KME - initiation

All,

We are initiating on KME. Please find our files here.

KME remains an interesting credit story, as the combination of lack of sell-side coverage and quirky reporting material makes it difficult for new investors to understand the business. In our view, KME's strengths and weaknesses are often misunderstood, especially with regards to exceptional cash flows and the resiliency of the business.

KME is not involved in refining or smelting operations. It acquires copper from smelters as inputs. Products include bars, moulds, wires, tubes, and other products. The company serves industries such as construction, autos, steel manufacturing, aerospace, rail, electric and electronics. 

KME's combination of sector diversification and strength in certain differentiated products provided it with a significant degree of resilience over the past few years, compared with more commoditized metal manufacturers in the copper, steel and aluminium segments.

 Over the past two years, KME saw significant outflows from items that should have been one off, including restructuring costs and hedging costs. The only bright spot of KME's cash flow profile over the past 2 year has been the reduction of working capital needs. However, only part of this is from improvements in the underlying working capital management, with most of the rest due to variation in copper prices, the associated variation in inventory values, and other key assets.

 In addition to the claim on the partnership interests in KME Germany GmbH & Co. KG,   KME's bondholders have a first lien claim on the machinery and real estate of the Osnabruck plant, which is one of KME's largest with approximately one quarter of its employees. While it is difficult to accurately estimate the value of these assets in a restructuring scenario, this provides a lower bound on how far the KME bonds can fall.

 We are looking forward to exchanging ideas on KME with you.

Juliano