MARC has removed Englotechs’ rating on its RM50.0 million Murabahah Medium Term Notes (MMTN) Programme from MARCWatch Negative and downgraded its rating from AID to BBB+ID. The rating carries a negative outlook. The downgrade reflects further deterioration in the company’s financial profile caused by rising trade receivables, which has resulted in higher working capital requirements and negative cash flow from operations (CFO). Debt levels have risen, resulting in a covenant breach as at June 2007. Additionally, the company exhibits vulnerability to increasing competition from China’s low cost cotton glove manufacturers. MARC also lowered the rating to reflect its concern about corporate governance issues, particularly the slow response to MARC’s requests for information. This had earlier resulted in the rating being placed on MARCWatch Negative on 1 August 2007.

Englotechs is a cotton glove manufacturer, primarily engaged in the manufacture of industrial work gloves for the manufacturing industry. It operates two plants located in Padang Meha Industrial Estate, Kedah and Lianyungang in China. As at December 2006, Englotechs had 1,280 knitting machines with a maximum annual production capacity of about 12.8 million pairs of gloves.

For FY2006, Englotechs registered a negative RM4.4 million CFO. Trade receivables rose to RM56.6 million in FY2006 (FY2005: RM38.0 million) due to an easing in credit terms by the company to boost revenue. About 46.3% of Englotechs’ receivables were outstanding for more than 120 days as at end FY2006. In the past two years, Englotechs has been relying heavily on borrowings to fund its working capital requirements and capital expenditure. As at FY2006, the concentration risk from trade debtors appears to be minimal with no single debtor accounting for more than 5% of outstanding trade receivables.

The rise in receivables has exerted further pressure on Englotechs’ working capital requirements, necessitating increased borrowings. As at December 2006, Englotechs’ Finance to Net Tangible Assets Ratio (FNR) was at 1.27 times but as at 30 June 2007, the FNR deteriorated to 1.45 times (breaching the covenanted level of 1.35 times). Arising from the breach in its FNR, Englotechs’ financial flexibility is severely restricted.

For FY2006, Englotechs’ revenue increased to RM113.1 million (FY2005: RM97.6 million) on the back of an improvement in demand fundamentals. Despite the revenue increase, profit before tax dropped 46.4% to RM5.6 million (FY2005: RM10.0 million) as a result of increases in finance costs, raw material prices and more intense price competition from low cost cotton glove manufacturers in China.

The negative outlook reflects a continuing financial covenant breach on the part of Englotechs. Englotechs’ proposed action plan to remedy the breach is anticipated to take between two to four months to complete.