Maxtral Industry Berhad - 2009

MARC has affirmed Maxtral Industry Berhad’s (Maxtral) short-term rating of MARC-2ID and long-term rating of AID on its RM80 million Al-Bai Bithaman Ajil Islamic Debt Securities (BaIDS) and RM20 million Murabahah Underwritten Notes/Murabahah Medium Term Notes (MUNIF/MMTN) facilities with a negative outlook. The negative outlook reflects softened profitability relative to pre-2008 levels and the considerable uncertainty associated with Maxtral’s revenue and earnings outlook. Maxtral’s current available liquidity and recent levels of internally generated cash flow imply increased risk of a funding shortfall for its BaIDS scheduled annual debt maturities of RM20 million through 2013.  Maxtral’s substantial reliance on domestic demand for round logs and continuing pricing pressures are likely to impede the group’s ability to return to its pre-2008 level of profitability and to stabilise and improve its cash flow protection measures in the coming months. Maxtral’s ratings continue to incorporate its adequate operating performance amid challenging industry conditions, the cyclical nature of the timber products industry and the competitive pricing environment that exists with respect to its core product lines.

Sabah-based Maxtral is involved in the manufacture of veneer, plywood and moulded products and commercial log trading. While the group’s revenue has held up well in the nine months to September 30, 2009, MARC notes that this has largely been achieved in the context of increased local log sales. Revenue was RM165.3 million for the nine-month period (12-months FY2008: RM124.5 million). To counter the slowdown in its traditional export markets of Taiwan and Korea, Maxtral has been tapping new markets such as Egypt and Mexico. MARC believes that while this strategy should provide some resilience to top-line revenue, it is unlikely to address the current pressure on operating margins. Of concern to MARC is also the issue of log availability with Maxtral’s increased reliance on one log concession beyond October 2010. Maxtral’s abililty to achieve projected harvest levels will affect its earnings and cash flow in addition to changes in prices and major expenses.

Maxtral’s operating profit margins have narrowed considerably from FY2007 levels due to declining timber prices.  Average prices of round logs fell by 13.6% in 1HFY2009 against FY2008.  Its operating profit margins more than halved to 6.19% in 1HFY2009 as a result of lower log prices and unchanged log purchased costs.  However, its improved cash conversion cycle from 168 days in FY2008 to 90 days in 1HFY2009 helped to offset the cash flow impact of lower profitability. Maxtral is expected to refrain from incurring major capital expenditure in FY2009 to conserve its cash for its April 2010 debt maturity.

In FY2008, Maxtral managed to turn around its negative free cash flow (FCF) of RM58.1 million recorded in FY2007, primarily as a result of improved collections from its debtors. Receivables days on hand improved from 98 days in FY2007 to 76 days in FY2008 and 39 days in 3QFY2009.  The improvement in receivables days reflected its high composition of local sales transacted in cash as opposed to non-cash export sales under letters of credit.  Cash flow protection measures improved in 3QFY2009 as reflected by its positive free cash flow (FCF) and net cash flow from operation (CFO) with CFO interest cover improving to 5.87 times (x) in 3QFY2009 from 2.44x in FY2008. Maxtral’s debt-to-equity ratio improved to 0.41x as at end-September 2009 upon redemption of its first RM20 million BaIDS principal repayment.

Maxtral has recently proposed to offer up to 31,500,000 units of Taiwan Depository Receipts (TDR), representing up to 63.0 million new ordinary shares to be issued. Maxtral estimated an amount of RM34.0 million is expected to be raised from the proposed TDR programme. The current ratings assume that the TDR issue will proceed in 2010 and provide some cushion for Maxtral’s weak liquidity relative to significant upcoming debt maturities and potential volatility in its earnings. Some flexibility to meet prospective funding gaps in relation to its debt maturities is provided by a piece of prime commercial land currently held by Maxtral, which could realise no less than RM20 million upon disposal if needed. If Maxtral fails to proceed with the TDR issue or bolster its liquidity to levels that would be supportive of AID/MARC-2ID debt protection measures, the ratings could be lowered.

Major Rating Factors

Strengths

• Integrated timber player;
• Flexibility to react towards softening demand in export markets by switching sales base to local market;
• Ability to penetrate new export markets; and
• Moderately leveraged capital structure puts less pressure on cash flow protection measures during periods of unfavourable demand.

Challenges/Risks

• Deteriorating profitability affected by softening prices of logs;
• Cyclical and highly competitive timber industry;
• Execution risk arising from new ventures into palm oil plantation and construction; and
• Liquidity risk and thin cash flow coverage could heighten concern based on lumpy scheduled redemptions.