Fitch Affirms Inalum at 'BBB-'; Outlook Stable; Rates Proposed Notes 'BBB-'

(Fitch Ratings - Singapore - 06 May 2020)--Fitch Ratings has affirmed PT Indonesia Asahan Aluminium (Persero)'s (Inalum) Long-Term Foreign-Currency Issuer Default Rating (IDR) of 'BBB-' with a Stable Outlook. Fitch has also affirmed Inalum's senior unsecured rating and the rating on its USD4 billion of senior unsecured notes at 'BBB-'.

In addition, Fitch has assigned a 'BBB-' rating to Inalum's proposed US dollar notes, which are intended to be used to redeem certain existing bonds of Inalum, acquire shares in other mining companies, and refinance outstanding indebtedness of the consolidated group.

Inalum's rating is one notch below the rating of Indonesia (BBB/Stable), in line with Fitch's Government-Related Entities (GRE) Rating Criteria. This is based on our assessment of strong linkages between Inalum and the state as well as the state's incentive to provide support.

Inalum's Standalone Credit Profile (SCP), which evaluates Inalum, its subsidiaries and associates, but assumes no exceptional support from the government in a situation of financial difficulty, is assessed at 'b-'. We expect standalone EBITDA/interest coverage, after adding net dividend and interest income to EBITDA, to remain below 1x and debt/EBITDA leverage, based on proportionate consolidation of subsidiaries, to remain at above 10x in 2020-2021.

Our forecasts for Inalum's financial metrics are weaker than our previous estimates as we took into account Fitch's latest metals price assumptions, which factor in a weak short-term global economic outlook and subdued commodity demand due to the impact of COVID-19. We also factor in higher standalone debt, with Inalum looking to borrow on behalf of its subsidiaries.

Despite very weak metrics, Inalum's SCP is supported by adequate liquidity due to robust banking relationships, especially with state-owned domestic banks. We estimate standalone coverage to improve to above 1x by 2022 once meaningful dividends from the Grasberg mine begin. In the interim, we expect the Indonesian government, through state-owned banks, to provide liquidity support.

KEY RATING DRIVERS

Strong State Linkage: Fitch sees Inalum's status, ownership and control by the Indonesian sovereign as 'Strong'. The company is fully owned by the government and is the state mining holding company, owning around 65% stake in each of its three subsidiaries - PT Bukit Asam Tbk (PTBA), PT Aneka Tambang Tbk (ANTAM) and PT Timah Tbk - that were transferred by the government. The government also mandated Inalum to acquire additional shares in the strategically important Grasberg mine.

The sovereign's support record is assessed as 'Strong', with a 2015 capital injection of IDR3.5 trillion in ANTAM via a rights issue and consolidation of mining assets under Inalum to improve its business profile. While Inalum's SCP has deteriorated significantly, we think the weakness is likely to be temporary as financial metrics should improve once meaningful dividends from Grasberg begin by 2022. We expect government support to continue in the interim through state-owned banks.

State's Incentive to Provide Support: Fitch sees the socio-political implications of a default by Inalum as 'Moderate'. A default could damage the government's reputation and hamper Inalum's project funding, but we do not believe it would result in severe social-political fallout at the existing mining operations of Inalum's subsidiaries. We assess the financial implications of a default as 'Very strong'. Inalum is one of Indonesia's key state-owned enterprises and we believe a financial default could damage investor confidence in the sovereign and other state-owned enterprises.

Weaker Outlook for Key Subsidiaries: We expect the performance of PTBA and ANTAM, which together contributed more than 80% of Inalum's consolidated 2019 EBITDA, to be mainly affected by weaker prices in 2020-21. ANTAM will also be affected by lower sales of nickel ore following the ban on ore exports from 2020. We estimate EBITDA for PTBA, a thermal-coal producer, to drop by around 70% in 2020 and remain 40% below the 2019 level in 2021. We see risk of ANTAM making an EBITDA loss in 2020 and estimate its EBITDA will remain around 60% below the 2019 level in 2021.

Lower Standalone EBITDA: Inalum's standalone operation, which comprises of the country's only aluminium smelter, saw EBITDA fall by around 70% in 2019 due to weaker product prices and spreads and higher costs for carbon inputs of calcined petroleum coke and coal-tar pitch. We estimate EBITDA to fall sharply again in 2020 by around 80% due to weak aluminium prices, despite our expectation of lower raw-material prices as well as sales and administrative expenses. Thereafter, we expect EBITDA to recover with improved aluminium prices.

