Ratings agency Standard & Poor’s (S&P’s) has raised its long-term issuer credit rating on global diversified miner Glencore and its related entities to ‘BBB+’ from ‘BBB’, with a stable outlook.
S&P’s also affirmed its ‘A-2’ short-term rating on Glencore and raised to ‘BBB+’ from ‘BBB’ its issue rating on the senior unsecured debt issued by Glencore Funding and other issuing entities.
The upgrade reflects the greater financial prudence and resilience that Glencore has demonstrated, in line with its financial framework, S&P’s said.
Since the end of 2015, Glencore has reduced its debt by about $15-billion to $11.4-billion on a reported net basis.
Glencore aims to keep its reported net debt between $10-billion and $15-billion and net debt to earnings before taxes, depreciation and amortisation (Ebitda) below twice as much.
As a result of supportive metal and coal prices, as well as controlled costs and capital expenditures (capex), operating and cash flows after capex are likely to remain strong.
Dividends payable under the financial framework, essentially $1-billion from marketing (trading) plus at least 25% of free cash flow from industrial (mining) operations, should remain well covered.
“With lower debt, we see the intention to flex and align shareholder returns with actual cash generation as credit supportive.”
“Glencore's credit metrics should, therefore, remain robust, well in excess of the minimum rating-commensurate levels, including adjusted funds from operations to debt of 42.5% on a multiyear basis (compared with 59.5% in 2017),” said S&P’s.
These strong ratios are appropriate in a time of cyclically supportive pricing conditions. Building up this kind of headroom is particularly important for a mining company such as Glencore, which is exposed to commodity price changes through cycles, it added.
Cash flow leverage metrics can deviate materially from their multiyear averages that typically anchor the agency’s ratings.
“Critically, we believe that the lower debt, even if still material at $33.9-billion on a gross basis at end-2017, will help maintain Glencore's credit metrics within the thresholds for our 'BBB+' rating, even in a materially weaker commodity price environment,” highlighted S&P’s.
Further, lower debt, alongside healthy credit metrics, should reduce the likelihood of a confidence-related deterioration in equity, bond and other market indicators.
S&P’s noted that solid bank support for the trading business and overall prudent liquidity management throughout 2015 meant market volatility did not become a credit crisis in the second half of that year.
“Our assessment of Glencore's business risk profile balances the cyclicality of the mining industry against its excellent competitive position in the mining business (typically three-quarters of its Ebitda) and its leading commodity trading activities (20% to 25%).
“We see the company's material share of the physical trading business as a strength, because the industry is less cyclical and not as correlated with its mining activities or commodity prices, but depends more on market volatility for enhanced returns,” S&P’s stated.
It added that Glencore's excellent competitive position in the mining business is supported by its large, long-life and low-cost assets.
“The group compares favourably with most of its peers in terms of commodity diversification, although S&P’s sees country risk, owing to Glencore's operations in sub-Saharan Africa, including the Democratic Republic of the Congo, and Latin America, as higher for Glencore than, for example, diversified miner Rio Tinto, which operates primarily in developed markets such as Australia.
“We estimate that copper, one of Glencore's major commodities, will represent 39% Ebitda in full-year 2018. We also project that Glencore's thermal coal segment will contribute meaningfully at current prices in 2018, at 18% of Ebitda compared, with 10% in 2016,” said S&P’s.
However, the company's average unit cash costs for coal and copper are located in the first-quartile of the global cash cost curve, implying resilience to downside scenarios.
Under S&P’s pricing assumptions and Glencore's guidance of some production increases, it forecasts Ebitda to rise modestly to between $12-billion and $14-billion over 2018/19 as per International Financial Reporting Standards, and between $15- billion and $17-billion as adjusted by S&P’s.
“We believe Glencore, and the overall industry, will likely be able to manage/withstand cost inflation owing to currencies or diesel. We note that the prevailing higher price realisations in the coal, zinc and nickel segments could result in stronger cash generation and metrics if they persist,” the agency reported.
Moreover, critically, S&P’s said it understands that Glencore will continue its steady implementation of the financial framework, with reported net debt to Ebitda less than 2x and dividends a function of generated free cash flow.
“We see an upgrade to our 'A' category as unlikely over the next year or two.This reflects both the company's financial framework and stated objectives to maintain a rating in the upper end of the 'BBB' category.
“We don't see this approach as consistent with the more conservative balance sheet, in terms of leverage and gross debt, that would prompt us to raise the rating."
"Still, ratings upside potential could increase if we perceived Glencore's earnings performance as increasingly stable and resilient as a result of operational or portfolio developments, for example, lower country risks,” S&P’s concluded.