Fitch Upgrades Geo Energy Resources to 'CCC'

(Fitch Ratings - Singapore - 19 Feb 2021)-- Fitch Ratings has upgraded Geo Energy Resources Limited's (Geo) Long-Term Issuer Default Rating to 'CCC' from 'CC'. The agency has also upgraded the rating on the outstanding senior unsecured guaranteed notes of Geo's subsidiary, Geo Coal International Pte. Ltd., to 'CCC' from 'CC' with a Recovery Rating of 'RR4'. The notes are guaranteed unconditionally and irrevocably by Geo.

The upgrade is based on Geo's improved liquidity as the company can avoid investors exercising a put option in April 2021 on its USD300 million note after it met a coal reserve requirement of 80 million tonnes (mt). Geo's latest compliant Joint Ore Reserves Committee report indicated its operating reserves at its PT Sungai Danau Jaya (SDJ) and PT Tanah Bumbu Resources (TBR) mines in Indonesia totalled 86.4mt as of 31 October 2020. Geo in August 2020 received mining licence extensions for the SDJ and TBR mines to beyond 2025, which was also a condition under the put option. These pushed the note repayment to its maturity date in October 2022, eliminating the short-term redemption or refinancing risk.

Geo has bought back almost USD240 million of the notes at a discount using its internal cash. This has materially reduced the redemption pressure to only USD59 million on the maturity date, which we expect Geo to be able to repay with internal cash, based on Fitch's coal-price assumptions.

However, the rating reflects minimal headroom for Geo's liquidity, should the company's operating cash flow decline due to lower realised coal prices and/or any shortfall in business performance, as the company has no backup long-term external liquidity facilities. It has short-term prepayment facilities from its two off-takers, which can cover small funding gaps.

The rating also reflects Geo's opportunistic management strategy, which lacks a consistent and cohesive execution record, as it failed to finalise any acquisition since it raised funds from the US dollar note and continues to lack clarity over a business plan amid a weak operating profile in light of its limited reserves. Geo is planning to undertake an investment, which will most likely dampen its liquidity and raise its leverage, as it would require external funding given its low liquidity. Fitch will treat such an investment as an event risk, but Geo's weak profile leaves little headroom for a sizeable and credit-accretive investment.

KEY RATING DRIVERS

Improved, Albeit Vulnerable, Liquidity: Geo's liquidity improvement eases the redemption pressure for its US dollar notes after the discounted bond buybacks since December 2019. We believe the absence of the put option means Geo can accrue enough cash to repay its outstanding USD59 million in notes at the maturity, which is in 20 months. However, there is minimal headroom for any underperformance to our expectations, as it would increase the redemption or refinancing risk meaningfully because we believe Geo's access to new funding is unlikely.

Weak Operating Profile: Geo's operating reserve comprised 23.3mt at SDJ and 63.1mt at TBR on 31 October 2020, higher than their 65mt at end-2019. This, however, does not improve Geo's profile materially, as its small scale, short mine life of around eight years (per Fitch's expected 10mt annual production) and weak cost position continue to constrain its operational flexibility compared with other Fitch-rated Indonesian coal miners. Geo has two other mines, but one is in the exploratory phase and the other has a weak cost position, making mining operations unviable.

Weak Cost Position: Geo has one of the weakest energy-adjusted cost positions among Fitch-rated Indonesian coal miners. This, coupled with its average-quality coal and Fitch's expectation of falling coal prices, will lower unit profitability per tonne to around USD4.5 in 2021-2022 from around USD5 in 2020.

However, its profitability will benefit by over USD1.5/tonne from a recent VAT refund for coal miners from November 2020. Geo has minimal flexibility to curb its cost. It remained operational during a weak coal price period in 2020 only due to cost renegotiations with its contractor and service providers.

Legal Case Could Pressure Liquidity: Geo's liquidity will worsen if legal proceedings result in an adverse outcome. Geo's subsidiaries and other parties face litigation claims of IDR500 billion (about USD35 million) for damages, excluding penalties and interest, from a minority shareholder of PT Titan Infra Energy (TIE) and one of its subsidiaries (plaintiffs).

The litigation says that a conditional sale and purchase agreement, coal purchase agreements and a prepayment signed by Geo's subsidiaries and TIE are against the plaintiffs' interests. Geo made an advance payment to TIE in 2019 for the coal off-take in 2020, of which around USD27 million is outstanding and has to be repaid by TIE. Fitch expects Geo to recover the outstanding advances from TIE in the next three years. Geo said it is in settlement discussions with the plaintiffs, and believes the claims are without merit and will not have a material effect on the group.

