We have also assigned a preliminary issue rating of ‘B+’ and a preliminary recovery rating of ‘3’ to the proposed $200 million senior secured notes to be issued by Iberian Minerals Financing S.A., a fully owned subsidiary of Iberian Minerals.
The company and issue ratings are based on the draft debt documents presented to us, and subject to our review of final terms and conditions. Any change in these terms and conditions could affect the ratings.
The ‘B+’ rating reflects our view of Iberian Minerals’ “weak” business risk profile and “aggressive” financial risk profile (as our criteria define these terms).
Iberian Minerals is a base metal mining company, which is 98.1% owned by Trafigura Beheer B.V. (not rated), a global physical commodities trading group. The rating is based on Iberian Minerals’ stand-alone credit quality and does not factor in extraordinary timely support from Trafigura. Although we see Trafigura’s credit quality as stronger, we perceive Iberian as small and less core compared with Trafigura’s main trading activities. Trafigura’s strategy is primarily focused on accessing trading volumes and as such it has an off-take agreement covering 100% of Iberian’s production.
Our assessment of Iberian Minerals’ business risk profile as “weak” is based on the cyclical and capital intensive nature of the mining industry. Iberian Minerals is a small player operating one underground mine in Spain and two in Peru. The share of the Spanish contribution to EBITDA is set to rise over the medium term. Key risks are operating challenges related to underground mining, the limited scope of operations, and narrow product diversification. We expect copper concentrate production to remain the main revenue contributor in the medium term--it represented 208 thousand dry metric tons in 2011 or 68% of sales.
Our assessment of the company’s business risk profile is further constrained by the short reserve mine life of the Raul and Condestable mines operated in Peru of, respectively, 4.6 and 3.6 years, despite a track record of full reserve replacement over recent years. Supportive rating factors include modest geographic diversification of assets and overall perceived moderate country risks. The reserve life of its Spanish mine operated by Minas de Aguas Tenidas S.A. (MATSA) is considerable, at 18 years.
In our assessment, Iberian Minerals has a mid-cost-curve position, which should be supportive of its profitability going forward, as should the company’s copper price hedges that are much higher than in previous years. Moreover, we expect cash costs to further improve in Spain in the medium term as production expands and by-product credit from zinc and lead increases.
We assess the company’s financial risk profile as “aggressive,” constrained by its limited track record, given low historic cash flow generation, affected by low price hedges. Higher copper price hedges should ensure a significant improvement in cash flows, but we still expect free cash flow to be mildly negative under our scenario, given substantial capex outlays in the next couple of years.
The company plans to increase its cash position and refinance about $70 million of its senior secured debt maturing in 2013 with a new revolving credit facility (RCF) totaling $100 million. It also plans to issue a $200 million bond. The company’s increased cash balances, which we estimate at close to $220 million post transaction, should help finance, together with projected free cash flow, its expansion capital expenditure (capex) program of about $200 million annually in 2013-2014. We understand that cash received from the bond placement will be upstreamed to Trafigura via a loan, but will be available when needed to finance future investments. The upstreaming or cash-centralization of the planned bond issue proceeds to Trafigura can also be seen as akin to cash distribution, even though it is contractually documented as a five-year term loan with a mandatory prepayment obligation at Iberian Mineral’s request, for capex and acquisition purposes.
These weaknesses are partly offset by the company’s limited exposure to volatile spot market prices on copper, thanks to the hedging contracts in place that cover 60% of its production in 2012-2013. Iberian Minerals’ financial risk profile also benefits from moderate leverage metrics that we expect the company to achieve in 2012, notably debt to EBITDA below 2x.
Our base-case scenario points to markedly stronger EBITDA in 2012 of $160 million-$180 million because the low-priced copper and zinc hedges came to an end in the first quarter of 2012. This compares with EBITDA of only $21 million in 2011, when low priced hedges were in place, and $75 million achieved in the first half of 2012. Our base-case assumptions factor in supportive contracted copper, zinc, and silver prices, as well as the following Standard & Poor’s pricing assumptions for the unhedged volumes:
-- Copper price of $3.4/lb in 2012 and $3.0/lb in 2013,
-- Zinc price of $0.83/lb in 2012 and $0.80/lb in 2013, and
-- Gold price of $1,400/oz in 2012 and $1,200/oz in 2013.
In our base-case scenario we expect the company’s adjusted debt to increase to about $300 million following the issuance of the planned bond and new RCF. We do not adjust the reported debt for surplus cash as we assume that the cash, centralized at parent Trafigura through an intragroup loan, may be used in case of higher-than-forecast negative free cash flow, bearing in mind the sizable investments ahead. We therefore expect the adjusted ratio of debt to EBITDA to stay below 2x in 2012-2013.
We anticipate Iberian Minerals’ liquidity to be “adequate” under our criteria, after it issues the $200 million bond and $100 million RCF, which we expect to be fully drawn to repay existing debt of about $70 million. The company will have no material maturities in the next two years. Under these assumptions the ratio of sources to uses of liquidity is above 1.2x in the next 12 months.
Sources of liquidity for the next 12 months as of end-June included:
-- Funds from operations (FFO) of $130 million-$150 million.