Grasberg Dividends Trimmed: We have also cut our expectations of total dividends due to Inalum from its stake in PT Freeport Indonesia (PT FI), the operator of the Grasberg mine, in 2021-22 by around 60% due to lower copper price assumptions. Mining at Grasberg is transitioning to underground, which cut copper sales volumes by 41% in 2019. We expect volumes to pick up in 2020, although they should remain below the 2018 level and no dividend is likely. Thereafter, Inalum should benefit from dividends as sales volumes increase to above 2018 levels.

Inalum is in the process of transferring a 10% stake in PT FI to the Papua government and Mimika Regency, and will retain a 41.2% interest.

Stake in Vale Indonesia: PT Vale Indonesia Tbk, a nickel producer with around 70 kilotonnes (kt) of annual output, and its key shareholders aim to sign a definitive agreement by end-May 2020 to sell a 20% stake in the company to Inalum. Inalum's stake will be in line with its objective to obtain a 15%-20% share in domestic reserves of mineral resources, such as nickel, coal and bauxite. We assume debt-funded spending by Inalum of USD500 million. Vale Indonesia has not been paying dividends and we do not assume any in our forecasts, although Inalum may seek dividends if it acquires a stake.

Capex for Higher Integration: Inalum plans to set up a smelter-grade alumina refinery, which will allow it to process ANTAM's bauxite output and use the produced alumina in its aluminium smelter. ANTAM is also increasing the capacity of its ferronickel processing plant by 50% to 40.5kt. Other projects include addition of tin smelting capacity by Timah and power generation capacity by PTBA.

Higher vertical integration should reduce earnings volatility for Inalum, although the benefits are likely to accrue gradually over the next four to five years as projects are completed and reach operating stability. Inalum aims to significantly increase its share of earnings from downstream projects, meaning further investments are probable.

DERIVATION SUMMARY

Our assessment of sovereign support for Inalum can be compared with that for other GREs, such as PT Pertamina (Persero) (BBB/Stable), PT Hutama Karya (Persero) (HK, BBB-/Stable), PT Telekomunikasi Indonesia Tbk (Telkom, BBB/Stable) and China Minmetals Corporation (Minmetals, BBB+/Stable).

The ratings on Indonesia's national oil company, Pertamina, is equalised with the sovereign, reflecting a 'Very Strong' score on all GRE support parameters related to ownership and control, support record and expectations, socio-political as well as financial implications of default. Inalum scores lower than Pertamina on factors related to control, support and socio-political implications of default. Pertamina receives regular subsidies for meeting the government's public-service obligations and state involvement in its investment decisions and budgetary support is exceptionally high. In addition, any default by Pertamina would hamper its ability to procure sufficient products, with a significant impact on the economy and general public.

Indonesian government-related construction company HK is rated at the same level as Inalum, using a top-down approach, at one notch below the sovereign rating. HK is rated as 'Very Strong' on the parameters of ownership and control as well as support record and expectations. The government, which owns 100% of HK, has close oversight of HK's board of directors and board of commissioners, and provided tangible support - via equity injections, asset securitisation and construction support - to support HK's order-book growth and toll-road investments in the last five years. The government also guarantees all of HK's debt taken for the trans-Sumatra toll road, a key project. However, the financial implications of default for HK are assessed as 'Strong' as we believe investors do not view the company as a proxy financing vehicle for the state.

The ratings on major telecommunications company, Telkom, which is majority-owned by the state, are constrained by the sovereign's rating. Similar to Inalum, Telkom is assessed at 'Strong' on the GRE parameters of ownership and control and support record and expectations. It is also rated 'Moderate' on the parameter of socio-political implications of a default, as Fitch believes there will be limited political and economic impact from any service disruption in network connectivity. However, on the parameter of financial implications of a default, Telkom is assessed at 'Strong' compared with 'Very Strong' for Inalum, as it has lower outstanding debt and is not viewed as a proxy borrower of the state.

Minmetals, which is fully owned by the Chinese government and receives support in the form of share capital and subsidies, is rated 'Strong' on the GRE parameters of ownership and control and support record and expectations. Similar to Inalum, Minmetals' socio-political implications of a default are assessed as 'Moderate', as the impact on the general public of a default and potential disruption in domestic supply of base metals is limited. However, on the parameter of financial implications of a default, Minmetals is assessed at 'Strong', because even though a default would make funding difficult for other central GREs, the impact would not be as significant as the default of closer proxies to the central government, like the key oil and power GREs. (ends)