Fitch Ratings affirms Cimentos Tupi's rating, Brazil

Fitch Ratings affirms Cimentos Tupi's rating, Brazil
Published: 01 April 2013


Fitch Ratings has affirmed Brazilian cement producer's Cimentos Tupi's 'B' ratings but has warned that a ratings downgrade could result from delays in the inauguration of the its new kiln. 

Tupi is expected to receive government licenses to start operation of its Pedra do Sino kiln during May. "Receiving the approval in a timely manner will be crucial to avoiding a future downgrade, as the company's size is not sufficient to support its debt obligations over the medium term without the sales volumes that are projected to result from the new plant," Fitch said in a statement

Tupi's small production scale and its lack of geographic diversification heighten the risk of its exposure to the volatility of the cement industry, the ratings agency notes. It adds that Tupi's cost structure is higher than the largest integrated Brazilian cement producers. The strong credit profile of these large companies could allow them to pressure prices during a downturn in the industry in an attempt to sustain volumes, which would negatively affect Tupi's ability to service its debt.

The company is currently implementing a new operating model. This is a result of the termination of a supply agreement, effective April 2012, for slag from CSN, which is increasing its presence in the cement sector. Tupi's strategy is to expand its unit at its Pedra do Sino plant, which will significantly reduce the company's reliance on slag and increase total overall nominal production capacity to 3.2Mta of cement from 2.4Mta. Absent this expansion, Fitch estimates that the company's nominal capacity would be reduced to 1.6Mta. Tupi has already run out of slag inventories and currently faces challenges to find alternative suppliers to maintain current production levels.

Under current conditions, Fitch foresees limited room for growth in 2013. Tupi generated BRL66m of EBITDA and BRL41m of funds from operations (FFO) during 2012. This was quite in line with the agency's expectations, considering the lack of raw material (slag). Free cash flow (FCF), defined as cash flow from operations less dividends and investments, was negative BRL202m as a result of its expansion project (BRL220m) and dividends (BRL15m).

If the Pedra do Sino project fails to start operations until July, Fitch expects Tupi's EBITDA to be similar to 2012. FCF will likely be negative by about BRL50m during 2013 due to high capex.

About 63 per cent of its debt is denominated in USD, and 100 per cent of its cash flow generation is in local currency. As of December 31, 2012, Tupi's total debt was BRL470m, basically consisting of BRL297 of the bond issuance, BRL103m of banking loans and BRL34m relative to tax financings.Tupi forecasted BRL250m of capex for its expansion plan. Expenses related to the expansion project have increased to about BRL350m. This cost overrun, along with a weaker foreign exchange rate that increased its debt levels in terms of Brazilian reais, have resulted in leverage levels higher than projected.

During 2012, Tupi's net leverage ratio was 6.7x. Fitch's base case forecasts this ratio will climb to 7.7x in 2013. If the company is able to get the new mill operating in the middle of 2013, it should be able to achieve sales volumes in 2014 that would allow it to lower its leverage ratio to 4.5x during 2014.

Favorable prospects for the sector

The positive outlook for the cement sector in Brazil, reflecting the expansion of the real estate segment and infrastructure projects, should also favor Tupi's operations, which are largely dependent upon favorable prices and high capacity utilisation levels.

Profitability margins should remain relatively flat, however, as a lot of new capacity is being added by the leading cement producers. Tupi's end-market, which is highly oriented toward the refurbishment and construction of homes, should not be affected materially by the high level of infrastructure projects in Brazil, as it is linked more with unemployment and income levels.

Ratings sensitivities

A ratings downgrade could result from further delays in the inauguration of its new kiln. A significant deterioration in the company's cash flow generation and operating margins due to a downturn in the Brazilian market would also pressure the ratings. Given current challenges related to a shift in its business model, an upgrade of Tupi's ratings is unlikely in the short-to medium-term.