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Friday December 9th, 2022

Sri Lanka’s Abans outlook cut to negative over soft-peg collapse

ECONOMYNEXT- Fitch Ratings has cut the outlook of Sri Lanka’s Abans Plc, a consumer goods retailer to ‘negative’s from ‘stable’ due to difficulties in importing after a forex shortages emerged from a broken soft-peg.

The rating agency confirmed Aban’s ‘AA-(lka)’ rating but said there were risks in next 12-18 months.

“The Negative Outlook reflects the deteriorating operating conditions for consumer-durable retailers, such as Abans, who are finding it increasingly difficult to import finished goods for resale due to the country’s continuing foreign-currency shortage” the rating agency said.

“Demand for consumer durables is also weakening owing to falling disposable incomes amid high inflation and sharp product price rises impacting affordability.”

The rating agency said Abans has some ability to curtail costs to preserve its margin and liquidate inventory in the near term to moderate the impact.

Sri Lanka has an unstable soft-peg called a flexible exchange rate which collapses whenever money is printed under flexible’ or discretionary policy by the country’s stimulus happy economists.

Sri Lanka’s who think there is prosperity at the end of a depreciation tunnel has depreciated the currency from 4.77 to 360 in a bid to grow exports at the expense of real wages of workers and temporary gains companies get from delays in hiking utility prices.

The rupee fell from 203 to the Us dollar to around 360 to the US dollar over the past month after the flexible exchange rate peg lost credibility after two years of money printing and was allowed to fall from March.

Rates have been jacked up from 7.50 to 14.50 percent to help stem the fall of the flexible exchange rate.

The company’s cash flow will be affected deterioration in the ability of consumer durable retailers to import goods inthe next year amid growing scarcity of foreign exchange in the domestic market, Fitch said.

With commercial banks prioritizing the opening of letters of for essential items in the country many import sector companies have run out of business in the past two years.

More than 350 non-essential goods, including some consumer durables, now require an import license
from the government.

The agency said, even if the licensed are being secured, difficulties in opening LCs will occur due to the unresolved forex shortage.

The full statement is reproduced below:

Fitch Revises Outlook on Abans PLC to Negative;Affirms at ‘AA-(lka)’

Fitch Ratings – Colombo/Singapore – 29 Apr 2022: Fitch Ratings has revised the Outlookon Sri Lankan consumer-durable retailer Abans PLC’s National Long-Term Rating toNegative, from Stable. Fitch has simultaneously affirmed the rating at ‘AA-(lka)’.

The Negative Outlook reflects the deteriorating operating conditions for consumer-durable retailers, such as Abans, who are finding it increasingly difficult to importfinished goods for resale due to the country’s continuing foreign-currency shortage.Demand for consumer durables is also weakening owing to falling disposable incomesamid high inflation and sharp product price rises impacting affordability

This increases the risk that Abans’ EBITDAR coverage of interest and rent will remainbelow 1.3x in the next 12-18 months, which is not commensurate with a ‘AA-(lka)’ rating.We think the company has some ability to curtail costs to preserve its margin andliquidate inventory in the near term to moderate the impact.

KEY RATING DRIVERS

Tightening Imports, Cash Flow Pressure: We believe Abans’ cash flow could be pressured by a deterioration in the ability of consumer durable retailers to import goods inthe next year amid growing scarcity of foreign exchange in the domestic market. Banksare prioritising essential imports, such as medicine, food and fuel, as per governmentdirections, leaving little room for imports of finished goods. The country’s externalreserves barely covered one month of imports as at end-March 2021.

More than 350 non-essential goods, including some consumer durables, now require alicense from the government as a means of controlling imports. Fitch expects larger importers like Abans to be able to secure necessary licenses, but it will be difficult to openletters of credit (LC) amid the currency shortage.

Risk of Business Disruption:Abans imports around 80% of the products it sells and itsoperation could be impaired if it cannot import finished goods from global suppliers usingLCs. The company has managed to import part of its requirements in the recent months,albeit with delays, supported by its long-standing relationships with banks and extendedcredit terms from global suppliers. Abans has resorted to local purchases for the balance.However, local manufacturers have a limited product range and continued reliance onlocal products could shrink Abans’ scale.

