(The following was released by the rating agency) Overview
-- Favorable CPO prices and operating efficiency that is better than the industry average will support IOI's operating performance in 2012-2013, in our opinion.
-- We are affirming our 'BBB+' long-term corporate credit rating on IOI. At the same time, we are affirming the 'BBB+' issue rating on the company's guaranteed notes.
-- The stable outlook reflects our expectation that IOI's operating and financial performance will remain steady over the next 12-18 months.
On May 14, 2012, Standard & Poor's Ratings Services affirmed its 'BBB+' corporate credit rating on Malaysia-based palm oil producer IOI Corp. Bhd. The outlook is stable. At the same time, we affirmed the 'BBB+' issue rating on the company's guaranteed senior unsecured notes and our 'axA+' ASEAN scale rating on IOI.
We affirmed the ratings because we expect IOI to maintain its steady operating performance over the next 12-18 months. Favorable crude palm oil (CPO) prices and strong demand from China and India will underpin the company's performance. We expect the growth in global CPO production to be limited over the next 12-18 months due to the lack of palm oil substitutes, ageing plantations, and suboptimal farming practices. We continue to assess IOI's business risk profile as "satisfactory" and its financial risk profile as "intermediate".
The ratings reflect IOI's integrated palm-oil operations, the favorable age profile of its palm plantations, its sound access to capital markets, and competitive cost position. The industry risks associated with the plantation business, and IOI's increasing exposure to property development partly offset these strengths.
More than 70% of IOI's plantations are in the "prime stage"--the period in which a plant's fruit-bearing ability is the highest. The company's key operating parameters such as yield per mature hectare and oil extraction rates for CPO and palm kernel are better than the industry average. This helps IOI maintain its competitive cost position.
The integration of IOI's plantation business with downstream manufacturing supports the company's business risk profile. More than 90% of IOI's plantation sales are to its downstream facilities. Such integration reduces the company's exposure to volatile CPO prices and provides cash flow stability. IOI's key operating parameters in the fiscal year ended June 30, 2011, were slightly weaker than in fiscal 2010. But a 24% increase in CPO prices offset this weakness.
We believe the recent inflationary pressures on the costs of labor and raw materials, such as fertilizer, will not significantly lower IOI's margins. The company is exposed to the risks associated with the commodity business. Weather affects CPO production. We expect excess palm oil refining capacity in the industry to lower capacity utilization at IOI's refineries.
IOI's increasing exposure to property development could weaken the company's business risk profile. We believe property development is a cyclical business. Unit sales and average price realization are unpredictable, leading to low visibility for revenues and cash flows. The contribution of the property investment segment to IOI's revenues is miniscule. This segment tends to be less risky and has stable and recurring rental income.
The company has been prudent in investing in land for new projects especially in Singapore's high-end property market. However, an increasing pace of similar project launches could diminish IOI's cash balance and liquidity, weakening its financial risk profile.
We expect modest growth in the company's cash flows over the next two years. We also expect it to reduce debt during this period. We therefore estimate IOI's ratio of funds from operations (FFO) to debt at slightly more than 30% and its debt-to-EBITDA ratio at about 2.5x over the next two years.
IOI's liquidity is "adequate", as defined in our criteria. We expect the company's sources of liquidity to exceed its uses by more than 1.5x in fiscals 2012 and 2013. Our liquidity assessment is based on the following factors and assumptions:
-- IOI's sources of liquidity include a cash balance of Malaysian ringgit (MYR) 2.9 billion as of June 30, 2011, and our projection of FFO of about MYR2.5 billion in fiscals 2012 and 2013.
-- The company's uses of liquidity include capital expenditure of about MYR500 million, debts maturing of about MYR550 million in fiscal 2012 and about MYR500 million in fiscal 2013, and our dividend projection of about MYR900 million.
-- We have also considered new investments or acquisitions of about MYR1.0 billion.
-- We anticipate that IOI's net sources of liquidity will remain positive even if EBITDA declines by 50%. We believe that IOI has good financial flexibility with strong access to financial markets and conservative financial policies. The company remains in compliance with its financial covenant requirement.
The stable outlook reflects our expectation that IOI's operating performance will remain stable over the next 12-18 months. Although the company's exposure to the property segment is increasing, we do not expect this exposure to affect the ratings during the forecast period. We expect IOI's cash flow measures to remain supportive of the rating.
We may lower the rating if lower demand for CPO-related products weakens IOI's margins, or continued high debt-funded investments in the property business weaken the company's financial metrics such they are no longer commensurate with an "intermediate" financial risk profile. A total-debt-to-EBITDA ratio exceeding 2.8x on a sustained basis will be a downgrade trigger.
Limited diversity and the inherent volatility in IOI's businesses limit the potential for a rating upgrade. Nevertheless, we could raise the rating if we see substantial improvement in the company's financial risk profile, while its business risk profile remains the same.