March 29, 2011--Standard & Poor's Ratings Services said today that it had assigned its 'BB' long-term corporate credit rating to Fufeng Group Ltd., a China-based manufacturer of corn-based biochemical products. The outlook is stable. At the same time, Standard & Poor's assigned its 'BB' issue rating to the proposed issue of senior unsecured notes due 2016. The rating on the notes is subject to our review of the final documentation for the notes issuance. The company intends to use the issue proceeds to primarily fund expansion in northeast China and for general corporate purposes. "The rating on Fufeng reflects the company's proposed debt-funded expansion, its limited geographic and product diversity, and a potential decline in margins. Fufeng's strong domestic market position in monosodium glutamate (MSG), its good operating efficiency, and established network temper these weaknesses. The company's track record of prudent operating and financial management is an additional strength," said Standard & Poor's credit analyst Joe Poon. In our view, Fufeng has a fair business risk profile. We expect the company's debt-funded expansion to increase leverage and execution risk. Fufeng plans to invest Chinese renminbi (RMB) 2.40 billion to expand production capacity in northeast China. We believe its track record in developing and operating its production base in Inner Mongolia partly offsets the risk. The company's diversified customer base in China and an established sales and distribution network offer additional support. We expect Fufeng's geographic coverage and product diversity to be limited over the next few years. The company derives most of its sales in China, and MSG accounted for about 60% of total sales in 2010. We believe Fufeng's margins could fluctuate due to volatile raw material costs. The company has limited pricing power over its key inputs--corn and coal--and is exposed to agricultural risk. In the first half of 2010, corn and coal accounted for 72% of the cost of MSG and 69% of xanthan gum. "In our opinion, Fufeng's good operating efficiency stems from its vertically integrated business model. The company's margins are above average compared with domestic peers' because its production bases are in lower-cost areas," said Mr. Poon. "We expect capacity expansion in northeast China to strengthen the company's market position in China, drive growth, and sustain its cost advantage over competitors." Fufeng has a significant financial risk profile, in our view. Its liquidity is adequate and, despite a material increase in debt-funded capital spending, its financial performance is in line with a 'BB' rating. We expect Fufeng's cash generation to remain satisfactory. The growing demand for MSG in China's food, beverage and food service industry support its cash flow. In our opinion, the company management has been disciplined toward expansion. It has a good track record of controlling leverage while expanding capacity. Despite nearly tripling revenue from 2007-2010, the company maintained moderate leverage. Its adjusted ratio of total debt to EBITDA was between 0.5x and 4.2x and the adjusted total debt-to-total-capital ratio was between 20.0% and 35.1% over the same period. Fufeng has adequate liquidity, in our view. As of Dec. 31, 2010, it had cash and cash equivalents of about RMB915.2 million, compared with short-term debt of about RMB555 million. The company has RMB2.56 billion in available undrawn onshore banking facilities. The company has substantial capital expenditure and is likely to generate negative free operating cash flow over the next two years. Nevertheless, with the proposed notes issue, we expect cash on hand and cash flow from operations to be sufficient to service debt and meet capital expenditure and working capital needs. We have not factored any major acquisitions into the ratings. The stable outlook reflects our expectation that Fufeng is likely to strengthen its position in the MSG segment with new capacity and diversify its product mix. We also expect the company to have sufficient liquidity and cash flow to cope with capacity expansion. We expect Fufeng's ratio of adjusted total debt to EBITDA to increase to more than 2.5x following the proposed notes issuance, but gradually decline. We could lower the rating if: -- Fufeng's profitability deteriorates materially such that its EBITDA margin consistently stays below 15% or ratio of adjusted total debt to EBITDA stays above 3.5x; -- The company increases its capital expenditure substantially beyond its current plan or makes major acquisitions; -- The company poorly executes capacity expansion or demand for its products is significantly lower than our expectation; or -- Shifts in supply or demand significantly reduce sales volume or change achievable profit margins. The inherent lack of diversity in Fufeng's business limits the rating upside in the next few years. Beyond that, we could raise the rating if Fufeng executes its expansion, increases geographic coverage, and improves product mixes, while maintaining a robust financial performance.
Keywords: MARKETS RATINGS FUFENGGROUP
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