Rio Tinto has suffered the same fate as other major miners, as its rating is downgraded and it's given a negative outlook.
To date a number of miners have seen their credit rating downgraded by investor services such as Fitch, Standard & Poor’s, and Moody’s, which have all become more bearish on the industry’s future.
BHP and Glencore were hit hard, going from A+ to A and BBB to BBB- respectively whilst Anglo American and Freeport McMoran were cut below the investment grade, while rating Anglo’s credit grade rated as junk only days before the miner carried out a massive restructure that will see it exit from Australia.
Moody’s investor service has now downgraded Rio Tinto’s ratings, one of the last major miners to retain its rating unchanged, from A3 to Baa1, and given the company a negative outlook.
“This rating action reflects Moody's view that there has been a fundamental downward shift in the mining sector with the downturn being deeper and prospects for a recovery extended, resulting in increased credit risk and weaker metrics for Rio Tinto as well as the global mining sector,” Moody’s said in a its latest research.
“Consequently, ratings need to be recalibrated to reflect expected performance over a more protracted challenging operating environment.”
It pointed to ongoing supply imbalance, caused by a flooded iron ore market, as one of the major drivers behind the new rating.
“Supply imbalances, particularly in iron ore, the major earnings and cash flow driver for Rio Tinto, will maintain pressure on prices for several years,” it said.
“While lower oil prices, lower freight costs, and currency depreciation contribute to reduced costs, the drop in prices has and will continue to significantly impact performance.
“Rio Tinto's underlying earnings declined by 51 per cent in 2015 to US$4.5 billion, principally as a result of the fall in iron ore prices.
“The drop in underlying earnings was driven by pricing impact of around US$7.7 billion.
“The negative outlook reflects the ongoing pressure in the markets in which Rio participates and our view that Rio Tinto's debt protection metrics will remain outside appropriate levels for a Baa1 rating during 2016.”
However Moody’s was positive on its future, stating, “With Rio Tinto's announced dividend and capex reductions and further cost reduction program we expect that the group will be modestly free cash flow positive in 2016 and 2017 at a base sensitivity iron ore price of US$40/ton.”
“The rating, however, acknowledges the company's weaker debt protection metrics and increased leverage given performance in 2015. EBIT/interest contracted to approximately 6.6x from 9.4x in 2014 while leverage increased to 2.5x from 1.6x in 2014 and 1.7x for the twelve months through June 30, 2015. The rating considers the group's solid liquidity position as evidenced by its year-end 2015 cash balance of US$9.4 billion, which remains comfortably above operating and debt maturity requirements for 2016.”
Moody’s went on to state that the downgraded could be reversed if Rio Tinto could show evidence of a sustainable debt/EBITDA ratio of no more than 2x and (CFO-Dividends)/debt ratio of at least 35 per cent.