Fitch Ratings has today downgraded PKN Orlen to 'BBB-' from 'BBB'. Its Short-term rating is affirmed at 'F3'. Both ratings have been removed from Rating Watch Negative and a Negative Outlook is assigned to the IDR. The downgrade reflects a considerable increase in PKN's leverage after the acquisition of Mazeikiu. The acquisition will raise PKN's net debt/EBITDA to around 2.5x-3x by end-2007, from a low 0.5x at end-Q306, which is outside Fitch's limits for the rating category. The downgrade by only one notch reflects PKN management's commitment to de-leverage to a targeted 1.5x net debt/EBITDA, which according to its strategy is the company's optimal leverage. The Negative outlook reflects Fitch's view that the ratings may be downgraded if PKN fails to reduce its leverage, for example due to dividend policy changes (which is now based on a free cash flow-to-equity approach, suspended pipeline transportation for a longer period or a marked reduction in PKN's refining margins.
Our view: It is not a real surprise for the market, since the company was put on a rating watch negative after announcing the deal. We believe that the intention of the company to push down net debt/EBITDA to 1.5x is feasible in 2-3 years time after the peak of indebtedness, which is expected for 2008-2009. On Friday market has not reacted to the news, which indicates to us that the potential downgrade was already priced in.