Abans is setting up a local plant to manufacture refrigerators and air conditioners toaddress import pressure, which it targets to come online by mid-2022. We estimate thenew plant will generate LKR8 billion-10 billion in revenue once it reaches a steady state,which we evaluate at 25% of revenue in the financial year ending March 2021 (FY21).However, this would not completely offset the disruption risk, as Abans may continue tofind it challenging to import manufacturing components. Abans’ inventory covered five tosix months of sales as at FYE22.

Inflation to Stifle Demand: We expect Abans’ revenue to contract by around 15% inFY23, reflecting a 40% volume drop that should be largely offset by price increases. Webelieve consumers will limit non-discretionary purchases, spending most of their incomeon essentials amid rapidly rising inflation. Retailers are likely to revise prices to reflectsignificant currency depreciation, with the rupee falling by 70% since March 2022,making products unaffordable for most consumers. However, Abans’ better access tolicenses, bank LCs and credit should support its market share over smaller importers, as
seen in the past year.

Shrinking Margin: We expect Abans’ FY23 EBITDAR margin to contract to around9.5%, from 13.4% in 9M21, amid currency-led cost pressure that we do not think thecompany will be able to fully pass on to customers. Abans has recently been able to priceproducts in line with currency depreciation, as reflected in its stable margin. We estimatelease-adjusted net debt/EBITDAR, including the consolidation of Abans’ immediateparent, Abans Retail Holdings (Pvt) Limited (ARH), and ARH’s real-estate projectColombo City Centre (CCC), to weaken to 5.6x in FY23, from 3.9x at end-2021.

Lower Fixed-Charge Cover: We expect fixed-charge coverage – defined asEBITDAR/interest paid and rent – to weaken to 1.2x in FY23 amid the recent 700bppolicy rate hike. Around 75% of Abans’ debt is short-term and is used for working capitalpurposes. We believe this debt will reprice quickly, raising Abans’ interest costs byaround LKR700 million a year. However, Abans can mitigate the interest rate impact bycutting overheads, like marketing and distribution costs, which account for 10% ofrevenue, and liquidating inventory, which stood at LKR11.0 billion at end-2021.

Limited Risk from Real-Estate Project: Pressure from Abans’ CCC project has easedfollowing strong apartment sales. Only a few apartments remained unsold at end-March2022, with remaining construction, including the hotel, almost complete. Constructioncosts and debt repayments on the project have been funded independently, with nosupport required from Abans. However, our forecasts factor in Abans injecting aroundLKR3.0 billion into the project over FY23-FY25 to meet any cash-flow shortfalls.

Parent’s Consolidated Profile: We assess Abans on the consolidated profile of its weakparent, ARH, based on ‘Open’ legal ringfencing and ‘Open’ access and control between thetwo entities under our Parent and Subsidiary Linkage Rating Criteria. There is noregulatory or self-imposed ringfencing of Abans’ cash flow and ARH has full ownershipand control of the subsidiary. Funding arrangements are largely decentralised, but theentities negotiate facilities as a group.

DERIVATION SUMMARY

Singer (Sri Lanka) PLC (A+(lka)/Negative), the country’s largest consumer-durableretailer by revenue, has stronger core operations than Abans, as it has a broader portfolioof products and brands across price points and better local manufacturing capability.

However, Singer has a weaker financial profile, reflecting the aggressive loan growth atits finance subsidiary, Singer Finance (Lanka) PLC (A(lka)/Negative), amid the pooroperating environment and rising interest rates. Abans’ marginally weaker business profileis mitigated by its stronger financial profile, even after including debt and potentialfinancial support for the CCC real-estate project, resulting in Abans being rated one notchabove Singer. Both companies are on Negative Outlook due to the risks stemming fromtightening imports and rising interest rates on their operation and credit profiles.

