Haisan Resources Bhd - 2007

MARC reaffirmed a rating of A (A Flat) to Haisan Resources Berhad (HRB)’s RM30 million bonds with a Developing Outlook; reflecting its strong competitive position in the refrigeration and ice industry and good geographic diversity as well as the assignment of specific contract proceeds towards redemption of the bonds. The rating is however moderated by its weak profitability measures, high debt leverage and strained cash flow coverage measures.

The developing rating outlook reflects MARC’s expectation that the company will redeem its current bonds with part of its proceeds from its proposed asset securitization exercise that was announced on May 4, 2007. HRB expects to complete the proposed issuance of up to RM200 million asset backed Sukuk Al-Ijarah by the end of the year. This will insulate current bondholders from any further changes in HRB’s business and financial risk profiles. If the Sukuk issuance does not proceed as planned, the rating could come under downward pressure.

Incorporated in 1999, HRB is principally involved in the whole spectrum of the refrigeration and ice industry, which includes provision of temperature controlled logistics (TCL) services, provision of engineering services related to industrial refrigeration, ice manufacturing and warehousing. The Group was listed on the Second Board of Bursa Malaysia in January 2001.

Significant changes occurred in the group’s business risk profile last year with continuation of their aggressive expansion in China as well as Vietnam in TCL services. The latter is the largest contributor to the group’s earnings. The expansion is part of the group’s strategy to secure first mover advantages in these countries. HRB expects its soon-to-be completed TCL warehouses in Saigon and Shanghai to contribute positively from FY2008 onwards. HRB’s improved geographical diversification comes, nonetheless, at the expense of an increased financial risk profile given that the expansion is primarily debt-funded.

For fiscal year 2006, the group recorded flat revenue growth of RM68.7 million against RM68.2 million in the previous the year. Strong growth arose from TCL division which recorded a revenue of RM41 million compared to RM32 million in the previous year. This was, nevertheless, offset by the weaker performance of the engineering division whose revenue shrunk to RM14 million from RM24 milllion in the previous year. Despite flat revenue growth, HRB’s operating margin improved to 18.03% for FY2006 from 16.97% in FY2005 (FY2004:12.82%) on account of higher rise in rental rates and lower accounting depreciation charges.

HRB’s credit protection measures remain strained. The group has generated negative free cash flow for the last five years as a result of its aggressive expansion plans in China and Vietnam. Cash flow coverage in the short and intermediate term is expected to remain weak amid capital expenditure commitments as well as expansion initiatives which will increase funding pressure. The ability to generate free cash flow is a key driver for any potential positive rating action. The group’s leverage position is high compared to rated peers. As most of the expansion was debt financed, the leverage for FY2006 increased significantly from 1.25x to 1.58x.

Under the issue structure, a Revenue Account (RA) captures rental proceeds of approximately RM6.5 million per annum from three specified contracts for the redemption of the rated bonds upon maturity. HRB’s good competitive position in the provision of multi temperature controlled facilities (MTCF) services mitigates the risk of early termination of contracts. While the bonds have a bullet repayment structure, liquidity risk is largely mitigated through the progressive build up of the RA.