Fitch Revises Outlook on Indika Energy to Negative, Affirms IDRs

(Fitch Ratings - Singapore/Jakarta - 01 Apr 2020)--Fitch Ratings has revised the Outlook on Indonesia-based PT Indika Energy Tbk's Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) to Negative from Stable and affirmed the IDRs at 'BB-'. Fitch has also affirmed the company's outstanding senior unsecured notes at 'BB-'.

The Outlook revision is due to our expectations that the company's credit metrics will weaken by more than we had previously forecast, limiting rating headroom, after we revised coal price and volume assumptions. Fitch lowered the selling prices of Indika's thermal coal for 2020 following the revision of some of our commodity price assumptions (see Fitch Ratings Updates Mid-Cycle Metals and Mining Price Assumptions, dated 20 March 2020). We also expect the company's coal sales volume to be lower than in 2019 due to weaker demand and the possibility of lower production quotas in 2020. Weaker volume and prices are also likely to pressure the earnings of Indika's contract mining and barging operations.

Indika's 'BB-' ratings continue to reflect the moderate cost position and reserve life of its mining operations, its position as one of Indonesia's largest coal miners, and its integrated operations, which provide some buffer against weakening prices and adequate liquidity. Fitch expects the mining licence of Indika's 91%-owned coal-mining subsidiary, PT Kideco Jaya Agung, to be extended upon its expiry in 2023 without any major impact on its credit profile, and will consider any significant negative development in concession renewals, including non-renewal, as an event risk.

KEY RATING DRIVERS

Weakened Rating Headroom: Fitch raised our forecast for Indika's FFO net leverage in 2020 to 5x from our previous expectation of 2.7x, and we expect the ratio to remain relatively elevated for its ratings. Fitch expects Indika's leverage to be at or slightly below 3.0x from 2021, the level at which we may take negative rating action. The drop from 2020 would be in line with our improving price and volume expectations. Indika's FFO net leverage increased to 4.1x in 2019 from 1.9x in 2018 due to relatively high capex and increased cash taxes.

We lowered our forecast for Indika's consolidated EBITDA in 2020 to USD245 million from USD430 million. This was after we cut Indika's coal selling price and volume assumptions in 2020 to USD39/tonne and 30 million tonnes respectively, from our previous expectation of USD43/tonne and 35 million tonnes, respectively.

Weaker Volumes: Lower global demand for thermal coal and the resumption of production at most Chinese state-owned coal mines following the ending of quarantine measures early this year could have a significant impact on the demand for seaborne coal. Our revised volume expectations are also in line with Indika's state-approved production quota for 2020, which it received in late 2019. Some Indonesian coal miners typically have their annual production quotas raised after the initial estimate although we think 2020 production quotas are likely to remain broadly unchanged from the initial quotas in light of the weaker demand.

Weaker Contract Mining, Barging Earnings: Fitch expects the earnings of Indika's 70%-owned coal-mining contractor, PT Petrosea Tbk, to decline in 2020, in line with our expectation of lower production volumes at its two main customers, Kideco and PT Bayan Resources Tbk (BB-/Stable), which will account for almost all of Petrosea's overburden removal volumes in 2020. Fitch similarly expects lower volume in 2020 at its 51%-owned coal-barging company, PT Mitrabahtera Segara Sejati Tbk (MBSS). Fitch estimates Petrosea and MBSS generated around USD120 million and USD27 million in EBITDA, respectively, in 2019.

Flexibility in Capex and Costs: Indika currently does not expect to materially alter its long-term mining plan or expansionary spending despite weak prices and volumes. Fitch however notes that the company does retain some flexibility in curtailing its expansionary capex of around USD150 million, most of which would be incurred to procure equipment for Petrosea. Indika has also demonstrated its ability to lower its strip ratios during the previous coal price downturn in 2015-2016.

Fitch however expects Indika's cash costs to drop in 2020 to USD34/tonne from USD37/tonne in 2019, mainly due to lower fuel prices and royalties, which will help offset the reduction in EBITDA to an extent. Fitch estimates Indika incurred fuel costs of around USD200 million in 2019, which are likely to fall significantly following a major cut in our price estimates for 2020 (see Fitch Ratings Cuts Oil, Gas Price Assumptions on Coronavirus, Price War, dated 19th March 2020).

DERIVATION SUMMARY

Indika's ratings are driven by Kideco's moderate-cost position, production flexibility, reasonable reserves and large capacity, which require little capex. The similar ratings of Bayan reflect its comparable operational risk profile to Indika. Bayan has a lower-cost position and larger reserves than Indika and a healthier financial profile with considerably lower sensitivity to price and volume assumptions than Indika. Bayan has faced operational disruptions due to bottlenecks in its transport infrastructure, which constrain its ratings. Indika's operations are more integrated and have a stronger record of uninterrupted production.

The energy-adjusted cost position of Indika's mining operations is stronger than that of Golden Energy and Resources Limited (GEAR, B+/Stable). Indika's operations are also more integrated than that of GEAR. Indika's higher ratings reflect its large scale of earnings, operational track record and more integrated operations. GEAR's ratings are constrained until it is able to generate higher earnings. (ends)