Posted on 10 Dec 2021
Fitch Ratings has affirmed the National Long-Term Rating of China Steel Corporation (CSC) at ‘AA(twn)’ with a Stable Outlook and the National Short-Term Rating at ‘F1+(twn)’. At the same time, Fitch has affirmed CSC’s senior unsecured rating at ‘AA(twn)’.
The rating on CSC is three notches lower than the best risk in Taiwan (AA/Stable), based on a top-down approach under Fitch’s Government-Related Entities Rating Criteria in conjunction with the National Scale Ratings Criteria. The top-down approach reflects CSC’s high strategic and operational linkages with the state.
KEY RATING DRIVERS
Moderate Ownership, Strong Support: Fitch assesses CSC’s status, ownership and control as ‘Moderate’, as the company’s largest and controlling shareholder is the Taiwanese government via the Ministry of Economic Affairs, which holds a 20% stake. The ministry appoints CSC’s chairperson and holds three of the 11 seats on the board of directors.
Fitch assesses CSC’s support record and expectations as ‘Strong’, despite receiving little financial support from the government, as the company maintains strong free cash flow (FCF) generation. We expect full government support for CSC should the need arise due to the company’s importance to Taiwan’s steel industry, which affects other industrial sectors that rely on steel as a raw material. Furthermore, CSC is the only company that is legally allowed to construct and operate steel blast furnaces in Taiwan and is critical in helping Taiwan maintain high steel self-sufficiency.
High Incentive to Support: CSC’s position as a state-backed monopoly in upstream steelmaking allows the company to capture a large share of around 70% of the domestic steel market. Therefore, Fitch assesses the financial implications for the Taiwanese government, should CSC default, as ‘Strong’. We believe CSC’s default would significantly limit funding for other state-owned companies.
We also assess CSC’s default to have ‘Moderate’ socio-political implications, as we believe a shortage of domestic steel supply would be difficult to fill quickly by domestic competitors or imports considering CSC’s dominant market position. Furthermore, a steel shortage would have substantial spillover effects on Taiwan’s export-oriented economy.
Low Cost, FCF Generation: CSC has consistently higher EBITDA margins than those of regional peers due to its low-cost position, vertical integration and focus on high value-added products. CSC is Taiwan’s largest steel producer and the only one that is vertically integrated. In addition, CSC’s steel plants were placed in the first quartile of CRU’s cost curve for flat and long steel products in 2021.
CSC has a good record of positive FCF generation due to its competitive cost position, limited capex and effective working capital management. CSC posted positive FCF in spite of weak profits during the steel-price crash of 2014-2015 and the recent coronavirus pandemic. We expect FCF to remain positive over 2021 to 2024 when market condition becomes more favourable.
Strengthened Financial Profile: CSC’s financial profile has strengthened in light of the fast recovery in market demand following the pandemic and the resulting soar in steel prices. Fitch forecasts CSC’s EBITDA margin to increase above 20% in 2021, from around 10% in 2020, based on the solid performance in the first three quarters. This will result in an improved leverage profile, with Fitch expecting funds from operations (FFO) net leverage to fall below 3.5x over 2021-2024 from 7.0x in 2020.
DERIVATION SUMMARY
The two-notch difference between the ratings of CSC and state-owned peer CPC Corporation, Taiwan (AAA(twn)/Stable), reflects the latter’s higher government ownership and more significant policy role. We also deem CPC’s core business of oil and natural gas as more strategic than steelmaking. Furthermore, CPC is Taiwan’s largest distributor of key refined-oil products and is responsible for importing crude oil and gas to satisfy domestic energy demand.
KEY ASSUMPTIONS
– No additions to steelmaking capacity in the near term;
– Revenue to increase by 35% in 2021, followed by a decrease of 8% in 2022 with minimal movements thereafter;
– EBITDA margin to increase to 22% in 2021 (2020: 11.4%), followed by gradual decline to about 16.5% in 2024;
– Capex of about NTD25 billion in 2021, followed by about NTD28 billion-29 billion a year over 2022-2024;
– No major M&A for 2021 and beyond.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
– Strengthened probability of government support.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
– Lower probability of government support.
LIQUIDITY AND DEBT STRUCTURE
Adequate Liquidity: Total readily available cash was NTD25 billion at end-September 2021, compared with short-term debt of NTD78 billion. CSC had unused banking facilities with the outstanding amount exceeding TWD180 billion, according to management. CSC also has easy access to cheap domestic funding via banking facilities and credit markets because of its government ties.
ISSUER PROFILE
CSC is the largest integrated steel producer in Taiwan and the only one with its own blast furnace with consolidated annual crude steel capacity of around 16 million tonnes, which accounts for over 70% of the domestic steel market.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
Source:Fitch Ratings
