the company's revenue mix is significantly oriented toward the public sector. During 2015, Arendal generated about 80% of its revenues from contracts with Pemex. Considering the available backlog, revenues from Pemex as the ultimate client will likely continue to represent a large portion of the company's revenue source.
In Fitch's opinion, under a stress scenario recovery of debt instruments associated with pledged contracts would have access to the existing accounts receivable to cover outstanding debt; the remaining balances would form part of the mass of unsecured creditors with average prospects of recovery between 31%-50%.
--Flat to low single digit revenue growth for 2016; revenue growth accelerates in 2017 as the company executes the bulk of its DUBA-Salina Cruz project.
--MXN1.5 billion in working capital flows for 2016 and subsequent recovery of MXN1.2 billion in 2017.
--No dividend payments.
Absent a successful refinancing, Fitch could downgrade the ratings to CC within a month of the 2016 notes maturity.
Successful debt refinancing and funding of operations through a combination of internal and external sources could result in the rating being upgraded to B-.
Arendal's cash balance at year-end 2015 was MXN889 million, compared to MXN3.9 billion of short-term debt maturities. The company's cash flow from operations was negative MXN893 million. Free cash flow was negative MXN1.1 billion underperforming Fitch's prior expectations, largely due to higher working capital requirements. Accounts receivable with Pemex including costs incurred not yet billed total about MXN1.8 billion
FULL LIST OF RATING ACTIONS
Fitch has downgraded Arendal's ratings as follows:
--Long-term Foreign Currency Issuer Default Rating (IDR( to 'CCC' from 'B';
--Long-term Local Currency IDR to 'CCC' from 'B';
--Unsecured notes due 2016 to 'CCC/RR4' from 'B/RR4'.