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Rating Action:

MOODY'S DOWNGRADES ABITIBI-CONSOLIDATED'S SPEC GRADE LIQUIDITY RATING TO SGL-4 WHILE AFFIRMING THE COMPANY'S Ba3 DEBT RATINGS; OUTLOOK REMAINS NEGATIVE

18 Aug 2005
MOODY'S DOWNGRADES ABITIBI-CONSOLIDATED'S SPEC GRADE LIQUIDITY RATING TO SGL-4 WHILE AFFIRMING THE COMPANY'S Ba3 DEBT RATINGS; OUTLOOK REMAINS NEGATIVE

Approximately US$3.8 Billion of Debt Securities Affected

Toronto, August 18, 2005 -- Moody's Investors Service ("Moody's") downgraded Abitibi-Consolidated Inc.'s ("Abitibi") Speculative-Grade Liquidity ("SGL") rating to SGL-4, indicating weak liquidity, from SGL-3, indicating adequate liquidity. Abitibi's debt is rated Ba3 and the outlook is negative. The rating action was prompted by the fact Abitibi's key credit facility matures inside of the next four quarters, in June of 2006. While it is expected that the facility's maturity date will be extended, when considered in combination with the fact the company's Accounts Receivable securitization program is not committed, and the company is not likely to generate sufficient cash flow over the next four quarters to replace the external funding were it required, Moody's SGL methodology characterizes the situation as evidencing weak liquidity. In addition, the SGL rating continues to reflect Abitibi's recent trend of weak-to-negative free cash flow together with uncertainties concerning the magnitude, sustainability and impact of the commodity price recovery. It should be noted that SGL ratings are inherently more volatile than long-term debt ratings. Whereas Moody's attempts to ensure that long-term debt ratings are valid on a "through-the-cycle" basis, SGL ratings are expected to change far more frequently. Given that Abitibi's revolving bank credit facility matures in June of 2006, and given Moody's SGL methodology and practice of reviewing SGL ratings on a quarterly basis, in the event the credit facility's maturity is extended, it is likely the SGL rating will be revised upwards.

Rating Decreased:

Abitibi-Consolidated Inc.

Speculative Grade Liquidity Rating: to SGL-4 from SGL-3

Ratings affirmed:

Abitibi-Consolidated Inc.

Outlook: negative

Corporate Family: Ba3

Senior Unsecured: Ba3

Senior Unsecured Shelf Registration: (P)Ba3

Abitibi-Consolidated Company of Canada

Bkd Senior Unsecured: Ba3

Senior Unsecured Shelf Registration: (P)Ba3

Abitibi-Consolidated Finance L.P.

Bkd Senior Unsecured: Ba3

Senior Unsecured Shelf Registration: (P) Ba3

Donohue Forest Products Inc.

Bkd Senior Unsecured: Ba3

Abitibi's liquidity arrangements are characterized as being weak according to Moody's SGL methodology, and accordingly, have been assigned an SGL-4 Speculative Grade Liquidity Rating. The company maintains a C$816 million revolver that is largely un-drawn and a US$500 million accounts receivable securitization vehicle that is generally more fully utilized. The bank facility matures in June 2006. While Moody's views it as adequate back-up for the approximately C$400-to-C$500 million in outstanding receivables' financing, the SGL-4 rating results from two key components of Moody's liquidity assessment methodology: i) Since Abitibi's accounts receivable securitization facility is uncommitted (rather than committed for a term-to-maturity beyond the forward looking rolling four quarter SGL time horizon) and may be terminated (with prior notice) by the service provider, Moody's deems that an approximately equivalent portion of the company's bank credit facility is reserved for back-up purposes; and ii) Moody's SGL methodology would considers a scenario that assumes Abitibi's bank credit cannot be rolled over, and would therefore mature within 12 months (at June 30, 2006). In this circumstance, the company would likely not generate sufficient cash flow to off-set the loss of the external financing.

As noted above, SGL ratings are inherently more volatile than long-term debt ratings. Whereas Moody's attempts to ensure that long-term debt ratings are valid on a "through-the-cycle" basis, SGL ratings are expected to change far more frequently. Given that Abitibi's revolving bank credit facility matures in June of 2006, and given Moody's SGL methodology and practice of reviewing SGL ratings on a quarterly basis, in the event the credit facility's maturity is extended prior to Moody's next review, there is the potential of the SGL rating being revised upwards at that time.

