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Rating Action:

Moody's affirms SUEK' Ba2 ratings, outlook changed to stable from negative

23 Apr 2021

London, 23 April 2021 -- Moody's Investors Service ("Moody's") has today affirmed the Ba2 corporate family rating (CFR) and Ba2-PD probability of default rating (PDR) of SUEK JSC (SUEK) as well as the Ba2 ratings affirmed to the senior unsecured bonds issued by SUEK Finance, a Russia-domiciled wholly owned subsidiary of SUEK. The outlook on SUEK and SUEK Finance has been changed to stable from negative.

RATINGS RATIONALE

Pricing for thermal coal benchmarks strengthened in late 2020 and early 2021. Average steam coal prices in the Pacific and Atlantic basins, as measured by Newcastle and API2 benchmarks, recovered to about $90/tonne and $68/tonne in April 2021 from about $60/tonne and $50/tonne in 2020, respectively. Prices are also above Moody's medium-term price sensitivity range of $55/tonne-$75/tonne (Newcastle). Thermal coal demand will increase by more than 3% globally in 2021, according to the International Energy Agency, after falling by more than 5% in 2020, when the global coronavirus pandemic reduced economic activity, and therefore demand for electricity. Geopolitical tension between Australia and China in early 2021 has temporarily influenced the global trade flow of thermal coal as well. Until the two countries resolve their dispute, China's reduction in Australian imports will benefit producers in Indonesia, Russia, Mongolia, the US and Canada. Sales of SUEK to Asia-Pacific market increased in 2020 and comprised 67% of the total export coal sales (2019: 62%).

Based on the assumption of average steam coal prices in the Pacific and Atlantic basins of $72/tonne and $58/tonne, respectively, and exchange rate of 75 roubles per US dollar, Moody's expects that SUEK's EBITDA, as adjusted by Moody's, will recover to about $2.5 billion in 2021 from $2.0 billion in 2020 and $2.2 billion in 2019. Moody's expects the company to generate over $800 million - $900 million of free cash flows in 2021, which will allow the company to reduce debt and keep the leverage, as measured by Moody's-adjusted debt/EBITDA, at about 2.8x as of year-end 2021 (2020: 4.0x), within the agency's range for the Ba2 rating of 2.0x-3.0x.

Exports made up over half of SUEK's total coal sales volumes and 88% of SUEK's coal revenues in 2020. Domestically, its coal sales are mainly to power generators, including the company's captive power plants thanks to SUEK's diversification into this segment. SUEK's own power plants buy almost 70% of its domestic sales of thermal coal, reducing the company's business risk. SUEK's installed electricity capacity is now about 17.5 GW while the power generation segment will contribute over 24% into SUEK's consolidated EBITDA in 2021 (2020: 38%), under a range of pricing scenarios. Logistics segment also contributes to operating profits and EBITDA sustainability through the cycle. In 2020, when coal prices were low and coal segment's operating profits became immaterial, logistics and energy segment contributed 42% and 59% into the company's consolidated operating profit, respectively.

The electricity and heat generation business, which SUEK had not been exposed to before acquiring SGC in 2018, is somewhat less volatile than thermal coal mining, which is sensitive to the performance of key thermal coal export benchmarks, and will contribute to financial metrics relative resilience at a time of coal prices volatility. However, substantial debt following these M&A transactions underscores the importance of debt reduction for the company.

SUEK's Ba2 rating factors in (1) the company's status as a global thermal coal producer; (2) the company's competitive operating costs on the back of the weak rouble and cost-efficiency measures as well as the ability to manage its capital spending needs; (3) integration into power generation, which reduces volatility of financial metrics through the cycle; (4) its vast coal reserves and high operational diversification, with 27 operating sites; (5) the company's control over a considerable portion of its transportation infrastructure (including ports in Vanino, Murmansk and Maly, and a large railcar fleet), which improves stability and reduces costs of coal deliveries; (6) its high quality of coal products, and diversified domestic and international customer base; (7) its sustainable revenue from domestic sales, which is not linked to seaborne benchmark prices; and (8) the proximity of the company's mines to its power generation customers in Russia.

At the same time, the rating takes into account (1) the high sensitivity of SUEK's earnings and leverage to the volatile thermal coal prices in seaborne markets and the rouble exchange rate; (2) the company's exposure to thermal coal; (3) its sizeable railway expenses, which mainly depend on the level of regulated cargo transportation tariffs in Russia; (4) the company's reliance on available credit facilities to maintain adequate liquidity; (5) SUEK's history of fairly aggressive liquidity management, as the company tends to address its large refinancing needs six to twelve months before debt maturity dates, on the back of continued access to domestic and international debt financing; (6) the risks related to the company's concentrated ownership structure, although mitigated by good corporate governance; and (7) the uncertainty regarding the long-term development of carbon emission regulation, which could weaken global demand for thermal coal.

