• Ratings agency Fitch has downgraded Transnet's long-term foreign and local currency issuer default ratings due to a downgrade of the South African sovereign.
• Fitch expects a weakening of Transnet's financial profile due to the impact of the coronavirus pandemic.
• The ratings agency is also concerned about "ongoing irregular expenditure issues" at Transnet, despite an improvement in this regard.

Ratings agency Fitch has downgraded Transnet's long-term foreign and local currency issuer default ratings (IDR) to 'BB-' from 'BB' and with a negative outlook.

According to the agency, this is following the downgrade of the South African sovereign. In November last year Fitch downgraded South Africa's IDR to 'BB-' from 'BB' and with a negative outlook.

"Transnet's rating is constrained by the sovereign's rating through our assessment of the strength of the links with the sovereign," Fitch said in a statement on Friday.

The ratings agency has also revised Transnet's Standalone Credit Prole (SCP) to 'bb' from 'bbb-', mainly due to an expectation of a weakening of its financial profile due to the impact of the pandemic as well as what the agency describes as "ongoing irregular expenditure issues". Transnet's SCP, however, remains higher than the SA sovereign rating.

Fitch does, however, note that Transnet has improved compliance and the reporting of irregular expenditure and the number of new contracts that are irregular has been declining gradually. Yet, the ratings agency forecasts that Transnet's financial profile will weaken in the near term due to these "ongoing irregular expenditure reporting issues, including the qualified audit opinion". This has led Fitch to revise Transnet's SCP to 'bb' from 'bbb-'.

"As Transnet has been working on instituting sustainable systems to ensure the completeness of reporting on irregular expenditure from prior years' non-compliant procurement contracts, it received a qualified audit opinion in FY20, which through covenants affected bilateral and syndicated loans. All affected lenders have now granted waivers to early repayments," states Fitch.

"The ratings reflect Transnet's strong business profile characterised by its near monopolistic market position in freight rail, services to eight commercial sea ports and multiproduct pipeline for hydrocarbon products...The freight rail segment is sustained by long-term take-or-pay contracts with diversified counterparties, including miners, industrial companies and general freight trade."

Fitch points out that the national lockdown due to the coronavirus pandemic, had a big impact on Transnet, despite it continuing operations due to being classified as an essential service by the South African government. The 17% decline in Transnet's revenues in the first half of last year was due to the decline in shipment volumes of coal, iron ore, manganese and other general freight commodities due to the sharp decline in economic activity in the country.

However, economic activity recovered in the third quarter of last year and Fitch expects Transnet's financial year ending March 2021 to show revenue decline by about 12% compared to the previous financial year.

"The impact of the pandemic on Transnet's cash flows is largely mitigated by delayed execution of its capital projects due to stoppage of activity during the hard lockdown and restrictions period, which has moderated capex by close to 30%. Management also plans to limit capex to 80% of cash generated from operations over the medium term from the 2022 financial year," states Fitch.

The agency expects free cash flow in the 2021 financial year of about negative R6 billion due to lower Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA), higher cash interest and higher working capital outflow, partially offset by lower capex.

"Transnet also plans to reinstate dividends, albeit at moderate levels of about R300 million per year, which could be delayed due to the pandemic. The company has continued to access capital markets including bonds, loans and commercial paper to refinance debt maturities and maintain its liquidity position," states Fitch.

Transnet had about R4.9 billion of cash at the end of September 2020. It also had about R12.3 billion undrawn and available under R13.3 billion short-term call facilities. Fitch expects Transnet to continue accessing the capital market to fund its financing requirements in line with its five-year plan of raising over R80 billion to 2024. During the first half of last year, Transnet raised about R16.3 billion in borrowings from loans, bonds and commercial paper issuance and repaid borrowings of R17.7 billion.

Fitch forecasts South African GDP to grow 3.6% in 2021 after a decline of 8.1% in 2020.

Source: News24