OREANDA-NEWS.  Fitch Ratings has placed Ferrexpo plc's (Ferrexpo) Long-term Issuer Default Rating (IDR) and senior unsecured ratings of 'CCC' on Rating Watch Negative (RWN). The Recovery Rating on the senior unsecured rating is 'RR4'. Ferrexpo's Short-term IDR is affirmed at 'C'.

The rating action follows the announcement by the National Bank of Ukraine (NBU) to declare insolvent Ferrexpo's transactional bank, Bank Finance and Credit JSC (Bank F&C). Bank F&C is a related party ultimately controlled by Ferrexpo's largest shareholder Kostyantin Zhevago. Out of Ferrexpo's total cash balance of USD280m as at 16 September approximately USD174m was held at Bank F&C and has now been frozen for an indeterminate period.

The RWN reflects uncertainty regarding the ultimate recoverability of funds at Bank F&C. Previously we had factored in that this cash could become temporarily or permanently unavailable due to the inherently weak financial system in Ukraine, but had assumed it as "non -restricted" and available for operational purposes in our base rating case. The insolvency of Bank F&C is also, in our view, likely to prolong Ferrexpo's current discussions with Pre-Export Finance (PXF) lenders regarding a reduction in monthly amortisation requirements and an extension of maturity dates.

Absent access to the cash held at Bank F&C, an extension of PXF maturities/amortisation or other measures to boost liquidity we estimate that Ferrexpo will deplete its remaining cash reserves over the next six to 12 months, depending on movement in iron ore prices over this period.

KEY RATING DRIVERS

Ukrainian Risk Exposure
Ferrexpo's operating base is in Ukraine. The country has recently experienced high domestic inflation, combined with significant currency depreciation (more than 50% in 2014 vs. USD and greater than 100% YTD), a brief electricity supply disruption and a delay in VAT repayment by the state. The ongoing military conflict in the Donbass region has not directly impacted Ferrexpo's operations and transport infrastructure due to their location in the Poltava region, approximately 425km north of Donetsk.

Liquidity Limited by Debt Maturities
Lack of access to funds held at Bank F&C materially weakens Ferrexpo's liquidity profile. In the absence of access to this cash, an extension of PXF maturities/amortisation or other measures to boost liquidity we estimate that Ferrexpo will deplete its remaining cash reserves over the next six to 12 months depending on movement in iron ore prices over this period.

Ferrexpo continues to generate positive free cash flow (FCF) and is currently negotiating an extension of PXF maturities and a re-profiling of required amortisation. An extension of PXF maturities offers the potential to put the company's liquidity on a more sustainable basis. However, the outcome of ongoing negotiations with the banks is difficult to predict. In July 2015 Ferrexpo exchanged its USD286m 2016 notes for USD100m cash consideration and USD186m of new notes maturing in 2019.

Decreasing but Still Robust Profitability
Fitch expects the company's profitability profile to remain robust in 2015, with nearly a 30% EBITDA margin. This is despite an expected significant reduction in revenues (down 30% yoy), offset by currency depreciation. The ongoing low iron ore prices and cost inflation will, however, erode the EBITDA margin in 2016, which Fitch expects to improve over the medium term (between 25% and 34%).

Assuming the company succeeds in re-negotiating its PXF maturities, Fitch forecasts funds from operations (FFO)-adjusted gross leverage to remain flat in 2015 at 3.7x (vs. 3.6x in 2014), before peaking above 4.0x in 2016 (under Fitch's updated iron ore price deck). This is forecast to stabilise at around 2.0x thereafter, due to the expected modest improvement in iron ore prices over the longer term and absolute debt reduction.

Low Iron Ore Price Environment
Year-to-date 62% iron ore prices have averaged USD61 per tonne, down approximately 50% yoy, reflecting oversupply in the market and a slowdown in demand from the Chinese steel industry. Fitch's modelling assumption is for iron ore prices to average USD50 per tonne in 2H15 and 2016, below the 2014 average price of USD97 per tonne, which will negatively impact the company's earnings and credit metrics.

As a pellets producer, Ferrexpo will continue to benefit from a premium over the benchmark 62% iron ore price, which has widened over the past six months. Ferrexpo recently completed its USD2bn modernisation and expansion programme and remains on track to produce approximately 12 million tonnes of 65% Fe pellets per year by 2016.

Competitive Cost Producer
Ferrexpo's cost position has moved down to the top of the first quartile of the global cost curve. In 2014 and 1H15, cash costs improved significantly compared with the previous two years, due to rising volumes from the ramp-up of the Yeristovo mine and currency depreciation (50% of operating costs are linked to the hryvnia). Costs had decreased 27% as of 1H15 and reached USD33 per tonne, down from USD46 in 2014. Energy costs represent approximately 50% of total costs and should contribute to further cost savings, due to recent falls in global oil prices.

KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for Ferrexpo include:
- Fitch iron ore price deck: USD56/t in 2015 (based on 1H 15 realised price), USD50/t in 2016, USD60/t in 2017, USD60/t in the long term
- Forecast price premium for pellets based on 1H15 realised premium
- Production volumes in line with management's expectations: 12mt p.a. iron ore pellets by 2016
- USD/UAD 22 in 2015

RATING SENSITIVITIES
Changes to Ukraine's Country Ceiling, which may accompany a change to its sovereign rating, would likely result in a corresponding action on Ferrexpo's ratings.

We would expect to the resolve the Rating Watch upon completion of current negotiations with PXF lenders and clarification regarding the likelihood of the company being able to access cash held at Bank F&C.

Negative: Future developments that could lead to negative rating action include:
- Downgrade of sovereign rating
- Weakening of Ferrexpo's liquidity position due to lower ongoing cash flows caused by lower- than-expected iron ore prices.

Positive: Future developments that could lead to positive rating action include:
- Positive action on the sovereign rating.

FULL LIST OF RATING ACTIONS

Ferrexpo plc
-Long-term IDR 'CCC' placed on Rating Watch Negative
-Short-term IDR 'C' affirmed

Ferrexpo Finance plc
-Senior unsecured rating 'CCC' placed on Rating Watch Negative; 'RR4'