Abans is rated one notch below DSI Samson Group (Private) Limited (DSG:AA(lka)/Stable), a leading domestic footwear and tire manufacturer, due to the higherlikelihood of disruption to Abans’ business from its high exposure to imported finishedgoods. DSG has been benefitting from greater import substitution in the country amidfalling reserves and foreign-currency shortages. It also has modest foreign-currencyearnings, which support import requirements elsewhere in the group. We expect DSG tomaintain a better financial risk profile than Abans in the next year or two.

Sierra Cables PLC (A+(lka)/Stable) is rated one notch below Abans to reflect its smallerscale and cyclical demand in the construction and infrastructure sectors, compared withthe more stable demand for consumer-durable goods. This is, however, mitigated bySierra’s lower leverage. We expect both companies to face business disruption stemmingfrom import challenges, which could affect their leverage and liquidity in the next 12-18months, although Sierra has a better financial profile to help it withstand incrementalrating pressure.

KEY ASSUMPTIONS

Fitch’s Key Assumptions Within Our Rating Case for the Issuer

-Revenue’s to decline by 15% in FY23 due to import restrictions and lower demand. Thisshould be mitigated by strong price rises. Revenue growth should pick up in 2HFY24with improved external finances and a higher contribution from the local manufacturingplant.

– EBITDAR margin to deteriorate to 9.4% in FY23 (9MFY22: 13.4%) amid lowerrevenue and escalating product costs, before improving to around 10.0% from FY24,helped by a revenue recovery.

– Annual capex of LKR1.3 billion in FY22 and FY23, mainly to set-up the localmanufacturing plant. Capex to taper off to maintenance capex from FY24.

– Capital infusion of LKR3.0 billion to the CCC project over FY23-FY25 to meet fundingshortfalls.

– Annual LKR200 million-250 million dividend payments over the medium term.

– A hypothetical annual capital infusion of around LKR300 million-500 million to Abans’finance subsidiary, Abans Finance PLC (A-(lka)/Outlook Evolving), to maintain anappropriate debt/tangible equity ratio, according to our criteria.

– Average interest rate to increase to 16% over FY23-FY24

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

– Not meeting the negative sensitivities for an extended period on account of a stabilizing operating environment could lead to the Outlook being revised to StableFactors that could, individually or collectively, lead to negative rating action/downgrade:

– Adjusted net leverage/EBITDAR, including full consolidation of ARH and the CCCproject, exceeding 6.5x for a sustained period.

– EBITDAR fixed-charge coverage, including full consolidation of ARH and the CCCproject, falling below 1.3x for a sustained period.

– A significant weakening in the company’s liquidity position.

– Further restrictions on consumer durable imports.

LIQUIDITY AND DEBT STRUCTURE

Adequate Liquidity: Abans had LKR787 million of cash on hand as of end-2021, againstLKR2.9 billion in short-term debt. Around LKR1.0 billion of the short-term debtcomprised contractual maturities of term loans, which were supported by the cash on handand around LKR800 million in uncommitted, but unutilised, credit lines from banks. Thebanks have stood by these lines, including during the height of the Covid-19 pandemic,but there is a risk they may reduce exposure to sectors such as consumer durables ifimport challenges persist or worsen.

The balance LKR1.9 billion in short-term debt is backed by net working capital on thebalance sheet of LKR9.0 billion. This provides some buffer for margin erosion andreceivables pressure before working capital liquidation will no longer be adequate torepay short-term debt in a stressed environment.

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Sri Lanka bond yields end higher, kerb dollar Rs370/371

ECONOMYNEXT – Sri Lanka bonds yields ended up and the T-bills eased on active trade on Friday, dealers said.

The US dollar was 370/371 rupees in the kerb.

“The bond rates went up, however more interest was seen in the short term bills by the investors” dealers said.

A bond maturing on 01.05.2024 closed at 31.90/32.20 percent on Friday, up from 31.25/70 percent at Thursday’s close.

A bond maturing on 15.05.2026 closed at 30.30/31.30 percent steady from 30.30/31.00 percent.

The three-month T-bills closed at 30.75/31.30 percent, down from 32.00/32.25 percent.

