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Fitch Affirms Nemak's IDRs at 'BB+'; Outlook Positive
November 22, 2017 / 5:45 PM / a month ago

Fitch Affirms Nemak's IDRs at 'BB+'; Outlook Positive

(The following statement was released by the rating agency) CHICAGO, November 22 (Fitch) Fitch Ratings has affirmed Nemak, S.A.B. de C.V.'s (Nemak) Long-term Issuer Default Ratings (IDRs) at 'BB+' and its long-term national scale rating at 'AA-(mex)'. The Rating Outlook is Positive. A complete list of rating actions follows at the end of this press release. Nemak's increasing product and geographic diversification, improving financial structure and implicit parent support from Alfa, S.A.B. de C.V. (BBB-) lead to investment grade characteristics. These factors complement Nemak's strong technological competencies, which have given it a very strong competitive position in North America and Europe. Nemak's ratings are constrained by the ongoing negotiations of NAFTA, which threaten the continuity of the North American auto industry. Satisfactory resolution of on-going NAFTA talks could result in a rating upgrade. Conversely, an unfavourable outcome from negotiations that disrupts North America's intricate supply chains would lead to lower industry profitability and likely set back Nemak's financial improvements, and could cause Fitch to revise the Outlook to Stable. KEY RATING DRIVERS Adverse U.S. Trade Policy: Nemak's 'BB+' credit profile should endure the near-term threats that protectionist policies in the U.S. could bring to the North American automotive industry. The company is the sole global supplier in about 85% of the products they sell. It is also the main supplier of aluminum cylinder heads and engine blocks in both the U.S. and Mexico. Competitive threats that could substitute Nemak's products are not likely to arise in the near term due to the company's strong competitive position and expertise in producing cylinder heads and engine blocks using aluminum castings. Strong Global Business Position: Nemak's presence in high-growth regions, such as Asia and its high percentage of installed capacity in low-cost countries, complements its strong business position in Europe and the Americas. The company's long-term customer relationships, its use of aluminium price pass through contracts that reduce raw material volatility, its position as an essential supplier for Detroit's OEMs and its participation in several of the largest global engine platforms are also reflected in the ratings. North America Slowing Down: The company derives about two thirds of its EBITDA from North America, primarily through the sale of components used in the assembly of vehicles sold in the U.S. where total light vehicle sales grew strongly during 2009-2015. Fitch believes U.S. vehicle sales should remain at mid-16 million to low-17 million over the intermediate term. Nemak has continued to gain incremental business, primarily in engine blocks, structural components and electric vehicle components, which should position the company well to continue to grow volumes despite slower industry tailwinds in the U.S. New Contracts Boost Growth: Nemak has been awarded new contracts for about USD300 million in annual revenues for its structural and electric and hybrid vehicle aluminium components. The bulk of these contracts is expected to come online in 2018-2019. As a result, compound annual consolidated equivalent volume growth is expected at around 3%.This compares positively to relatively flat vehicle production growth expected in North America, Nemak's main market, and is a positive factor supporting the Positive Outlook. Operating Performance Should Recover: Nemak's financial performance suffered in 2017 primarily due to weaker volumes from one of its customers and sharply higher aluminium prices. Nemak's near-term operating performance suffers when there are sharp increases in the price of aluminium as there is a time lag until price fluctuations are passed through to its customers as per established contracts. Nemak's EBITDA is expected to be around USD750 million in 2017 compared to USD796 million in 2016. Fitch is projecting that Nemak's EBITDA will approach USD800 million in 2018 boosted by increased vehicle production and new product launches in Europe and Asia. Leverage Expected to Trend Down: Nemak's credit metrics should strengthen over the next two years, as demand for the company's high value-added aluminum engine blocks and structural products grow. Fitch expects Nemak to generate neutral to positive FCF in 2017 and 2018 as the company continues to invest in expanding its casting and machining capabilities to serve new programs awarded and pay dividends. Nemak's FCF was USD60 million during 2016 and USD39 million during 2015. Fitch expects Nemak's net leverage to be around 1.7x in 2017 and close to 1.5x in 2018. Nemak's gross leverage is expected to strengthen below 2x over the intermediate term. DERIVATION SUMMARY Nemak's business profile is one of the strongest Latin America auto suppliers. The high complexity and technological innovation of the company's aluminium castings, has given it a very strong competitive position which has allowed Nemak to become a sole supplier to OEMs in 85% of the products it sells. Nemak's business profile compares well against Metalsa's (BBB-) as Metalsa has a less dominant position in its core businesses and against Tupy (BB), which has much smaller scale as it is a niche producer of iron engine blocks and heads predominantly used in commercial off-road vehicles and less geographic diversification. Nemak's business profile is similar to that of European peer GKN Holding's (BBB-) in terms of completive position, albeit GKN enjoys a larger scale and a more diversified profile in terms of product segments, customers and geography of cash flow. Nemak's financial profile is strong for its BB+ rating, but relatively weak at this point in the cycle when compared to higher rated GKN Holdings and Metalsa. Nemak's adjusted FFO net leverage is projected by Fitch at around 1.8x in 2018, which compares with expectations of about 1.5x for GKN and about 1x for Metalsa, which has very conservative financial policies. Tupy's adjusted FFO net leverage has typically been around 2x although this metric is not directly comparable as Nemak's business profile is stronger. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: --North America auto production flattens-out over the intermediate term. --Equivalent unit volume grows low to mid-single digits over the intermediate term. --Capex of around 9% of sales over the intermediate term. --Dividends of about USD170 million per year. --The U.S. dollar exchange rate against the Mexican peso does not weaken significantly below MXN18:USD1. RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action --A favorable outcome from NAFTA negotiations that does not undermine North America auto supply chains; --Continued expectations of gross leverage strengthening below 2x. Future Developments That May, Individually or Collectively, Lead to Negative Rating Action --A severe decline in North American vehicle production that leads to reduced demand for Nemak's products; --A reduction in EBITDA generation resulting in total debt/EBITDA above 3x for a sustained period of time; --Sustained negative FCF; --Sustained weak liquidity relative to upcoming debt obligations; --Large acquisitions or investments financed mostly with debt resulting in an expectation of higher leverage levels in the mid- to long term. LIQUIDITY Sound Liquidity: Nemak's liquidity position is considered sound. As of third quarter 2017, the company's short-term debt was USD156 million. This debt is mostly composed of working capital financing and bank debt amortizations, which favorably compares to USD130 million of non-restricted cash and USD349 million in undrawn committed credit lines maturing predominantly in 2018-2020. Fitch projects Nemak's cash flow from operations (CFFO) should remain strong at around USD600 million. FULL LIST OF RATING ACTIONS Fitch has affirmed Nemak's ratings as follows: --Long-term Foreign currency Issuer Default Rating (IDR) at 'BB+'; --Long-term Local currency IDR at 'BB+'; --Long-term national scale rating at 'AA-(mex)'; --USD500 million senior unsecured notes due 2023 at 'BB+'. --EUR500 million senior unsecured notes due 2024 at 'BB+'. Contact: Primary Analyst Gilberto Gonzalez, CFA Associate Director +1-312-606-2310 Fitch Ratings, Inc. 70 West Madison Street Chicago, IL 60602 Secondary Analyst Alberto de los Santos Associate Director +52 81-8399-9100 Committee Chairperson Alberto Moreno Senior Director +52-81-8399-9100 Media Relations: Benjamin Rippey, New York, Tel: +1 646 582 4588, Email: benjamin.rippey@fitchratings.com. 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