Konsortium Lebuhraya Utara-Timur (KL) Sdn Bhd - 2014

MARC has affirmed its AA-IS and A- ratings on Konsortium Lebuhraya Utara-Timur (KL) Sdn Bhd’s (Kesturi) RM2.3 billion Sukuk Musharakah (Senior Sukuk) and RM180 million Redeemable Secured Junior Bonds (Junior Bonds) respectively. The outlook on the ratings is stable.

The affirmed ratings take into consideration the satisfactory traffic performance of Kesturi’s 18-kilometre (km) Duta-Ulu Kelang Expressway (DUKE) which continues to benefit from its link to densely populated northern areas of Kuala Lumpur and easy accessibility to a wide network of major highways. The ratings also factor in the adequate progress made on the construction of the 16-km DUKE Phase-2 and the ample time for traffic on DUKE Phase-2 to ramp up before repayment on the Senior Sukuk commences in December 2019. The ratings are, however, constrained by persistent regulatory risk in relation to Kesturi’s ability to implement scheduled toll increases and the limited peak-hour capacity for DUKE to accommodate future growth. In addition, the rating agency has concerns regarding the concessionaire’s delay in addressing its leverage metrics by strengthening its capital structure.

MARC notes that traffic volume on the existing DUKE, which reported a growth of 7.1% on an annualised basis for the 18-month financial year ended June 30, 2014 (18MFY2014), was below near-term traffic growth projections, averaging at 7.5% per annum. The lower performance, in spite of stable toll rates as Kesturi’s first scheduled toll hike on January 1, 2014 was deferred, could imply that the toll road which commenced tolling in 2009, has approached an earlier-than-anticipated matured phase. Nonetheless, Kesturi’s updated cash flow projections demonstrate sufficient liquidity headroom to withstand moderate traffic demand weaknesses on the existing and extension links.

The rating agency notes that the construction of DUKE Phase-2, which will add dual three-lane extensions to the existing highway, is on schedule with physical progress at 11% as of June 30, 2014 and expected completion by September 2016, based on the progress report by the independent consulting engineer, ZKR Perunding Sdn Bhd. Construction risk associated with DUKE Phase-2 is moderated by the project sponsor and ultimate holding company Ekovest Berhad’s (Ekovest) undertaking to fund cost overruns of up to RM60 million. In addition, distribution covenants restricting any payments to shareholders until tolling operations on DUKE Phase-2 commence would ensure that net proceeds raised from the rated issuances will be solely used to meet DUKE Phase-2’s development-related expenses.

In 18MFY2014, Kesturi generated revenue and operating cash flows of RM132.2 million and RM111.0 million respectively (2012: RM81.9 million; RM63.5 million). However, Kesturi continued to register a pre-tax loss of RM134.9 million in 18MFY2014 (2012: pre-tax loss of RM38.1 million); the concessionaire’s recurring losses have led to accumulated losses of RM324.2 million and negative shareholders’ funds of RM79.2 million as at June 30, 2014 (December 31, 2012: negative RM186.6 million; RM58.4 million). MARC notes that Kesturi would have recorded a pre-tax profit in the period if it had completed a planned capital structure reorganisation exercise to redeem and capitalise its outstanding Series A redeemable preference shares (RPS) together with accrued dividends into ordinary shares by end-2013. The completion of the exercise has been postponed to November 2014 to accommodate the completion of Ekovest’s acquisition of the remaining 30% indirect equity interest in Kesturi in June 2014. MARC expects the capitalisation of the cumulative dividends on the high-yield RPS (RM316.9 million as at June 30, 2014) would restore Kesturi’s leverage metrics to levels commensurate with the current ratings.

MARC observes that the shortfall in Kesturi’s project cash flows relative to projections for 18MFY2014 was mainly due to the delay in compensation payment. However, the minimum forward-looking finance service cover ratio (FSCR) on the Senior Sukuk remains healthy at 4.31 times based on Kesturi’s updated base case cash flow projections which incorporate the implementation of tariff hikes on January 1, 2015 and receipt of estimated compensation payment of RM21.0 million in the current financial year. MARC believes that the risk of non-payment of compensation remains low based on the government’s track record of compensating toll concessionaires. Nonetheless, in the absence of any debt amortisation payments over the next four financial years, Kesturi has substantial flexibility to withstand traffic underperformance and tariff-related regulatory risks.

The stable outlook on the ratings reflects MARC's expectations of continued satisfactory construction progress on DUKE Phase-2, continued resilience in the highway’s traffic demand, completion of Kesturi’s capital structure reorganisation exercise within the new extended timeline and timely resolution of Kesturi’s toll hike implementation issues.

Major Rating Factors

Strengths

• Resilient commuter-based traffic volume;
• Easy accessibility of toll road to a wide network of major roadways;
• Long remaining life of extended concession; and
• Amortisation schedule matches debt service to project cash flows.

Challenges/Risks

• Highly leveraged capital structure;
• Risk of cost overruns and completion delays in relation to the construction of DUKE Phase-2;
• Peak hour traffic bottlenecks on existing DUKE could limit future traffic growth; and
• Toll hike deferrals could weigh on project cash flows at later stage.