Fitch affirms DSI Samson Group at ‘Bbb+(lka)’; outlook ‘Stable’
Fitch Ratings has affirmed Sri Lanka-based DSI Samson Group (Private) Limited’s (DSG) National Long-term Rating at ‘Bbb+(lka)’. The outlook is ‘Stable’.
The rating affirmation reflects the moderate recovery in DSG’S revenue and EBITDA in the nine months to 31 December 2017 following a weakening in the financial year ended 31 March 2017 (FY17).
The recovery was underpinned by the growth in domestic sales of school shoes and solid rubber tyre exports, which has helped to offset the decline in rubber slipper sales and pneumatic tyres sold to original equipment manufacturers (OEMS).
DSG’S rating also factors in Fitch’s expectation that the company’s plans to grow its value-added footwear and solid tyre businesses over the medium term to diversify its product offering will help to counterbalance competitive pressures to an extent.
Fitch has tightened DSG’S rating sensitivity on leverage (defined as lease-adjusted debt net of cash/operating EBITDAR) to 4.5x from 5.0x to capture the increased business risk from fiercer competition and slower domestic sales volumes in several of its key segments.
Fitch expects DSG’S rating headroom to be limited over the medium term, with net leverage hovering only just below the 4.5x threshold at which Fitch would consider negative rating action.
DSG’S ‘Bbb+(lka)’ rating continues to reflect its leading positions in domestically sold pneumatic tyres to the replacement market and footwear, which are supported by its well-known brand and widespread distribution network. DSG’S market share also benefits, to an extent, from high tariffs on imports of tyres and footwear.
“We expect domestic sales of pneumatic tyres to the OEM three-wheeler market to remain under pressure over the medium term due to the tightening of three-wheeler financing regulations in 2017”. However, DSG’S exposure to the replacement market (65 percent of domestic pneumatic tyre volumes in FY17) mitigates this risk,” Fitch said.
DSG’S domestic tyre and tube volumes declined by 7 percent in FY17 (13 percent growth in FY16) due to a slowdown in the demand for bicycle tyres and a reduction of the maximum loan-to-value (LTV) ratio on three-wheeler leases. In 2017, the regulator lowered the upper band of LTV ratios associated with three-wheeler leases to 25 percent from 70 percent to curb vehicle imports, which led to a 13 percent drop in DSG’S threewheeler segment volume.
“We expect DSG’S net leverage to hover just below 4.5x over the medium term, which is high for its rating, due to competitive pressure in some of its operating segments, while the company’s bid to diversify its cash flows via exports and value-added footwear may take time to yield results. DSG’S leverage also weakened on high borrowings for capex and working capital investments in FY17. However, we expect capex to moderate from FY18 due to adequate production capacity and a recovery in EBITDA as a result of greater contribution from high-margin solid tyre exports and highervalue-added footwear,” Fitch said.
“We expect DSG’S EBITDA margin to remain at around 9 percent over the next two to three years due to escalating production costs caused by rising commodity prices and domestic currency depreciation. EBITDA margins have declined from 10.2 percent in FY16 and 13.3 percent in FY15 on rising input costs and competition. Fitch expects the price of natural and synthetic rubber, which is DSG’S key production input, to increase in line with rising crude oil prices. Growing price competition, particularly in the lower end of the rubber slipper segment, also means that the company is limited in its ability to fully pass on cost increases to its customers,” Fitch added.
DSG is the market leader in the bicycle, motorcycle and three-wheeler tyre industry in Sri Lanka. The company also holds the leading market position in the footwear segment despite growing competition in the lower end of the market.
DSG is a holding company that depends on dividends paid by its subsidiaries to service its own obligations. Therefore, a substantial increase in leverage at its operating subsidiaries could increase the structural subordination of DSG’S creditors. However, this risk is mitigated by DSG’S strong control over operating subsidiaries that accounted for around 80 percent of consolidated EBITDA in FY17, which increases cash fungibility within the group.
Furthermore, the company indicates that there are no restrictions that would prevent its major operating subsidiaries from paying dividends to DSG and readily available cash at the holding company was more than sufficient to repay holding company borrowings as of FY17.