SUNWAY BERHAD & SUNWAY TREASURY SUKUK SDN BHD - 2018

MARC has affirmed its ratings of MARC-1/AA- and MARC-1_IS(cg)/AA-_IS(cg) on Sunway Berhad’s (Sunway) RM2.0 billion Commercial Papers/Medium-Term Notes (CP/MTN) programme and Sunway Treasury Sukuk Sdn Bhd’s (STSSB) RM2.0 billion Sukuk programme. STSSB’s Sukuk programme carries an Al-Kafalah guarantee from Sunway. The affirmation is premised on Sunway Group’s expected total debt level of RM10 billion to RM11 billion in the next two years.

The ratings outlook has been revised to stable from positive. The revision reflects the increasing headwinds the Sunway Group faces in the property and construction sectors given the continuing subdued performance of the domestic property market and downward revision in government-related infrastructure contracts. Sunway Group’s increased borrowing levels have also added to the rating agency’s concerns. Meanwhile, the affirmed ratings are underpinned by Sunway Group’s well-established businesses in property development, property investment, construction, healthcare and leisure-related operations that provide diversified sources of revenue and earnings. Its strong market position in the property and construction sectors would enable the group to weather challenges in these sectors. The group also retains sizeable cash generating ability and a moderate financial structure.

These factors notwithstanding, MARC expects the group to adhere to tighter financial discipline, particularly on using debt to strengthen its market position or undertake opportunistic transactions. Sunway Group has since established sizeable programmes under which the group can substantially increase its borrowings. In this regard, the rating agency understands that group borrowings are expected to increase to RM11 billion by end-2020 (1H2018: RM9.0 billion) to fund its working capital requirement and capex. Its gross and net debt-to-equity (DE) stood at about 1.04x and 0.44x at end-1H2018 with net DE expected to increase to 0.48x by end-2018. However, any further rise in borrowings without concomitant measures to address debt metrics weakness could lead to downward rating pressure.

For 1H2018, the property development division’s revenue and profit before tax (PBT) declined by 46.3% y-o-y and 32.0% y-o-y to RM221.0 million and RM70.2 million, reflecting the continued weak sentiment in the sector. However, for 2H2018, the property division is expected to improve its performance; as at August 2018, property sales of RM1.27 billion have already surpassed the full year sales for FY2017 by 9.7%. Its unsold inventory remained at a moderate level, consisting of high-end properties.

Sunway Group’s construction order book stood lower at RM5.8 billion as at end-August 2018 (October 2017: RM6.7 billion), though it is still sizeable. Despite the tough operating environment for contractors, operating profit margins for its construction division have remained relatively stable at around 10.0%. While PBT rose 3.5% y-o-y to RM89.7 million in 1H2018, the ongoing slowdown in the construction sector may weigh on the division’s performance over the medium term.

The group’s other business segments are likely to continue to cushion the impact from the slowdown. Sunway Group aims to add five more hospitals to its portfolio by 2023. While MARC recognises that diversification provides stability to Sunway Group’s cash flow, the timing of the group’s potentially 70% debt-funded expansion into the healthcare segment could contribute to a weakening in Sunway’s credit metrics. Due to gestation period, these expansion plans are expected to result in continued negative free cash flow for the group.

Cash flow from operations (CFO) has remained healthy, generating an average of RM519.5 million between 2014 and 2017; for 1H2018, CFO stood at RM225.0 million. Nonetheless, given the increased level of borrowings, CFO interest cover has continued to decline to 1.7x and is expected to fall to about 1.5x by end-2020 if borrowing levels increase to RM11 billion. MARC also notes that a mismatch in funding in 2017 and 1H2018 poses some short-term liquidity risks to the group.

Major Rating Factors

Strengths

• Strong and long-standing record in property and construction businesses; and
• Steady income stream from property investments and other segments.

Challenges/Risks

• Weak outlook for domestic property sector;
• Potential reduction in government-related infrastructure projects; and
• Increasing borrowings trend to meet capex requirement.