September 29, 2017 / 3:44 PM / a year ago

Fitch Affirms Dufry at 'BB-'; Withdraws Ratings

(The following statement was released by the rating agency) FRANKFURT/LONDON, September 29 (Fitch) Fitch Ratings has affirmed Swiss retail group Dufry AG's Long-Term Issuer Default Rating (IDR) at 'BB-' with Stable Outlook and Dufry Finance SCA's senior notes at 'BB-' and simultaneously withdrawn the ratings. The affirmation reflects Dufry's stable trading performance in line with Fitch's expectations of strengthening cash flows, which would allow deleveraging towards 5.0x on funds from operations (FFO)-adjusted gross leverage basis. Fitch has chosen to withdraw the ratings for commercial reasons. Accordingly, Fitch will no longer provide ratings or analytical coverage of the issuer and its financing instruments. KEY RATING DRIVERS Accelerating Organic Growth: Fitch projects low single-digit organic growth for Dufry's operations, supported by the implementation of the business operating model (BOM) to stimulate sales and operating margins. The company's plan to explore the benefits of digitalisation, which has become indispensable in traditional retail and under-utilised in travel retail, as well as the active management of customer data will help mobilise incremental sales. Realisation of additional synergies of CHF20 million through streamlining of certain corporate functions and business processes would add up to 50bp to the EBITDA margin in the medium term. Supportive Macro-Economic Environment: A generally stable macro-economic environment with strong performance in the developed markets in combination with improving consumer confidence in the emerging markets along with stabilisation of the national currencies, particularly in Latin America and Russia, should provide additional impetus for growth. The lift of travel ban for Russian tourists going to Turkey has reversed the regional performance to positive in 2H16, supporting our expectations of a strong 2017 trading performance. Focus on Execution: The Stable Outlook reflects the evidence of adequate execution skills of Dufry's management and their adherence to stated financial policies. The disciplined integration of two transformational acquisitions, with fully realised synergies, provides confidence in the timely implementation of operational improvement measures contained in the BOM. An early redemption of the USD500 million senior notes in December 2016 signals Dufry's commitment to the internal leverage target of 3.0x. An inability to improve operating performance by end-2018 as planned, coupled with stalling deleveraging, would put ratings under pressure. Leverage Still Stretched: Projected FFO-adjusted gross leverage of 5.9x at end-2017 remains an outlier for an IDR of 'BB-', but is in line with a lower non-investment grade for the retail sector. In the absence of contractual debt amortisation, deleveraging relies solely on Dufry's ability to continuously improve sales and operating margins. Through the implementation of sales- and profitability-strengthening initiatives outlined in the BOM, we project FFO-adjusted gross leverage will reduce towards 5.0x by 2020, and become more comfortable for the rating. For the purpose of FFO-adjusted leverage calculation, Fitch capitalises only the minimum guarantee payments under the concession contracts estimated at 5% of sales multiplied by 8. Modified FFO Fixed-Charge Cover Ratio: In line with the change to the calculation of the FFO fixed-charge cover introduced by Fitch in 2016, the agency continues to capitalise the entire amount of concession fees. The resulting ratio of 1.3x is materially below peers' in the 'BB' rating category for the sector. However, we consider the ratio of 1.3x in the context of largely flexible concession fees, linked to Dufry's underlying operating performance, which does not imply constrained financial flexibility for the company. On the contrary we expect greater resilience of the cover ratio through the economic cycle as both sales and concession fees would decline, albeit not in parallel. Due to its expected stability through the cycle, the modified FFO fixed-charge cover levels have no impact on the ratings. Further Acquisitions Likely: Fitch views bolt-on acquisitions as part of Dufry's business development strategy. We have therefore included in our rating case an annual acquisition budget of CHF200 million starting in 2018, after Dufry has fully absorbed the transformational acquisitions of recent years. Larger acquisitions would be considered as event risk. DERIVATION SUMMARY The 'BB-' IDR of Dufry reflects a low investment-grade business risk profile, as evident in its scale, the quality of its concession portfolio and strong cash flow generation, but which is constrained by high indebtedness that is more in line with the 'B' rating category. Similarly to traditional retailers, Dufry is exposed to changes in consumer confidence, or volume risk, expressed in the number of travellers, while carrying little price risk as the company benefits from the captive and generally more affluent air travel audience. At the same time, travel retailers tend to be more cyclical and seasonal than conventional general retailers. The uniqueness of Dufry's operations is the largely flexible cost of the company's concessions, linked to certain operating performance parameters such as sales. Such flexibility allows the company to maintain an FFO fixed charge cover ratio at around 1.3x, without compromising its financial flexibility. KEY ASSUMPTIONS Fitch's key assumptions within the rating case for Dufry include: - Annual organic growth of 3%-4% until 2020; - EBITDA margin gradually improving towards 13% in the medium term; - Capex at 3.5% of sales, in line with management guidance; - Common dividends assumed at CHF100 million-CHF200 million per annum based on the results of 2018 when we project Dufry will approach its net leverage target of 3.0x; - Minority dividends of 5% of EBITDA; - Net trade working capital rising in line with sales, leading to an average cash outflow of CHF20 million p.a.; - Bank debt maturing in July 2019 assumed to be refinanced at maturity on the same terms; and - Add-on acquisitions of CHF200 million per annum from 2018. RATING SENSITIVITIES Not applicable LIQUIDITY Comfortable Liquidity, Low Refinancing Risk: Fitch projects comfortable organic liquidity of CHF300 million to CHF400 million per annum, leading to average non-restricted cash reserves of CHF350 million until 2020. According to management guidance, cash drawdown under the revolving credit facility of CHF372 million at end-2016 will be reduced to zero during 2017. Restricted cash reserves have been kept at CHF100 million. In light of ready access to public debt and equity markets, and investors' familiarity with Dufry's business model, refinancing risk is viewed as low by Fitch. Contact: Primary Analyst Maggie Cheng Associate Director, CFA +44 20 3530 1689 Supervisory Analyst Elena Stock Director +49 69 76 80 76 135 Fitch Deutschland GmbH Neue Mainzer Strasse 46-50 D-60311 Frankfurt am Main Committee Chairperson Pablo Mazzini Senior Director +44 20 3530 1021 Media Relations: Adrian Simpson, London, Tel: +44 203 530 1010, Email: Summary of Financial Statement Adjustments - Financial debt adjusted by fixed rental obligations payable under concession agreements assumed at 5% of sales, multiplied by 8.0x - Reported cash reduced by CHF100 million as minimum cash required for operations which cannot be used for debt service - EBITDA excludes associate income of CHF4 million - FFO excludes net result from non-controlling interest of CHF44 million - One-off payment of CHF14 million in connection with early redemption of senior notes of USD500 million in December 2016 excluded from interest paid and added to other investing and financing cash flow items. 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