DBRS Downgrades Teck Resources Ratings to BB (high), Trend Negative

DBRS Limited (DBRS) has today downgraded the Issuer Rating and Senior Unsecured Notes rating of Teck Resources Limited (Teck or the Company) to BB (high) from BBB and has maintained the Negative trends. The downgrade reflects the substantial weakening of the Company’s financial metrics (especially its coverage metrics), which have fallen to well below investment-grade levels mainly due to large declines in key commodity prices, which are expected to remain weak in the near term. Additionally, Teck continues to fund its share of the Fort Hills oil sands project, which is expected to utilize construction funds through to the end of 2017, further depleting the Company’s financial resources. The continuation of the Negative trend reflects DBRS’s view that prices of Teck’s key commodities are not expected to improve in the near term and may deteriorate further. Even before consideration of Teck’s ongoing Fort Hills funding needs, the Company will be challenged in staunching negative net free cash flow deficits, adding to the pressure on its financial metrics. In addition, DBRS has established a recovery rating of RR3 for Teck’s Senior Unsecured Notes, which corresponds to an estimated 60% to 80% recovery of principal amounts of the Senior Unsecured Notes under a hypothetical default scenario. The RR3 rating, in turn, results in no change (notching) to the rating of Teck’s Senior Unsecured Notes.

Teck’s business risk profile has modestly improved over the last couple of years with the Antamina expansion completed, upgrades at Highland Valley and its Coal unit production capacity stable. Cost competitiveness has generally improved through cost-reduction programs and currency weakness at production locations but not as quickly as price reductions. Over the medium term, Teck’s business profile is expected to improve through the addition of production from the Fort Hills oil sands project some time after 2017, if completed successfully, adding diversification through a long-life operation in a stable political jurisdiction. In the interim, the Company’s business profile is anchored in its competitive metallurgical coal, copper and zinc businesses.

The Company’s financial profile has deteriorated significantly since 2013 when net free cash flow, before Fort Hills’ outlays, turned negative mainly due to: (1) the sharp drop of metallurgical coal and copper prices; (2) high non-Fort Hills capital expenditures (capex) in 2013 and, to a lesser extent, in 2014; and (3) high dividend payments (about $520 million per year 2013 and 2014). Additionally, the spending of $1.3 billion of Fort Hills project capex since sanctioning in 2013 has contributed to a $4.3 billion increase in net debt since the end of 2012. Higher gross debt, in part due to the impact of a weak Canadian dollar on U.S. dollar-denominated debt, and sharply lower EBITDA and operating cash flow have driven Teck’s key financial metrics to well below investment-grade levels. In addition, Teck has indicated in its Q3 2015 report that as a result of deterioration of its credit ratings it may be required to deliver up to approximately $1.3 billion in letters of credit to secure certain contract obligations in its Copper and Energy businesses, which would reduce its credit availability if certain of its ratings remained non-investment grade.

The near- to medium-term pricing outlook for metallurgical coal and copper remains challenged with recent capacity expansions flooding markets where demand is easing due to tepid economic growth. Given the challenging market environments and the added funding needs, the Company’s financial metrics are expected to face continued pressure. Even though the Company has moved to cut its semi-annual dividend level from $0.45 per share per share in 2014 to $0.05 per share currently and it continues to implement cost-reduction measures, including the possible closure of high-cost operations, it will be difficult to bring net free cash flow before Fort Hills outlays back into balance. Accordingly, a further build in debt beyond the Fort Hills investment or continued deterioration in financial metrics can be expected to lead to further negative rating actions.

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Rating Companies in the Mining Industry (October 2015) and DBRS Recovery Ratings for Non-Investment Grade Corporate Issuers (February 2015), which can be found on our website under Methodologies.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.