Fitch Downgrades Wijaya Karya to 'B+'/'BBB-(idn)'; Withdraws Ratings

(Fitch Ratings - Jakarta/Singapore - 01 Sep 2022)--Fitch Ratings has downgraded Indonesian state-owned contractor PT Wijaya Karya (Persero) Tbk's (WIKA) Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDR) to 'B+' from 'BB-'. At the same time, Fitch Ratings Indonesia has downgraded WIKA's National Long-Term Rating to 'BBB-(idn)' from 'A-(idn)'. The Outlook is Stable. Fitch has simultaneously withdrawn all of WIKA's ratings.

The downgrade follows our downward revision of WIKA's Standalone Credit Profile (SCP) to 'ccc+'/'bb-(idn)' from 'b-'/'bbb-(idn)'. The revision reflects WIKA's continued limited financial flexibility with low EBITDA/interest of 1.0x-1.5x, weak cash flow generation, and sustained high leverage.

WIKA's IDRs and National Long-Term Rating benefit from a three-notch uplift from its SCPs. This is underpinned by our assessment of its linkage strength with the state and the government's incentive to provide support under Fitch's Government-Related Entities (GRE) Rating Criteria, which results in an aggregate support score of 15.

'BBB' National Ratings denote a moderate level of default risk relative to other issuers or obligations in the same country or monetary union.

Fitch has chosen to withdraw the ratings of WIKA for commercial reasons.

Key Rating Drivers

Cash Flow Pressure, Elevated Leverage: Fitch expects WIKA's cash flow to remain under pressure with negative free cash flow (FCF) due to slow EBITDA recovery, a long working-capital cycle, and high capex requirements. Its operating cash flows were negative in 2021 and 1H22 on slow cash collection as some project owners have not fully recovered from the pandemic. We believe the company will need to continue to rely on debt to cover its cash flow gap, keeping its net debt/EBITDA elevated at above 10x over 2022-2023.

WIKA aims to be more selective in bidding for projects with strong counterparties, as well as scaling back some of its investments in its subsidiaries. It has also been pursuing several asset recycling initiatives, such as the divestment of the Cengkareng-Kunciran toll road and Belawan port in 2022. Proceeds from these asset sales will aid in improving its liquidity.

Weak Interest Coverage: WIKA's financial flexibility is undermined by its growing debt and weak coverage. Fitch forecasts EBITDA/interest to stay low at 1.0x-1.5x in 2022-2023 (2021: 1.5x). EBITDA has yet to fully recover and interest payment is likely to be higher on rising interest rates and debt to fund the cash shortage. Higher interest payments will exacerbate the cash flow deficits and risk increasing its reliance on debt to bridge the cash shortfall.

We estimate WIKA will generate an EBITDA margin, including share of profit from joint operations, of 10%-12% in 2022-2023 (2021: 11%). Some inflationary pressure on raw-material costs may hamper the EBITDA recovery in 2022. The company has been communicating with its project owners to negotiate any necessary price increases where possible, and is more cautious in project advancement and execution.

Lower Orders, Prudent Project Selection: We expect WIKA's order book to be lower at under IDR100 trillion in 2022-2023 as it intends to be more selective in new contract acquisition and counterparty selection. The company aims to focus on projects where owners have adequate financial capacity for smooth cash payment and healthy profitability for WIKA. The lower order book is likely to affect WIKA's medium-term growth and scale, but improve underlying project cash flow. WIKA's order book of IDR67 trillion at end-1H22 was lower than the IDR88 trillion in 2021 and IDR98 trillion in 2020.

'Strong' Status, Ownership and Control: The Indonesian government, through the Ministry of State-Owned Enterprises, is WIKA's largest shareholder. It holds 65% of the company's shares and has strong control over its strategic, investment and operational decisions. The government also holds a golden share that gives it veto power over board member appointment and dismissal, profit distribution, and M&A.

'Weak' Support Track Record: Fitch believes that government support, while ongoing, has been insufficient for WIKA to maintain an adequate credit profile during the pandemic. WIKA's financial profile has weakened materially since 2020 with increasing leverage and limited coverage. The government last provided an equity injection to WIKA in 2016 for IDR4 trillion. The company has since relied on external funding for its projects, supported by solid relationships with state-owned banks.

'Moderate' Incentive to Support: Fitch regards a default by WIKA as having 'Moderate' socio-political implications as other state-owned or private contractors can step in to substitute WIKA's construction services. However, there may be some disruptions considering its order-book size of IDR67 trillion at end-June 2022, 45% of which are nationally strategic projects. We also believe WIKA's default entails 'Moderate' financial implications on the availability and cost of future financing for the sovereign and its other GREs. This is based on the company's debt of more than IDR25 trillion.

