March 20, 2012 / 6:07 PM / 5 years ago

TEXT-S&P rates Great Atlantic & Pacific Tea Co 'B-'

March 20 - Overview	
     -- U.S.-based grocery chain The Great Atlantic & Pacific Tea Co. Inc. 	
(A&P) emerged from bankruptcy and closed on its exit financing, including a 	
$270 million senior secured term loan and $490 million of debt and equity 	
financing from an investor group. 	
     -- We are assigning a 'B-' corporate credit rating to the company and a 	
'B+' issue-level rating with a '1' recovery rating to the senior secured term 	
loan.	
     -- The negative outlook incorporates our belief that A&P may not improve 	
operating profits such that it will be able to fund cash interest costs and 	
needed capital spending on a sustained basis in the future. 	
 	
Rating Action	
On March 20, 2012, 2012, Standard & Poor's Ratings Services assigned a 'B-' 	
corporate credit rating to Montvale, N.J.-based The Great Atlantic & Pacific 	
Tea Co. Inc. (A&P). At the same time, we assigned a 'B+' issue-level
rating (two notches above the corporate credit rating) and a '1' recovery rating
to the company's $270 million senior secured term loan. The '1' recovery rating 	
incorporates our expectation of very high (90% to 100%) recovery of principal 	
in the event of a default by the company. The outlook is negative. 	
 	
Rationale	
The rating reflects our view that the company will maintain "adequate" 	
liquidity (based on our criteria) in the near term and our belief that A&P has 	
the potential to improve operating performance such that it will be able to 	
sustain its postemergence capital structure. The view also incorporates our 	
expectation that A&P can grow profits to fund cash interest and capital 	
spending with operating cash flows. We believe that A&P lowered certain costs 	
during its reorganization, and these efforts will improve the company's 	
profitability in the near term. Despite these actions, we anticipate that A&P 	
will still have weaker operating metrics than many industry peers. We also 	
believe that A&P may also be susceptible to weak economic conditions and 	
industry competition, and sales declines could offset the operational 	
improvements. As a result of these factors, we assess the company's business 	
risk profile as "vulnerable." We also view the company's financial risk as 	
"highly leveraged," as a result of our forecasted credit ratios. Nonetheless, 	
we realize that the company's relatively low cash interest burden provides the 	
company some financial flexibility.  	
	
We believe actions A&P has taken during its reorganization will benefit the 	
company's operating performance during 2012. During its reorganization, A&P 	
took actions to improve its cost structure considerably, including 	
renegotiating its supply contract and reducing labor costs as a result of 	
agreements with its various labor unions. We also expect A&P to receive more 	
favorable terms with vendors upon emergence, which should lead to some gross 	
margin enhancement. We believe the company's various initiatives to improve 	
in-store execution, pricing, and merchandising should enhance sales and 	
customer experience over time. Although these actions may lead to success in 	
the future, we do not assume an immediate sales gain in 2012, and forecast 	
relatively flat sales over the next year; however, we expect improvement 	
thereafter. Below are our more detailed assumptions of the company's operating 	
performance over the next two years, which is the basis for our ratings 	
decision:	
     -- Relatively flat sales in 2012 and a 2% to 3% increase in 2013, from 	
higher comparable-store sales.	
     -- Overall EBITDA margins to be moderately under 2% in 2012 and near 2.5% 	
in 2013.	
     -- This would lead to EBITDA of approximately $120 million in 2012 and 	
about $180 million in 2013.	
 	
This performance scenario would lead to the following credit ratios at the end 	
of 2013 and cash flow dynamics over the next two years:	
     -- We expect that the company will fund some of its capital spending with 	
excess liquidity in 2012, and will be cash flow-neutral in 2013.	
     -- At the end of 2013, adjusted debt to EBITDA will be in the mid-7x 	
range. Our debt and adjusted debt include the company's first-lien term loan, 	
second- and third-lien notes (we assumed that the second-lien notes will 	
accumulate pay-in-kind interest over the next two years), the present value of 	
operating lease commitments, a tax-adjusted self insurance liability, and an 	
estimate of the company's multiemployer plan liability). 	
     -- Funds from operations (FFO) to adjusted debt of approximately 12%.	
 	
