Ingress Sukuk Bhd - 2007

MARC has lowered its rating on Ingress Sukuk Berhad’s RM160 million Sukuk Al Ijarah Issuance to AIS from A+IS, and removed it from MARCWatch Developing. The outlook for the rating is stable. The downgraded rating reflects Ingress Corporation Berhad’s (“Ingress” or “the Group”) deteriorating profitability and the breach of its debt-to-equity covenant, resulting from additional debt assumed to fund its substantial capital expenditure in respect of its Thailand operations. Ingress’ debt protection measures were also pressured by lower earnings stemming from higher operating costs incurred on expansion coupled with varying time frame taken to recover investments. Additionally, a change in the accounting treatment on the recognition of deferred tax assets (FRS1122004 Income Taxes) resulted in a prior-year adjustment which reduced the Group’s retained earnings by RM18.9 million as at January 31,  2007, although reversed subsequently in Q1FY2008. Ingress’ heavy reliance on the national carmakers makes it particularly susceptible to domestic automakers’ sales performance and the domestic operating environment although the Group is increasingly focusing on the regional car market. The stable outlook reflects MARC’s expectations of improvement in Ingress’ profitability and cash flow protection over the near to intermediate term, stemming from initiatives to diversify its revenue sources, as well as the customer base and geographical distribution of its automotive parts business.

Over the years, Ingress has transformed itself from a local automotive player into a regional player. Ingress is a Tier-One auto parts vendor to PROTON and PERODUA, supplying over 50  automotive parts/ products to both national and foreign car makers, including General Motors/Isuzu, Ford/Mazda, Mitsubishi and Honda. Domestically, Ingress remains a leading manufacturer of roll-formed mouldings, weather strips and the sole manufacturer of door sash and complete door assemblies. The Group’s expanding operations in Thailand and Indonesia, in addition to its established domestic presence, has strengthened its foothold in the regional automotive market. Regionally, Ingress is one of the top manufacturers of door sash assemblies and the only manufacturer of complete door assemblies. To sustain its competitiveness, Ingress continues to develop new auto parts/products. Through an associate with Maju Nusa Sdn Bhd, the Group recently ventured into the telecommunications sector, offering Code Division Multiple Access wireless technology to local  rural areas.

In FY2007, despite the Group’s increase in revenue by 24% to RM358.8 million, pre-tax profit decreased significantly by 89% to RM1.2 million (FY2006: RM10.8 million), owing to higher depreciation, overhead and finance cost as well as high start-up costs associated with new car models/projects. More than two- thirds of Ingress’ revenue was derived from its automotive division which accounted for 81% of its total revenue followed by power engineering and railway electrification (PER) division at 18%. In recent years, Ingress’ operating performance continues to reflect continuing margin pressure. Based on its Q3FY2008 results ended October 2007, Ingress recorded pre-tax loss of RM7.01 million against a revenue of RM290.90 million. The Group’s reinstatement of its deferred tax assets in Q1FY2008 with the adoption of the revised FRS112 has had the effect of reversing the non-recognition of deferred tax assets from unutilised reinvestment and investment tax allowances and increasing its retained earnings by RM15.77 million. Additionally, if minority interests of RM48.35 million as at October 2007 were to be treated as equity for the purpose of computing the debt-to-equity ratio, Ingress would have been in compliance with the maximum 1.75 times under the terms of the issuance. Notwithstanding, Ingress has ample cash and bank balances of RM61.46 million as at October 2007.

Going forward, growth in revenue will be mainly driven by contributions from its regional operations, arising from new contracts secured with Honda, Mitsubishi, Daihatsu and Ford. Ingress projects revenue contribution from its PER division, to increase, in light of existing secured projects as well as potential projects. Improved operating results in coming quarters would aid recovery of Ingress’ credit measures, including its debt-to-equity ratio. The current rating assumes that the breach of Ingress’ debt-to-equity covenant will be resolved (through a resetting of definitions to reflect minority interests as equity or an increase in the gearing cap and/or improvements in its capitalisation), and incorporates little cushion for any further deterioration in operating performance. Ingress is confident of obtaining Sukuk holders’ consent for a relaxation in the covenants.

Major Rating Factors

Strengths

• Tier-One auto parts vendor with diverse product range catering to both national and foreign automakers;
• Strong technical partnership with Katayama Kogyo, a leading Japanese auto parts supplier;
• Has strong regional presence compared to other local auto parts manufacturers, particularly in automotive markets in Thailand and Indonesia.

Challenges/Risks

• Continued heavy reliance on sales to national automakers, PROTON and PERODUA;
• Improving and preserving profitability amidst stiff competition in both domestic and regional automotive industry; and
• Attaining a balance between maintaining moderate gearing levels and continuous reinvestments in its businesses, particularly in its Thailand operations.