S&P: German Auto Supplier Schaeffler Upgraded To 'BB+' On Further Deleveraging At Schaeffler AG; Outlook Stable
At the same time, we have raised to 'BB+' from 'BB' the issue ratings on Schaeffler Finance B. V.'s senior secured notes ($700 million 4.25% senior secured notes due 2021, €500 million 3.5% senior secured notes due 2022, €400 million 2.5% senior secured notes due 2020, $600 million 4.75% senior secured notes due 2023, and €600 million 3.25% senior secured notes due 2025). The recovery rating on these debt instruments is '3', reflecting our expectations of meaningful recovery, in the higher half of the 50%-70% range, in the event of a payment default.
We have also raised to 'BB-' from 'B+' the issue ratings on SVZ (to be renamed IHO Verwaltungs GmbH) recently issued payment in kind (PIK) toggle notes: €750 million notes and $500 million notes due 2021, €750 million notes and $500 million notes due 2023, €750 million notes and $500 million notes due 2026. The recovery rating on these debt instruments is '6', indicating our expectations of negligible (0%-10%) recovery in the event of a payment default.
The upgrade follow Schaeffler's announcement that Schaeffler Verwaltung Zwei GmbH (SVZ; to be renamed IHO Verwaltungs GmbH) has placed €3.6 billion of new bonds and will use €1.7 billion to fully repay Schaeffler AG's loan notes. Schaeffler AG will use the proceeds to reduce its debt. The transaction volume and debt reduction at Schaeffler AG is about €1 billion higher than we initially expected and has therefore led us to revise our previous assessment.
The transaction will further reduce interest costs for Schaeffler group. Specifically, we anticipate that the group's funds from operations (FFO) to debt will now be about 20% at year-end 2016 at the combined operating and holding level, compared with our previous expectation of about 15%-20% for 2016. For 2017, we expect ratios at the group level to be about 25%.
We continue to apply our group rating methodology to Schaeffler AG due to strong ties to the Schaeffler group. Nevertheless, we have changed our assessment of Schaeffler AG within the group to highly strategic from core, primarily because of the fall away of cross-default language for the credit facilities at the SVZ level. In addition, we do not delink Schaeffler AG from the group since INA-Holding Schaeffler GmbH & Co. KG preserves control of the group through its indirect 75% capital stake in Schaeffler AG and 100% voting rights. In addition, we do not apply our investment holding criteria to Schaeffler group as the company is only active in two industries (automotive and industrial) and not in three as requested by our criteria.
We equalize our corporate credit rating on Schaeffler AG with our group credit profile (GCP) for the Schaeffler group. We calculate our group credit ratios based on consolidated INA-Holding Schaeffler GmbH & Co. KG (Schaeffler group) accounts with its 46% stake in Continental at equity.
We expect SVZ to change its name to IHO Verwaltungs GmbH. Renaming will only become effective in September or October 2016, subject to entry in the commercial register. In this report we refer to SVZ.
We have revised upward our assessment of Schaeffler AG's stand-alone credit profile (SACP) by one notch to 'bbb-', reflecting significantly lower debt levels after the expected €1.7 billion debt repayment. The SACP remains one notch above the GCP for the group, reflecting lower leverage at the operating company. We expect Schaeffler AG will have about €4.2 billion less debt at year-end 2016 than the Schaeffler group. Our assessment of the SACP reflects an unchanged satisfactory business risk and revised significant financial risk profile. We no longer apply a positive comparable rating modifier.
The stable outlook reflects our opinion that the Schaeffler group will maintain a strong operating performance in 2016-2017, including an adjusted EBITDA margin of approximately 18%. We view adjusted FFO to debt of about 25% and debt to EBITDA below 3.0x as being in line with our 'BB+' rating. This is at Schaeffler group level, including debt at SVZ.
We would likely lower the rating if Schaeffler group meaningfully underperformed our base-case expectations, with FFO to debt falling sustainably below 20%. This scenario could unfold as a result of a significant slowdown in emerging countries as well as developed economies, or if the group experienced pronounced cuts in orders from some of its larger customers.
We could raise the rating if Schaeffler group further reduced debt and strengthened its FOCF generation. This could occur if the group's credit profile strengthened, with FFO to debt consistently well above 30% and debt to EBITDA below 2.0x.