Derivation Summary

WIKA's ratings reflect a three-notch uplift from its SCPs, based on its aggregate GRE support score of 15. This is in contrast with PT Hutama Karya (Persero) (HK, BBB-/AA+(idn)/Stable) and PT Indonesia Asahan Aluminium (Persero) (Inalum, BBB-/Stable), which are rated one notch below the sovereign's 'BBB' rating based on their GRE support scores of 35.

We believe Inalum's default would have 'Very Strong' implications on the cost and availability of financing to the Indonesian government and other GREs because investors consider Inalum a proxy financing vehicle for the state due to its significant US dollar bond size.

We assess HK's status, ownership and control, and support record factors as 'Very Strong', compared with WIKA's 'Strong' and 'Weak', respectively, to reflect the government's 100% ownership and greater role and influence in HK's operations. The government guarantees a substantial portion of HK's debt, and provides frequent, consistent state capital injections for its toll-road construction. We also believe that HK's default entails 'Strong' financial implications of default, compared with WIKA's 'Moderate' assessment, because HK's debt is guaranteed by the government.

Shanghai Construction Group Co., Ltd. (SCGC, BBB+/Stable) has the same GRE score as WIKA, but is rated two notches above its SCP, unlike WIKA's three notches. A default by SCGC would disrupt construction projects in Shanghai, but social consequences would be limited due to the city's high urbanisation rate and highly competitive construction sector. WIKA's default would have a greater impact on Indonesia's national infrastructure development plan.

Infrastructure and Energy Alternatives, Inc.'s rating (IEA, B/Rating Watch Positive) is two notches higher on the international scale than WIKA's 'ccc+' SCP. IEA has a stronger financial profile with projected net debt/EBITDA of below 2.0x, EBITDA-based coverage of above 3.0x and better FCF generation. This is partially offset by IEA's higher project execution risk as nearly all of its contracts are on fixed prices and it has experienced cost overruns in the past.

WIKA's SCP of 'bb-(idn)' is higher than the National Long-Term Rating of Indonesia-based garment manufacturer PT Pan Brothers Tbk (CCC-/CCC-(idn)). Pan Brothers faces near-term liquidity pressure with the maturity of its USD124 million syndication loan in 4Q23. We expect Pan Brothers' ability to obtain additional bank facilities to remain challenging due to banks' diminished appetite to lend to the Indonesian textile sector. WIKA has better funding options based on its established relationships with state-owned banks and repeat access to the domestic bond market, with fairly manageable debt maturity.

Key Assumptions

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

- New contract wins of around IDR30 trillion-35 trillion in 2022 and IDR35 trillion-40 trillion in 2023 (2021: IDR27 trillion);

- EBITDA margin, including share of profit from joint operations, of around 10%-12% in 2022-2023 (2021: 11%);

- Aggregate capex and investments of around IDR2.5 trillion-3 trillion in 2022.

RATING SENSITIVITIES

Not relevant as the ratings have been withdrawn.

Best/Worst Case Rating Scenario

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

Liquidity and Debt Structure

Adequate Funding Access: WIKA has strong access to bank financing, especially state-owned banks, and a record of issuing domestic bonds and sukuk. The company raised IDR7.5 trillion and IDR2.5 trillion in local bonds or sukuk in 2020-2021 and 1H22, respectively. This will support its liquidity in light of the absence of major debt amortisation in the next 12 months.

WIKA had IDR3.3 trillion in cash against IDR17.5 trillion in short-term debt, excluding supply chain financing, at end-1H22. About IDR16 trillion of the maturing debt was short-term working-capital loans, which can be rolled over. Refinancing risk for these short-term working-capital loans should be manageable as more than 50% of them were funded by state-owned or subsidiaries of state-owned banks.

WIKA secured an additional IDR340 billion working-capital credit facility from state-owned PT Bank Tabungan Negara (Persero) Tbk (AA(idn)/Stable) in 2Q22. Its subsidiary, PT WIKA Tirta Jaya Jatiluhur, also obtained a IDR1.1 trillion syndicated loan from state-owned PT Bank Mandiri (Persero) Tbk (BBB-/AA+(idn)/Stable), PT Sarana Multi Infrastruktur (Persero) (BBB/AAA(idn)/Stable), and regional government-owned bank PT Bank Pembangunan Daerah Jawa Barat dan Banten Tbk (A+(idn)/Stable).

Issuer Profile

WIKA, 65%-owned by the state, is one of the largest GRE contractors in Indonesia with an order book of IDR67 trillion at end-June 2022. WIKA categorises its business into five main segments: infrastructure and building, industry, energy and industrial plants, realty and property, and investments.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

Public Ratings with Credit Linkage to other ratings

WIKA's ratings include a three-notch uplift from its SCPs based on our GRE assessment.

ESG Considerations

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.  (ends)