Alumina Ltd. Ratings Raised To #BBB-# On Improving Earnings Of Outlook Stable

Stocks and Financial Services Press Releases Wednesday May 16, 2018 10:29
MELBOURNE--16 May--S&P Global Ratings

MELBOURNE (S&P Global Ratings) May 16, 2018--S&P Global Ratings said today that it had raised the long-term issuer credit rating and associated issue rating on Alumina Ltd. and its senior unsecured debt to 'BBB-' from 'BB+'. The outlook on the long-term rating is stable.

We raised the ratings to reflect the improved earnings and cash flows of Alumina's joint venture (JV), Alcoa World Alumina and Chemicals (AWAC), as well as the stronger credit quality of AWAC's operating company, Alcoa Corp. In addition, we expect both Alumina and AWAC to maintain a low level of debt, which is key to their resilience amid volatile commodity prices.

We view the industry fundamentals for smelter-grade alumina to be favorable. The global market for alumina is likely to be slightly undersupplied relative to demand in 2018 due to limited new supply and healthy demand expansion from synchronized economic growth globally.

Strong aluminum and alumina prices are driving a surge in earnings and cash flow for AWAC, enabling the JV to bolster its dividend payment in 2018. Year-to-date spot alumina prices averaged at US$445 per ton. In our forecast, we assume alumina prices to average around US$350 per ton for the rest of 2018. Although prices recently rose to US$700 per ton, we believe the price hike was temporary because it was driven by short-term factors. These include a supply disruption at Brazil-based Alunorte, the world's largest alumina refinery, and fear of sanctions affecting alumina supply from United Company RUSAL (not rated). Prices have since retreated to more normal levels.

Based on our alumina price assumption for 2018, Alumina should receive strong dividends from AWAC, supporting strong credit metrics. Furthermore, assuming Alumina maintains its currently low leverage, it can still generate credit metrics consistent with the 'BBB-' rating even if alumina prices were to fall to US$270 per ton (all other things being equal).

Alumina's business risk profile reflects our view that AWAC's good business position as one of the world's largest alumina producers provides AWAC with the size and scope to adjust its operations to respond to market conditions. Tempering these strengths is Alumina's minority shareholding in AWAC rather than direct control over AWAC's cash flows. Alumina's JV partner, Alcoa Corp., is the majority owner and operator of the assets, and as such, poses a counterparty risk for Alumina, in our view.

We view that AWAC's operating performance and dividend payment are key to Alumina's credit quality. Being a 40% stakeholder in AWAC, Alumina relies solely on the dividend distribution from AWAC to service its debt and corporate expense. To reduce the potential risk of structural subordination, AWAC's amended charter agreement limits any substantial debt funding at the asset level.

We consider material debt funding at the AWAC asset level as less likely. This is because the target enterprise debt level at AWAC is limited to US$75 million over the foreseeable future (or US$200 million if Alcoa achieves an investment-grade rating), when permissible under Alcoa's amended revolving facility. AWAC also has a track record of keeping its debt low at the asset level. Its funding comes mainly from internally generated cash flows or capital injection by its JV partners. AWAC has to use any debt it undertakes to fund growth projects.

The stable outlook on Alumina reflects our view that the company's improved credit measures are sustainable, driven by its conservative balance sheet, and our expectation of strong dividend payment from AWAC due to increasing alumina prices. Metrics that are in line with the 'BBB-' rating include an adjusted free operating cash flow-to-debt ratio of about 40%. In our view, Alumina has sufficient rating buffer to withstand a moderate decline in alumina prices, given its low leverage.

The stable outlook also reflects the stable credit quality of AWAC's operating company Alcoa Corp.
The ratings may face downward pressure if the company's financial profile sustainably worsened such that its FOCF to debt remains below 40%.
Such deterioration could occur if:
  • Alumina incurs more debt while AWAC's dividend payment reduces due to a material fall in alumina prices.
  • If Alcoa of Australia incurred a material operating outage such that it reduces its dividend payment to Alumina.

In addition, any negative rating actions on Alcoa Inc. could place downward pressure on the rating on Alumina because of potential counterparty risk. Apart from being the operator of AWAC, Alcoa is also a key off-taker for AWAC's smelter-grade alumina shipments.

An upward rating action is less likely given Alumina's critical dependence on the dividend stream paid by AWAC as well as the volatility of its cash flows.

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