OREANDA-NEWS. Fitch Ratings says today that the headroom on MIE Holdings Corporation's (MIE) 'B' ratings has further shrunk after it reported the lowest half-year profits in three years for the six months to 30 June 2015 amid softer oil prices.

Fitch placed MIE's ratings on Rating Watch Negative on 6 August 2015 following the company's announcement it plans to acquire 43.9% in Long Run Exploration Ltd (Long Run), a Canada-based upstream oil & gas company. MIE's 1H15 results were weaker than Fitch's earlier expectations, and the further decline of global crude oil prices since June 2015 has reduced MIE's rating headroom and capacity to accommodate any large debt-funded acquisition that is not immediately cash accretive.

MIE's 1H15 production volume dropped 38% yoy, which is within Fitch's expectations as the company has slowed down its drilling programme in view of subdued oil prices. However, production growth at joint-venture Sino Gas & Energy Ltd was slower-than-expected. MIE's overall lifting costs dropped by 22%, though the decline was slightly smaller than Fitch's expectations.

As a result, the drop in FFO was more significant than expected, and Fitch estimates MIE's FFO net leverage for 1H15 at over 7x, compared with Fitch's previous expectation of around 5x-6x. EBITDA per barrel for the period was USD21.2/boe, a substantial fall from the 2012-2014 average of USD49.3/boe.

Fitch expects MIE's low profitability and weak cash flow generation during 1H15 to extend through the next 12-18 months. As a result of reduced capex in 2015, and delay of completion of the central processing unit in Kazakhstan to 2016, production volume will not expand meaningfully before 2017. MIE's leverage, before considering the Long Run transaction, would likely stay above 5x in 2016, compared with 3x, the level at which Fitch may consider taking negative rating action.

The recent devaluations of the Chinese yuan and the Kazakhstan tenge are not expected to significantly impact MIE, except for some translation losses expected in 2H15 as the company's reporting currency is the yuan. Sales are conducted in US dollars, while operating costs are in the domestic currencies in China and Kazakhstan. All cash in Kazakhstan is held in US dollars with an international bank.

Resolution of the Rating Watch Negative will depend on clarity about the funding structure for the Long Run transaction, which will cost CAD201.5m (around CNY947m) on completion, and a further CAD99.2m if the 18- and 24-month warrants acquired as part of the transaction are exercised.

MIE has classified Moliqing, one of its smaller China-based projects, as an asset held for sale in its 1H15 financial statements. Moliqing accounted for less than 10% of MIE's EBITDA and had a net book value of CNY750m. The company indicated that it expects to dispose of Moliqing within the next 12 months. Fitch believes such a disposal would reduce the need for additional debt to fund the Long Run transaction. However, any more substantial asset sales to fund the Long Run acquisition may reduce MIE's operating cash generation, because meaningful dividends from Long Run are not expected in the short term, as highlighted in Fitch's rating action commentary for MIE on 6 August 2015.