OREANDA-NEWS. Fitch Ratings has downgraded Polyus Gold International's (PGIL) and PJSC Polyus Gold's (PJSC Polyus) Long-term Issuer Default Ratings (IDRs) to 'BB-' from 'BBB-', removed them from Rating Watch Negative (RWN) and assigned a Negative Outlook. A full list of rating actions is at the end of this release.

The downgrades follow completion of the cash offer with regard to PGIL by a combination of Sacturino Limited and Wandle Holding - companies that are ultimate controlled by the Suleyman Kerimov Foundation and Said Kerimov. Following the cash offer, PGIL has been delisted from the London Stock Exchange and its Board of Directors dissolved. Fitch believes that the future corporate governance profile of the group will be weaker and that future credit metrics will be materially weaker than those historically recorded by the company.

Fitch has assumed that proceeds from a recent USD2.5bn seven-year loan attracted by PJSC Polyus are planned to be upstreamed to the shareholder level by way of a share buyback programme or dividend payment. In total we assume payments totalling USD2.5bn or higher will be upstreamed to the shareholder level in 2016 to likely repay acquisition debt incurred at this level. Assuming payments at this level we do not anticipate that the company will exceed its net debt/EBITDA covenant of 3.5x included in bond and loan documentation.

The Negative Outlook primarily reflects the risk that the level of cash upstreamed will be higher than currently assumed and/or business performance will be lower than we currently forecast.

KEY RATING DRIVERS
Corporate Governance
Fitch had previously assessed PGIL/PJSC Polyus' corporate governance profile as strong compared with other Russian corporates. This in part reflected relationship agreements, signed between the company and its shareholders, which contributed to the independence of the company's board and reduced the potential for shareholder actions to negatively impact the company's financial profile and/or the position of creditors. Accordingly its ratings were notched down one notch from their standalone level, compared with the more usual two notches for Russian companies.

Following the cash offer with regard to PGIL its Board of Directors has been dissolved and the company delisted. It is intended PJSC Polyus will become a listed entity in Moscow with appropriate independent director representation on its Board. Notwithstanding these plans we believe that overall corporate governance will be weaker than historically and have widened the notching for corporate governance to two notches, in line with other major Russian corporates.

Material Increase in Leverage
If, as expected, PGIL/PJSC Polyus upstreams in excess of USD2.5bn of funds to the shareholder level in 2016, credit metrics will materially weaken. Under our base case, we expect funds from operations (FFO) gross leverage to exceed 5.0x in 2016 and FFO net leverage approaching 4.0. Net debt/EBITDAR is expected to exceed 3.0x in 2016 compared with historical levels below 1.0x. With negative free cash flow expected in both 2016 and 2017, absolute debt levels will remain elevated until 2018 when expected production increases will start to have a positive impact on metrics (free cash flow (FCF) is post dividends and assumes a 30% payout ratio). For 2018, our base case expectation is for FFO gross leverage below 4.0x and FFO net leverage approaching 3.0x.

Competitive Cost Position
Operationally PGIL/PJSC Polyus remains a strong group with good quality gold reserves and large efficient open pit assets which place it in the first quartile of the global cost curve (total cash costs (TCC)). In 1H15, TCC declined to USD436/oz - a 34% decline year-on year. This was driven by local currency (RUB) devaluation as well as operational improvements which resulted in higher processing volumes and better recovery rates.

Strong Production Results
The group reported 4% year-on year production growth in 2015 to 1,763k oz of metal. This exceeded the upper end of the group's guidance range of 1,630k oz-1,710k oz set at the beginning of the year. The majority of the company's mines delivered higher processing volumes and better recoveries. The company's guidance for 2016 is 1,760k oz-1,800k oz.

Natalka Development Project
The Natalka project is the group's key development mine. A technical review of the project is expected to be finalised in 1Q16, with a ramp up of construction expected in spring 2016, and production to start in late 2017. Based upon expected production volumes, Natalka is expected to contribute to an approximate 15%-20% year-on year increase in group gold production in 2018. As well as Natalka, the group intends to concentrate on streamlining and capacity improvement at key operational projects in order to attain annual production growth in the medium term.

KEY ASSUMPTIONS
Fitch's key assumptions within our rating case for the issuer include:
- USD2.5bn or higher cash upstreaming in 2016 by way of share buybacks and/or one-off dividend payment.
- Average gold price of USD1,050/oz in 2016 and USD1,000 afterwards (realised prices adjusted to reflect gold price hedging entered into by the company).
- Marginally negative FCF (post-dividends) in 2016/2017, returning to positive FCF generation in 2018 of approximately USD100m. FCF forecasts assume a consistent 30% dividend payout ratio.
- USD/RUB exchange rate of 65 across 2016-2018.
- Natalka project to commence in 2H17.

RATING SENSITIVITIES
Negative: Future developments that could lead to negative rating action include:
- Higher than expected dividend payments or other shareholder distributions over 2016-2018 leading to weaker liquidity and sustained high leverage metrics.
- FFO gross leverage expected to be sustained above 4.0x by the end of FYE2018.
- Failure to return to positive FCF generation by 2018 as expected under our base rating case

Positive: Future developments that could lead to positive rating action include:
For Outlook stabilisation
- FFO gross leverage below 3.5x.
- Sustained positive FCF generation.

LIQUIDITY
Polyus Gold's liquidity position is strong with USD2bn of cash and USD0.6bn of undrawn committed bank facilities as of end-2015, compared with only USD38m of short-term borrowings.

FULL LIST OF RATING ACTIONS

Polyus Gold International Limited
Foreign currency Long-term IDR: downgraded to 'BB-' from 'BBB-'; removed from RWN; Outlook Negative
Foreign currency Short-term IDR: downgraded to 'B' from 'F3'; removed from RWN
Foreign currency senior unsecured rating: downgraded to 'BB-' from 'BBB-'; removed from RWN

PJSC Polyus Gold
Foreign currency Long-term IDR: downgraded to 'BB-' from 'BBB-; removed from RWN; Outlook Negative
Local currency senior unsecured rating: downgraded to 'B+ (RR5)' from 'BBB- (RR4)'; removed from RWN