Fitch upgrades KCS Mexico default rating one notch
Kansas City Southern de Mexico's issuer default rating has been upgraded by credit rating agency Fitch Ratings to 'BB-' from 'B+' with a rating outlook of 'stable.'
Fitch noted the railroad's 'improving operating profile, increased financial flexibility and stronger liquidity over the past two years' as reasons for the upgrade.
Analysts at Fitch also said the upgraded ratings are supported by KCSM's 'solid business position as a leading provider of railway transportation in Mexico.'
However, as a caveat to the ratings, Fitch offered that 'the ratings continue to reflect a challenging environment characterized by fierce competition, high fuel costs, and a general shift in manufacturing to China from several countries, including Mexico.
The issuer default rating is based on a sliding scale from 'AAA' to 'D' that reflects the firm's ability to repay outstanding debt. The 'BB' rating category is the highest rating for the 'non-investment grade' classification by Fitch, which has dual headquarters in London and New York.
KCSM, a wholly owned entity of Missouri-based Class 1 railroad Kansas City Southern, is the primary freight rail service in northeastern Mexico, and handles 40 percent of the nation's railway freight volumes. Connecting to the KCS rail network in the central United States, KCSM is highly involved in North American Free Trade Agreement service. Nearly 80 percent of KCSM's revenues are derived from international freight. Also, according to Fitch, KCSM generated 47 percent of KCS's consolidated revenue in 2007 and 60 percent of the parent firm's operating income.
Fitch expects KCSM's leverage throughout 2008 to remain fairly stable, 'despite a modest increase in total debt to fund the purchases of 90 new locomotives and 400 new freight cars for approximately $180 million.'
Predicted increases in cross-border traffic from the intermodal, automotive and agricultural segments and the continuation of a favorable pricing environment is expected to translate into growth in KCSM's operating income.
Fitch expects construction on a KCSM intermodal rail terminal at the Mexican West Coast port of Lazero Cardenas to make the developing port a greater attraction to global shippers seeking alternatives to the busy Southern California ports. Further development of the port and the rail terminal is expected to strengthen KCSM's position developing international corridor for U.S./Asia traffic via Mexico.
Fitch reported that KCSM's operating earnings before interest, taxes, depreciation, and amortization (EBITDA) plus the railroad's locomotive and railcar lease payments, increased to about $376 million in 2007 compared to $331 million in 2006 and $227 million in 2005.
According to the Fitch report, KCSM had about $1.4 billion in total debt primarily comprising $800 million in unsecured senior notes due in 2012-2014 and an estimated $507 million of off-balance-sheet debt associated with lease obligations.
Fitch also upgraded to 'BB-' from 'B+' the following senior unsecured obligations of KCSM:
' $165 million 7.375 percent senior notes due 2014.
' $460 million 9.375 percent senior notes due 2012.
' $175 million 7.625 percent senior notes due 2013.
KCSM's ratio of total adjusted debt to EBITDA and rent was 3.6 times, an improvement compared with 4.2 times in 2006 and 6.1 times in 2005. The firm's EBIDTA and rent covered fixed expenses, defined by Fitch as interest expense plus lease payments, by about 2.4 times in 2007, compared with 2.1 times in 2006 and 1.4 times in 2005.
The May 2007 issuance of the $165 million in senior notes due in 2014, used to pay down $180 million in higher interest senior notes due in 2012, reduced KCSM's refinancing risk and interest expense, according to Fitch.
Fitch noted that parent firm KCS is facing the refinancing of $200 million in senior notes coming due in October and another $200 million in senior notes coming due in June of next year.
While Fitch believes KCS will be able to secure refinancing of these obligations, the inherent risk that the parent firm may rely on dividend payments or inter-company loans from KCSM to meet its near-term debt service payments is reflected in KCSM's 'BB-' rating.
