The affirmation reflects Fitch’s view that despite a slowing macro-economic environment and higher inflation levels, Abans is likely to maintain a satisfactory credit profile and strong market position in the domestic consumer durables segment over the medium term. The rating also factors in the improved financial performance of Abans Financial Services Ltd (AFS, 84% owned by Abans) in 2011, partly in line with the performance of the domestic non-bank financial institutions.
The rating is constrained by Abans’ relatively weak corporate governance compared with listed peers. This includes (but is not limited to) concerns such as the lack of key board sub-committees, the existence of a complex group structure, and the presence of a high level of related party transactions with companies outside the Abans consolidated group.
Liquidity is adequate with unutilised debt facilities of LKR2.2bn and cash of LKR1.86bn as at end-9M12, compared with the current portion of long-term debt of LKR1.34bn (excluding AFS debt). At end-2011, the company raised a further LKR5.5bn of debt for short-term working capital financing. However, Fitch does not expect a structural weakening in Abans’ working capital cycle given its strong bargaining power with distributors and the strength of its main supplier – LG Corp.
Revenue grew by an annualised 34% to LKR17.6bn in the nine month ended December 2011 (9M12) off a higher base (FY11: 51.5% yoy), due to record-low import duties and taxes in the consumer durables industry since 2010. Hence, profitability measured by operating EBITDAR margin improved to 15.7% in 9M12 (FYE11:12.5%). Nevertheless, the risk of a hike in import duties or taxes on consumer durables exists, given the weaker outlook on Sri Lanka’s weak balance of payments in the near term when compared with the 2010-2011 period.
Further sharp depreciations of the local currency continue to pose risk to Abans’ credit profile as majority of its inventory is imported. However, the company’s strong market share, wide retail presence and distribution network, and its established brands mitigate any significant risks to its profitability.
While Fitch has factored into the company’s medium-term investment plans (including its Mega Shopping Mall project), a rating downgrade may be warranted if the project incurs cost overruns and thus requires additional capital infusions from Abans. This is likely to either deplete Abans’ cash reserves (9M12: LKR1.86bn) or increase its debt, resulting in higher leverage. At FY12, Abans’ gross leverage ratio (which assumes cash reserves have been depleted) was 2.64x at 9M12 (FYE11: 2.5x).
The rating could be downgraded if Abans’ credit profile weakens beyond Fitch’s current expectations, resulting in the group’s financial leverage excluding AFS (measured as total adjusted debt net of cash/operating EBITDAR) over 4.5x on a sustained basis. Negative rating action may also occur if AFS’s credit profile weakens beyond expectations and to a greater extent than the sector, as this could necessitate greater support or capital infusions into AFS from Abans.