Fitch Revises Geo Energy Resources to 'CC' on Failed Distressed Debt Exchange

(Fitch Ratings - Singapore - 01 Jul 2020)--Fitch Ratings has revised Indonesia-based Geo Energy Resources Limited's Long-Term Issuer Default Rating (IDR) to 'CC', from 'C'. Fitch has also revised the rating on the outstanding senior unsecured guaranteed notes of Geo's subsidiary, Geo Coal International Pte. Ltd., to 'CC', from 'C', with a Recovery Rating of 'RR4'.

The revision follows Geo's failure to achieve the required minimum 75% noteholder acceptance of its tender offer and consent solicitation for the removal of the mandatory repurchase clause; Geo reported that only 13.8% of notes, or USD21.3 million, were validly tendered. We conclude that Geo's tender offer was unsuccessful, as per our Distressed Debt Exchange (DDE) Rating Criteria, as the company continues to face heightened default risk in the next 12 months; as a result, we have revised its rating to 'CC', the level at which Geo was rated before the tender offer, since there has been no significant change in its underlying credit profile.

The 'CC' rating reflects our view that a default appears probable within the next 12 months. We think Geo will be required to buy back notes in May 2021 as per the note terms, as it is unlikely to meet the condition of 80 million tonnes (mt) of coal reserves, triggering a put option. Fitch expects Geo's liquidity to fall considerably short of the USD132.7 million principal due on the May 2021 put date if the put option is triggered in April 2021 and does not foresee timely refinancing for Geo.

Geo is exploring the unchartered southern part of its PT Tanah Bumbu Resources (TBR) mine in an attempt to boost reserve. However, even if it avoids the put option through an asset acquisition or reserve addition at its TBR mine, liquidity on hand will still be insufficient to repay the principal on its bond maturity in October 2022.

Geo announced yesterday that the ultimate shareholder of PT Titan Infra Energy (TIE) has filed a legal case against Geo's subsidiaries and other parties. It claims that the conditional sale as well as the purchase and coal offtake agreements between TIE and Geo's subsidiaries were against the interest of TIE's shareholders. Geo says it has not received a legal notice on this issue and is monitoring the situation. Geo made an advance payment of USD32 million to TIE in 2019 for coal offtake in 2020. Fitch will monitor the situation and assess impact on Geo upon greater clarity.

KEY RATING DRIVERS

Unsuccessful Tender Offer and Consent Solicitation: The consent solicitation and tender offer failed to meet the conditions set forth in the offer. Geo waived the requisite 75% minimum application and bought back USD21.3 million of validly tendered notes at an average price of USD0.45 per unit (including accrued interest), which reduced its outstanding US dollar note balance to USD132.7 million. This buyback does not qualify as a DDE under Fitch's criteria, as the deal failed and the untendered noteholders remain exposed to a high risk of default.

Excessive Refinancing Risk: We believe Geo faces significant risk in refinancing its unsecured notes in light of its deteriorating liquidity and operating profile, which has weakened substantially. This leaves a negligible safety margin for operations amid weak coal prices and falling reserves. We expect a large cash shortfall to cover the put date and note maturities, and believe accessing funding will be difficult in light of macroeconomic conditions, though Geo has availed funding in the past in the form of advances from its customers; commodity-trading companies.

Deteriorating Liquidity: Fitch expects Geo's liquidity to decline further, as cash generation to likely to remain weak in the near term in light of the low coal prices and the company's weak cost position. We estimate that Geo's cash balance fell to around USD80 million in June 2020 after its latest bond buyback; insufficient to cover its outstanding US dollar notes of around USD133 million.

Weak Cost Position: Geo has one of the weakest energy-adjusted cost positions among Fitch-rated Indonesian coal miners. It produces average-quality coal and Fitch's coal-price assumptions suggest that its unit profitability will drop to around USD2.5 a tonne over the medium term, from USD5.4 in 1Q20 and around USD10.0 in 2018, despite being partly offset by recent cost-contract negotiations with logistics and service providers.

Declining Reserves; Small Scale: Fitch believes Geo's small and declining reserve base is likely to pose a challenge. Geo's operating reserve comprised 22.7mt at PT Sungai Danau Jaya (SDJ) and 39.4mt at TBR as of 1Q20. The company will exhaust its operating reserve in nine years, based on Fitch's forecast annual production of around 7.0mt (2019: 7.4mt, 2018: 7.0mt). Geo has 12mt of approved annual production quota for 2020.

