S&P has its doubts about Anglo American's 'sizable expansionary spending'

Credit Analysts Alex Herbert and Trevor Pritchard said the downgrade reflects our expectation of much lower profits, cash flows and-with adjusted debt of about $14 billion arising from previous acquisitions-weaker leverage for Anglo American in 2009, due to a sharp downturn in metals and minerals prices.

In our view, the group will likely be highly challenged to maintain credit metrics consistent with the previous ‘A-‘ rating-notably a ratio of funds from operations to adjusted debt of about 40%, the analysts said.

In our opinion, along with its peers, Anglo American faces much weaker profits and cash flows in 2009, due to the market downturn, they advised.  Nevertheless, they added, Some mitigation in our view comes from Anglo American's iron ore and coal operations, which are its two main contract bulk commodities, which have less short-term volatility and currently enjoy high prices, but we also expect these to weaken sharply this year.

While the analysts noted the group's corrective measures to adjust its business strategy and financial profile, including lowering annual capex to $4.5 billion, S&P remains concerned about sizable expansionary spending, which if undertaken during a persistently weak pricing environment, could in our view lead to negative free cash flows. Without mitigating steps, we believe this to lead to higher debt.

S&P considers Anglo's liquidity to be adequate. While the analysts consider debt amortizations manageable, refinancing efforts will likely need to be undertaken to preserve liquidity in 2009.

However, in the absence of further negative developments, S&P expects Anglo to maintain adequate access to bank and bond finance.

Meanwhile, S&P bestowed a negative outlook on Anglo American, which the analysts said reflects the continued high level of uncertainty about the depth and duration of the economic downturn, and the level of future metals and minerals prices, where forward visibility is very low.

Ratings stability could be established if the group is able to sufficiently mitigate the impact of the market downturn through its corrective actions and by improved market conditions, S&P advised. Downside pressure could increase if metals and minerals prices, including contract iron ore and coal, weaken beyond our expectations, or if management response is inadequate.