Low Off-Taker and Contractor Risk: Geo has life-of-mine contracts for its two key operating mines on all coal produced, minimising off-take risk. Geo has prepayment facilities with off-takers for both mines, providing some flexibility in managing working capital. Its coal production and over-burden removal contracts are with one of Indonesia's largest mining contractors, PT Bukit Makmur Mandiri Utama (BB-/Negative), limiting contractor risk.

DERIVATION SUMMARY

Geo's Indonesian coal-mining peer, PT Golden Energy Mines Tbk (GEMS; B+/Stable), has a stronger credit profile with a larger reserve base, better cost position, and comfortable liquidity profile, which justifies rating Geo multiple notches below GEMS.

PT Agung Podomoro Land Tbk (APLN; CCC+) is one of the leading property developers in Indonesia, with a long record and established domestic brand. APLN was recently upgraded to 'CCC+' from 'CCC' after it sold an asset, which along with its cash, will cover debt-servicing costs and capex, and fund existing projects for the next 12 months. APLN plans to sell its investment property to boost its liquidity in the next few years. Geo can also cover its debt-servicing expense until October 2022 through its cash and internal cash flow, but its weak operating profile and the lack of additional liquidity sources to fall back on justify its one-notch lower assessment than APLN.

KEY ASSUMPTIONS

Fitch's Key Assumptions Within Our Rating Case for the Issuer

- Coal prices in line with Fitch's mid-cycle commodity-price assumptions, adjusted for the difference in calorific value (average Newcastle 6,000 kcal free on board, or FOB/tonne: USD68 in 2021, USD67 in 2022 and USD66 thereafter); see "Fitch Ratings Updates Metals and Mining Price Assumptions", dated 28 August 2020, at https://www.fitchratings.com/site/pr/10134526.

- Annual total coal production from SDJ and TBR mines of around 10mt over the medium term.

- No acquisitions and modest capex over the medium term

- Dividend payout of USD10 million in 2021.

- Strip ratio to remain at around 3.5x (2019: 3.5x) and production cost at around USD27.0/tonne (2019: USD29.3/tonne) over 2021-2023.

KEY RECOVERY RATING ASSUMPTIONS

- Recovery analysis for Geo is on a going-concern basis in case of bankruptcy and assumes that the company would be reorganised and not liquidated. We have assumed a 10% discount to enterprise value to account for bankruptcy-related administrative claims.

- The going-concern EBITDA estimate of around USD44.5 million reflects Fitch's view of a sustainable, post-reorganisation EBITDA level upon which we base the enterprise valuation. The going-concern EBITDA is 5% below the mid-cycle EBITDA, based on Fitch's long-term average thermal coal-price expectation.

- An enterprise value multiple of 3.5x EBITDA is applied to the going-concern EBITDA to calculate a post-reorganisation enterprise value. A higher multiple of 4.5x was used earlier to capture the high cash balance at Geo, which could be used to acquire coal assets that would boost EBITDA, but would not add assets to the balance sheet, as Indonesian coal mines are essentially owned by the government and licensed to coal miners. The multiple revision reflects the decline in Geo's capacity to make any meaningful acquisitions as its cash balance has declined significantly.

- An enterprise value multiple of 3.5x used to calculate a post-reorganisation valuation also reflects a derived EBITDA multiple based on a distressed valuation metric of around USD1/tonne of Geo's proved reserves plus cash in hand of around USD55 million as of end-2020.

- The waterfall results in a recovery of 100% for the US dollar noteholders, or a Recovery Rating of 'RR1', but a soft cap of 'RR4' is applied as the assets are located in Indonesia, which is a group D country.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

An upgrade is unlikely, although an improvement in the operating profile, without material deterioration in the financial profile, including a weakening of liquidity or an increase in the US dollar notes' refinancing risk, may lead to an upgrade.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

Deterioration in the liquidity profile such that it jeopardises the repayment or refinancing of the USD59 million notes on the maturity in October 2022.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

LIQUIDITY AND DEBT STRUCTURE

Weak Liquidity: Fitch estimates Geo's cash of around USD55 million as of end-2020 and internal cash flow will be enough to cover interest expense and its only outstanding debt of the USD59 million in notes maturing in October 2022. However, its liquidity has very little cushion to absorb any business underperformance and/or unforeseen cash outflows, and can quickly deteriorate if there is any variation to our rating-case expectations or if Geo undertakes any new investment that may affect its debt-servicing ability.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG CONSIDERATIONS

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg. (ends)