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India Rating and Research has downgraded Oppo Mobiles India rating to ‘IND BB-’ from ‘IND BB’ with a stable outlook. The rating reflects Oppo receiving approvals from all relevant regulatory authorities to extend the maturity of its outstanding non-convertible debenture to September, 2020 from September, 2019.
The downgrade is due to deterioration in the financial profile of the company, with margins remaining negative and losses increasing. Furthermore, Ind-Ra said heightened competition in the sector could continue to put pressure on the cash flows, leading to uncertainty in regards to future debt servicing.
Oppo in India registered an EBITDA loss of ₹1,100 crore in FY19 (FY18: loss of ₹530 crore), and a net loss of ₹690 crore (₹360 crore). The continued loss is despite 80 per cent y-o-y improvement in revenue to ₹21,500 crore in FY19, due to increased demand and product launches. The company's operating margins deteriorated to negative 5.1 per cent in FY19 (FY18: negative 4.4 per cent) due to increased cost of raw materials, which are typically imported from China. The company faced a major forex loss of ₹650 crore in FY19 (FY18: loss of ₹25 crore).
If EBITDA and net income were to be adjusted for the same, the company’s margin be relatively better at negative 2.1 per cent (FY18: negative 4.2 per cent), and there would be a marginal net loss of ₹36 crore (FY18: net loss of ₹330 crore).
The company will look to turn profitable in FY21 by increasing sales through product launches at more competitive price-points, developing innovative products (under-display finger print scanner) and strengthening its offline presence. The management, however, has indicated that it would continue to spend sizeable amounts (7-10 per cent of revenue) on sales promotions to maintain its current market share.
Liquidity indicator remains poor
Ind-Ra expects the company to continue to incur EBITDA losses till FY21 on account of thin gross margins and high advertisement expenses, thus remaining vulnerable to refinancing risk. The company has been able to meet its interest payments via its cash balances (FY19: ₹930 crore, FY18: ₹1,080 crore), but it is reliant on the parent to repay its upcoming NCD, due in September 2020. Furthermore, internal cash flows are volatile, and cannot be relied upon.
The company has no bank debt. It has outstanding NCD worth ₹700 crore and an ECB of ₹1,730 crore, both of which are subscribed by Oppo's parent entity.
The external commercial borrowing will be due in FY24. Given the company's weak financial performance, reliance on high cash balances and funding of its working capital cycle through its trade payables, the company has committed that it will make its large principal repayments through further funding from the parent entities.
Large capex impacts cash flows
Oppo incurred capex of ₹930 crore in FY19 (FY18: ₹320 crore) to expand the capacity and manufacturing capabilities at its two facilities (Surajpur and Kasna, Greater Noida). Cash flow from operations turned negative to ₹830 crore in FY19 (FY18: ₹900 crore) on account of increased inventory, leading to net working capital increasing to negative 49 days.
This led to a working capital inflow of roughly ₹110 crore in FY19, much lower than historical working capital inflows (FY18: ₹1,430 crore; FY17: ₹580 crore), as the company continued to extend its trade payables. The agency expects the inventory level to moderate in FY20 (FY19: ₹1,450 crore, FY18: ₹380 crore), as the company tends to stock large quantities of raw materials six months prior to the launch of new products.
The company imports over 95 per cent of its material requirements, which exposes it to foreign exchange fluctuation risk. Also, intense competition leaves less flexibility to pass on price increases to customers. However, the risk is partially mitigated by increasing the mix of indigenous sourcing/manufacturing. The company is increasing local manufacturing of printed circuit boards, which make up around 50 per cent of the smartphone’s making cost, which would reduce the impact of rupee depreciation.
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