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Ratings on Key Members of Formosa Plastics Group Affirmed; Outlook Stable
Taiwan Ratings Corp.
today affirmed its 'twAA-' long-term and 'twA-1' short-term corporate
credit ratings on Formosa Plastics Corp. (Formosa Plastics), Nan Ya Plastics
Corp. (Nan Ya Plastics), Formosa Chemicals and Fibre Corp. (Formosa Chemicals
and Fibre), and Formosa Petrochemical Corp. (Formosa Petrochemical). The
outlook on the long-term ratings is stable.
The
Formosa Plastics Group (FPG) is one of the largest private industrial
conglomerates in Taiwan, with substantial operations in the island's petrochemical,
plastics, fiber, textile, and electronics industries. FPG also runs one
of the largest hospital networks in Taiwan, as well as a medical university,
a nursing college, and an engineering college. The four key members of
FPG are Formosa Plastics, Nan Ya Plastics, Formosa Chemicals and Fibre,
and Formosa Petrochemical. The total revenue of these four companies grew
by 40% year-on-year to NT$560 billion (US$17.5 billion) in the first nine
months of 2004, while their combined operating income (after depreciation)
increased by 118% year-on-year to NT$87.2 billion (US$2.7 billion) in
the same period.
The
ratings on the four key members of FPG reflect their good business profiles
and strongerimproving financial profiles, supported by the benefits stemming
from the completion of the third-phase expansion of its sixth naphtha
cracker plant, located in Mailiao, central Taiwan. The expansion has boosted
the group's revenue, profitability, and cash flow amid favorable industry
conditions. Accordingly, FPG's cash flow protection measures have also
shown robust improvement.
The
ratings factor in the group's proposed fourth-phase expansion project
at its sixth naphtha cracker plant, which is scheduled to be completed
by the end of 2006 and estimated to cost about NT$120 billion, which will
be funded by internal cash flow generation and NT$89 billion in syndicated
loans. However, FPG's recent announcement of its plan to enter the domestic
steel industry by building integrated steel mills, with an estimated cost
of NT$130 billion, has not been taken into consideration. That's because
the project is still in the planning stage and it is likely to be a lengthy
process to obtain government approval and complete land acquisition. Taiwan
Ratings will reassess the impact on the group's ratings once this investment
plan reaches an operational development stage and has a final funding
plan in place.
The
ratings on the four key members of FPG reflects the following strengths:
- Highly integrated
production facilities and economies of scale. FPG's competitive advantages
have been reinforced after the expansion of its sixth naphtha cracking
plant, which provides the group with significant economies of scale
and a self-sufficient feedstock supply. FPG's operations are highly
integrated, from upstream oil refining to olefin, polyolefin, aromatic
and styrenic products, as well as downstream plastic, polyester, and
textile products. The Mailiao complex enables FPG to provide much of
the group's base chemical feedstocks internally.
- Leading position
in Taiwan's petrochemical market. FPG has leading market shares in most
petrochemical products, accounting for 52% of the domestic ethylene
market, 51% propylene, and 44% butadiene.
- Good competitive
position in Taiwan's duopoly oil refining market. FPG has a 30% share
of the petroleum and diesel market segments, while state-owned Chinese
Petroleum Corp. (CPC, twAAA/Stable/twA-1) controls most of the remaining
share. Formosa Petrochemical's refineries are able to process cheaper
heavy crude oil to produce a larger portion of higher value-added products
such as diesel and gasoline compared with CPC.
- Low-cost competitive
advantage. FPG has a low-cost structure that is underpinned not only
by its vertical integration and economies of scale, but also by its
well-established centralized management system, the ongoing rationalization
of its workforce, its self-sufficiency in power generation, and its
in-house engineering and construction divisions.
- Improving cash
flow protection measures. FPG's ratio of funds from operations (FFO)
to total debt averaged 13% in the 2000-2002 period, which is relatively
weak as the investment returns on its sixth naphtha cracking plant were
not fully realized and industry conditions were unfavorable at that
time. However, FPG's FFO improved significantly in 2003 and 2004 as
a result of a better pricing environment, larger production volume,
and higher capacity utilization. As a result, its ratio of FFO to total
debt improved to 24% in 2003, and is expected to rise to 44% in 2004.
The ratio should be relatively stable in 2005 given the expected supply-demand
equilibrium for refining and petrochemical products. More importantly,
the group has generated positive free operating cash flow since 2002
following the completion of the third-phase expansion of its sixth naphtha
cracker plant, which in turn has helped boost its cash and short-term
investment position.
- Good financial
flexibility. FPG enjoys good access to domestic and international debt
markets as a result of its reputation for strong management and cost
competitiveness, as well as its consistent record of delivering shareholder
returns. FPG is the second largest unsecured corporate bond issuer in
the domestic debt market and completed a NT$89 billion syndication loan
on December 30, 2004 to fund the fourth-phase expansion project at its
sixth naphtha cracker plant.
The
above strengths are offset by the following weaknesses:
- Volatile movements
in petrochemical and oil product prices. Although FPG has a very competitive
cost structure and good operating efficiency, its earnings are vulnerable
to cyclical and volatile movements in petrochemical and oil product
prices, which are largely determined by supply and demand conditions
and the global economic situation.
- Diversification
into the high-risk dynamic random access memory (DRAM) business. FPG
established Nanya Technology Corp. (twA-/Stable/twA-2) in 1995 to enter
the DRAM business, which is characterized by highly cyclical, capital
intensive, and rapid technological changes. Nanya Technology's operating
and financial performances have been very volatile since its formation,
and it still requires large capital investment to maintain its competitiveness.
Nan Ya Plastics provides strong financial support to Nanya Technology
through equity capital injections and corporate guarantees to maintain
the DRAM maker's financial viability and fund its capital expenditure
programs. Taiwan Ratings expects this financial support to continue
in the future.
- Debt favored over
equity in business expansion. FPG has historically tended to use debt
rather than equity to support its capital spending needs, and has also
regularly distributed more than 50% its earnings in the form of cash
dividend to shareholders to minimize any dilution of its equity interest
and earnings per share. FPG's investment in the first-, second, and
third-phase expansion of its sixth naphtha cracking plant amounted to
NT$542 billion, which was largely funded by debt. The four key members
of FPG had total net debt of about NT$330 billion at the end of September
2004.
The
stable outlook reflects Taiwan Ratings' expectation that FPG will be able
maintain adequate credit protection measures and liquidity over the medium
term, supported by its low-cost competitiveness, high level of vertical
integration and good financial flexibility.
Analytic services provided by Taiwan Ratings Corporation (TRC) are the result of separate activities designed to preserve the independence and objectivity of ratings opinions. The credit ratings and observations contained herein are solely statements of opinion and not statements of fact or recommendations to purchase, hold, or sell any securities or make any other investment decisions. Accordingly, any user of the information contained herein should not rely on any credit rating or other opinion contained herein in making any investment decision. Ratings are based on information received by TRC. TRC has established policies and procedures to maintain the confidentiality of non-public information received during the ratings process.
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