OREANDA-NEWS. February 12, 2016. Fitch Ratings has downgraded Russia-based soybean meal producer Sodrugestvo Group S.A.'s Long-term foreign currency and local currency Issuer Default Ratings (IDRs) to 'B-' from 'B'. The Outlook is Stable. Fitch has also withdrawn the 'B(EXP)' rating on Sodrugestvo Industries Ltd.'s (wholly owned subsidiary of Sodrugestvo Group S.A.) proposed rouble bond as the group has decided not to proceed with a bond placement. A full list of rating actions is at the end of this press release.

The downgrade reflects Fitch's expectation that Sodrugestvo's readily marketable inventory (RMI)-adjusted funds from operations (FFO) adjusted leverage will remain high at around 6.0x-6.5x over the medium term, with limited deleveraging capacity. This is outside the parameters compatible with a 'B' IDR. The ratings remain supported by the company's sustainable asset-heavy business model, its strong market position in Russian soybean crushing, and the government support to the agricultural sector. However, in contrast to our previous forecasts, we now project only modest improvement in the company's EBITDA in FY16 (fiscal year ending June 2016) to FY18 due to more conservative assumptions on potential efficiency improvements and sustained weak global agricultural commodity prices.

The Stable Outlook reflects Sodrugestvo's adequate access to bank financing as demonstrated over the past year. It also factors in our assumption, based on management feedback, that the company will procure new credit facilities to mitigate refinancing risks related to substantial amortisation payments under Sodrugestvo's long-term loans in FY16-FY17. Any meaningful underperformance of Fitch's case coupled with liquidity erosion could lead to a credit profile more consistent with a 'CCC' rating.

KEY RATING DRIVERS
No Material EBITDA Improvement
We project Sodrugestvo's Fitch-calculated EBITDA at around USD120m-USD130m (excluding government interest rates subsidies that Fitch reclassifies as part of FFO) in FY16-FY17. This is below our previous expectations of around USD180m and represents only a modest improvement from USD102m generated in FY15. However, it contrasts with management's expectation to achieve substantial growth in EBITDA over FY15.

Our new forecasts are based on Sodrugestvo's strategy to globalise its trading operations, implying lower margins, and the fact that even close-to-full utilisation of new crushing capacity and infrastructure assets is not sufficient to drive material improvement in the company's profits as demonstrated in FY15. Therefore, in contrast to our previous expectation of EBITDA margins of around 8%, we now believe that a 6%-6.5% EBITDA margin is more sustainable for Sodrugestvo's business over the medium term (FY15: 4.5%). Our forecasts also assume continued pressure from declining global agricultural commodity prices in FY16-FY17 constraining absolute profit levels.

Excessive Leverage
Fitch expects Sodrugetsvo's RMI-adjusted FFO adjusted leverage to decrease only to 6.0x-6.5x over the medium term (FY15: 7.3x), which is not commensurate with 'B' category rating. Limited scope for deleveraging is premised on weak operating cash flows, which will be constrained by high interest payments and used to fund expansion projects in FY16-FY19, rather than repay debt. We acknowledge that our leverage projections are sensitive to the government interest rate subsidies, which we assumed at around USD25-30m per year. In isolation a decline in subsidies, if not offset by a similar increase in EBITDA, could lead to an increase in RMI-adjusted FFO adjusted leverage by up to 2.0x.

Our leverage calculations continue to exclude a shareholder loan from debt (FY15: USD86.3m). However, any material prepayments under this loan, breaching its nature of perpetual equity, would lead to reclassification of the remaining portion of the loan to debt and increase leverage by around 0.7x.

Aggressive Financial Policy
Our through-the-cycle view reflects an aggressive financial policy whereby, should profits were to increase, or in the event of new equity injections (as it happened with Mitsui) such spare cash flows would be used to reinvest in additional capex/acquisition projects, carrying various execution risks, instead of being allocated to permanent debt reduction.

