MARC has downgraded the ratings of DRB-HICOM Berhad’s (DRB-HICOM or the Group) RM50.0 million Underwritten Murabahah CP/MTN and RM120.0 million Murabahah CP/MTN facilities from AA-ID/MARC-1ID to A+ID /MARC-1ID ; and RM680.0 million Bai’ Bithaman Ajil Islamic Debt Securities (BaIDS) from AA-ID to A+ID respectively with a stable outlook. The downgrades reflect the Group’s declining market share and eroding competitive position of models under its manufacturing and distribution arm; relative dependence of its automotive components and engineering arm on the national carmakers, PROTON Holdings Bhd (PROTON) and Perusahaan Otomobil Kedua Sdn Bhd (PERODUA); and negative implications of the lacklustre automotive and property industry fundamentals on the Group’s financials. Some of these factors are however, moderated by the broad product scope of its automotive division. The stable outlook reflects the steady contribution from the Group’s services division and proposed new strategic directions underway to improve the future operating and financial performance of the Group.

DRB-HICOM, an industrial conglomerate, is involved in four core businesses namely automotive; services; property development and construction; and defence. The automotive segment undertakes the manufacturing, assembly, distribution and sales of passenger cars, trucks and motorcycles along with component manufacturing including the sale of related spares and services. Despite being the country’s single largest integrated automotive player and having secured direct Approved Permits (APs) from the Government, the slowdown in the automotive business has resulted in a 22.7% year-over-year (y-o-y) decline in its total number of units sold by distributors (excluding motorcycles) as of September 2006. The automotive segment remained as the largest contributor to the Group’s revenue in FY2006 followed by the services segment at 56% and 37% respectively. Revenue contribution from the property development and construction segment fell significantly to only 5% (FY2005: 12%) mainly due to the reversal of revenue for the Electrified Double Tracking Project (EDTP). Excluding the EDTP, this segment managed to register revenue growth of 18.7% aided by the continued disposal of certain land bank to generate cash flow but was moderated by several factors including the maturity of the property development activity cycle of the division’s major subsidiaries and the general slowdown in certain segments of the property market due to an oversupply of residential properties.

FY2006 was a challenging year for the Group as revenue dipped 21.8% y-o-y to RM3.5 billion and the Group posted a pre-tax loss of RM134.0 million. The poor performance of the automotive, and property and construction divisions resulted in a decline in operating profit margin to -6.4% for FY2006. The pre-tax loss for FY2006 was a result of non-operational items arising mainly from the impairment losses of non-core properties and adjustments made for profits of the EDTP. Excluding these items, operating profit margin was 3.4% while the Group’s pre-tax profit of RM213.8 million was still 22.7% below that of FY2005. The cumulative six-month period ended 30 September 2006 (1HFY07) saw the Group’s revenue and profit before tax (PBT) slid a further 18.3% and 40.9% (excluding the one-off gain from the disposal of assets in FY2005) respectively as compared to the previous financial year’s corresponding period. The continued poor performance of its automotive division for 1HFY07, which reported a 22.3% decline in revenue as compared to the previous year’s corresponding period and an operational loss of RM36.2 million, was attributed to languished demand for automobiles confronting the industry. Barring unforeseen circumstances, MARC expects that the Group’s financial performance for the next financial year will continue to be moderated by the subdued consumer sentiments affecting the general property market and challenging operating environment of the automotive industry. With solid plans expected to materialise only in the next year or two, MARC is cautiously optimistic that the Group’s FY2007 results will fare better than FY2006 on the back of improved contribution from the property and construction sector.

The Group’s cash flow protection measures deteriorated significantly for FY2006 mainly attributed to the losses made for the year and an increase in inventories arising from the weaker sales of the automotive division. Additionally, the cash flow coverages continued to be strained by higher interest charges amidst onerous debt burden. Over the remaining tenure of the bonds, the average projected CFO interest cover and FSCR stood at 2.2 times and 6.3 times respectively.

DRB-HICOM’s gearing deteriorated marginally to 0.8 times as at March 2006 as shareholders funds were eroded by the losses made for the financial year. Following the settlement from the Government for the EDTP, the proceeds were utilised to redeem RM150.0 million of the underwritten Murabahah CP/MTN in January 2007. Based on the computation of the financial covenants by DRB-HICOM, the Group has maintained minimum Net Tangible Asset (NTA) of not less than RM2.0 billion and ratio of Total Debt to NTA of not more than 1.25:1.0 times for FY2006 and Net Cash Flow to Consolidated Interest Expense ratio of more than 2.0:1.0, thus meeting the financial covenants stipulated under the issue structure. These covenants were computed based on the audited accounts and as defined under the Principal Terms and Conditions of the issue. However, these computations have not been reviewed by the auditors.