OREANDA-NEWS. Fitch Ratings has assigned Australia-based FMG Resources (August 2006) Pty Ltd's proposed USD2.5bn guaranteed secured facility due in 2022 an expected rating of 'BBB-(EXP)'. The final rating on the facility is contingent upon the receipt of final documents conforming to information already received.

The facility is guaranteed by Fortescue Metals Group Limited (Fortescue; BB+/Stable) and its subsidiaries that currently represent 97% of the group's consolidated assets and 98% of its net income. The rating on the secured credit facility is notched up a level from Fortescue's 'BB+' Long-Term Issuer Default Rating to reflect additional provision of quality collateral, including mining tenements. This uplift for a 'BB+' rated company is consistent with Fitch's criteria.

If the proposed facility is issued, Fortescue's overall secured debt will increase to USD7.4bn (excluding finance leases) or 84% of the company's debt. However Fitch does not believe this level of secured debt will impair Fortescue's senior unsecured creditors. This is because Fitch expects overall secured debt to be less than 2.5x Fortescue's prospective EBITDA of USD3bn at the end of the financial year to June 2015 (FYE15), and less than 2x of EBITDA at FYE16. Prospective EBITDA is based on Fitch's mid-cycle commodity price assumptions and forecast production volumes.

The facility's security package does not include mechanisms that introduce payment priorities or other forms of structural preference versus other creditors. Importantly, the unsecured bonds share the same issuer and guarantee structure as the secured creditors.

The proposed facility will be used to refinance Fortescue's senior unsecured debt maturing between 2017 and 2019, which will push back a bulk of the company's debt maturities to 2021 and 2022 and is not expected to increase its overall borrowing costs. The 2021 maturities will have an option to be rolled over to 2022 at Fortescue's sole discretion.

KEY RATING DRIVERS

Improving Cost Position: Fortescue improved its C1 cash costs (which include mining, port, rail, and operating lease costs) to around USD30/tonne as at end-December 2014 - a 12% improvement compared to its FY14 average. The company expects its C1 costs to average below USD28-USD29/tonne in FY15. The cost improvements are underpinned by lower strip ratios in its newer mines, growing economies of scale on higher volumes sold, and to a lesser extent, a weaker Australian dollar-US dollar exchange rate. As a result, Fortescue continues to migrate down the global iron ore production cost curve.

Further Deleveraging Expected: Fitch expects Fortescue's FFO-adjusted gross leverage to increase to 3.2x by FYE15 (but 2.6x net of cash reserves) because of the precipitous decline in iron ore prices during 2014. However, leverage is likely to improve in FY16 and FY17, below the 3.0x trigger above which negative rating action may be considered, due to Fitch's view that iron ore prices will improve over the same period.

Lack of Diversification: Fortescue has limited business diversification compared with its higher rated international peers. It has only one product, iron ore, which it sells predominantly in the Chinese market.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:
-62% Fe benchmark iron ore prices, including freight cost for 2015 at USD65/tonne; 2016 at USD75/tonne; and 2017 at USD80/tonne.
-Fortescue's price realisation versus the benchmark: 89%.
-Freight costs to remain at USD4.2/tonne over the next 12-18 months before trending up.
-C1 costs to remain at USD27/tonne through 2017.
-Annual iron ore shipping levels to be maintained at 160 million tonnes a year.
-AUD-USD exchange rate to remain at 0.77 in 2015, and 0.80 thereafter.
-Fortescue will not materially utilise its cash reserves for purposes other than to repay its debt.

RATING SENSITIVITIES

Positive: Future developments that could lead to positive rating actions include:
- A demonstrated commitment to maintain a capital structure that is more in line with a 'BBB' category rating; and,
- sustaining FFO-adjusted gross leverage at less than 2x and FFO fixed-charge cover at more than 5x (FYE15 projected: 5.0x).

Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- FFO-adjusted gross leverage exceeding 3x and FFO fixed charge cover remaining below 4x