Fitch: Carrefour's and Casino's Different Rating Trajectories to Continue
Carrefour has lower operating margins, but is progressing well in its business transformation process, particularly in its home French market, and also benefits from lower leverage due partly to non-core business disposals, which helped reduce gross debt by 27% or EUR3.2bn between 2011 and 2014. The combination leads to a strong investment grade rating.
Casino has higher operating margins, notably due to a greater exposure to emerging markets and non-food sales. However, it has taken a different approach to its own business re-engineering with a higher reliance on corporate restructuring and acquisitions through share purchases, leading to a weaker financial profile. The latter is a key driver of the current 'BBB-' rating.
Apart from some recent and fairly modest bolt-on acquisitions such as DIA France and stores in Italy, Carrefour is now focused on organic growth. Management has been notably successful at turning around the group's French operations. The company was one of the first European food retailers to evolve a distinctive pricing strategy based on a discounted basket of prices combined with a sustained marketing campaign.
The proceeds of Carrefour's 2012-2013 comprehensive asset disposals plan have been used to pay down debt and to re-invest in the group's pricing strategy, together with a thorough store refurbishment programme. Its French activities have now recorded three straight years of organic sales growth while EBIT increased 40% between 2011 and 2014. Fitch expects these positive trends to continue over the next two years.
Casino has taken a different approach to growth, doubling the size of its operations, while diversifying and strengthening its store formats across the value spectrum. The integration of Companhia Brasileira de Distribuicao S.A. (CBD) (AA+(bra)/Stable) in Brazil and Monoprix in France has significantly increased the group's business scale and diversification. Casino has also significantly repositioned its pricing in France and managed to restore organic sales growth in 2Q15 (up 0.4%). Price cuts in 2014 have so far contributed to reducing French operational margins. However, with now increased footfall and volumes we expect margins to improve in 2H15.
Carrefour's and Casino's respective activities in Brazil further underline the differing business approaches of the two companies. In this country, Carrefour has concentrated on food retail, while Casino has both food and non-food presence, the latter mostly through its consumer electronics subsidiary Via Varejo. Non-food retail activities are in the short-term more sensitive than food retail to the economic environment even though they both share equally positive long-term fundamentals.
Carrefour's focus on food retail in Brazil has paid off with Latam revenues increasing 12.4% on a current exchange rate basis and operating profit by 20% in 1H15, while Casino has been hit hard by its exposure to consumer electronics with Latam revenues and operating profit down 0.5% and 20% respectively in 1H15. Via Varejo's operating profit fell 31% in the same period, in turn leading to Casino's Latam operating profit (excluding e-commerce) dropping by 20%. As the current uncertain economic environment leads consumers to shun more expensive discretionary spending, we do not expect meaningful improvement in Casino's Brazilian performance in 2H15.
The differing approaches are also seen in their respective leverage profiles. Casino's deleveraging plan, started in 2014, is aimed at reducing the impact of the CBD and Monoprix share acquisitions but has so far had a limited impact on its lease-adjusted funds from operations (FFO) net leverage, primarily due to lower-than-expected proceeds from Cnova's November 2014 partial IPO. We forecast it will remain at around 4.0x-4.5x in 2015 due to a weak Brazil and lack of meaningful recovery in France, higher than we would expect for a 'BBB-' rating. Casino's ability to return to leverage levels that are more in line with its investment grade status will depend on its operational performance but also on its ability to complete a number of financial transactions.
Carrefour's main weakness is also its fairly high leverage for the rating (FFO lease adjusted net leverage (excluding financial services) of 4.1x at end-2014). However, Fitch believes the group has stronger deleveraging prospects than Casino, supported by its enhanced business profile and strict financial control. The 'BBB+' rating assumes that further profit growth and strengthening free cash flow would lead to a FFO net leverage of 3.5x by end-2017, a level more consistent with the 'BBB' rating category median for the sector.