TORONTO (miningweekly.com) – Risk management firm Moody's Investors Service on Monday became the first major ratings agency to downgrade Canadian diversified miner Teck Resources’ investment rating to below investment grade, or junk.

Citing expected prolonged commodity price weakness and big capital spending projects, Moody's VP and senior credit officer Darren Kirk stated that these items would keep the Vancouver-based company’s leverage well in excess of typical investment grade thresholds through at least 2017.

Moody's had downgraded Teck’s senior unsecured rating to Ba1 from Baa3 and assigned the company a Ba1 corporate family rating (CFR), an Ba1-PD probability of default rating and a SGL-2 speculative grade liquidity rating. Teck's ratings outlook remained negative, Moody’s advised.

RATINGS RATIONALE
Teck's Ba1 CFR was driven by its significant financial leverage and material free cash-flow consumption, offset by the diversity and scale of its business, low geopolitical risks, average cost position and good liquidity. Exposure to commodity price volatility, production and development risks, and meaningful capital expenditure (capex) requirements also constrained the rating.

Moody's expected Teck's adjusted debt versus earnings before interest, taxes, depreciation and amortisation (Ebitda) to increase to above 5.5x through 2016, incorporating a 1.32 US dollar:Canadian dollar exchange rate and base commodity price assumptions of $95/t for benchmark metallurgical coal, $2.35/lb for copper and $0.80/lb for zinc.

Moody's forecast steady, albeit modest improvement in these commodity prices beyond 2016, which should enable Teck's cash flows to strengthen in 2017. The company's significant spending for its 20% stake in the C$13.5-billion Fort Hills oil sands project, in Alberta’s Athabasca region, 90 km north of Fort McMurray and controlled by its partner Suncor, came at a time when commodity prices were weak.

Teck's cash consumption was expected to be about C$1.5-billion in 2016 and C$1-billion in 2017.

“Absent asset sales or other inorganic actions taken by management, this will further drive up debt levels and limit material improvement in Teck's adjusted debt/Ebitda,” Moody’s explained.

Teck VP for investor relations and strategic analysis Greg Waller was on Friday at pains to explain to investors participating in the Bank of America Merrill Lynch twenty-first annual Canada Mining Conference in Toronto, that any potential ratings downgrade would be a reflection of the current soft market. He stressed that before Fort Hills capex, Teck was indeed cash-flow positive in the second half of 2014, as well as for the first half of 2015.

“Teck’s Liquidity of $6.8-billion provides more than 3x coverage for expected remaining Fort Hills capital expenditure of $1.8-billion,” Waller said, branding the project as “capital smart”. The Fort Hills project was expected to have significant free cash flow yield across a range of West Texas Intermediate oil prices.

Teck's SGL-2 liquidity rating was driven by Moody's estimate that Teck's cash requirements would be about C$3-billion through the six quarters ending in 2016, compared with cash sources that were about C$7-billion. Teck's cash requirements included about C$2.3-billion of negative free cash flow, C$400-million of debt maturities and C$300-million of minimum balance sheet cash needs.

Sources included C$1.3-billion of cash, C$5.5-billion of unused revolving loans ($1.2-billion matured in 2017 and $3-billion matured in 2020) and about C$200-million of announced asset sale proceeds.

Moody's expected Teck to maintain ample cushion to its maximum 50% debt/capitalisation debt covenant, which stood at 33% as at the second quarter.

Teck's rating outlook was negative owing to its leverage, which was predicted to remain at higher-than-normal levels for its rating, while cash flow would remain sizably negative through at least 2017.

On the positive side, the ratings agency stated that Teck's rating could be upgraded if commodity prices improved. Moody's foresaw that the company would sustain adjusted debt/Ebitda near 3x and cash from operations less dividends to debt of around 25%.

However, Teck's rating could be downgraded if Moody's expected Teck's adjusted debt/Ebitda to be sustained above 4x or cash from operations less dividends to debt below 20%, owing to prolonged commodity price weakness. Greater-than-expected cash consumption or a weakening of Teck’s existing robust liquidity could also cause Teck's rating to be downgraded.