OREANDA-NEWS. October 15, 2010. Fitch Ratings-London-05 October 2010: Fitch Ratings has assigned Luxembourg-incorporated agricultural commodity producer and exporter Kernel Holding S.A. (Kernel) Long-term foreign and local currency Issuer Default Ratings (IDRs) of 'B' and 'B+', respectively. Fitch has also assigned Kernel a National Long-term rating of 'AA+'(ukr). The Outlooks for the Long-term IDRs and National Long-term rating are Stable.

The Long-term IDRs reflect the vertically integrated nature of the company, its conservative approach to trading market risk, as well as its track record of maintaining stable operating profit margins of approximately 16-17% in the past three financial years despite swings in market prices over the period FY07-FY09. Additionally, leadership market positions in the Ukraine in the concentrated industries of grain procurement and export, bottled sunflower oil sold domestically and exported bulk oil; a well balanced position between cash flow and debt by currency; as well as adequate liquidity to deal with seasonal working capital peaks, support the rating.

Conversely, the ratings also take into account the high reliance of Kernel's sales on a limited number of large customers, high seasonal peaks for working capital and the company's growth ambitions, which could cause an increase of debt. Also, given its reliance on sourcing products in a single country, the company's profits are vulnerable in the event of a very weak harvest for grains and sunflower seed in the Ukraine, and are also vulnerable to a drop in international prices of grains and sunflower oil.

Since 2006, the company has successfully grown the scale of its business by adding to its grain trading businesses an important network of silos in the fertile central-eastern part of Ukraine and two port facilities with direct access to the Black Sea. This infrastructure enables Kernel to better control both the procurement of grain and sunflower seed in the country as well as the export of grains and sunflower oil. Kernel is by far the largest producer of sunflower oil in the country, as it is close to reaching 2.3 million tonnes of sunflower seed annual crushing capacity in 2011. This manufacturing capacity, which operates for the export market of bulk product and for the local distribution of bottled oil for family consumption, gives the company pricing power and stability on profits.

With FY10 (ending 30 June 2010) net lease adjusted leverage of 1.8x, Op. EBITDAR to fixed charges of 5.4x and an expected improvement in these metrics during FY11, the group's financial risk is considered average for its ratings. FY11 Op. EBITDAR should benefit from the first time full consolidation of the acquisition of Allseeds (completed in March 2010) and the gradual coming on-stream of the Bandurka crushing plant, thus potentially raising Op. EBITDAR to around USD230-USD250m (FY10: USD190m).

The ratings assigned incorporate headroom for moderate acquisition spending and for the seasonal working capital peaks that the company typically experiences in December and March due to the build-up of sunflower seed inventories. Fitch calculates that the effect of working capital on debt at these dates can be as much as 1.0x annual EBITDA higher than fiscal year-end levels. In assessing the effect of these seasonal debt requirements on Kernel's leverage, the agency takes some comfort from the company's practice of signing a large proportion of annual oil sales contracts in conjunction with its oilseed purchases taking place between September and March.

The Long-term foreign and local currency IDRs could benefit from a permanent reduction of gross lease adjusted leverage below 1.0x (excluding seasonal working capital-related debt peaks), maintenance of the current integrated business profile, reassurance that the company can maintain a good degree of positive annual FCF generation despite capex plans.

A negative rating action could follow if gross lease adjusted leverage rises above 2.5x, as a result of debt-funded acquisition activity or, above 3.5x if calculated during the company's seasonal inventory peaks. Alternatively, a similar increase of leverage derived from a shock in the commodity markets and not normalising back to credit metrics commensurate with the current 'B+' in the following 12 months, or a shortage of liquidity with respect to the company's projected peak requirements of working capital could also lead to a downgrade.