RAM Ratings reaffirms AA3 rating of Edaran SWM

Published on 28 November 2013

RAM Ratings has reaffirmed the AA3/stable rating of Edaran SWM Sdn Bhd’s (Edaran or the Company) initial issuance of RM750 million (sukuk) under its Islamic MTN Programme of up to RM1 billion in nominal value (2012/2032). By way of a Sub-contract Agreement, Edaran is the main sub-contractor appointed by its sister company, SWM Environment Sdn Bhd (SWME). Under a 22-year concession agreement (CA) with the Government of Malaysia (GoM), SWME is the exclusive provider of solid-waste collection services and public cleansing services (cleaning of public drains, grass cutting, street sweeping and the cleaning of public areas) in the states of Johor, Negeri Sembilan and Melaka.

The rating reflects Edaran’s favourable business profile, underpinned by the provision of collection and cleansing services in areas allocated by SWME. In return for carrying out the Services, Edaran will receive fixed fees (a proportion of SWME’s fees under the CA) so long as it meets the undemanding operational requirements. Demand for the services is tied to household growth, which has been stable. Moreover, Edaran’s counterparty risk is deemed low given that the ultimate and sole paymaster is Solid Waste and Public Cleansing Management Corporation (the Corporation), which receives its funding from the GoM.

During the reviewed period, SWME incurred higher-than-expected penalties and payments due to external subcontractors. Despite this, Edaran’s net cashflow from operating activities was still adequate as the entire penalties was not passed on to Edaran. SWME is currently negotiating with the Corporation on a possible review of operating requirements and the resultant penalties.

On a forward-looking basis, RAM’s sensitised cashflow analysis, which incorporates some changes in contractual terms between Edaran and SWME as well as increased operational costs, indicates that Edaran’s minimum finance service coverage ratio will come up to a robust 2.70 times (with cash balances, calculated on payment date). Edaran’s prefinancing cashflow is expected to be negative in 2014 before recovering in 2015 as it spends the remaining RM500 million-RM600 million under its planned capex programme, which will be funded by the remaining proceeds from the sukuk issuance and progressive equity injections. The Company’s pre-financing cashflow is expected to average at around RM150 million after that. Under our cashflow analysis, the Company is not expected to make any distributions to its shareholder throughout the tenure of the sukuk due to its stringent financial covenants.

Nonetheless, the rating is moderated by SWME and, correspondingly Edaran’s exposure to tariff-revision risk. Any revision of SWME’s fees will cause a corresponding change in Edaran’s fees. Notably, the GoM has exclusive and absolute discretion to decide on the review of SWME’s fees, even though the CA specifies the mechanism and a host of considerations for such review. Conservatively, our analysis assumes that the fees remain constant throughout the tenure of the sukuk. Similar to other concession-based businesses, regulatory and force majeure risks are inherent.

Media contact

Jocelyn Chiang

(603) 7628 1124

jocelyn@ram.com.my