January 9 (SeeNews) - Moody's Investor Services said it has downgraded its corporate family rating (CFR) of Croatian retailer and food manufacturer Agrokor to B3 from B2 and its probability of default rating (PDR) to B3-PD from B1-PD.
At the same time, Moody's has downgraded the senior unsecured rating assigned to the notes issued by Agrokor and due in 2019 and 2020 to B3 from B2. The outlook on all ratings is stable, the rating's agency said in a statement last week.
"The downgrade reflects our view that Agrokor is not likely to restore credit ratios in line with our previous requirements for a B2 rating in light of the deterioration in operating performance that occurred during the first nine months of 2016", Vincent Gusdorf, vice president -- senior analyst at Moody's is quoted as saying. "However, the stable outlook reflects our expectations that Agrokor will stabilize its earnings over the next 12 months despite fierce competition in Croatia and Slovenia", he added.
Moody's also said in the statement:
"Moody's forecasts that the adjusted debt to EBITDA of the Agrokor group will reach 6.8x at the end of 2016 and 6.9x in 2017, and 6.2x and 6.3x for the restricted group. This compares with our previous expectations of a Moody's-adjusted leverage ratio of below 5.5x to maintain the rating at B2. The rating agency also believes that slow earnings growth will constrain deleveraging over the next 12 months at constant scope.
Agrokor has low interest coverage ratios. Moody's forecasts that its adjusted EBITDA-to-interest ratio will remain at just 2x over the next 12 months and that Moody's-adjusted EBIT-to-interest ratio will stay at about 1x, a level which is deemed low for a rating in the single B category.
High capital expenditures and interest expenses weigh on Agrokor's cash flow generation. Although Moody's estimates that Agrokor will post about HRK700 million of positive free cash flows (as defined by Moody's) in 2016 thanks to a reduction of working capital, the rating agency forecasts that free cash flows will be close to zero in 2017 and in 2018. In addition, the historically high free cash flow generation forecasted in 2016 will translate into a free cash flow-to-debt ratio of only 2%, which is low for a B2 rating. That said, Moody's cautions that Agrokor's cash flow generation is somewhat difficult to assess with accuracy considering that the company's consolidated cash flow statement includes several undisclosed non-cash items.
Moreover, Moody's has recently revised its assessment on the PIK toggle loans issued by its holding company Adria (unrated) and has decided to include them in its adjusted debt calculation even though they sit above the restricted group. This is because the new documentation of certain bank facilities refinanced between September and November 2016 indicate that the outstanding loans may become immediately due and payable if the PIK toggle loans are not refinanced by 8 March 2018. This is tantamount to a cross acceleration provision, in our view. The PIK toggle loans also mature before the bank facilities of the restricted group, which come due between 2018 and 2021.
The inclusion of the PIK Toggle loans to Agrokor's Moody's-adjusted debt adds approximately 0.7x to its leverage ratio. Excluding this adjustment, Agrokor's debt-to-EBITDA stood at 6.0x at the group level on 30 September 2016 and at 5.6x at the restricted group level and are not expected to improve over the next 12 months. These levels are no longer commensurate with our prior expectations for the B2 rating of below 5.5x.
Moody's now views Agrokor's liquidity position as adequate. In November 2016, it agreed with VTB Bank (Austria) (unrated) to postpone the maturity of €340 million worth of debt. This follows the extension in maturity of €500 million worth of debt issued by a pool of large international banks which was announced last September. In both transactions, Agrokor increased its debt maturities by two to three years and, as a result, the majority of the debt repayments will occur after 2019. Having said that, and in light of the provision presently included in Agrokor's credit agreements, failing to refinance the PIK toggle loans issued by Adria by 8 March 2018 could trigger an acceleration of certain of the bank facilities.
Agrokor's external sources of liquidity are limited. It has no committed credit facilities maturing beyond 12 months although it has access to short-term bilateral facilities. Agrokor has set up a commercial paper program of $500 million but its availability is subject to market conditions.
RATIONALE FOR THE STABLE OUTLOOK
The stable outlook reflects our view that Agrokor will gradually stabilize its consolidated EBITDA in the coming quarters thanks to better economic conditions and higher traffic. It is also based on the assumption that the company will maintain an adequate liquidity profile and that it will refinance the PIK toggle loans issued by Adria in a timely manner. The B3 rating does not incorporate any additional debt-funded acquisition.
WHAT COULD CHANGE THE RATING -- UP/DOWN
Moody's could upgrade Agrokor's ratings if it managed to reduce its Moody's-adjusted debt-to-EBITDA ratio below 5.5x. Such a scenario could unfold for instance if further improvement in economic conditions combined with market share gains led to a substantial increase in EBITDA.
However Moody's cautions that upward pressure would also be subject to potential changes in the group structure. For instance, we may revise our debt-to-EBITDA target if the creation of large minorities would decrease the cash flows available to service debt.
Moody's could downgrade the ratings if Agrokor's Moody's-adjusted EBITA-to-interest expense ratio fell substantially below 1.0x. Moody's could also lower Agrokor's ratings if it failed to curb the deterioration of its EBITDA or if free cash flows become significantly negative. Any weakening of the company's liquidity profile could also trigger a downgrade."