The company has adequate liquidity. As of 31 December 2020, SUEK's liquidity comprised $183 million in cash and equivalents, around $1.3 billion in available credit facilities, part of which was committed, with final maturities beyond the following 12 months, and over $2 billion in operating cash flow, which Moody's forecasts the company to generate over the same period. This liquidity would be sufficient to cover the company's short-term debt maturities of around $1.7 billion, and capital spending of nearly $1.3 billion, including lease payments (all metrics, as adjusted by Moody's), over the following 12 months. Moody's expects that the company will be able to extend the upcoming debt maturities in due course and views the related refinancing risk as low because of SUEK's continued access to international and domestic debt financing. We do not expect material dividend distributions in 2021-22.

RATIONALE FOR THE STABLE OUTLOOK

The stable outlook on SUEK's rating reflects Moody's expectation that the company will adhere to balanced financial policies, maintain moderate leverage and continue to generate positive post-dividend free cash flow.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

Moody's could upgrade SUEK's rating if the company were to (1) reduce its total debt and Moody's-adjusted total debt/EBITDA to below 2.0x; (2) generate positive post-dividend free cash flow; and (3) maintain healthy liquidity and build a track record of addressing its upcoming debt maturities in advance, on a sustainable basis.

Moody's could downgrade the ratings if (1) the company's Moody's-adjusted total debt/EBITDA were to exceed 3.0x on a sustained basis; (2) the company was unable to generate positive post-dividend free cash flow; or (3) its liquidity were to deteriorate materially.

ENVIRONMENTAL, SOCIAL AND GOVERNANCE (ESG) CONSIDERATIONS

Environmental, social, and governance factors will have a growing impact on SUEK's credit quality. Moody's also believes that investor concerns about the coal industry's ESG profile are intensifying and coal producers will be increasingly challenged by the access to capital issues in the future. A growing portion of the global investment community is reducing or eliminating exposure to the coal industry with greater emphasis on moving away from thermal coal. The aggregate impact on the credit quality of the coal industry is that debt capital will become more expensive over this horizon, particularly in the public bond markets, which will lead to much more focus on individual coal producers' ability to fund their operations and articulate clearly their approach to addressing environmental, social, and governance considerations.

Governance risks are an important consideration for all debt issuers and are relevant to bondholders and banks because governance weaknesses can lead to a deterioration in a company's credit quality, while governance strengths can benefit a company's credit profile. Similarly to its domestic peers, SUEK has a concentrated ownership structure - Andrey Melnichenko is the company's principal ultimate beneficiary. Concentrated ownership structure creates the risk of rapid changes in the company's strategy and development plans, revisions to its financial policy and an increase in shareholder payouts that could weaken the company's credit quality. The risk is mitigated by the company's commitment to a conservative financial policy. Corporate governance function is exercised through the oversight of independent members, which make up five out of eight of the board of directors' seats, as well as via relevant board's committees while the board is being chaired by an independent director.

PRINCIPAL METHODOLOGY

The principal methodology used in these ratings was Mining published in September 2018 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1089739. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

COMPANY PROFILE

SUEK is the holding company of one of the world's largest thermal coal producers, one of Russia's largest producers of thermal coal, electricity and heat as well as among top five gondola railcars and port operators in Russia. The company operates 19 opencast mines, eight underground mines and ten coal-washing plants in eight geographical regions, mostly in Siberia and the Russian Far East, as well as 27 power generation stations in Siberia. In 2020, the company generated revenue of $6.7 billion and Moody's-adjusted EBITDA of $2.0 billion. SUEK owns rail infrastructure, rail rolling stock, the Vanino Bulk Terminal (a coal terminal at Vanino in the Sea of Japan), the ice-free Murmansk Commercial Seaport and bulk terminal in the northwest of Russia, a 49.9% stake in the Maly Port in the Russian Far East, and Tuapse bulk terminal. The company's principal ultimate beneficiary is Andrey Melnichenko.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.

These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1243406.

The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Denis Perevezentsev, CFA
VP - Senior Credit Officer
Corporate Finance Group
Moody's Investors Service Limited, Russian Branch
7th floor, Four Winds Plaza
21 1st Tverskaya-Yamskaya St.
Moscow 125047
Russia
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

David G. Staples
MD - Corporate Finance
Corporate Finance Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
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No Related Data.
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