RAM Ratings places Malakoff’s Senior Sukuk on negative Rating Watch; no more rating obligation on Junior Sukuk

Published on 06 September 2012

RAM Ratings has placed the respective long-term ratings of Malakoff Corporation Berhad’s (“Malakoff” or “the Company”) RM600 million Islamic Commercial Papers/Islamic Medium-Term Notes Programme (2007/2014) (previously rated AA3/Stable/P1) and RM5.6 billion Islamic Medium-Term Notes Programme (2007/2027) (previously rated AA3/Stable/-) (collectively referred to as Senior Sukuk) on Rating Watch, with a negative outlook. Malakoff is an investment-holding company with interests primarily in power generation and maintenance services for power plants.

On a related note, RAM Ratings no longer has any rating obligation on the Company’s RM1.7 billion Junior Sukuk (“Junior Sukuk”) (2007/2057) following an early redemption and cancellation of the facility via proceeds from a RM1.8 billion unrated subordinated Islamic securities on 3 September 2012. The Junior Sukuk was last rated A2/Negative/- and we had forewarned a potential widening in the rating differential between the Senior and Junior Sukuk should Malakoff’s financial health deteriorate.

The negative Rating Watch on the Senior Sukuk reflects Malakoff’s weakening financial profile vis-à-vis our initial expectations as well as a deferment in the completion of Malakoff’s group-wide corporate restructuring.

The Malakoff Group had RM10.51 billion of consolidated borrowings (excluding the Junior Sukuk) as at end-December 2011, with corresponding gearing ratio of 1.91 times. The cornerstone to Malakoff’s capital structure is the presence of the hybrid Junior Sukuk which has certain equity like features and has been accorded equity credit from a rating perspective. Meanwhile, at the company-level, Malakoff’s debt amounted to RM5.93 billion which translated into a gearing ratio of 1 time.

Based on RAM Ratings assessment, Malakoff’s current financial position is expected to be more fragile going forward. The Company’s equity commitment of RM1.45 billion for its new investment in Tanjung Bin Energy Sdn Bhd (“Tanjung Bin Energy”) (a 1,000 MW coal-fired plant) and its recent 40%-stake purchase in Hidd Power Corporation (Bahrain) for a purchase price of RM0.31 billion (predominantly debt-funded) is expected to further strain the Company’s balance sheet and cashflow profile. Given that these assets have long gestation periods and substantial debts of their own to service prior to making any distributions to Malakoff, incremental earnings and cash generation from the investments (particularly Tanjung Bin Energy) are expected to remain minimal in the near term.

Even prior to the elevated debt burden at Malakoff, the Company is expected to face dwindling cash buffers going forward as a result of loss of tax refunds following the adoption of the single-tier system as well as vastly reduced distributions from its investment in Kapar Energy Ventures Sdn Bhd (via a 40%-stake) given persistent operational hiccups at the plant; that said, the plant has shown some operational improvements since 2010. Notwithstanding these issues, Malakoff has continued to pay an average of RM174 million in dividends per annum over the last 3 years. While the dividend payments are permissible under the Senior Sukuk transaction terms, we are of the view that such levels of dividend payout is likely to further impinge on the Company’s financial robustness given its already highly leveraged balance sheet.

The Group is currently in the midst of a corporate reorganisation, whereby a 100%-owned subsidiary - Malakoff Power Berhad - is expected to assume Malakoff’s obligations on its Senior Sukuk; the proposed reorganisation will help improve the Group’s overall cashflow position and is expected to be concluded in the next few months. Management has also relayed its intention of raising additional capital through an initial public offering (“IPO”) of shares on the local stock exchange; this may be completed by 1Q2013. While the IPO proceeds may be used to partially redeem Malakoff’s hefty debts, there is currently no certainty on the timing of the IPO, the quantum to be raised or the eventual utilisation of proceeds. Given the uncertainties, our financial analysis of the Company precludes any inflows from the proposed IPO.

In our previous rating assessment, RAM Ratings had cautioned that Malakoff’s financial profile and cashflow protection measures leave little room for additional debt without affecting its rating. In the absence of tangible and immediate solutions to address Malakoff’s weakening financial metrics, there is immediate downward rating pressure on the Company’s credit position.

In addition to Malakoff’s thinning cash buffer and highly leveraged balance sheet, the ratings are also moderated by the presence of long-term regulatory risk. On a positive note, supporting the Group’s credit profile is the steady concession-driven cashflow from Malakoff’s stable of independent power producers. Furthermore, its core assets generally demonstrate satisfactory historical operating track records, although there have been some minor glitches of late.

RAM Ratings' Rating Watch highlights a possible change in an issuer's Sukuk rating. It focuses on identifiable events such as mergers, acquisitions, regulatory changes and operational developments that place a rated Sukuk under special surveillance by RAM Ratings. In a broader sense, it covers any event that may result in changes in the risk factors relating to the repayment of principal and interest.

Issues will appear on RAM Ratings' Rating Watch when some of the above events are expected to or have occurred. Appearance on RAM Ratings' Rating Watch, however, does not inevitably mean that the rating will be changed. It only means that a rating is under evaluation by RAM Ratings and a final affirmation is expected to be announced. A "positive" outlook indicates that a rating may be raised while a "negative" outlook indicates that a rating may be lowered. A “developing” outlook refers to those unusual situations in which future events are so unclear that the rating may potentially be raised or lowered.

Media contact

Davinder Kaur Gill

(603) 7628 1118

davinder@ram.com.my