RCE Advance Sdn Bhd - 2011

MARC has affirmed its ratings of A+, A and BBB+ on outstanding Class A, B and C notes issued by RCE Advance Sdn Bhd (RCEA) under its RM420 million Fixed Rate Medium Term Notes Programme. The ratings affect RM100 million of outstanding notes under Class A, RM98.5 million under Class B and RM60 million under Class C. The ratings outlook has been revised to stable from negative.

RCEA is a special purpose company wholly owned by RCE Marketing Sdn Bhd (RCEM), the originator of the six collateral pools (the collateral portfolio) of personal loans backing the rated notes. The collateral pools for this transaction consist solely of loans to members of Koperasi Wawasan Pekerja-Pekerja Berhad (KOWAJA), RCEM's largest business partner and borrower. RCEM has a continuing role under the transaction to replace defaulted and/or prepaid loans to maintain the transaction's three-month collateral cover ratio of 166% at all times. RCEM has also provided an undertaking to cover any shortfall in the sinking fund account for the notes. The notes also benefit from an irrevocable guarantee from RCE Capital Berhad, the ultimate holding company of RCEM.

MARC’s revision of its outlook reflects increased certainty that RCEM will be able to maintain the transaction's collateral cover covenant notwithstanding prevailing regulatory constraints which are affecting its ability to grow loans and fund loan growth. The increased certainty is supported by the transaction’s actual demonstrated ability to remain in compliance with its minimum covenanted level of 166% at all times, which is tested based on a trailing three-month total. Since December 1, 2010, when KOWAJA was first ordered to cease its lending activities over non-compliance with practice guidelines and prohibited from assigning newly originated loans to RCEM and other third parties, the prohibitions have been relaxed. MARC notes that in a recent decision on June 9, 2011 by the Cooperative Commission of Malaysia (CCM), KOWAJA was granted the approval to resume obtaining funds from RCEM, subject to a funding limit of RM200 million, among other conditions. While this means that RCEM has, to an extent, resumed lending to KOWAJA, it remains clear that the company has still not regained the operating flexibility it had earlier possessed. MARC understands that RCEM and KOWAJA are still working to achieve full compliance with regulatory guidelines.
 
The affirmed ratings continue to reflect healthy collateral coverage for the notes and satisfactory performance of RCEA’s collateral pools as result of the transaction’s structural mechanism for replacing defaulted and prepaid loans with performing ones from RCEM. Nonetheless, the ratings are moderated by RCEM’s heightened exposure to regulatory risk and increasing competition from other general loan financing companies.

As of September 30, 2011, all tranches of Class A and B notes had met their minimum required collateral
coverage ratio of 1.66 times, supported by a collateral portfolio balance of RM216.0 million and designated account balances of RM74.6 million. During the reviewed period (October 2010 to September 2011), RCEA had redeemed RM10 million and RM6.5 million of Class A and B notes respectively. Meanwhile, the reviewed average default rates for the collateral pools, which ranged from 0.3% to 0.5%, have remained relatively unchanged from the previous year (2010 review: 0.3% to 0.4%). The defaulted loans comprised 59 accounts with a collective outstanding balance of RM2.01 million, representing a default rate of 5.32% on the collateral portfolio’s outstanding principal balance; this default rate falls well under MARC’s cumulative default expectations (up to 10% at year 2015). At the same time, the range of average monthly prepayment rates was observed to be 2.6% to 4.0% and higher than last year’s (2010 review: 1.4% to 2.2%). The increase in prepayments was mainly driven by heavy refinancing activity in the month of April 2011 due to an influx of more competitive financing options in the market. Nonetheless, the risk of similar prepayment increases in the future are expected to be moderated by RCEM’s available performing receivables for substitution and the company’s sizeable cash balances, which will be utilised to provide necessary coverage for the notes. At the end of the reviewed period, the collateral portfolio was comprised of 8,611 seasoned accounts with an average remaining term to maturity of 67 months.

RCEM’s earnings results for its financial year ended March 31, 2011 (FY2011) showed improvement on the back of a 3.7% growth in revenue, despite a change in income recognition method from sum-of-digits to amortised cost, reflecting a higher net interest margin of 16.8% compared to 14.0% in the previous year. Meanwhile, RCEM’s loans and receivables contracted by 4.6% to RM1.08 billion at year-end owing to the adoption of FRS139, which involves more prudent methods of valuation for financial assets and liabilities. In FY2011, RCEM’s cash and cash equivalents rose to RM512.53 million from RM281.20 million following increases in cash flow from operational and financial activities. Consequently, its net gearing ratio as of end-FY2011 fell to 1.68 times from 2.04 times based on net borrowings of RM592.51 million over a total equity of RM351.97 million. Overall, RCEM continues to maintain a moderate credit risk profile.

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