May 19, 2017 / 2:52 AM / 8 months ago

Fitch Removes RWN on STATS ChipPAC; Affirms at 'B+'/Stable

(The following statement was released by the rating agency) SINGAPORE, May 18 (Fitch) Fitch Ratings has removed the Rating Watch Negative (RWN) on Singapore-based semiconductor outsourced assembly and test (OSAT) company STATS ChipPAC Pte. Ltd.'s Long-Term Foreign-Currency and Local-Currency Issuer Default Ratings (IDR) and affirmed the ratings at 'B+'. The Outlook is Stable. Simultaneously, the agency has removed the RWN on STATS's 8.5% USD425 million senior secured notes due 2020 and affirmed the rating at 'BB' with Recovery Rating of 'RR2'. The notes are guaranteed by all the key operating companies, except those in China and Thailand. The removal of the RWN and affirmation of the ratings reflects the Chinese Securities Regulatory Commission's (CSRC) approval for the swap of USD100 million of shares held by Semiconductor Manufacturing Investment Corp (SMIC) and USD300 million of shares held by China Integrated Circuit Industry Investment Fund Co., Ltd. (IC fund) in the intermediate holding companies of STATS for shares in its parent, Jiangsu Changjiang Electronics Technology Co. Ltd. (JCET) CSRC has also approved SMIC's equity injection of USD400 million into JCET. As a result, we expect the liquidity and leverage of JCET and STATS to improve in 2017. We expect JCET group's consolidated 2017 FFO-adjusted leverage to improve to around 4.0x-4.3x as we will treat the investments by SMIC and IC fund in JCET as equity in our analysis. We previously treated the investments in the intermediate holding companies as debt because of the investors required their cash principal plus a return as a condition for their exit. KEY RATING DRIVERS Strong Linkages with Parent: STATS's ratings are based on the consolidated credit profile of JCET, its parent, given the strong operational and strategic linkages between the two entities. STATS is strategically important to the JCET group's consolidated credit profile because STATS will account for 40%-50% of the group's 2017 revenue and EBITDA. STATS's advanced packaging capability in Korea and Singapore are critical for JCET's success in the industry. JCET controls the board at STATS and its key operating decisions. High Leverage: We expect JCET group's FFO-adjusted leverage to be around 4.0x-4.3x at end-2017 - lower than 4.5x, the level above which we would consider negative rating action. JCET group's leverage is higher than that of industry peers. Both, the market leader Advanced Semiconductor Engineering, Inc. (ASE, BBB/RWN) and second-largest Amkor Technology have FFO-adjusted leverage of around 2.0x. Negative FCF: We forecast JCET group's FCF in 2017-2018 to be negative as its CFO will be insufficient to fund planned capacity expansion. JCET group is likely to invest about USD550 million-600 million mainly to expand STATS's wafer level technology capacity and expand its system in package (SiP) capacity at its Korean facility. Most peers' FCF are likely to decline in 2017 due to high capex requirements. The top-three OSAT peers are investing in advanced packaging technologies, such as flip chip, wafer level and SiP, to enhance their product portfolio. SiP capabilities are increasingly important to meet demand from the growing market for wearable devices, such as the Apple Watch. Improving EBITDA: We expect JCET group's revenue and EBITDA in 2017 to increase by around 10%-15%, driven by rising assembly and testing service demand from Chinese customers, and growth in the SiP business and wafer-level packaging at STATS. We expect STATS's EBITDA to also improve as its Korean flip-chip capacity's utilisation is likely to rise with orders from its customers. The completion of the relocation of STATS's Shanghai facility to Jiang Yin, which is closer to JCET's facility, will also support higher utilisation levels and cash generation. The group's technological capability is improving and it now has a full suite of packaging technologies, including traditional wire bonding and advanced packaging technologies, such as flip chip and wafer level. Also, the group's investments in wafer-level packaging and SiP will further strengthen its competitive position relative to larger Taiwanese peers. Negative Industry Outlook: We expect OSAT industry participants to face soft market fundamentals, high competition, debt-funded consolidation, and large investments in capex in the near term. Competition will likely remain intense and capacity utilisation could fall below 2016 levels as JCET aggressively adds capacity to try to narrow the technology gap with Taiwanese peers. Average selling prices (ASP) could decline annually by 3%-5%. Industry revenue may increase only by 3%-4%, driven by growing