DBRS Confirms Noranda Operating Trust Rating at BB (high), Stable Trend

DBRS has today confirmed the BB (high) rating with a Stable trend on the Senior Secured Notes of Noranda Operating Trust (the Trust), reflecting the resolution of the Trust’s medium-term financing structure in mid-2011. The Trust remains a well-established and profitable processor of zinc concentrates strategically located to serve North American zinc metal markets, but is highly dependent on a zinc concentrate supply and processing agreement (Supply and Processing Agreement) with Xstrata Canada Limited (Xstrata Canada) that ends its initial term in May 2017. Post-May 2017, the Trust faces a dwindling supply of zinc concentrates from North American mine operations, as well as low processing rates currently experienced in international zinc refining markets. At this time, DBRS is discontinuing the Issuer Rating of the Trust. This is an exception to our normal rating practice in this case, as the assessment is focused heavily on the coverage by income from the Supply and Processing Agreement and the Senior Secured Notes will mature within this timeframe. As such, neither an Issuer Rating nor a Recovery Rating is viewed as necessary in support of the rating on the Senior Secured Notes.

The refinancing of the Trust’s debt in mid-2011 marked the end of a turbulent period in which (1) revenue and net income dropped sharply in 2009, due to a needed reduction in concentrate processing activity by about 20% during very weak market conditions for by-product sulphuric acid; (2) the Trust’s parent, Noranda Income Fund (the Fund), had to deal with an unsolicited Xstrata Canada takeover proposal (July 2010); and (3) its debt reached maturity in December 2010. The Trust suspended cash distributions between July 2009 and September 2011, even though normal operation of the Trust’s zinc processing facility (CEZinc) had resumed in October 2009. Notably, during the approximately two years that distributions were suspended, net debt of the Trust was reduced by $61 million.

The CEZinc facility operated well in 2011 and has continued to do so year-to-date. Measures have been taken to increase the marketability of zinc products produced; increase storage capacity and strengthened contract relationships for by-product sulphuric acid sales; and expand outlets for by-product copper cake sales. In addition, CEZinc’s three-year cell reline project is expected to be complete in 2013, providing a 2% lift in processing capacity.

DBRS views the Trust’s CEZinc operations as an integral part of Xstrata Canada’s current zinc mine operations; as such, Xstrata Canada has a strong vested interest in its ongoing operation. DBRS considers it likely that Xstrata Canada could and would provide financial assistance if the Trust had difficulties in meeting its financial obligations during the term of the current Supply and Processing Agreement.

CEZinc is expected to become increasingly dependent on undetermined supplies of zinc concentrate in the future. The international zinc processing market is highly competitive, and DBRS believes that the current processing fee paid by Xstrata Canada is expensive compared with current zinc concentrate processing costs at other facilities around the world. Accordingly, DBRS considers it unlikely that the Supply and Processing Agreement will be extended beyond May 2017 under its current terms, leading to the expectation of a significant drop in earnings and cash flow after that date, even though the Trust’s Senior Secured Notes maturing December 2016 are expected to have been repaid.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Companies in the Mining Industry, which can be found on our website under Methodologies.