OREANDA-NEWS. Fitch Ratings has affirmed Russia-based OJSC MMC Norilsk Nickel's (NN) Long-term Issuer Default Rating (IDR) at 'BBB-' with a Negative Outlook.

The affirmation reflects that NN's performance is largely in line with Fitch's expectations. The company's operational and financial profile is commensurate with a standalone rating of 'BBB+' reflecting its scale of operations, strong reserve base, low cost position and hence high profitability, and adequate leverage. The 'BBB-' rating reflects a two-notch discount to reflect NN's standalone corporate governance and the business and legal environment in Russia (BBB-/Negative). The Negative Outlook reflects that on the Russian sovereign.

KEY RATING DRIVERS
Solid Financial Performance
NN's financial performance in 2014 was strong and slightly ahead of Fitch's expectations, with the weakening rouble a key driver. The company reported EBITDA of USD5.68bn (Fitch: USD4.8bn), up from USD4.2bn in 2013. This improvement was also driven by price improvements on nickel (13% YoY) and palladium (11% YoY), and partly compensated by weaker prices for platinum (-6% YoY) and copper (-6% YoY).

The company continued to make good progress in reducing working capital, which resulted in a release of additional USD1bn of cash, increasing cash from operations to USD5.8bn vs USD4.2bn in 2013. With reduced capital spending in 2014 of USD1.3bn vs Fitch's expectations of close to USD2bn, the company achieved positive free cash flow (FCF)of USD1.2bn despite paying USD3.3bn of dividends, more than twice as much as Fitch expected. We expect a strong EBITDA margin of over 50% during 2015-2018 although in absolute terms EBITDA is expected to decline to USD5.4bn in 2015 due to weaker prices on NN's metal basket, which will partly be compensated by the weaker rouble.

Leverage to Remain Manageable
NN's total debt burden was unchanged at USD6.3bn in 2014, although the short-term portion decreased to USD652m from USD1bn at end-2013. With the expectation of an annual capital spending programme during 2015-2018 averaging around USD2bn and the fact that the company will try to stick to its dividend pay-out policy of 50% of EBITDA, Fitch expects NN's total debt will rise to over USD8bn during 2017-2018. We expect funds from operations gross leverage to remain well within rating guidelines, peaking at 1.69x in 2017.

The increase in debt will be driven by the expected pick up in capital spending on the Bystrinskiy project implementation, the Talnakh concentrator and the Kola refinery upgrade, as well as the continued ramp up of the Skalisty mine in the Polar Division and development of brownfield mining projects. High capex will be accompanied by relatively high dividend pay-outs, which translates to negative FCF during 2015-2018.

Strategy on Tier 1 Assets
In line with the strategy it announced in May 2014, the company maintains its focus on Tier 1 assets that meet the following criteria: large scale, i.e. more than USD1bn revenue; high margin, i.e. an EBITDA margin of more than 40%; and a reserve life of more than 20 years. International and non-core assets not meeting Tier 1 criteria have been divested.

Capital allocation discipline is also a pillar of the strategy. The company is on track to bring a strong reserve base of ongoing brownfield and greenfield projects to upgraded plants in the downstream, which are expected to be at full capacity in 2016-2018. Stage 2 of the Talnakh concentrator upgrade is on schedule and on budget to bring an additional 2.5mpty to 10.2 million tonnes per year (mtpy) by end-2016. The Harjavalta nickel refinery in Finland, the only producing international asset that NN is keeping, will be utilised to its full capacity. The shutdown of the high-pollution nickel smelter and refinery in Norilsk supported by the government is also on track to be finalised in 2016.

Meanwhile, the modernisation and expansion of capacity at Nadezhda smelter is in progress to replace closing smelting capacities at Norilsk. Closing refining capacities at Norilsk will be replaced by the expansion of the Kola Nickel Refinery plant. According to the company's estimates, the effect of reconfiguration programme will be reflected by an additional EBITDA uplift of around USD350m-400m per annum from 2018 onwards.

