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Fitch Affirms Premier Foods at 'B'; Outlook Negative
October 23, 2017 / 2:58 PM / 2 months ago

Fitch Affirms Premier Foods at 'B'; Outlook Negative

(The following statement was released by the rating agency) LONDON/MILAN, October 23 (Fitch) Fitch Ratings has affirmed the company's Long-Term Issuer Default Rating (IDR) at 'B' with a Negative Outlook. Premier Food Finance plc's GBP325 million and GBP210 million senior secured fixed-rate notes have been affirmed at 'B' with a Recovery Rating of 'RR4'. The Negative Outlook continues to reflect the challenges that Premier is facing from product competition, downward price pressure from UK retailers and shifting consumer spending patterns while it needs to reduce its leverage. Leverage is currently not compatible with a "B" IDR and despite our expectation of positive annual free cash flow (FCF) generation between the financial year ending in April 2018 (FY18) and FY21, we project that it will remain high. On the positive side, trading performance in the first part of FY18 is demonstrating some recovery as Premier is seeing benefits from its cost-saving initiatives and is starting to pass through to consumers the impact of higher raw-material prices. KEY RATING DRIVERS High Leverage: Premier's FFO-adjusted net leverage was very high at 8.4x at FYE17 and is not commensurate with a 'B' rating. We expect Premier to deleverage to around 6.0x-6.2x by FY19, which would be just outside our negative sensitivity. Offsetting this weakness, we believe that the business profile demonstrates characteristics in line with a mid- to low 'BB' rating category. Premier has some well-known brands, long-term relationships with its customers and good opportunities for international growth, which should support its revenue. Exposure to Challenging UK Market: Fitch estimates an important proportion of Premier's revenue (close to 60%) is generated from the four largest retailers in the UK: Tesco (BB+/Stable), Asda, J Sainsbury's, and Morrisons. These major retailers have pursued a strategy of protecting the spending power of consumers by pressuring their suppliers to absorb higher input costs following the sharp depreciation of sterling in 2016, affecting Premier's FY17 margin. In addition, an ongoing shift in consumer shopping behaviour towards healthier and more authentic products as well as from traditional big retailers to hard discounters, online and convenience stores is challenging Premier's performance. Disappointing FY17 Trading: Premier's operating profit suffered in FY17 from the combination of continuing high investments in advertising and promotions, aimed at supporting the launch of new variants of its products, and from higher input costs. It is rejuvenating its product portfolio with new packaging and offering consumers new ways of consuming its long-established products. It managed to slightly improve its share of the stagnating UK ambient grocery market. Overall revenue growth despite these initiatives is however modest at 2.4% for the year. In FY17 Premier's raw-material cost base grew as a result of the weakening of sterling, but the company managed to only partially pass these increases on during the year, suffering a 9% contraction in EBITDA. Partial Recovery: Similarly to other fast-moving consumer-goods companies (FMCG) in the UK, Premier started in 2017 to pass on some of its higher costs to consumers and this should enable it to partially bring back its EBITDA to FY16 levels. In addition, in order to protect its profit margin, the company aims to deliver GBP20 million in cost savings by FY19. However, in our rating case, we assume Premier's EBIT margin will only marginally recover after its fall to 9.8% in FY17 from FY16's high of 11.8%. At the same time, as the process towards Brexit progresses and the UK leaves the European Union, risks from further downward pressure on consumer spending or a weakening pound remain. Positive Free Cash Flow: mitigating these concerns is Premier's track record of maintaining positive annual free cash flow (FCF) generation. Over FY17-FY21 pension contributions will absorb an important portion of cash generation (approximately GBP50 million pa) but we project they should still leave GBP15-GBP25 million for debt paydown. Supporting FCF generation is the fact that capex is being kept under tight control (at 3% to 4% of revenues) and that its lending documentation prevents it from distributing dividends so long as net debt/EBITDA remains above 3.0x. Leading UK Ambient Food Producer: Premier enjoys a strong position as one of the UK's largest ambient food producers, with an almost 5% share in the fragmented and competitive GBP28.7 billion UK market. It enjoys benefits in manufacturing, logistics and procurement in the UK from its wide range of branded and non-branded food products, but mainly competes in mature segments such as desserts and cakes. This product portfolio, which the company currently has limited financial resources to complement with the entry into higher-growth categories, limits its growth prospects. As a result, Premier relies on continuing its marketing and innovation efforts to protect its market share. DERIVATION SUMMARY Premier Foods is one of the largest UK food producers, selling and distributing a wide range of branded products. Similarly to Labeyrie (NR, withdrawn at 'B-'in August 2017 ), it is exposed to customer concentration, with an important portion of revenues being generated from the "big-four retailers" in the UK. Its operating profit margins are higher than other FMCG peers in the 'B' category, such as Yasar (B/Stable), United Confectioners (B/Stable) and Beluga (B+/Stable). However, Premier's cash-flow generation is more volatile and its leverage is also higher. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - top-line growth of 1.6% in FY18-19, slightly increasing to 1.8% from FY20 onwards; - fairly stable EBITDA margin, only mildly improving compared to FY17, assuming that the company is able to partly pass the increase of input costs on to its customers; - FFO affected from FY17 onwards, by a step-up in pension contributions to over GBP40 million pa following the agreements with its pension trustees (reduced compared to previous forecasts); - low capex, stable at GBP25-27 million (approximately 3% of sales.) RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Move the Outlook to Stable - Trading performance recovering (consistently positive organic revenue growth) and the ability to maintain EBIT margin above 10% after having sufficiently invested in advertising and promotions to protect its market position and drive growth - Visibility that FFO adjusted net leverage is trending towards 6.0x (pension deficit contributions are deducted from FFO) Future Developments That May, Individually or Collectively, Lead to Negative Rating Action - Evidence of weaker pricing power in the UK market - Failure to stabilise performance with continued revenue declines and margin deterioration with EBIT falling below 10% - Neutral to negative FCF on a sustained basis due to profitability erosion, higher or unexpected capex and increases in pension contribution or funding costs - Expectation that FFO adjusted net leverage will remain well above 6.0x in FY19 (pension deficit contributions are deducted from FFO) - FFO fixed charge coverage below 1.8x on a sustained basis LIQUIDITY Adequate Liquidity: Premier Foods' liquidity is supported by its GBP 217 million RCF prolonged to December 2020 and positive projected FCF of GBP26 million in 2018. Fitch expects liquidity to remain adequate after FY17 despite the reduction of the RCF to GBP183 million in FY19, thanks to the positive FCF generation over the forecast horizon. Furthermore, the group is facing only minor scheduled debt repayments before 2021, when the GBP325 million secured fixed notes become due. Thus, we assess refinancing risk as manageable. KEY RECOVERY RATING ASSUMPTIONS The 'B'/'RR4' senior secured rating reflects average recoveries (31%-50%), although at the low end (34%), for senior secured noteholders in the event of default. Fitch assumes that the enterprise value (EV) of the company and the resulting recovery of its creditors (including the pension trustees) would be maximised in a restructuring scenario under our going-concern approach rather than in a liquidation scenario due to the asset-light nature of the business as well as the strength of its brands. Furthermore, a default would probably be triggered by unsustainable financial leverage, possibly as a result of weak consumer spending affecting sales and profits and combined with ongoing punitive pension deficit contributions. Fitch has applied a 25% discount to EBITDA and a distressed EV/EBITDA multiple of 5.0x, reflecting challenging market conditions in the UK and the reliance on a single country, which are partially offset by a portfolio of well-known product brands. Based on the company's agreement with its pension trustees, the notes rank equally with the pension schemes for up to GBP450 million. We have therefore included a GBP450m pension trust claim as a senior obligation in the debt waterfall within our recovery calculation FULL LIST OF RATING ACTIONS Premier Foods plc ? Long-Term IDR affirmed at 'B', Negative Outlook Premier Foods Finance plc ? Senior secured long-term rating affirmed at 'B'/RR4. Contact: Principal Analyst Marialuisa Macchia Associate Director +39 02 879087 213 Supervisory Analyst Giulio Lombardi Senior Director +39 02 879087 214 Fitch Italia S.p.A. 20123 Milano Via Morigi, 6 Committee Chairperson Sophie Coutaux Senior Director +33 1 44 2991 32 Summary of Financial Statement Adjustments Operating leases: Fitch adjusted debt by adding 8x of yearly operating lease (FY17:GBP4million) Debt: Fitch adjusted debt at end-2017 by adding GBP30 million to reflect the average of additional debt drawn intra-year compared with the year-end to accommodate working-capital requirements. Media Relations: Adrian Simpson, London, Tel: +44 203 530 1010, Email: adrian.simpson@fitchratings.com. Additional information is available on www.fitchratings.com. For regulatory purposes in various jurisdictions, the supervisory analyst named above is deemed to be the primary analyst for this issuer; the principal analyst is deemed to be the secondary. 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