Geo has two other mines, but one is still in the exploratory phase and the other has a weak cost position, making mining operations unviable. In addition, the mining licences of the SDJ and TBR mines expire in 2022. Geo has started the process for licence renewal. Fitch will treat any adverse developments pertaining to the renewals, including non-renewal, as an event risk.

Low Off-Taker and Contractor Risk: Geo has life-of-mine contracts for its two key operating mines on all coal produced, less domestic market obligation sales, minimising off-take risk. However, it has high exposure to China, which contributed half of its 2019 sales (2018: 80%). Geo is exposed to slowing demand due to the coronavirus pandemic, as its end-users based in China, India and other Asian countries have experienced restrictions to curb the spread. However, the company says its operations are running as usual with no major obstacles to production or coal off-take due to the pandemic.

Geo has prepayment facilities with off-takers for both mines, providing some flexibility in managing working capital. Its coal production and over-burden removal contracts are with one of Indonesia's largest mining contractors, PT Bukit Makmur Mandiri Utama (BB-/Negative), limiting contractor risk.

DERIVATION SUMMARY

Geo's Indonesian coal-mining peer, PT Golden Energy Mines Tbk (B+/Stable), has a stronger credit profile with a larger reserve base, better cost position and comfortable liquidity profile, which justifies Geo's multiple-notches lower rating.

Altura Mining Limited's (CCC+/Stable) rating was affirmed in June after the company completed a funding package that included a three-year extension of its loan facility maturity and standby equity of AUD50 million until 2023, which it will use to fund working capital and finance costs over the next 12 months. Fitch believes this will provide a sufficient liquidity buffer and help the company manage short-term requirements. Geo has no reliable alternative sources to cover the significant shortfall on its US dollar maturities, justifying its multiple-notch lower rating.

KEY ASSUMPTIONS

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

- Coal prices in line with Fitch's mid-cycle commodity-price assumptions, adjusted for the difference in calorific value (average Newcastle 6,000 kcal free on board or FOB/tonne: USD63 in 2020, USD72 in 2021, USD72 in 2022 and USD70 thereafter); see, Fitch Ratings Cuts Some Metals, Mining Price Assumptions on Coronavirus Hit, dated 6 April 2020, at www.fitchratings.com/site/pr/10117162

- Annual total coal production from SDJ and TBR mines of 7mt over the medium term

- No acquisitions and modest capex over the medium term

- Strip ratio to remain at around 3.6x (2019: 3.5x) and production cost at less than USD29.0/tonne (2019: USD29.3/tonne) over 2020-2024

Recovery Assumptions:

- Recovery analysis for Geo is on a going-concern basis in case of bankruptcy and assumes that the company would be reorganised and not liquidated. We have assumed a 10% discount to enterprise value to account for bankruptcy-related administrative claims.

- The going-concern EBITDA estimate of around USD16.5 million reflects Fitch's view of a sustainable, post-reorganisation EBITDA level upon which we base the enterprise valuation. The going-concern EBITDA is 5% below the mid-cycle EBITDA, based on Fitch's long-term average thermal coal-price expectation.

- An enterprise value multiple of 4.5x EBITDA is applied to the going-concern EBITDA to calculate a post-reorganisation enterprise value. The multiple is slightly higher for Geo's existing profile compared with the enterprise value/EBITDA multiple used in recent M&A transactions in the sector and the multiple at which Indonesian coal companies are currently trading in the market. This is due to the cash balance at Geo, which could be used to acquire coal assets or pay down its US dollar notes. The acquisition of coal assets would boost EBITDA, but would not add assets to the balance sheet, as Indonesian coal mines are essentially owned by the government and licensed to coal miners.

- An enterprise value multiple of 4.5x used to calculate a post-reorganisation valuation also reflects a derived EBITDA multiple based on a distressed valuation metric of around USD1/tonne of Geo's proved reserves.

- The waterfall results in a recovery of 51% for the US dollar noteholders, or a Recovery Rating of 'RR4'.

RATING SENSITIVITIES

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

- Significant reduction in refinancing risk with improved liquidity

Factors that could, individually or collectively, lead to negative rating action/downgrade:

- A default or the start of a default-like process

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

Stretched Liquidity: Geo's weak cash balance and capex requirements will continue to weigh on its near-term liquidity profile. This follows the reduction in cash following Geo's multiple bond buybacks. Fitch estimates that Geo had an unrestricted cash balance of around USD80 million in June 2020 after the partial buyback under the tender offer. Its bond covenants allow additional debt for working capital of up to USD40 million, but we believe Geo's funding access remains uncertain due to the current market conditions, considering its deteriorating operating profile.

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.

ESG CONSIDERATIONS

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