CREDIT ANALYSIS REPORT

GAS MALAYSIA DISTRIBUTION SDN BHD - 2020

Report ID 60542 Popularity 371 views 25 downloads 
Report Date Jun 2020 Product  
Company / Issuer Gas Malaysia Distribution Sdn Bhd Sector Industrial Products - Oil & Gas
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Rationale
MARC has assigned preliminary ratings of AAAIS / MARC-1IS to Gas Malaysia Distribution Sdn Bhd’s (GMD) proposed Islamic Medium-Term Notes (IMTN) programme and Islamic Commercial Papers (ICP) programme with a combined limit of up to RM1.0 billion (both referred to as sukuk programmes). The ratings outlook is stable

GMD is a wholly-owned subsidiary of Gas Malaysia Berhad and was established as part of a group-wide reorganisation of its parent’s businesses that includes the transfer of Gas Malaysia’s natural gas distribution system (NGDS) to GMD and the gas shipping  business to another newly formed wholly-owned subsidiary of its parent, Gas Malaysia Energy and Services Sdn Bhd (GMES). The transfer of Gas Malaysia’s assets to its subsidiaries is in line with the implementation of the third-party access (TPA) system under which the existing gas infrastructures (transmission and distribution pipelines) are opened to all players seeking to sell natural gas to customers.

The assigned ratings reflect MARC’s assessment of the credit profile of GMD as materially reflecting that of its parent Gas Malaysia which has been rated at AAA/Stable. This is because GMD received almost all earnings-generating assets post-reorganisation and through which it will maintain a significant market share in gas distribution as the sole owner of the NGDS.

GMD will issue new IMTN under the proposed sukuk programmes which will be exchanged for any outstanding IMTN issued under Gas Malaysia’s existing sukuk programmes. Additional issues under the proposed sukuk programme will primarily fund GMD’s capex and working requirement as well as for Gas Malaysia for which the parent will provide a guarantee to sukukholders.

MARC continues to view that the key strength of the NGDS is the wide network of pipelines spanning 2,396km across Peninsular Malaysia as at end-2019, covering most industrial areas along the Peninsular Gas Utilisation (PGU) system. The NGDS also demonstrates strong operational performance with a supply reliability rate of 99% in 2019. MARC views that the NGDS forms a high entry barrier to potential entrants to the large-scale gas distribution business given the significant capital requirement for pipeline construction.

GMD would derive revenue from the tolling fees it charges gas shippers for using its gas pipelines. GMD’s earnings are expected to be stable, underpinned by its established tolling fee setting mechanism under the incentive-based regulation (IBR) framework. GMD’s tolling fees are set to cover operational costs and a fair return. The operational costs are relatively predictable as they mainly consist of staff cost, maintenance cost and depreciation while the returns for GMD will depend on the rate of returns approved by the Energy Commission (EC). The tolling fee for the regulatory period beginning 2020 to 2022 was set at RM1.573/GJ/day. While the government has continued with the rationalisation of gas price subsidies, the market price of natural gas has remained lower than other alternative fuels such as diesel, which would support demand for natural gas. Under the latest gas tariffs effective January 1, 2020, GMES’s average natural gas selling price remains competitive at RM33.65/MMBtu compared to diesel which is RM41.06/MMBtu as at end-April 2020.

Based on 2019 pro forma financial statements, GMD’s pre-tax profit is estimated at RM198.3 million, with average return on assets (ROA) of 9.3%. Pre-tax profit is expected to grow between 0.4% and 1.8% on the back of steady tolling revenue growth in the next three years. The overall impact from COVID-19 on the yearly volume is still uncertain. However, MARC understands that tolling volume has shown steady recovery from May 2020 after the government eased restrictions on the operations of certain sectors.

Cash flow interest and debt coverages of 16.1x and 0.6x over the next three years are strong. In contrast to the previous tariff regime applied to Gas Malaysia, GMD’s cash flow is expected to be stable and will not be affected by under/over recovery of gas costs arising from the gas cost pass-through (GCPT) mechanism. However, free cash flow (FCF) is expected to be negative in some years due to planned capex and dividend payments, the shortfall of which will be covered by additional borrowings. Its pro forma 2019 debt-to-equity (DE) ratio stood at 0.23x; reflecting almost all of its parent’s outstanding debt. Given expected new borrowings, the DE ratio is projected to increase to 0.39x in 2021. MARC understands that the company intends to optimise its capital structure in line with the assumed DE of 0.55x in its tariff setting under the IBR framework. Notwithstanding the expected increase in leverage level, net DE remains low, standing at 0.12x for pro forma 2019; this is expected to increase to 0.28x in 2021.

The stable outlook assumes that GMD will maintain its near monopoly of gas distribution and will adhere to a disciplined approach to financial management such that its profitability metrics commensurate with the current rating band.

Major Rating Factors

Strengths
Sole owner of the natural gas distribution system (NGDS);
Near-monopoly position in natural gas distribution; 
Established regulated tariff and stable demand for gas; and
Strong operational track record of NGDS. 

Challenge/Risk
Managing leverage level.


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