SAO PAULO & NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed Mendes Junior Trading e Engenharia S.A.'s (MJTE) Foreign and Local Currency Issuer Default Ratings (IDR) at 'B+' and the National long-term rating at 'BBB+(bra)'. The Outlook is Stable.
Key Rating Drivers
MJTE's ratings reflect its moderate business scale and concentrated backlog on a small set of large projects linked with public sector clients. It also lacks the conservative liquidity policy necessary to support a growing business model that relies on relevant working capital needs and is also exposed to the intense volatility inherent to the heavy construction sector.
Other limiting factors for MJTE's credit include its restricted access to the debt market, influenced by the historical contingent liability linked with other subsidiaries of the Mendes Junior Group, and its limited track record of debt issuance. The ratings incorporate that MJTE will not increase the support to its affiliates as part of the strategy to ring-fence its operations. The analysis also considers the company's low leverage and that MJTE will successfully manage to improve its debt maturity schedule, improving its liquidity and its competitiveness to bid on larger projects. The company also has a favorable volume of backlog, equivalent to approximately two years of operations, which is an important factor for sustaining its future cash generation.
Expectation of No Additional Support to Affiliates
MJTE is the main operating company and cash generator of the Mendes Junior Group. A credit concern is the exposure risk of MJTE towards other affiliates, including Mendes Junior S.A. (MJE). MJE is a non-operating company with significant debt liabilities linked to litigation of asset receivables also under jurisdictional discussion. The maintenance of MJE's legal and administrative structure has been financed by resources from MJTE, mainly obtained through the assignment of receivables. The amount of this kind of support increased to BRL311 million as of Dec. 31, 2013, from BRL246 million by the end of 2012, which Fitch was not expecting to occur.
Fitch also incorporates in the current IDRs no additional financial support from MJTE to affiliates. The agency also believes in potential cash inflow to MJE, given a favorable jurisdictional decision regarding some of its receivables under discussion, which should provide MJE with resources to support its legal and administrative expenses. The implementation of ring-fencing strategy, currently underway, should also limit the support to affiliates through the establishment of financial and non-financial covenants, which should also contribute to improving company access to the credit market.
Tight Liquidity
MJTE's liquidity is tight in order to support its long business financial cycle. By the end of December 2013, MJTE's cash reserves were equivalent to BRL103 million, which covered 0.5x of its short-term debt of BRL207 million. The limited liquidity combined with a scenario of potentially growing working capital needs imposes a challenge for the company in managing its refinancing risk as it develops its operations. MJTE also has a limited track record of accessing the debt market and has reported high financial costs.
The company has the challenge to implement its financial strategy of lengthening the debt maturity profile. By the end of December 2013, MJTE's total debt was BRL309 million, with 59% maturing in 2014 and the remaining portion in November 2015. Until 2011, the company had more conservative coverage ratios of short-term debt by cash and marketable securities of 1.2x in December 2011 and 4.5x in December 2010, which is positive in volatile sectors such as heavy construction. Total debt is mostly secured by receivables related to ongoing projects in its backlog.
Fitch expects MJTE to succeed in obtaining a more adequate debt profile. The ratings incorporate that the company will restore its short-term debt coverage ratios to levels that are more consistent with the volatile nature of its business and closer to those reported in previous years, important for avoiding future pressure on its current ratings.
Adequate Leverage
MJTE has historically presented low leverage. In December 2013, the company's leverage was adequate and equivalent to 1.8x, measured by the total adjusted debt/EBITDA, and 1.2x on a net basis. These metrics represent a slight improvement compared to 2012 figures of 2.0x and 1.4x, respectively. The company's total debt proceeds have been mainly used to support its relevant working capital needs. Fitch expects MJTE to continue growing while maintaining net leverage below 2.0x.
Lower Working Capital Pressures on CFFO Expected
MJTE's operating cash flow from operations (CFFO) has been pressured by the high volume of working capital needs. Fitch expects lower working capital requirements with improving project management procedures particularly on works developed for Petrobras, the company's main client. In 2013, the company's CFFO of BRL96 million benefited from positive working capital of BRL107 million from settlement of receivables with Petrobras related to projects concluded in 2012 contributed BRL326 million. CFFO in 2013 favorably compares to negative CFFO of BRL81 million in 2012. In 2013, free cash flow (FCF) was negative at BRL7 million, after BRL68 million CAPEX and BRL35 million dividends.
The company's EBITDA margin is in line within the industry peers. In 2013, the company reported EBITDA of BRL167 million and margin of 9.5%, which compares to BRL114 million in 2012 and BRL57 million in 2011, with respective margins of 8.8% and 4.5%. The results in 2011 were heavily affected by costs incurred and the renegotiations with Petrobras regarding changes in the projects, which resulted in revenue postponement.
Concentrated Backlog
At the end of 2013, MJTE's backlog was sizeable and totaled BRL5 billion, equivalent to approximately two years of operations and stable compared to December 2012. The company's proven expertise in project execution, mainly for Petrobras, and demand in the construction sector should support the growth of MJTE's operations in the next three years. Operations should also benefit from the infrastructure bottlenecks in the country and the projects related to the oil and gas industry.
Also at the end of 2013, the company's backlog was highly concentrated, with 20% on projects for Petrobras and about 85% linked with public sector clients. Of MJTE's backlog, the 10 largest projects represented 70% of its total backlog by December 2013. The expectation is that the company will benefit its EBITDA margin and reduce backlog concentration through geographical expansion, following its strategy of focusing on the development of international projects in Africa and Latin America.
Rating Sensitivities
Deterioration in operating performance evidenced by prolonged margin reduction, increased net leverage to ratios higher than 2.0x with the debt maturity profile concentrated in the short term, or further support to affiliates, may lead to a negative rating action.
A positive rating action is not likely in the short term. In the medium term, it will depend on the company maintaining high margins coupled with significant improvement on liquidity levels, diversification of its backlog, and implementation of a robust structure for ring-fencing the transfer of resources to affiliates.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
-- 'Corporate Rating Methodology' (Aug. 5, 2013);
-- 'National Scale Ratings Criteria' (Oct. 31, 2013).
Applicable Criteria and Related Research:
National Scale Ratings Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=720082
Corporate Rating Methodology: Including Short-Term Ratings and Parent
and Subsidiary Linkage
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715139
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=830173
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