demand for smartphones in China and India. Most analysts forecast global smartphone demand to rise by only a low-single-digit percentage in 2017 and for the PC and tablet market to continue to decline. The on-going consolidation in the OSAT industry will only partly address the problems of a fragmented market and price erosion. The benefits of consolidation - in the form of higher capacity utilisation, better bargaining power and stable ASPs - are likely to be realised only in the medium term. Bond Rated Above IDR: We rate STATS's 8.5% USD425 million secured bond two notches above the IDR, reflecting superior recovery from the security package, which covers principally all of STATS's group assets outside China and Thailand. About 70% of STATS's group assets are held at the subsidiaries providing security. The guarantors on the bond generate about 76% of group revenue and EBITDA. At end-2016, the non-guarantor subsidiaries had USD27 million of debt and about USD183 million of trade payables. DERIVATION SUMMARY STATS's 'B+' rating is based on the consolidated credit profile of JCET group, given strong operational and strategic linkages between the two entities. JCET group's credit profile benefits from its position as the third-largest OSAT company globally with about 10% revenue market share, and its diversified operations, where about half of revenue and EBITDA are derived from China and the balance from US- and Europe-based customers. Its credit profile continues to be constrained by high leverage and Fitch's expectation of lower FCF generation relative to peers. However, JCET group's revenue and EBITDA are likely to grow faster than the industry average due to its higher exposure to growing Chinese demand for assembly and testing services. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - JCET group's consolidated revenue to grow by around 10%-15% in 2017 and around 4%-5% in 2018 mainly driven by fast-growing SiP business and recovery in STATS's revenue. - Consolidated EBITDA margin to remain stable around 15%-16% (2016: 16%) as better capacity utilisation levels offset lower margin at the growing SiP business. - Capex investments of USD550 million-600 million during 2017-2018. - STATS to relocate its Shanghai facility to Jiang Yin (closer to JCET's existing facility) in 2017 and receive USD59 million in compensation in 2017. We have assumed that the amount will be used for relocation expenses during the same period. RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action - We may upgrade the IDRs to 'BB-' if JCET group's consolidated FFO-adjusted leverage improves to below 3.0x. However, given the tough market environment and the group's investment plans, we believe that the group is unlikely to deleverage organically to this extent and would be likely to require an equity injection for leverage to fall below 3.0x Future Developments That May, Individually or Collectively, Lead to Negative Rating Action - JCET's consolidated cash flows are lower than our expectations, leading to its consolidated FFO-adjusted leverage deteriorating above 4.5x. - JCET's loss of control or majority board representation in STATS and its holding companies. LIQUIDITY CSRC Approval Boost Liquidity: JCET group's liquidity improved following the CSRC's approval of SMIC's equity injection of USD400 million. At end-2016, JCET's liquidity was adequate with cash balance of CNY2.2 billion (USD326 million) and undrawn committed bank facilities of CNY4.4 billion, which were sufficient to pay for short-term debt of CNY5.8 billion. JCET also enjoys good funding support from Chinese banks. JCET will likely use the SMIC injection to repay the USD120 million loan from Bank of China and capital leases. STATS will receive USD170 million in equity from JCET - out of the SMIC equity injection. Also, liquidity at STATS was adequate with cash balance of USD140 million sufficient to pay short-term debt of USD37 million. Most of the USD1.1 billion debt at STATS is long term in nature. Contact: Primary Analyst Nitin Soni Director +65 6796 7235 Fitch Ratings Singapore Pte Ltd One Raffles Quay, South Tower #22-11 Singapore 048583 Secondary Analyst Janice Chong Director +65 6796 7241 Committee Chairperson Steve Durose Managing Director +61 2 8256 0307 Summary of Financial Statement Adjustments - STATS's accounts receivable have been adjusted for non-recourse factored accounts receivable of USD60 million and USD58 million in 2016 and 2015, respectively. - We have treated Temasek's USD200 million perpetual debt in STATS as debt in our ratings case because of the significant coupon step-up to 8% from 4% in year four and Temasek's option to require JCET to purchase the instruments after three years. 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