Fitch Affirms Carrefour at 'BBB+'; Outlook Stable
OREANDA-NEWS. Fitch Ratings has affirmed Carrefour S.A.'s (Carrefour) Long-Term Issuer Default Rating (IDR) and senior unsecured rating at 'BBB+'. The Outlook on the Long-Term IDR is Stable.
The ratings reflect Carrefour's strong business fundamentals, which compensate for a still weak financial profile for the rating level. Carrefour has been ahead of the sector in terms of re-modelling its business profile, disposing of non-core activities and de-leveraging its balance sheet. Fitch continues to believe Carrefour's sound business profile should help strengthen the group's financial metrics in the medium term to levels that are closer to 'BBB' category peers by end-2018.
The group enjoys the benefits of its large scale and well-balanced geographical diversification, which enhance its operating performance prospects. Our view is supported by management's consolidation strategy in existing countries through bolt-on acquisitions while accelerating the deployment of its multi-format and multi-channel strategy.
Following a halt in 2015 as a result of the ongoing integration of DIA in France and the restructuring of the Chinese operations, we expect the group to accelerate its deleveraging process in the coming years. This should be driven by a steady increase in funds flow from operations (FFO), as the DIA stores network returns to profit and the non-French European operations continue to recover, while the French and Latin American operations continue to show good resilience.
KEY RATING DRIVERS
Resilient Performance in France
We expect Carrefour's core French operations, which represented nearly 50% of the group's EBIT in 2015, to see limited growth in revenues and EBIT in 2016. The hypermarket business remains under pressure from keen price competition continuing in the sector (including promotions) and as the bulk of the DIA network is being converted to Carrefour banners. Over the medium term Fitch forecasts the DIA stores will reinforce Carrefour's convenience store network in France, keeping it at the forefront of this growing retail sub-sector.
Healthy Geographic Diversification
Fitch forecasts the group's European (non-French) operations to keep growing their contribution to the group's revenues and EBIT. This should be sufficient to offset any slowdown in contribution from Brazil (75% of 2015 Latin American sales, equating to 18% of group sales) and recurring weakness in China despite ongoing business repositioning. The increase in European revenues and profits should be driven by ongoing recovery in consumer confidence as well as management's past restructuring measures to improve their competitiveness, notably in Spain and Italy.
The group's bolt-on acquisition strategy (eg. DIA and 'Rue du Commerce' in France, and recent acquisitions in Italy, Romania and Spain) has improved the balance of its country coverage and format mix, while reinforcing the group's market shares in existing geographies. This represents a significant boost to the business model and confirms our view that diversification benefits remain a key anchor to the ratings. Any new M&A that fits into Carrefour's strategic stance, if conservatively funded, will likely be supportive of the ratings.
Profitability to Improve
Carrefour's profit margins are weak relative to rated food retail peers, constrained by a heavy representation of hypermarket operations. Group EBIT margin stagnated at 3.1% in 2015, but Fitch expects this to increase towards 3.5% over the next three years. This improvement should be supported by the continuing recovery of the group's European operations (where EBIT margin has already grown 70 bps yoy to 2.9% in 2015) as well as the progressive conversion of the DIA stores. Fitch assumes continued resilience in the group's French hyper- and super-market formats and Brazilian operations, as seen in 2015.
Free Cash Flow Enhancement
Fitch forecasts that cash flow from operations (CFO) in 2016 will not suffice to fully cover the group's large capex catch-up programme and dividends, particularly if the latter is principally paid in cash as in 2015 (79% of total dividends). Assuming management maintains a conservative policy regarding dividend distribution, we believe that improving sales and profitability, as well as declining restructuring costs, should allow the group to pay dividends fully in cash while generating consistently positive FCF from 2017.
Solid Financial Flexibility
Financial flexibility is supported by the group's strong liquidity, even debt maturity profile, healthy FFO fixed charge cover and financial discipline. Management has a prudent dividend policy and has publicly committed to improving cash flow generation. Financial flexibility further benefits from management's decision to repay over EUR3.7bn of gross debt (33% reduction) between 2012 and 2015.
We project the group's FFO fixed charge cover (estimated 2.3x in 2015 by Fitch, excluding financial services) to improve to 2.9x in 2018, due to higher EBITDA and lower debt costs. Moreover, Carrefour has, as a share of sales, substantial property ownership and low operating lease burden compared with Fitch-rated food retail peers, as well as favourable lease terms.
Financial Profile to Strengthen
Carrefour's main financial weakness remains its high leverage relative to peers for its rating. Group FFO adjusted gross and net leverage ratios (only including from financial services Fitch-estimated dividend contribution and taking into account EUR1.9bn readily available cash in our net debt calculation) at 4.0x and 4.7x at end-2015 were little changed from end-2014. However, Fitch believes the lack of improvement in 2015 is temporary and directly attributable to the integration of the DIA stores (showing negative EBITDA and additional operating lease burden) and the costly repositioning of the group's Chinese operations.
Fitch continues to believe the group enjoys good deleveraging prospects, supported by its strong business profile and strict financial discipline. The 'BBB+' rating assumes steady profit growth and the maintenance of a conservative and strict financial policy (limited increase in dividends and an annual M&A budget of EUR300m on average) will lead to FFO-adjusted gross and net leverage trending lower to levels observed for other sector peers in the 'BBB' category by end-2017.
Fitch's key assumptions within the rating case for Carrefour include:
-Like-for-like sales growth in the low single digits over 2016-2019
-EBIT margin growing towards 3.5% in 2019, from 3.1% in 2015
-EUR2.4bn capex (net of change in payables to asset suppliers) in 2016, EUR2.3bn (around 2.8% of sales) per annum thereafter
-20% of dividends paid in shares in 2016 (vs. 2015's 21% and 2014's 65%); all paid in cash thereafter with limited increase in dividend per share
-FCF-positive in 2017 and steadily growing thereafter
-EUR300m annual spending for bolt-on acquisitions, partially covered by proceeds from asset sales
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
- Evidence of enhanced organic sales growth and sales density resulting in group EBIT margin sustainably above 4% (2015: 3.1%).
- FFO fixed charge cover consistently above 3.5x, excluding financial services (3.7x including financial services) (2015: 2.3x and 2.6x respectively).
- FCF margin consistently at or above 1%.
- FFO-adjusted gross leverage at or below 3.5x; net of readily available cash at 3.0x on a sustained basis, excluding financial services (2015: 4.6x and 4.0x respectively); 3.2x and 2.7x, respectively, including financial services.
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
-Weak organic sales growth resulting in group EBIT margin below 3%.
-FCF-neutral or -negative on a sustained basis.
-FFO adjusted gross leverage above 4.0x; net of readily available cash at 3.5x over the next three years, excluding financial services; 3.7x and 3.2x, respectively, including financial services.
-FFO fixed charge cover consistently below 2.5x (2.8x including financial services).
Carrefour has comfortable liquidity, with EUR1.9bn unrestricted cash at end-2015 (as defined by Fitch stripping out cash that is either restricted or we estimate is used for working capital or for other operational requirements during the year). It has a EUR3.9bn revolving credit facility (fully undrawn at end-2015) as backup for commercial paper issue of up to EUR5bn (none outstanding at end-2015). Carrefour shows a smooth debt repayment schedule with an average bond maturity profile of 4.4 years.