Weak Liquidity Position, Refinancing Risks
As an agricultural commodity processor and trader, Sodrugestvo maintains high short-term debt connected with crops procurement and crushing cycle. However, as at end-2015 short-term maturities also included high amortisation payments on long-term debt of around USD125m, which the company needed to refinance given its limited FCF generation ability. When assessing refinancing risks, we note Sodrugestvo's access to bank lines and decreased interest rates under several credit facilities. We also understand from management that it is currently in negotiations with banks on additional credit facilities, which should shore up Sodrugestvo's weak liquidity position.

Sustainable Business Model:
Sodrugestvo's asset-heavy business model with vertical integration in soybean origination, storage, processing and product delivery enables the company to maintain its position as the largest soybean crusher and rapeseed oil exporter in Russia. Its recent acquisition of a 60% stake in a river port terminal in Paraguay should enhance the company's soybean and other crops origination capabilities. Sodrugestvo's scale, market position and asset ownership are among the major supportive factors of a 'B-' rating.

Moreover, we note the government support to the food producing sector in Russia, given the food import ban in place and other measures as the country aims to attain food self-sufficiency.

Moderate Diversification
Sodrugestvo is primarily a soybean processor but has some product diversification due to its rapeseed crushing operations and growing trading of wheat, barley and corn, which altogether accounted for 44% of total sales volumes in FY15. In terms of geographic diversification, Sodrugestvo's recent restructuring of global trading and Brazilian operations should improve the group's profit generation outside its core Russian market.

Moderate Rouble Depreciation Impact
Although Sodrugestvo's debt is primarily in US dollars and most of its profits are generated in roubles, there is some natural hedge due to the linkage of soybean and grain prices to world USD-based prices. However, Sodrugestvo's pricing power may deteriorate if rouble depreciation were to offset the benefit of low world soybean meal prices.

KEY ASSUMPTIONS
- Double-digit decline in global agricultural commodities prices in FY16-FY17, before stabilising
- Around 10% CAGR of trading volumes over FY16-FY20
- Sustainable EBITDA of around USD120m-130m over the medium term
- Government interest rate subsidies at around USD25-30m per year
- Capex and acquisition spending of around USD70m in FY16, then not exceeding USD40m-USD50m per year
- No cash dividends being paid out to the controlling shareholder
- No prepayments under the shareholder loan
- Adequate access to external liquidity

RATING SENSITIVITIES
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Accelerated liquidity erosion caused by the limited availability of bank financing in relation to short-term maturities or refinancing at more onerous terms than expected.
- FFO adjusted gross leverage (RMI-adjusted) sustainably above 6.5x (FY15: 7.3x), if combined with negative FCF from larger-than-expected capex or working capital or due to an aggressive financial policy.
- RMI-adjusted FFO fixed charge cover consistently below 1.5x (FY15: 1.4x).

Positive: Future developments that may, individually or collectively, lead to positive rating action include:
- FFO adjusted gross leverage (RMI-adjusted) sustainably below 5.0x supported by positive FCF, conservative business expansion funded by cash flows or equity rather than debt.
- FFO sustainably around USD80m (FY15: USD38m) due to improved operating performance and maintained government interest rate subsidies.
- Enhanced liquidity buffer relative to short-term debt maturities.

LIQUIDITY
As a soybean processor and agricultural commodity trader, Sodrugestvo strongly depends on the availability of working capital financing, which leads to high short-term debt. As at end-December 2015, Sodrugestvo's liquidity position was weak as unrestricted cash balances (USD50m) and committed undrawn credit facilities (USD123m) were insufficient to cover USD809m short-term debt, despite some support from readily marketable inventory (soybeans and grain), which we estimated at USD258m. Sodrugestvo is therefore reliant on continued access to bank financing.

FULL LIST OF RATING ACTIONS

Sodrugestvo Group S.A.
Long-term foreign currency IDR: downgraded to 'B-' from 'B'; Outlook Stable
Long-term local currency IDR: downgraded to 'B-' from 'B'; Outlook Stable
National Long-term rating: downgraded to 'BB-(rus)' from 'BBB-(rus)'; Outlook Stable

Sodrugestvo Industries Ltd.
Local currency senior unsecured rating: withdrawn from 'B(EXP)'
National Long-term senior unsecured rating: withdrawn from 'BBB-(EXP)'