The credit rating assigned to JSC Concern Kalashnikov (hereinafter, Kalashnikov, the Company, or the Concern) is based on its strong business profile, adequate corporate governance, high profitability, and strong liquidity. The rating is further supported by a high strategic importance of the Company for the state. On the other hand, less-than-medium size of the Company, medium leverage and FCF shortage restrict the credit rating.
JSC Concern Kalashnikov is the Russia's largest manufacturer of firearms, which is the main supplier of small arms to the RF Armed Forces and controls the manufacture of high-precision guided weapons for army aviation. In 2016, the Company delivered products for RUB 18.3 billion, demonstrating an increase by 116% compared to the previous year.
Key rating assessment factors
Strong business profile and market positions. Kalashnikov supplies up to 95% of small arms to the Russian market. In addition, the Concern manufactures guided weapons systems that are in high demand in Russia and abroad. The exports share in the sales is up to 40%. Sanctions raised against the Company in 2014 did not affect its creditworthiness, because the volume of exports to sanctioned countries has historically been insignificant, while the need for imported components is low. The Company has a complete and long-term portfolio of orders, and the utilization ratio of its manufacturing capacities is about 100%.
Adequate corporate governance is due to a high assessment of the management strategy, the implementation of which allowed the new owners of the Company to successfully restructure OJSC Concern Izhmash that went bankrupt. Moreover, by the end-2017, the Concern is going to close the deal on acquisition of 100% shares in a large manufacturer of armored tracked vehicles. The strategy is aimed further at increasing revenues from sales of civilian products, as well as such promising products as UAVs, motorboats and boats. The Agency notes that the financial risk management is not regulated in the Company, however, the actual level of accepted currency and interest risks is minimal. The management structure allows the Company to minimize conflicts of interest, since 2 of 9 members of the Board of Directors are independent directors, and all key decisions are coordinated with the largest creditor. The Company’s structure is rather complicated but matches the scale of its business. Financial transparency is acceptable, taking into account the confidential nature of the Concern’s activities.
High profitability is determined by the current state defense order contracts and the pricing policies for military products. In the export market, the Concern is present in the budget segment, but the prices of foreign competitors in this market are high enough to ensure high profitability of Company’s supplies. For example, the FFO margin before net interest and taxes amounted to 25.3% in 2016, and, taking into account the consolidation of the above mentioned asset, it is expected to be 15–18% in 2017–2019. The size of the business is estimated by the Agency as below average, as FFO before net interest and taxes amounted to RUB 4.7 billion in 2016.
Medium leverage and debt service. The Agency expects that by the end-2017 the Company will significantly increase its debt obligations up to RUB 17 billion to acquire the above mentioned asset and to upgrade own core manufacturing facilities. Significant R&D investments are also expected. In ACRA’s opinion, this will lead to higher leverage in terms of the total debt / FFO to net interest, which is expected to increase from 2.0x as of December 31, 2016 to 4.5x as of the end-2017, but as early as in 2018 it is expected to go down to 3.5x. The ratio of net debt to FFO before net interest is expected to be significantly lower (2.3x in 2017 and 1.5x in 2018). According to ACRA estimates, the coverage of interest payments in 2017–2018 will be about 3.0x (12.0x by the end of 2016).
High liquidity of the Company stems from comfortable payment terms and conditions. The Agency notes that the defense sector payment regulations imply strict targeted use of advance payments, therefore, not all cash was taken by the Agency in its calculations of liquidity. The Agency also notes a significant amount (about RUB 7.5 billion as of July 01, 2017) of unwithdrawn loan limits in banks. As a result, despite a significant shortfall in free cash flow in 2017, the short-term liquidity ratio is 1.7x, which is very high. ACRA expects that in 2018–2019, the free cash flow will become positive and the short-term liquidity ratio will be 2.5-3.0x, due to a drop in capital expenditures down to the level of supporting investments, as well as the absence of significant repayments.
Key assumptions
- Growth of prices for Company’s products about 6% per year;
- Completion of the current contractual base in 2017-2019;
- 5.7% annual growth of Company’s costs;
- Dividend payments at about 25% of the net profit.
Potential outlook or rating change factors
The Stable outlook assumes that the rating will most likely stay unchanged within the 12 to 18-month horizon.
A positive rating action may be prompted by:
- A substantial decrease in leverage: the total debt below 1.0х of FFO before net interest, or coverage of interest payments growing above 5.0х;
- A sustainable and positive profitability in terms of FCF.
A negative rating action may be prompted by:
- A growth in the total debt above 5.0х of FFO before net interest, or coverage of interest payments decreasing below 2.5х;
- FFO margin before fixed payments decreasing below 10%;
- A substantial shrink in the contractual base;
- A substantially worsened access to external sources of liquidity.
Rating components
Standalone creditworthiness assessment (SCA): а-.
Support: 1 notch up to SCA.
Issue ratings
No outstanding issues have been rated.
Regulatory disclosure
The credit rating has been assigned under the national scale for the Russian Federation and is based on the Methodology for Credit Ratings Assignment to Non-Financial Corporations under the National Scale for the Russian Federation, Methodology for Analyzing Member Company Relationships within Corporate Groups, Methodology for Analyzing Relationships Between Rated Entities and the State, and the Key Concepts Used by the Analytical Credit Rating Agency Within the Scope of Its Rating Activities.
A credit rating has been assigned to JSC Concern Kalashnikov for the first time. The credit rating and its outlook are expected to be revised within one year following the rating action date (August 14, 2017).
The assigned credit rating is based on the data provided by JSC Concern Kalashnikov, information from publicly available sources, as well as ACRA’s own databases. The credit rating is solicited, and JSC Concern Kalashnikov participated in its assignment.
No material discrepancies between the provided data and the data officially disclosed by JSC Concern Kalashnikov in its financial statements have been discovered.
ACRA provided no additional services to JSC Concern Kalashnikov. No conflicts of interest were discovered in the course of credit rating assignment.
