The Pakistan Credit Rating Agency Limited / Engineering

Ratings (July 2011)

International Industries Limited (IIL)

Initial
Entity
Long-Term / A+
Short-Term / A1

FinancialData

PKR (mln)

Mar-11* / Jun-10 / Jun-09
Total Assets / 14,027 / 18,738 / 11,179
Equity / 4,743 / 4,671 / 4,039
Turnover / 11,797 / 13,472 / 12,319
Net Income / 502 / 1,026 / 375
EBITDA / 1,258 / 1,832 / 1,110
ROE % / 12 / 24 / 10
EBITDA Net Interest Cover (x) / 3.0 / 3.5 / 1.8
Debt Service Coverage (x) / 0.9 / 1.5 / 0.6
Total Debt/Total Capital % / 62 / 73 / 60

*based on unaudited accounted for 9months ending 31-Mar-2011

Analysts

Samiya Mukhtar

+92 42 35869504

Rana Muhammad Nadeem
+92 42 35869504

Profile

  • IIL, established in 1948, is in the business of manufacturing various kinds of steel pipes. Manufacturing facility of IIL is located in Landhi Industrial area, Karachi. The company is listed on all stock exchanges of the country. Majority shareholding of the company is held by Chinoy Family (51%). The family has a long history of doing various businesses in the subcontinent. The board comprises ten members, and plays key role by providing strategic guidance through active participation. The board chairman, Mr Kemal Shoaib has vast experience in banking and corporate sector.
  • Mr. Riyaz Chinoy is assuming CEO office from his father, Mr. Towfique Chinoy, who would be heading ISL. Mr. Riyaz, an engineer by profession is associated with the company since 1992, lately as its Chief Operating Officer. He is assisted by a team of experienced professionals.

Rating Rationale and Key Rating Drivers

  • These ratings reflect IIL’s leadership position in steel pipe industry mainly emanating from quality products, sizeable domestic market share, and penetration in export market. The ratings take into account the strong governance structure supported by well-disciplined control framework. Despite inherent volatility and cyclicality in steel business, the management has demonstrated its expertise in managing the operations of the company effectively through different business cycles. The company intends to follow a growth strategy and looking at gradual expansion in cold-rolled segment, while adding new products to its slate. This is also expected to manage the impact of increasing substitution of key product – Galvanized Pipe. Meanwhile, leveraging of the company remains moderate. Although major portion of leveraging is self liquidating short term borrowing, any abrupt changes in exchange rate or volatility in international steel prices would expose the company to high risk.
  • International Steels Limited (ISL), a 56% owned subsidiary of IIL, started its commercial operations in early 2011. ISL manufactures flat products – cold rolled coils and hot dipped galvanized steel. Although this is core raw material of IIL, offering backward integration, the group intends to establish ISL as an independent producer. Nevertheless, owing to correlating nature of both the businesses, IIL is expected to accrue business synergies from ISL’s operations. Moreover, commencement of an independent and stable dividend stream from this investment would be considered a positive rating factor.
  • The company’s ability to maintain its strong market position while managing the related risks would remain important. Any material increase in borrowing, volatility in steel business or exchange rate, may impact the debt service coverages of the company

Assessment

  • IIL’s product portfolio can largely be bifurcated into two key products: Pipes – Hot Rolled (HR) and Tubes – Cold Rolled (CR). The Key raw material – Steel and Zinc – are imported from different countries including China, Ukrain, Korea, South Africa, and Kirghistan.Zinc acts as anti-rust material, used in galvanizing of hot rolled pipes; the product is commonly known as galvanized pipes. The company has a capacity to produce around 300,000[1] tons of pipes annually. Steel pipes manufactured by IIL are used in various industries including auto, construction, and oil, gas, and water transmission systems. The company exports a sizeable portion of its annual production(FY11: 27%; FY10:23%) to thirty countries. Afghanistan and Srilanka remain the key export markets. The share of exports in total sales is gradually increasing.
  • Historically, sale of high-margin galvanized (GI) pipes remained the major source of revenue for the company. Though still sizeable, the galvanized pipe market is being cannibalized by plastic pipes. Cognizant of this risk and to cover up for decline in GI sales, IIL has set up the polyethylene pipe manufacturing plant in the recent past and intends to focus on certain export markets where GI pipes are still high in demand. However, if the pace of galvanized products’ cannibalization increased beyond expectation, it may directly affect the overall sales growth of the company in future.
  • Overall sales grew by 18% in FY11, driven by 10% growth in volumes and the rest from price increase. However, this growth was not inline with the company’s projected salesowing to low LSM growth and floods in first half of the year. The volumetric growth was mainly driven by CR segment. Meanwhile, relatively high raw material cost, and shift from high margin business [proportion of GIpipes is decreasing (FY11: 44%; FY10:50%) in total sales] directly impacted the gross margins (FY11: 11%; FY10: 17%).Nevertheless, relatively low interest cost, other income emanating from regular sale of electricity to KESC, and one time gain on divestment of International Steel Limited’s shares (PKR 706mln) boosted the overall profitability.
  • In the medium term, the company intends to focus on CR segment forgrowth. In this regard, the company is adding four new CR mills in the current year (~38% capacity expansion) to enhance its market share. The GI segment would be further tapped by introducing modified products, and expansion of dealer network in north and south region.
  • IIL’s subsidiary – ISL – has lately commissioned its operations. While IIL was in the process of hiving down ISL, the coverages and capital structure reflected a high risk profile. Subsequent to the hive down, IIL’s coverages are under policy targets (Policy targets: Interest Coverage: 3x; Debt service coverage: 1.5x). Going forward, an independent revenue stream in the form of dividends from the subsidiary is expected to boost profitability of IIL. However, any negative correlating risk factors mainly steel price volatility, would simultaneously affect these group companies.
  • IIL has well documented policies and procedures with designated responsibilities. The internal audit of IIL has been outsourced to a well reputed firm of chartered accountants. The company has lately completed implementation of last module of Oracle ERP. Detailed MIS is generated for the senior management on specified formats.
  • Company’s working capital requirements are largely dictated by inventory cycle. The company utilizes a mix of short-term subsidized borrowing and foreign currency borrowing to manage sizeable amount of working capital requirements.
  • IIL is moderately leveraged with majority of borrowing for working capital requirements. Although these are adequately covered under self-liquidating mechanism of current assets, additional cushion remains limited. IIL intends to maintain a capital structure of 60:40. The company’s policy to utilize maximum level of foreign currency borrowing exposes it to exchange rate risk. Currently IIL’s management is adequately handling the exchange risk. Moreover, core cash flows provide strong interest coverages. Going forward, a material increase in borrowing, fluctuation in exchange rate, or any distortion in cashflows may increase the financial risk of the company.

PACRA has used due care in preparation of this document. Our information has been obtained from sources we consider to be reliable but its accuracy or completeness is not guaranteed. PACRA shall owe no liability whatsoever to any loss or damage caused by or resulting from any error in such information. None of the information in this document may be copied or otherwise reproduced, stored or disseminated in whole or in part in any form or by any means whatsoever by any person without PACRA’s written consent. Our reports and ratings constitute opinions, not recommendations to buy or to sell.

Tel: 92 (42) 35869504 Fax: 92 (042) 35830425

[1]The name plate capacity of the company’s manufacturing facility is 520,000 annually.