Moody’s: Japan Tobacco Inc. Ratings not immediately affected by acquisitions in Philippines and Indonesia

The Indonesian government will raise tobacco excise tax in 2020 above 10 percent in the effort to generate state revenue - Photo: Privacy

Moody’s Japan K.K. says that Japan Tobacco Inc.’s (JT) Aa3 ratings and stable outlook are unaffected by its announced acquisitions of the assets of Mighty Corporation (MC) in the Philippines, as well as of PT. Karyadibya Mahardhika (KDM) and PT. Surya Mustika Nusantara (SMN) in Indonesia.

On 22 August 2017, JT announced that it will acquire the assets of MC, a Philippines cigarette company, for 46.8 billion Philippines pesos (approximately $936 million or, 104.8 billion yen).

This announcement emerged within 3 weeks of the company revealing that it had agreed to buy Indonesian kretek cigarette company, KDM, and its distributor, SMN, with a total acquisition cost of $1 billion, on 4 August 2017.

According to the announcements, the transactions will be funded by JT’s existing cash and loan facilities.

We believe that the transactions are in line with JT’s strategy to invest in new markets for sustainable mid- to long-term growth, with global cigarette volumes on a gradual fall. If the acquisitions are completed, they will support the growth in JT’s cash flow generation in the international tobacco business and help further strengthen the company’s geographic diversity.

Moreover, we expect JT’s financial leverage, as measured by adjusted debt/EBITDA, will remain within our current expectations. On the assumption that JT will fund all the costs for the acquisitions with new debt, we expect its adjusted debt/EBITDA will slightly deteriorate to around 1.7x from 1.4x in 2016.

We also expect that JT can gradually lower the company’s financial leverage after the acquisitions, supported by consistent free cash flow from its existing businesses. On the other hand, these acquisitions will reduce its substantial financial cushion. Therefore, additional material acquisitions before some prior deleveraging could negatively pressure the ratings.

In addition, we note that JT needs to deal with an increasingly challenging operating environment, which shows gradual declines in consumption volumes, tightening regulations, intensifying competition, and rapidly increasing levels of emerging products. If these factors result in weakening cash flow generation in JT’s main tobacco markets of Europe, the CIS and Japan, the ratings could be negatively pressured.

Ratios that we would consider for a downgrade include adjusted debt/EBITDA approaching 2.0x or adjusted retained cash flow (RCF)/net debt remaining below 40%.

Depending on our assessment at the time, JT’s ratings could also be impacted by a change in the rating or outlook of the Japanese government (A1 stable).

Headquartered in Tokyo, Japan Tobacco, Inc. is Japan’s sole domestic tobacco manufacturer and the third-largest tobacco company in the world — excluding state-owned China National Tobacco Corporation — after Philip Morris International Inc. (A2 stable) and British American Tobacco p.l.c. (Baa2 stable).