Fitch assigns Hayleys first time ‘AAA’ National Rating; Outlook Stable

Fitch Ratings said yesterday it has assigned Sri Lankan conglomerate Hayleys PLC a National Long-Term Rating of ‘AAA(lka)’. The Outlook is Stable.

Fitch has also assigned a ‘AAA(lka)’ National Long-Term Rating to Hayleys’ senior unsecured

debentures.

The rating reflects Hayleys’ large operating scale locally as a result of extensive business and geographical diversification, and strong market share in most of its businesses. 

“We believe this will lead to steady operating cash flows. We expect Hayleys to maintain a measured approach to debt-funded acquisitions amid a weak domestic operating environment and high borrowing costs. This should keep its credit metrics adequate for the rating,” Fitch said. 

It said Hayleys’ debentures are rated at the same level as the issuer rating as Fitch expects the company to maintain prior-ranking debt, including debt at its subsidiaries and secured debt at the company, below 2.0x-2.5x, the threshold above which Fitch may consider downgrading the notes’ rating. The ratio was 2.0x in the financial year ended March 2023 (FY23).

Fitch statement also said the following. 

KEY RATING DRIVERS

Strong Business, Geographical Diversification: Hayleys operates in 12 main sectors catering to industrial and retail customers. It is exposed to defensive segments such as agriculture, hand protection, textiles and purification, as well as cyclical but growth markets like transportation, consumer-durable retail and construction. Hayleys is geographically diversified with more than 50% of its revenue from exports, limiting risk from the weak domestic market. This has supported strong EBITDA growth in the last few years, despite the challenging domestic environment.

Strong Market Presence: Hayleys is the leader in Sri Lanka’s transport, consumer-durable retail, textile, aluminum extrusion and tea production industries. It also has a sizeable share in the fragmented global hand protection and activated carbon-based purification markets.

It has strong relationships with customers but high customer concentration in some businesses, although the risk is mitigated by high switching costs and its established relationships. Hayleys’ competitive position is also strengthened by its vertical integration and strong relationships with suppliers.

Tight but Adequate Coverage: Hayleys’ EBITDAR to fixed-charge cover should remain at around 2.0x (FY23: 2.0x) over the next two years amid high but moderating interest rates.

Its interest cost rose threefold in FY23 as around 75% of its debt was on variable interest rates. We expect Hayleys’ interest costs to drop in line with our forecast of moderating domestic interest rates and the conversion of some local-currency debt to cheaper foreign currency debt. Hayleys’ lower fixed-charge coverage is offset by higher cash flows from exports than its rated peers.

Steady Leverage: We expect Hayleys’ EBITDAR net leverage to remain below 3.0x over the medium term, although rising moderately from 2.3x at FYE23 due to capex for business expansion. We expect the group to spend around Rs. 14 billion-16 billion in capex and acquisitions over FY24-FY26 and pay 20% of net income as dividend, largely funded by internal cash flows. The group’s balance sheet has strengthened over the past few years, helped by an improvement in operating performance and a more conservative approach to investments.

Pressure on End-Market Demand: We expect flat revenue in FY24 amid weak demand across most segments. We expect Sri Lanka’s GDP to grow 2% in 2023 after a 9.2% contraction in 2022. However, there will be a lag before the benefits of growth trickle down to consumer and private-sector spending, as the country grapples with high inflation, interest rates and taxes. We expect the agriculture segment (12% of EBIT in FY23) to remain resilient, but a recovery in domestic-focused consumer durables, construction and transportation will take longer.

Fitch forecasts GDP growth in the US and Eurozone, Hayleys’ key export markets, to slow to 1% in 2023, dampening non-discretionary spending and global trade. This will moderate Hayley’s transport sector cash flows (25% of EBIT in FY23), with freight rates falling to pre-pandemic levels. However, demand for hand protection (7%) and purification (15%) should remain resilient amid stock replenishment and demand for air and water purification, respectively. We expect pricing pressure in most export segments due to falling commodity prices and increasingly price-conscious customers.

Lower, Albeit Healthy, Margins: We expect Hayleys’ EBITDAR margin to narrow by around 200bp to 13.0% in FY24 on lower sales volume and price pressure. Hayleys’ EBITDAR margin expanded to 15.0% in FY23, the highest in recent years, as export earnings outpaced domestic operating costs amid the nearly 80% depreciation in the local exchange rate. However, the Sri Lankan rupee has appreciated by around 15% since March 2023, reversing some gains.

We believe the drop in freight rates and falling tea prices will also push margins lower. We expect the group’s overheads to remain elevated amid high inflation, rising electricity tariffs and wage increases, which Hayleys may not be able to fully pass on.

Adequate Holding-Company Profile: Hayleys has strong ownership and control over all its operating subsidiaries, allowing the holding company to extract subsidiaries’ operating cash flows to a large extent. We therefore expect the holding-company EBITDA net leverage and EBITDA interest coverage to be maintained at around 4.0x and 1.5x, respectively, over FY24-FY26, supported by a measured approach to investments in the last few years and improving cash flow.