Fitch Changes France's Elior Outlook to Positive, Affirms at 'BB-'
OREANDA-NEWS. Fitch Ratings has affirmed France-based food service company Elior SA's (Elior) Long-term Issuer Default Rating (IDR) at 'BB-'. The ratings of Elior's senior secured credit facilities and Elior Finance & Co. SCA's EUR350m senior secured notes have been downgraded to 'BB' from 'BB+', to align them Fitch's existing recovery ratings methodology. The Outlook on the Long-term IDR is changed to Positive from Stable.
The ratings continue to reflect Elior's large scale, broad product offering, strong customer and business diversification, and the high barriers to entry inherent in the catering sector, where there is a long-term secular trend toward outsourced foodservices. The Positive Outlook is based on our expectation that Elior will generate improved EBITDA and maintain steady profit margins driven by organic growth, particularly in the fast-growing US transport concessions business, and bolt-on acquisitions in 2015 and 2016. The rating is however constrained by the still relatively high leverage, despite the 2014 IPO.
Following its IPO, shareholder dividends will keep FCF generation fairly weak in 2015 and de-leveraging moderate. We expect Fitch-adjusted funds from operations (FFO) gross leverage to reduce moderately to between 4.7x and 4.8x by end-2017, compared with 5.4x at end-2014. We expect interest cover metrics, measured as FFO fixed charge cover, to exceed 3.0x over the rating horizon, which would be strong relative to 'BB' -rated business services focusing on catering and facilities management.
The instrument ratings have been recalibrated further to the publication of the 'Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers' report published in June 2015. Under this methodology Fitch expects superior recovery prospects for senior creditors in case of default resulting in a senior secured rating of 'BB' one notch higher from the IDR.
KEY RATING DRIVERS
We expect a stable and solid operating performance in 2015 and 2016 due to both organic growth and some bolt-on acquisitions. This will be combined with a drive to terminate low-margin contracts and sell non-core activities. Hence we believe EBITDA margins should remain between 8.2% and 8.7% during 2015-2017, in line with sector peers such as Compass Group Plc (A-/Stable) and Sodexo SA (BBB+/Stable).
US Concessions Key Drivers
The group's main focus in 2015 and 2016 will be on the growing US airport and turnpikes concessions markets. Elior is a major player in these sectors and should benefit from its dual strengths in quality food service and cost optimisation to increase its market presence at US airports.
Slowly Improving Credit Metrics
Following the leverage reduction further to the IPO in 2014, we estimate Fitch-adjusted FFO gross leverage at 4.9x for the financial year to September 2015 versus 5.1x at FYE14 post-IPO. We expect leverage to remain below 5.0x thereafter, despite developing concessions in the US requiring capex and expected dividend payments post IPO. The pace and funding of future acquisitions will also determine the deleveraging trajectory and hence the resolution of the positive outlook over the next 12-18 months.
Balanced Business Profile
The ratings continue to reflect Elior's balanced business profile resulting from its broad product offering, strong customer and business diversification, impressive retention rates and high barriers to entry. The group possesses several company-specific traits akin to low investment- grade business services companies such as a broad range of services and customer diversification, as well as a high proportion of contracted revenues and low renewal risk.
Weak FCF Generation
Elior's asset-light nature and low capital intensity should allow it to convert operating profits into positive cash flow before debt service, while interest costs will be materially lower further to the IPO. However, the group has announced a dividend policy of a minimum of 40% of net income. As a result Fitch expects FCF to be mildly positive (around or below 1% of sales) during the next three years. This will limit de-leveraging and improvements to financial flexibility.
Diversified Profit Drivers
Elior's contract catering and support services' segment (representing 73% of FY14 group EBITDA) is a key anchor for the ratings. We expect profitability under these contracts to remain steady in a low inflationary environment, while retaining any productivity improvements. We also expect concession activities, accounting for 27% of group EBITDA, to remain structurally more profitable, albeit more capital-intensive, than contract catering over the next two years.
While Elior's closest peers Compass Group PLC and Sodexo SA have greater exposure both in revenue and profit margin terms to currently difficult emerging markets, despite their long-term growth fundamentals, in our view Elior's rating is constraint by its exposure to an anaemic and only slowly recovering French and Southern European markets. However we acknowledge the opportunities for Elior to exploit further outsourcing in both the public and private sectors, in Europe and US.
Fitch's expectations are based on the agency's internally produced, conservative rating case forecasts. They do not represent the forecasts of rated issuers individually or in aggregate.
Fitch's key assumptions within our rating case for the issuer include:
-Moderate single-digit organic revenue growth and bolt-on acquisitions with turnover of around EUR300m p.a.;
-Steady group operating margin and EBITDA improvement in both contract and concessions catering sectors;
-FCF margin (post dividends) of around (or just below) 1% of sales from 2016;
-Capex of between EUR190m and EUR200m in the next three years;
-Dividends of up to 40% of net income;
-Average annual acquisition spending of EUR100m
Future developments that could, individually or collectively, lead to positive rating action include:
-Additional business diversification, by segment and/or geography, leading to improved revenues and operating profits
-Further deleveraging resulting in FFO adjusted gross leverage below 4.5x on a sustained basis
-FFO fixed charge coverage above 3.0x (FY14: 2.0x) on a sustained basis
-FCF (post dividends) of at least 1% of sales on a sustained basis (FY14: 0.8%)
Future developments that could lead, individually or collectively, to a return to a Stable Outlook include:
-Evidence that underlying businesses are performing below expectations and/or increases in cost base leading to weakness in revenue growth and EBIT or FFO margin down to around 5.0%
-FFO adjusted gross leverage increase above 5.0x on a sustained basis
-FFO fixed charge coverage below 2.7x on a sustained basis
Unrestricted cash of EUR161m at FYE14 (as defined by Fitch), together with access to around EUR520m of undrawn revolving credit facilities post-IPO, is sufficient to address business needs and moderate debt repayments for 2015 and 2016 of around EUR300m.