Abitibi is in compliance with its key financial covenants (Maximum Debt-to-Capitalization (66.9% actual at June 30, 2005 versus 70% threshold), and Minimum Interest Coverage (2.2x actual at June 30th versus 1.50x threshold; threshold increases to 1.75x in 2006)). Moody's estimates that Abitibi could access the entire unused amount of the credit facility without violating its Debt-to-Capitalization covenant. While the company is expected to be modestly Free Cash Flow positive in 2005, it is not expected to turn a profit. Consequently, the cushion relative to this test may not be as great going forward. However, so long as Abitibi is not required to make material adjustments to the carrying value of idled assets that have not been written-off (beyond the C$75 million pre-tax charge related to the Kenora and Stephenville facilites that will be taken in the third quarter), and so long as additional price increases are realized during the course of the year, Abitibi should be able to manage this figure so that compliance is maintained. With Cash Flow from Operations expected to display modest improvement over the next several quarters, Moody's also expects the Interest Coverage test cushion to increase through 2005.

The Ba3 ratings reflect Abitibi's very high financial leverage and the resulting very poor credit protection measures observed over the past three years. In addition, risks stemming from the ongoing evolution of communication and advertising patterns, and their consequent impact on the printing and writing papers market, including the persistent decline of the North American newsprint business, are an important influence. So too are risks related to the company's exposure to further Canadian dollar appreciation, and as well, pressure from other input costs such as wood, electricity, chemicals and labor. The company's results have been quite cyclical and are expected to remain so, with demand, price and cash flow varying widely over short periods of time. Lastly, Moody's anticipates that alternative uses of cash flow (pension funding, selected investments) are likely to adversely affect debt reduction. Despite the margin erosion caused by the above-noted exchange rate dynamic, Abitibi continues to have relatively low cash costs of production compared to its peer group. This is supported by good backwards integration into fiber supply and good energy self-sufficiency. The uncoated mechanical papers market appears to have modest positive momentum, with six price increases in past two years, and with capacity utilization in the commercial printing sector improving from a very low base. Despite its debt burden, the company has taken a leadership role in managing supply in order to balance the market, and recently announced an additional initiative that Moody's expects will assist in improving both market fundamentals and the company's position. Successive term debt maturities though 2011 provide an opportunity to de-lever if cash flow is available. While the company is not actively selling assets, it has significant flexibility to reduce debt from asset sale proceeds.

The outlook is negative, and reflects Moody's assessment of the challenges facing the company in normalizing the relationship between its debt load and its cash flow at the Ba3 rating level. The North American newsprint market is characterized by declining demand, and is in the midst of a protracted restructuring with participants removing capacity in order to better balance supply with demand. With recent producer actions chasing a target that moved much more quickly than was anticipated, it is uncertain when they will catch-up, and when pricing will generate acceptable returns. In addition, the sustainability of the pricing impact of supply management initiatives is not yet proven. For a given level of demand, Moody's is skeptical that consumers have to accept pricing increases as a result of input price or exchange rate induced cost-push pressures. In the context of gradually declining demand, and with the potential of slowing economic growth, it is not certain that margins can be expanded on a sustainable basis, and consequently, margins may remain under significant pressure. Accordingly, Moody's is concerned that difficult North American market fundamentals may cause current commodity pricing to be representative of near peak levels. Therefore, while Moody's expects Abitibi's 2005 results to show improvement over the dismal results posted for the past three years, the magnitude and sustainability of the improvement are uncertain. There are also risks that decreases in North American demand may yet again accelerate, or that its relative cost position will be further eroded by appreciation of the Canadian dollar, both of which would augment the required debt-to-cash flow adjustments.

Moody's expectations for a Ba3 rating include average through-the-cycle Retained Cash Flow to Total Adjusted Debt ("RCF/TD") in excess of 10%, with the related (RCF-CapEx)/TD measure in excess of 5%. Note that Moody's debt figures include adjustments to debt for off-Balance Sheet Accounts Receivable securitization vehicles, operating leases and unfunded pensions. These are made since the underlying obligations contribute incremental leverage that is debt-like. Either or both of the outlook and ratings could be upgraded if Abitibi takes specific proactive steps to permanently reduce indebtedness or increase profitability so as to ensure the above credit metrics can, on average through the commodity price cycle, be exceeded. In the absence of such proactive steps being implemented in the very near term, and in the event either or both of 2005 results and expectations for 2006 do not show dramatic improvement over the recent past, a ratings downgrade becomes more likely. A downgrade would also result from significant debt-financed acquisition activity or were liquidity arrangements to deteriorate significantly.

Abitibi-Consolidated Inc., headquartered in Montreal, Quebec, is North America's leader in newsprint and uncoated mechanical paper and also has a significant lumber business.

New York
Mark Gray
Managing Director
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Toronto
William Wolfe
Vice President - Senior Analyst
Corporate Finance Group
Moody's Canada Inc.
(416) 214-1635

No Related Data.
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