Fitch affirms Sunshine Holdings at ‘A(lka)’; outlook stable

Fitch Ratings has affirmed Sri Lanka-based diversified conglomerate Sunshine Holdings PLC’s national long-term rating at ‘A(lka)’. The outlook is stable.  
The rating on the company reflects its exposure to defensive end-markets, strong positions in the markets for its key products and strong free cash flow generation despite short-term pressures faced by some its key operating subsidiaries. The rating also reflects Fitch’s expectations that the group is likely to maintain a low level of leverage. 
Sunshine Holdings is the second-largest pharmaceutical distributor in Sri Lanka by sales. The government recently introduced a price control mechanism that Fitch expects will reduce Sunshine Holdings’ pharma revenue by 15 percent-20 percent. However, Fitch believes the impact of the new regulation will be temporary and the long-term fundamentals for the segment remain intact as the population is rapidly aging, urbanisation is rising and per capita income is increasing, which will drive spending on healthcare.   
We believe Sunshine Holdings’ palm oil segment will be the key growth driver in the medium term and will provide buffer against downturns in most other segments. Sunshine Holdings is the largest palm oil producer in the country and is strongly positioned to benefit from the government’s policies protecting the sector to expand local production. Higher taxes on imported palm oil, an increase in global palm oil prices due to the recovery in oil prices and continuous capacity expansions by Sunshine Holdings should support the growth trajectory and profitability of the segment in the medium term.   
Margin in Sunshine Holdings’ fast-moving consumer goods segment, which is the largest branded tea company in Sri Lanka, has narrowed due to higher tea prices in the past six months. We expect tea prices to moderate in the next 12 months once supply stabilises, which should benefit Sunshine Holdings’ margins in this segment. Sunshine Holdings’ strategy to tap the higher growth by selling to the hotel, restaurant and catering industry should also help the segment, both in terms of top line growth and profitability.   
Sunshine Holdings’ tea segment posted operating losses for the third consecutive year in the financial year ended March 31, 2016 (FY16) as low global tea prices and escalating costs made it difficult for tea plantations to break even. Fitch does not expect a meaningful turnaround in the tea segment in the medium term owing to lower demand from Sri Lanka’s key markets, such as Russia, Ukraine and the Middle East and cost pressures stemming from wage increases for plantation workers that are not based on productivity.   
Sunshine Holdings is expanding its capacity in its power and dairy sectors, with the company expecting the majority of the new capacity to come online before end-FY19. Fitch believes the new projects will enable Sunshine Holdings to reduce its dependency on the highly volatile agricultural sector and improve overall margins as the new projects provide higher margins.