COFCO (Hong Kong) Outlook Revised To Positive On Improving Operating Efficiency Amid #BBB+# Ratings Affirmed

Stocks and Financial Services Press Releases Thursday June 28, 2018 11:40
HONG KONG--29 Jun--S&P Global Ratings

HONG KONG (S&P Global Ratings) June 28, 2018--S&P Global Ratings revised its rating outlook on COFCO (Hong Kong) Ltd. (COFCO HK) to positive from stable. At the same time, we affirmed our 'BBB+' long-term issuer credit rating on COFCO HK and our 'BBB+' long-term issue rating on the U.S. dollar-denominated senior unsecured notes issued by Prosperous Ray Ltd., a wholly owned financing subsidiary of COFCO HK. COFCO HK guarantees the notes.

COFCO HK is a 100%-owned subsidiary of COFCO Corp. (COFCO), a China-based agricultural and commodity food processing and trading company with a presence in more than 140 countries. COFCO is 100% owned by the Chinese central government through the State-owned Assets Supervision and Administration Commission (SASAC), and plays important strategic roles to ensure the stability of food supply and food safety in China.

We revised the rating outlook on COFCO HK to positive to reflect our view that COFCO is making progress with its strategy to improve operating efficiency by rationalizing its organizational structure and through mixed-ownership reform. COFCO's profitability and debt serviceability could as a result continue to improve over the next 12-24 months. We view COFCO HK as a core subsidiary of COFCO and we take a consolidated view of the group when assessing the credit profile of COFCO HK.

We believe COFCO's streamlining of its organizational structure will enable its key operating subsidiaries to have more focused product portfolios or extended supply chains, better cost synergies, and stronger market positions in their respective areas of expertise. The group carried out several intragroup asset reallocations in 2017 to consolidate business segments along the same supply chain into one single operating subsidiary. For instance, China Foods Ltd. (74% owned by COFCO) sold its consumer-pack edible oil business to China Agri-Industries Holdings Ltd. (58% owned by COFCO), which enabled China Foods to focus on its beverage business and China Agri to consolidate the group's edible oil business. We expect COFCO to complete its organizational restructuring by end of 2018.

The mixed-ownership reform at the subsidiaries level will also help COFCO to motivate performance and improve operating efficiency, in our view. Private investors now hold stakes in 14 out of 18 of its major subsidiaries or associated companies, with the remaining four to complete the mixed-ownership reform by end of 2018. Nevertheless, we believe COFCO will remain 100% owned by the Chinese government at the group level.

COFCO's profitability has improved materially in 2017, and we anticipate its EBITDA margin will stabilize over the next 12-24 months driven by improving operating efficiency. In addition, we expect COFCO to further narrow the loss of its commodity trading business after the full integration of Nidera Capital B.V. (renamed as COFCO International Holding Netherlands B.V.) in 2017. However, the benefits will be tempered by the likely volatile commodity prices and headwinds from accelerated trade tensions between China and the U.S. Our base case assumes that COFCO's EBITDA margin will stabilize at 3.5%-3.8% in 2018 and 2019, from 3.8% in 2017.

We believe COFCO will prudently manage its capital investments and debt balances over the next 12-24 months. Although the company's capital expenditure is likely to remain high at about Chinese renminbi (RMB) 10 billion annually on capacity expansions, we do not anticipate any sizeable acquisitions over the next two years. We anticipate that the company's EBITDA interest coverage will stay at 2.6x-2.9x in 2018-2019, from 3.3x in 2017. Nevertheless, COFCO's debt leverage will remain high and well above 5.0x over the next two years, which will continue to constrain its overall credit profile.

We affirmed the ratings because we expect COFCO to maintain its strong market position in the agribusiness and commodity foods industry in China and globally. The group's global sourcing network, good product diversity, and enlarged scale with the integration of COFCO Agri Ltd., Nidera, and Chinatex Corp., underpin its strong competitive position. COFCO is now the world's second largest agribusiness and commodity foods operator by revenue, following Cargill Inc.

The rating affirmation also reflects our anticipation that COFCO would receive strong government support in the event of financial distress. Our assessment of government support continues to be underpinned by the Chinese government's multiple injections of other smaller agribusiness and food-related assets into COFCO and the government's support to COFCO in the acquisition of COFCO Agri and Nidera in 2014. In our view, the group will continue to carry an important policy role in stabilizing food supply, improving food safety, and leading the industry consolidation in China.

The positive outlook on COFCO HK reflects our expectation that COFCO group's profitability and debt serviceability could continue to improve over the next 12-24 months, driven by the group's efforts on rationalization of business structure and the mixed-ownership reform. We also expect the group to maintain its strong market position, prudently manage capital investment and debt balance, and continue to play an important policy role in maintaining food supply and security in China.

We could raise the rating if COFCO continues to improve its operating efficiency and cash flow generation, such that its EBITDA interest coverage sustains comfortably above 2.5x and debt leverage stabilizes.

We could also raise the rating if we assess that the likelihood of COFCO to receive extraordinary government support improves materially, in a less likely scenario. This could happen if the company assumes a greater policy role to ensure food supply and safety for the government, such that its importance to the government increases.

We could revise the outlook back to stable or lower the rating if:
  • COFCO's EBITDA interest coverage falls below 2.5x or debt-to-EBITDA ratio increases significantly due to weakening profitability amid volatile commodity prices, accelerated trade tensions between China and the U.S., or more aggressive debt-funded capital investments than we anticipate; or
  • We no longer assess COFCO HK as a core entity of COFCO--in particular if COFCO materially reduces its shareholding in COFCO HK or if COFCO HK's profit contribution to the group significantly declines; or
  • We assess the likelihood of COFCO receiving extraordinary government support has decreased or that the Chinese government's credit profile has substantially weakened, in a less likely scenario.

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