-- Cash proceeds from the $200 million bond issue that we expect the company to upstream to Trafigura, but which should remain readily available to fund capex if needed.
On the same date, potential liquidity uses over the next 12 months included:
-- $20 million amortization of the new RCF.
-- Fairly low capex of $80 million in 2012, more than doubling to a high $200 million in 2013.
-- Potential for working capital-related outflows.
We assume that the bond documentation will include financial incurrence covenants, such as fixed charge coverage and senior secured leverage, and expect the company to have ample headroom.
The proposed $200 million senior secured notes to be issued by Iberian Minerals Financing S.A., a fully owned subsidiary of Iberian Minerals, are rated ‘B+', in line with the corporate credit rating. The notes have a recovery rating of ‘3’, indicating our expectation of meaningful (50%-70%) recovery in the event of a payment default. While the nominal calculated recovery is slightly higher than the indicated threshold, our criteria for the insolvency regime of Spain limits the recovery rating to ‘3’ (see “Update: Jurisdiction-Specific Adjustments to Recovery And Issue Ratings,” published June 20, 2008). The issue and recovery ratings are subject to satisfactory review of the final documentation.
The recovery and issue ratings are supported by our valuation of the company as a going concern and the moderate level of prior-ranking debt at the point of default. On the other hand, we consider that the COMI would be Spain in an event of default, a jurisdiction that we view as relatively less favorable to senior secured investors. In addition, the security package which does not include tangible assets, and the relatively complex structure with the bond proceeds being upstreamed to the parent company Trafigura, limit the rating in our view.
The net proceeds of the proposed $200 million notes due 2017 will be upstreamed at closing to the parent company Trafigura under a “Trafigura loan,” which will have back to back terms to the notes. According to the documentation, Trafigura will have to repay this loan, when Iberian Minerals will require the money to fund capex. As part of this refinancing, the company will also put in place a $100 million senior secured RCF which will be used at closing to repay about $70 million of existing debt outstanding at its operating entities MATSA and Compania Minera Condestable S.A.(CMC) and for general corporate purposes. The RCF is amortising and it will mature six months before the notes are due. According to the intercreditor agreement, the RCF and the notes rank pari-passu in right and order of payment in case of enforcement of the collateral.
According to the documentation, the issuer and the guarantors of the notes represented 100% of the consolidated revenue and EBITDA and about 98% of the consolidated assets as of March 31, 2012. We understand that the security package will mostly include pledges of shares of MATSA and CMC, security over the offtake agreements with Trafigura and security over the Trafigura loan. No security over tangible assets is however provided, which limits the strength of the security package in our view.
The notes’ documentation will contain some limitation on additional debt incurrence, including a minimum consolidated fixed-charge coverage ratio (FCCR) of 2.5x and a senior secured leverage ratio of 2.5x. The notes documentation will also include some limitation on asset sales and restricted payments.
In order to determine recoveries, we simulate a default scenario, which envisages, among other things, an increase in key input and other operating costs, combined with higher capex than anticipated to finance the expansion in Spain. Our hypothetical scenario leads the group to default in 2016, at which point EBITDA would have declined to approximately $56 million. Our going-concern valuation yields a stressed enterprise value of approximately $250 million, which is equivalent to a 4.5x stressed EBITDA multiple.
We believe that if Iberian Minerals experiences a payment default, it would most likely be reorganized as a going concern, owing to the company’s moderate diversification both geographically and in terms of products and good positioning on the costs curve. Our default scenario does not factor in any support from Trafigura in an event of default.
After deducting priority liabilities, mainly comprising enforcement costs, finance leases and short term bank facilities, we arrive at a net enterprise value of c. $210 million. We then deduct the RCF and the notes, which we assume would amount to about $240 million at the time of default, including six months of pre-petition interests. On this basis, this leaves sufficient value for recovery in the high end of the 50% to 70% range for the bondholders, which translates into a recovery rating of ‘3’.
The stable outlook reflects our base-case expectation of strongly improved profitability in 2012-2013 as the company will benefit from much higher-priced hedge contracts. We also factor in that a substantial portion of the investment program will be funded through FFO with the rest being financed with the bond proceeds. We therefore factor in stable adjusted debt at about $300 million (measured on a gross basis).
A negative rating action could be triggered by a material debt increase compared with our base-case scenario, prompted by operational underperformance and/or higher capex in a weak price environment, or a more aggressive financial policy that could include material near-term dividend distributions to Trafigura or weakened liquidity.
A positive rating action is unlikely in the next 12 months, given the company’s small asset base, and limited free operating cash flow anticipated in view of the sizable capital spending plans ahead, limited track record in terms of improved profitability, and the longer time that will be needed for the company to advance its capex program. Rating upside over the medium term could result from a better track record with regard to sustainable profits and successful progress on its capital program, in combination with a supportive financial policy.
Related Criteria And Research
-- Key Credit Factors: Methodology And Assumptions On Risks In The Mining Industry, June 23, 2009
-- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, May 27, 2009
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
-- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008
Iberian Minerals Corp.
Preliminary Corporate Credit Rating B+/Stable/--
Iberian Minerals Financing
Proposed Senior Secured B+
Preliminary Recovery Rating 3