These resulting ratios are in line with highly leveraged financial risk 	
profiles. 	
	
We believe that the total effect and timing of the company's various 	
initiatives will likely be uneven and somewhat difficult to predict. As such, 	
we believe that there is a wide range of possible performance scenarios and 	
credit ratios over the next two years. Nonetheless, even in our most 	
optimistic expected performance scenarios, we would expect the company's 	
credit ratios to remain in line with indicative ratios of highly leveraged 	
financial risk profiles. Conversely, in our anticipated downside scenarios, we 	
still expect the company to have the liquidity resources to fund 	
administrative costs and the capital spending associated with its operational 	
initiatives over the next two years.	
 	
Liquidity	
We view A&P's liquidity as adequate, and we forecast sources of liquidity to 	
be greater than its uses over the next two years by a ratio of 1.2x. We expect 	
sources to include $60 million to $70 million of excess cash, available 	
borrowings on the company's $375 million revolving credit facility, and FFO in 	
2012 between $70 million and $80 million. We primarily expect cash uses to 	
include working capital needs and capital spending in the range of $100 	
million to $135 million. 	
	
Relevant aspects of A&P's liquidity, in our view, are as follows:	
     -- We expect coverage of uses by sources to exceed 1.2x for the next two 	
years.	
     -- We expect that sources would exceed uses, even with a 15% drop in 	
forecasted EBITDA.	
     -- We anticipate that the company will have adequate headroom over 	
maintenance financial covenants and the company will not have to comply with 	
maintenance financial covenants over the next year.	
     -- No near-term maturities or amortizations.	
 	
Over the next year, we expect the company to use available liquidity sources 	
to fund capital spending in 2012, but also believe that it could manage 	
capital spending so that it is cash flow-neutral. In 2013 and beyond, we 	
expect that the company will fund capital spending with cash flow from 	
operations. The company may elect to pay cash interest on its second-lien 	
notes if operating performance improves more than we anticipate. Thus, we do 	
not expect the company to generate meaningful excess cash flow in the near or 	
intermediate term.	
	
Recovery analysis	
For the complete recovery analysis, please see our recovery report on Great 	
Atlantic & Pacific Tea Co. Inc., to be published as soon as possible following 	
this report on RatingsDirect.	
 	
Outlook	
The outlook is negative, indicating that we may lower the company's rating if 	
it cannot generate sufficient cash to fund cash interest costs (of both its 	
first-lien term loan and second-lien notes) and the necessary capital spending 	
with operating cash flows in the near term. We believe that EBITDA needs to be 	
in the range of $160 million to $190 million to successfully do so. Although 	
there are several factors that could inhibit the company from reaching this 	
level of profitability, we believe that if the company's sales trends are 	
considerably negative in 2012 or flat or slightly negative throughout 2012 and 	
into 2013, A&P won't reach that level of EBITDA. In either of those cases, we 	
would likely lower our ratings. On the other hand, we would consider a stable 	
outlook if EBITDA improved to the aforementioned range, and we were 	
comfortable that the sales and operating trends would lead to a consistent 	
performance.	
 	
Related Criteria And Research	
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011	
     -- Business Risk/Financial Risk Matrix Expanded, May 27, 2009	
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008	
 	
Ratings List	
	
New Rating; Outlook Action	
                                        To                 	
Great Atlantic & Pacific Tea Co. Inc. (The)	
 Corporate Credit Rating                B-/Negative/--    	
	
New Ratings	
	
Great Atlantic & Pacific Tea Co. Inc. (The)	
 Senior Secured                         B+	
   Recovery Rating                      1	
	
Complete ratings information is available to subscribers of RatingsDirect on 	
the Global Credit Portal at www.globalcreditportal.com. All ratings affected 	
by this rating action can be found on Standard & Poor's public Web site at 	
www.standardandpoors.com. Use the Ratings search box located in the left 	
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