The Central Bank’s guidance peg for interbank transactions was at 363.18 rupees against the US dollar unchanged.

Commercial banks offered dollars for telegraphic transfers between 371.78 and 372.00 for small transactions, data showed.

Buying rates are between 361.78 – 362.00 rupees. (Colombo/Dec 09/2022)

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Foreign minister, US ambassador discuss future assistance to crisis-hit Sri Lanka

ECONOMYNEXT — In a meeting in Colombo, Sri Lanka Foreign Minister Ali Sabry and US Ambassador to Sri Lanka Julie Chung discussed ways in which the United States can continue to support Sri Lanka going forward, the Ambassador said.

Chung tweeted Friday December 09 afternoon that the two officials had reflected on the “twists and turns” of 2022, at the meeting.

Minister Sabry was recently in Washington D.C. where he US Secretary of State Antony Blinken.

A foreign ministry statement said the two officials held productive discussions at the Department of State on December 02 on further elevating bilateral relations in diverse spheres, including the 75th anniversary of diplomatic relations which will be marked in 2023.

Incidentally, Sri Lanka also celebrates the 75th anniversary of its independence from the British in 2023, and President Ranil Wickremesinghe has given himself and all parties that represent parliament a deadline to find a permanent solution to Sri Lanka’s decades-long ethnic issue.

The US has been vocal about Sri Lanka addressing concerns about its human rights record since the end of the civil war in 2009 and was a sponsor of the latest resolution on Sri Lanka passed by the United Nations Human Rights Council. Unlike previous resolutions, this year’s iteration makes specific reference to the country’s prevailing currency crisis and calls for investigations on corruption allegations.

In the lead up to the UNHRC sessions in Geneva, Minister Sabry Sri Lanka’s government under then new president Wickremesinghe does not want any confrontation with any international partner but will oppose any anti-constitutional move forced upon the country.

On the eve of the sessions on October 06, Sabry said countries such as the United States and the United Kingdom, who led the UNHRC core group on Sri Lanka, are greatly influenced by domestic-level lobbying by pressure groups from the Sri Lankan Tamil diaspora.

These pronouncements notwithstanding, the Wickremesnghe government has been making inroads to the West as well as India and Japan, eager to obtain their assistance in seeing Sri Lanka through the ongoing crisis.

The island nation has entered into a preliminary agreement with the International Monetary Fund (IMF) for an extended fund facility of 2.9 billion dollars to be disbursed over a period of four years, subject to a successful debt restructure programme and structural reforms.

Much depends on whether or not China agrees to restructure Sri Lanka’s 7.4 billion dollar outstanding debt to the emerging superpower. Beijing’s apparent hesitance to go for a swift restructure prompted Tamil National Alliance MP Shanakiyan Rasamanickam to warn of possible “go home, China” protests in Colombo, similar to the wave of protests that forced the exit of former pro-China President Gotabaya Rajapaksa.

The TNA will be a key player in upcoming talks with the Wickremesinghe government on a solution to Sri Lanka’s ethnic issue. (Colombo/Dec09/2022)

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India smogs out Sri Lanka’s China tower observers

 

ECONOMYNEXT – Sri Lanka’s Chinese-built Lotus Tower has halved visitors to its observation deck an official said as dirty air flowing from India triggered air quality warnings and schools in the capital closed.

“Masks are mandatory at the observation deck and roughly around 50 to 60 can go up to the observation deck at a time, time limits have not been altered and still persists at 20 minutes for observation,” the official told EconomyNext.

Prior to the smog, 120 observers were permitted at once to the deck.

However, even after limitations the Lotus Tower has continued to draw visitors, and revenues are coming in, the official said.

The tower built with a Chinese loan by the cash rich Telecom Regulatory Commission has been described by critics as a white elephant that eats the money earned from telecom operators mainly as spectrum fees.

Sri Lanka’s National Building Research Organization (NBRO) said India air heavily polluted with particulate matter was flowing across the island into a depression in the South West Bengal Bay. (Colombo/Dec09/2022)

 

 

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