Moody's Cuts Molycorp (MCP) to 'Caa2'; Notes Weak Rare Earths Pricing Environment

Moody's Investors Service downgraded the corporate family rating (CFR) of Molycorp, Inc. (NYSE: MCP) to Caa2 from Caa1 and affirmed the B3 rating on the company's senior secured notes. Moody's also downgraded the probability of default rating to Caa2-PD from Caa1-PD, and changed the Speculative Grade Liquidity (SGL) rating to SGL-4 from SGL-3. The outlook is stable.

RATINGS RATIONALE

The downgrade reflects continued weakness in rare earths pricing environment, ongoing negative free cash flows, weak liquidity and high leverage. Although Molycorp has now completed the construction of its Mountain Pass production facility and faces significantly lower capex requirements going forward, the project's cost overruns left the company with absolute debt levels that may be unsustainable in a current price environment. The company had spent roughly $1.5 billion on the Mountain Pass project, compared to its original estimate of roughly $800 million. Total debt as of March 31, 2014 (as adjusted by Moody's) was $1.4 billion, with interest expense for the preceding twelve months approximating $140 million (as adjusted by Moody's). At the same time, the company's EBITDA and operating cash flows were substantially negative for twelve months ended March 31, 2014, roughly amounting to negative $140 million and $210 million, respectively.

Following the completion of the Mountain Pass project, the company's production run rate has been increasing, with debottlenecking and optimization efforts underway, aiming to increase production rates in late 2014 to levels that would allow the company to start generating positive margins (estimated to be approximately 1,100 metric tonnes (mt) per month). In the first quarter of 2014, the Mountain Pass facility produced 1,111 mt of rare earth oxides (REO), while production for the full year 2013 was 3,926 mt. Management is targeting an annualized production rate of approximately 23,000 mt per year by the end of 2014 and expects the production to exceed 20,000 mt in 2015. We expect that even if such sales volume is achieved, the company EBITDA would be in $150 - $180 million range in a current price environment, which would translate into leverage (Debt/ EVITDA, as adjusted) approaching or exceeding 10x.

While the company had roughly $236 million in cash as of March 31, 2014, we expect that the liquidity could become strained in the next twelve months, given the ongoing cash burn and a large debt service burden. The speculative grade liquidity rating of SGL-4 also reflects lack of a committed revolving credit facility and limited sources of alternative liquidity, given that essentially all domestic assets are encumbered as collateral for the secured notes.

Despite the CFR downgrade, the senior secured rating is affirmed at a B3, reflecting secured creditors' priority claim on collateral (consisting of substantially all assets of the company and its domestic subsidiaries), preponderance of unsecured debt in the capital structure, and improved value of the collateral following the completion of the Mountain Pass production facility.

Molycorp's Caa2 corporate family rating also continues to reflect its modest size and diversity, inherent volatility of the company's margins, and good resource base. Although we acknowledge that Molycorp is the largest REO producer in the Western hemisphere and owns one of the world's largest, most developed rare earths projects outside of China, one of the key rating drivers is that China produces roughly 90% of the world's rare earths elements and the country's production and exporting behavior dictates market pricing.

Stable outlook reflects our expectation of significantly reduced capex requirements going forward, growing production volumes and improving credit metrics.

Ratings could be downgraded if Debt/ EBITDA, as adjusted, were to be sustained above 10x or if liquidity position deteriorated.

Although the potential for upgrade is limited at this time, ratings or outlook could be positively impacted if Debt/ EBITDA, as adjusted, were expected to be sustained below 7x, free cash flows were expected to be positive, and the company was expected to maintain adequate liquidity position.

The principal methodology used in this rating was the Global Mining Industry published in May 2009. Other methodologies used include Loss Given Default for Speculative-Grade Non-Financial Companies in the U.S., Canada and EMEA published in June 2009. Please see the Credit Policy page on www.moodys.com for a copy of these methodologies.

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