Credit FAQ:

What's Behind Our Downgrade Of PT Bumi Resources Tbk.?

Primary Credit Analyst: Xavier Jean, Singapore (65) 6239-6346; xavier.jean@standardandpoors.com Secondary Contact: Vishal Kulkarni, CFA, Mumbai (91) 22-3342-4021; vishal.kulkarni@standardandpoors.com

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Frequently Asked Questions Related Research And Criteria

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Credit FAQ:

What's Behind Our Downgrade Of PT Bumi Resources Tbk.?

The creditworthiness of Indonesia-based coal producer PT Bumi Resources Tbk. is under the spotlight. On Oct. 15, 2013, Standard & Poor's Ratings Services lowered its long-term corporate credit rating on Bumi to 'CC' from 'CCC' following the company's announcement of a debt-for-equity and asset exchange agreement with one of its creditors, China Investment Corp. (CIC). We also lowered our long-term ASEAN regional scale rating on Bumi to 'axCC' from 'axCCC'. We removed all the ratings from CreditWatch, where they were placed with negative implications on Sept. 26, 2012. We lowered the ratings because, under our criteria, we considered the agreement to be a "distressed exchange" that was equivalent to a de-facto default. Under the agreement, CIC will convert US$1.3 billion in the principal amount of its loan to Bumi into equity stakes in Bumi and some of its subsidiaries. CIC will convert the remainder due by Bumi into debt with a longer tenor than under the original terms and conditions. We expect to lower all ratings to 'SD' (selective default) upon completion of the transaction.

Frequently Asked Questions

Why does Standard & Poor's consider Bumi's transaction with CIC to be a "distressed exchange"?
To view an exchange as "distressed" under our criteria, we must assess whether there is a realistic possibility of a conventional default on the debt in the near to medium term if the exchange offer had not taken place. Our criteria consider an issuer credit rating of 'B-' or below a guideline to determine whether an exchange would be characterized as distressed or not. We believe a realistic likelihood of payment default by Bumi existed. The company has recurring large debt maturities through 2014 and will continue to face difficulty in meeting its interest payments because lower coal prices have reduced operating cash flows. We downgraded the company to 'CCC' and placed the rating on CreditWatch with negative implications on Aug. 5, 2013. The rating was therefore already below the threshold of 'B-', the level at which we generally consider whether an exchange is distressed. Our consideration of a distressed debt exchange doesn't imply that we view the assets exchange with CIC as having been made at distressed prices. A wide range of valuations can be obtained depending on the many assumptions for coal prices, future production growth at Kaltim Prima Coal (KPC) coal mines, and tax levels in Indonesia. Other factors likely include the terms under which mining permits will be renewed upon their expiry in 2021 and the importance of energy assets to CIC. The current valuation may also have been different if Bumi had sold these assets to non-creditors. The asset exchange with CIC includes a 19% stake in Bumi's holdings in each of KPC, Indocoal Resources (Cayman) Ltd., and PT Indocoal Kaltim Resources--and a 42% stake in PT Bumi Resources Minerals Tbk.

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Credit FAQ: What's Behind Our Downgrade Of PT Bumi Resources Tbk.?

Let's crunch some numbers. How much will the deal improve Bumi's leverage and debt-servicing ability?
We estimate net cash savings at US$40 million-US$50 million in 2014 from the transaction, marginally supporting Bumi's immediate capacity to pay its interest. The deal also reduces the refinancing risk associated with the repayment of the second tranche of CIC debt that was due in 2014. Debt levels will reduce by US$1.3 billion following completion of the transaction and the issuance of US$150 million in new shares in Bumi. We therefore estimate that Bumi's interest payments will decline by about US$120 million-US$130 million a year. This assumes that Bumi still needs to pay about 7%-8% interest on residual debt of about US$430 million from CIC. At the same time, we expect Bumi's EBITDA in 2014 to decline by about US$100 million-US$120 million following the sale of its 19% stake in the coal companies. This level assumes about US$11-US$14 in EBITDA per ton and annual production of 45 million-47 million tons at KPC. We estimate the net cash flow to Bumi after the payment of taxes at the operating company level will drop by US$70 million-US$80 million, assuming a 45% tax rate on the profits at KPC. Still, a decline of US$1-US$2 in the average selling price for coal in 2014 would likely negate the benefits from a lower interest charge, given Bumi's high operating leverage. We see this decline as plausible because the average selling price in 2013 reflects the fact that prices negotiated in the first few months of this year were significantly higher than current prices.

If Bumi's interest charges drop following the agreement, why did Standard & Poor's still lower the rating?
We believe Bumi will benefit from lower interest expenses and reduced refinancing risks upon the completion of the CIC transaction. However, this positive change would be the result of what we view as a restructuring of a financial obligation (i.e. the CIC debt). In our opinion, this transaction is analogous to a bankruptcy--a process that also benefits an entity by relieving it of the financial burden that the company previously undertook. Accordingly, our rating on Bumi takes into account this renegotiation of the previously agreed terms of the obligation. Any subsequent benefits to creditworthiness would be reflected thereafter.

How will the rating on Bumi transition if this transaction is completed as planned?
Based on our criteria, we will lower the corporate credit rating on Bumi and issue rating on Bumi's guaranteed senior notes to 'SD'. Although we expect the rating to be 'SD' for only a short period, it serves as a record of a de-facto default by an entity undergoing what we view as a distressed debt exchange. The 'SD' rating would reflect our view that Bumi will be able to continue servicing its debt obligations that don't involve CIC over the next three to six months. Once the transaction is completed, we will reassess Bumi's creditworthiness and assign ratings to reflect the company's new capital structure and debt-servicing ability. We expect the ratings to improve from the current 'CC' level because of Bumi's lower debt burden. In particular, we will seek clarity on Bumi's refinancing plan through 2014, and over its ability to service debt from internal cash flow. The company will need to refinance US$300 million in bank loans in December 2013. It faces the risk that creditors could exercise a put option on part of a US$150 million bank loan originally due in August 2013 but extended to November 2014. Bumi has about US$20 million in average monthly amortization on other bank loans and a US$375 million convertible bond maturing in August 2014.

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Credit FAQ: What's Behind Our Downgrade Of PT Bumi Resources Tbk.?

What will happen to the rating if the deal moves too slowly or is canceled?
We believe the 'CC' rating would be reflective of the imminent risk of payment default. In our view, Bumi would find it difficult to refinance its large debt maturities over next three months without clarity over when or if it can complete the CIC deal.

Related Research And Criteria

PT Bumi Resources Tbk. Rating Lowered To 'CC' On Proposed Debt-For-Equity Swap; Outlook Negative, Oct. 15, 2013 PT Bumi Resources Tbk. Rating Lowered To 'CCC' On Growing Liquidity Risks; Remains On Watch Negative, Aug. 5, 2013 Methodology: Management And Governance Credit Factors For Corporate Entities And Insurers, Nov. 13, 2012 Criteria For Assigning 'CCC+', 'CCC', 'CCC-', And 'CC' Ratings, Oct. 1, 2012 Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 Rating Implications Of Exchange Offers And Similar Restructurings, Update, May 12, 2009

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