MARC has affirmed its ratings of A+ID / MARC-2ID on Capable Aspect Sdn Bhd’s (CASB) RM40 million Islamic Medium Term Notes Issuance Facility/ Murabahah Underwritten Notes Issuance Facility (IMTN/MUNIF) respectively and maintained the ratings outlook at stable. The ratings of CASB reflect the competitive position of its wholly-owned subsidiary, Sinagama II Technologies Sdn Bhd (Sinagama), as one of the leading domestic contract sterilisation service providers with a good track record and the positive medium and long-term demand fundamentals for sterilisation services. These positives are tempered by its high debt leverage position, Sinagama’s ageing gamma plant facility and anticipated increases in capital spending to upgrade its gamma plant facility. Other moderating factors include its weaker than expected results for the first three months of 2009 and corresponding implications for cash flow generation, as well as the uncertainty attached to the company’s plans to expand into other areas of the sterilisation services.

CASB was incorporated to issue the IMTN/MUNIF bonds to fund the leveraged buyout of Sinagama which, through its wholly-owned subsidiaries, provides gamma and ethylene oxide (Eto) sterilisation and decontamination services. Another wholly-owned subsidiary, Sterilgamma Services Sdn Bhd was set up to provide complementary logistic services to its end-customers even though the profit margins from this division are minimal.

The bulk of the group’s revenue is derived from its gamma radiation operations with marginal contribution from its chemical sterilisation and logistics businesses. The company’s Eto division, which primarily sterilises catheters at its plant in Kulim, Kedah, recorded further declines in volume processed in FY2008 as a result of price undercutting by unlicensed contract sterilisers and liberal enforcement of regulations. For financial year ended December 31, 2008 (FY2008), the volume of gamma radiation utilised was 78,910 cubic metres (FY2007: 81,255 cubic metres), which represents a negative variance of 13.2% from its projected volume of 91,000 cubic metres. Apart from reduced demand for gamma sterilisation mainly from export-based service users, total volume processed also declined on account of its ageing gamma plant facility in Rawang, Selangor. Sinagama operated at lower utilisation and efficiency rates of 86% and 85% respectively, which were down from 95% and 96% respectively. Notwithstanding the lower volumes processed in 2008, MARC views the medium and long term prospects for contract sterilisation services positively based on the demand growth potential provided by the medical device, healthcare, industrial and food processing sectors.

For FY2008, Sinagama’s revenue and pre-tax profit fell by 9% to RM25.4 million and 13% to RM5.8 million respectively on account of lower production volume for both gamma and Eto divisions and prices which remained flat during the year. CASB’s consolidated debt-to-equity (DE) ratio remains elevated at 4.0 times and is weak for its current rating levels. Although operating cash flow covered interest costs and investment spending in FY2008, residual cash flow retained at CASB remains limited. Cash and cash equivalents rose by RM0.2 million in FY2008. Nonetheless, CASB expects to generate CFO of about RM9.0 million on average for FY2009 and FY2010. An upside in pricing of 5% for gamma and 3% for Eto annually from FY2010 onwards during its forecast period is projected by CASB. However, as evidenced by its operating performance for the first quarter of FY2009, the group remains vulnerable to weaker than expected demand which could result in missed earnings and cash flow projections. CASB is planning to incur RM4.8 million capex on the upgrading of its gamma plant in 3QFY2009 which it intends to fund by issuing new equity to its shareholders. MARC believes that this will allow CASB to conserve its cash flow for debt reduction.

The stable rating outlook reflects the expectations of a weaker demand environment in the near-term which is partially mitigated by the absence of scheduled facility reductions until May 2010. CASB is dependent on a general recovery in market demand to re-establish its revenue growth. Higher-than-expected internally funded cash outflows on investment spending and declines in earnings and cash flow outside MARC’s expectations could put pressure on the company’s ratings.

Contacts:
Elea Nor Zainal, 03-2090 2263/ elea@marc.com.my;
Katherine Hee, 03-2090 2273/ hcmay@marc.com.my