OREANDA-NEWS. Fitch Ratings has assigned Russia-based Evraz Group S. A.'s (Evraz Group) USD500m 6.75% notes due in 2022 a final senior unsecured rating of 'BB-' and places the rating on Rating Watch Negative (RWN). The rating is in line with Evraz's Long-Term Issuer Default Rating (IDR) of 'BB-'/RWN.

The bonds rank pari passu with existing senior unsecured debt and include limitations on additional indebtedness (subject to consolidated debt/EBITDA being less than 3.5x). Simultaneously with the bond issue, Evraz has tendered USD344m of its 2017/2018 existing bonds as well as Raspadskaya's 2017 bonds (for a total consideration of USD368m), and used the remaining proceeds as well as cash on balance to call a make whole on their outstanding 2017 bonds.

The assignment of the final rating follows the receipt of documents conforming to the information previously received. The final rating is the same as the expected rating assigned on 1 June 2016.

KEY RATING DRIVERS

RWN

We placed the group's ratings on RWN following the release of its 2015 annual results, which fell below our base case expectations. This reflected generally weak demand trends for steel in the Russian market and in particular construction steel. We believe there is a higher risk that Evraz Group's credit metrics will not return within expected parameters for the current rating, including funds from operations (FFO) gross leverage sustainably below 3.5x over the next two to three years.

We expect to resolve the RWN over the next two months. Over this period, we expect to meet with the company's management to better understand expectations for future operating performance as well as potential options to reduce absolute debt levels. We will also monitor the development of short-term market conditions and prices.

Weak Financial Performance, High Leverage

Weak end-market conditions had a significant impact on Evraz's financial performance in 2015. Revenues were down 33% compared with 2014 due to a combination of a materially lower product prices and lower production volumes. However, a favourable foreign exchange impact on rouble-denominated costs, together with the cost efficiency measures implemented by management, have largely contained the drop in EBITDA margins, going down to 16.0% from 17.6%.

Results were materially below our expectations from the previous base rating case in September 2015, both in terms of debt reduction and profitability. We expected then that EBITDA would be USD1.8bn for 2015 and FFO gross leverage would be approximately 4.0x in 2016 and not exceed 3.5x over the rating horizon. Instead, the company achieved USD1.4bn EBITDA, largely due to a further drop in domestically sold long products prices, and FFO gross leverage was 5.4x, and is now forecasted to exceed 5.0x in 2016 and remain over 3.5x until end 2019.

Challenging Operating Environment in Key End-Markets

Evraz's key domestic end-markets are construction, amounting to 37% of 2015 production volumes, and railway products (8%), while about 45% of Russian production was exported in the form of semi-finished products. Russian GDP declined by 3.8% in 2015, driving consumption and prices significantly down significantly. Construction and railways prices dropped by 32% and 29%, respectively, in 2015. Since March 2016, steel prices have shown signs of recovery. However, the sustainability of this positive momentum is uncertain. We do not expect prices to significantly recover in 2016, in line with Russian GDP, but factor in that prices will not reach the lows of December 2015 and January 2016.

Raspadskaya Ratings Linked to Evraz

Stronger ties between Evraz plc and Raspadskaya developed after Evraz increased its ownership to 82% in January 2013. The companies have since merged several support departments, such as treasury, logistics and other operations to increase synergies. Evraz remains a top-three offtaker for Raspadskaya, which plays a crucial part in Evraz's integration into coal. Despite these factors, a one-notch differential remains appropriate and reflects the absence of formal downstream corporate guarantees for Raspadskaya's debt from Evraz.

High Raw Material Self-Sufficiency

Evraz Group benefits from high self-sufficiency in iron ore and coking coal, including supplies of coal from its subsidiary Raspadskaya. Consequently, it is better placed across the steel market cycle to control the cost base of its upstream operations than less integrated Russian and international steel peers. The cash cost of slab production at Evraz's Russian steel mills is estimated to have fallen by around 50% in absolute terms to USD195/t since 2013, reflecting a combination of operating cost efficiencies and the fall in value of the rouble, which have enabled the company to maintain high plant capacity utilisation.

Corporate Governance

We regard Evraz's corporate governance as reasonable compared with its Russian peer group, but we continue to notch down the rating in respect of corporate governance by two notches relative to international peers. This factors in our view of company-specific corporate governance practices but also the higher than average systemic risks associated with the Russian business and jurisdictional environment.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for Evraz plc/Evraz Group/Raspadskaya include:

-USD/RUB exchange rate: 75 in 2016, 68 in 2017 and 62 in 2018

-Fall in steel sales volumes in 2016 of 5.3%, progressive recovery thereafter (+1% in 2017 and 4% in 2018 and 2019)

-Fall in coal sales volume in 2016 of 2%, flat in 2017 and steady growth thereafter (+2% in 2018-2019)

-Decrease in prices of steel products and coal in 2016 (-14% for steel and -2% for coal), progressive increase thereafter

-USD450m capex spend in each of 2016 and 2017, USD500m thereafter

-No dividends payments or share buybacks over period to 2018

RATING SENSITIVITIES

Evraz plc/Evraz Group SA

Negative: Future developments that could lead to negative rating action include:

- FFO-adjusted gross leverage above 4.0x by end-2016 or sustained above 3.5x.

- FFO-adjusted net leverage sustained above 3.0x.

- Persistently negative FCF.

- Failure to extend debt maturities falling due in 2017 and 2018.

Positive: Future developments that could lead to an affirmation include:

-Further absolute debt reduction with FFO gross leverage moving sustainably below 3.0x.

-FFO-adjusted net leverage sustained below 2.5x.

-Sustained positive FCF.

OAO Raspadskaya

Positive: Future developments that could lead to positive rating action include:

-Stronger operational and legal ties with Evraz, including a corporate guarantee of Raspadskaya's debt, which could lead to the equalisation of the companies' ratings.

-A positive rating action on Evraz plc, which could lead to a corresponding rating action on Raspadskaya.

Negative: Future developments that could lead to negative rating action include:

-Evidence of weakening operational and legal ties between Evraz and Raspadskaya.

-Negative rating action on Evraz plc, which could lead to a corresponding rating action on Raspadskaya.

LIQUIDITY

The refinancing of the company's 2016-2018 debt maturities with proceeds from a USD750m Eurobond issue in December 2015, RUB15bn issue in March 2016 and a new USD500m issue in June 2016 have rebalanced the company's overall maturity profile. Fitch believes that the company is in a position to service all of its mandatory repayments until 2017 out of FCF, cash and an available undrawn revolving credit facility.

At end-2015, Evraz had USD1,375m unrestricted cash, USD317m in undrawn committed bank facilities and strong FCF generation of USD760m. Fitch expects the company to generate around USD350m-USD450m FCF between 2016 and 2017.