Strong Reserve Base
NN possesses a best-in-class polymetallic mineral resource base containing nickel, copper and platinum group metals. The end-2014 reserve estimate of nickel was 7.5Mt and 12.6Mt for copper, which implies around 30 years of remaining operating life at current production levels. In March 2015, NN was granted mining and production licence for the promising Maslovskoye nickel/copper/platinum group metals (PGMs) deposit located close to the city of Norilsk. The investment decision on the project development will be taken in 2017. Until then, the company will concentrate on exploration and a feasibility study.

Leading Market Positions
NN is the world's largest producer of nickel and palladium, providing approximately 13% and 44% of world total output in 2014, respectively. The company is also a leading producer of platinum and copper, with 14% and 2% of world output, respectively.

Country and Industry Risks
Key rating constraints include NN's exposure to the base metal demand cycle as well as legal, business and regulatory risks associated with Russia, although NN's industry leading cost position provides some protection compared with peers. Fitch assesses NN's corporate governance as in line with that of its rated Russian metal and mining peers. The country's overall weak standards of governance and lack of legal safeguards constrain the ratings. As a result, Fitch has notched down NN's ratings by two notches, which is common for companies in Russia with similar standalone profiles.

Rating Constrained by Country Ceiling
The Negative Outlook reflects the Outlook on the Russian sovereign rating, which if downgraded could lead to a lower Russian Country Ceiling (BBB-), which would cap NN's rating. NN is amongst the most internationalised of the Russian natural resources companies, with around 91% of 2014 revenue coming from export sales and considerable cash balances outside Russia, and a history of accessing international capital markets. However, due to all key production assets being located in Russia, we do not believe it appropriate to rate it above the Country Ceiling.

LIQUIDITY AND DEBT STRUCTURE
Fitch considers NN's liquidity position as strong in 2015 as the company had around USD2.8bn of cash and equivalents on balance as of end-2014, while short-term debt was only USD652m. The company also had undrawn committed credit lines of USD1.2bn. While our forecasting shows a weakening liquidity situation in 2016, this is driven by high levels of capex and dividends. In the unlikely event that NN cannot refinance, we believe one of these could be cut to protect liquidity.

KEY ASSUMPTIONS
Fitch's key assumptions within our rating case for the issuer include:
- Price assumptions for selected commodities: copper (USD6,000/t in 2015-2016, USD 6,500/t in 2017 and long term), nickel (USD15,000/t in 2015, USD16,500/t in 2016, USD18,000/t in 2017 and USD19,000 long term), platinum (USD1,200/oz in 2015-2018) and palladium (USD750/oz in 2015-2018).
- Nickel and copper production is expected to be mostly flat during 2015-2017, at 230kt and 380kt correspondingly.
- EBITDA is expected to decline in 2015 driven by price weakness on copper and nickel, although partly this effect will be compensated by weaker rouble. After 2015,a positive effect from price improvement will be compensated by a recovery of the rouble and higher inflation.

RATING SENSITIVITIES
Positive: Future developments that could lead to positive rating action include:
- A revision of the Outlook to Stable is subject to stabilisation of the Outlook on Russia's IDR or the raising of Russia's Country Ceiling above its IDR.
- An upgrade of NN's standalone rating based upon its financial and operational characteristics is not considered likely.

Negative: Future developments that could lead to negative rating action include:
- A downgrade of Russia's IDR leading to a lower Country Ceiling.
- Recurrence of negative corporate governance events.
- Persistent negative FCF resulting in FFO gross leverage sustained in excess of 2.5x.

FULL LIST OF RATING ACTIONS

OJSC MMC Norilsk Nickel
Long-term foreign currency IDR: affirmed at 'BBB-'; Outlook Negative
Short-term foreign currency IDR: affirmed at 'F3'
Senior unsecured foreign currency rating: affirmed at 'BBB-'

LPNs issued by MMC Finance Limited
Senior unsecured foreign currency rating: affirmed at 'BBB-'