Fitch Affirms Peugeot at 'BB'; Outlook Stable
The ratings reflect the continuous improvement of PSA's profitability and cash generation, low leverage and our expectations that this strengthening is sustainable. While we believe that 2H15 and 2016 operating and FCF margins will be weaker than those reported in 1H15, notably because of seasonality, we expect credit metrics to remain commensurate with a 'BB' rating in the foreseeable future, due to the structural improvement of the cost base.
We view PSA's business profile as solidly positioned in the 'BB' rating category although the group remains reliant on Europe and is of a fairly modest size compared with global peers. In particular, PSA has limited potential for synergies on a standalone basis and a strong need for external alliances, notably to lower development costs in a cost- and asset-intensive industry.
The Stable Outlook reflects headroom in the ratings and incorporates an expected moderate weakening of automotive profitability in 2H15 and 2016. We acknowledge the group's significant and rapid progress in implementing its turnaround strategy and cutting costs to lower its breakeven point. However, we also believe that competitive pressures will intensify further as most of PSA's global competitors are also streamlining their cost structures and enhancing their product offering, therefore maintaining pressure on PSA's volume, pricing and the need to ramp up investments.
We do not foresee any direct and immediate impact from the Volkswagen emission test manipulations on PSA. Longer term, however, uncertainty remains about the potential consequences for carmakers of a potential shift from diesel to gasoline engines, hybrid and electric vehicles. Nonetheless, the extent and time frame of these effects on the broad auto industry is unclear at this stage.
KEY RATING DRIVERS
Progress in Restructuring
Strategic measures to streamline the product portfolio and profitably expand international operations as well as cash-preservation and cost-reduction measures have reduced the breakeven point and will support profitability. Fitch projects PSA's automotive operating margin will increase to more than 3% in 2015 from about zero in 2014 and a negative 2.9% in 2013.
FCF was robust at EUR0.9bn in 2014 and EUR2.7bn in 1H15, in contrast with cash absorption of EUR1.3bn in 2013 and EUR3.3bn in 2012. It was supported by the strengthening of underlying funds from operations (FFO), substantial EUR1bn and EUR0.9bn inflows from working-capital improvements in 2014 and 1H15, respectively, and controlled investments. We expect a reversal of working capital and higher capex to absorb FFO in 2H15, but project FCF margin will remain solid at 1.5%-2% in 2015 and 2016.
We expect FFO adjusted net leverage to decline to less than 1x at end-2015 and about zero by end-2017 from 1.6x at end-2014 and 4.9x at end-2013. This will be driven by positive FCF, the creation of a JV with Santander releasing equity from Banque PSA Finance, the issue of warrants and the conversion of a convertible bond by early 2016. This should offset restructuring expenses, accelerated capex and the potential resumption of dividend over the medium term.
Modest Sales Recovery
We expect revenue growth to be supported by on-going market recovery in Europe. However, the Chinese market, PSA's largest market, is decelerating and we expect further challenges in Latin America and Russia. Longer term, the group's strategy includes a smaller product range and smaller discounts, which could hinder substantial volume growth.
Weak Competitive Position
Despite continuous improvement, PSA's sales remain biased toward the European market and the mass-market small and medium car segments, where competition and price pressure are fiercest. Competition is also intensifying in foreign markets into which PSA has diversified, including Latin America, Russia and China.
The French state and Dongfeng Motor have become majority shareholders of PSA, in line with the Peugeot family, each with a stake of 13.75%. The capital increase has benefited the financial profile but the new shareholding structure may present some challenges in aligning the potentially divergent interests of the various shareholders.
Fitch's key assumptions within the rating case for PSA include:
-Industrial operations revenue up by more than 5% in 2015, and by a further 2.5%-3% in 2016-2017;
-Auto operating margin increasing to about 3% in 2015-2016 and towards 3.5% in 2017;
-Capex to increase to about EUR3bn;
-No dividend paid in 2015-2016;
-Cash restructuring costs of about EUR2bn over 2015-2017.
Future developments that may, individually or collectively, lead to positive rating action include
-Larger scale and further diversification in sales, combined with a track record of:
-Automotive operating margins above 3% (2014: 0.2%, 2015E: 3.2%, 2016E: 2.9%)
-FCF margin above 1.5% (2014: 1.8%, 2015E: 1.8%, 2016E: 1.5%)
-FFO adjusted net leverage below 1x (2014: 1.6x, 2015E: 0.7x, 2016E: 0.1x)
-Cash flow from operations (CFO)/adjusted debt above 40% (2014: 28%, 2015E: 46%, 2016E: 53%)
Future developments that may, individually or collectively, lead to negative rating action include
-Automotive operating margins below 2%
-FCF margin below 1%
-FFO adjusted net leverage above 2x
-CFO/adjusted debt below 25%
Liquidity remains healthy, including EUR10bn of readily available cash and securities for its industrial operations at end-1H15, including Fitch's adjustments. In addition, committed credit lines of EUR3bn at PSA maturing in 2017 and 2019 and EUR1.2bn at Faurecia were undrawn at end-2014.