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Fitch Revises O'key Group's Outlook to Stable; Affirms at 'B+'
December 8, 2014 / 4:32 PM / 3 years ago

Fitch Revises O'key Group's Outlook to Stable; Affirms at 'B+'

(The following statement was released by the rating agency) LONDON/MOSCOW, December 08 (Fitch) Fitch Ratings has revised Russia-based food retailer O'key Group S.A.'s (O'key) Outlook to Stable from Positive. Its foreign and local currency Long-term Issuer Default Ratings (IDRs) have been affirmed at 'B+'. Fitch has also affirmed LLC O'key's senior unsecured debt at 'B+' /'A(rus)' with a Recovery Rating of 'RR4'. The National Long-term rating has been affirmed at 'A(rus)'. The revision in the Outlook to Stable reflects weaker-than-expected credit metrics for the next three years as O'key's stable operating performance is offset by a weak consumer and competitive environment in the Russian retail sector. It also reflects execution risks around the imminent launch of O'key's new convenience store format, accelerated store openings in 2015 and a change in management during 2014. The ratings continue to reflect O'key's strong positioning in the growing hypermarket food retail segment in Russia, sound credit metrics, high profit margins and growing presence across Russia's regions. This is balanced with the group's small scale (seventh-largest) compared with other listed and international leading food retailers in Russia. KEY RATING DRIVERS Weaker-than-expected Credit Metrics Although O'Key achieved steady credit metrics in FY13, we expect the planned launch of the new convenience store format together with the accelerated store openings in 2015 to lead to weaker expected credit metrics in 2014-2015 than we previously expected. We project gross funds from operations (FFO) adjusted leverage of between 4.0x and 4.3x for FY14 to FY17, from 3.25x in FY13, albeit still commensurate with the ratings. Similarly, we project FFO fixed charge cover will deteriorate to between 2.0x and 2.4x for FY14 to FY17 (FY13: 2.8x). Change in Management Team In 2014, the company has undergone a few major changes in its management team. Tony Maher was appointed the company's Chief Executive Officer in February 2014, succeeding Patrick Longuet who had been with O'key for the past seven years. Also, a new Commercial Director, Angelo Turati, was appointed in October 2014. Although these individuals come with vast industry experience and have in-depth knowledge of the Russian market, we believe there are execution risks in managing step changes to the company's strategy, which include changes to logistics and expansion plans, amid a challenging trading environment. Tougher Retail Competition in Russia O'key will face more intense competition from major market players, who have also aggressive expansion plans and have targeted hypermarkets as one of their areas of growth. Additionally as pricing remains a major factor for Russian consumers, further expansion from competitors will translate into pressure on retailers' operating margins, especially if the Russian consumer environment remains subdued in 2015. Although O'key has been successful in one of the most competitive regions in Russia (St. Petersburg - 45% of group sales in 2013), there are execution risks embedded in its expansion plans into other regions in Russia where consumer purchasing power and infrastructure are less developed. In addition, O'key will be launching its new convenience store format, which we expect will negatively impact group profit margin in 2015 before improving in 2016. Negative Free Cash Flow We project that O'key will be able to finance more than 50% of its capex with internally generated cash flows. O'key is, however, expected to show negative free cash flow (FCF) over the next four years, averaging 4% of net sales per annum, due to its large expansion programme and a dividend pay-out of up to 25% of group net profit. This is mitigated by O'key's proven access to both bank and capital markets and its ability to obtain trade creditors' financing for its working capital as sales continue to grow. Key Russian Hypermarket Operator The group's positioning in the fast-growing hypermarket format enables O'key to capture the structural shift towards modern food retail chains in Russia. The group has shown good resilience during the 2008/9 economic downturn. In addition, operating performance in terms of sales per sq m compares positively against other food retailers: RUB293,000 for O'key vs. RUB254,000 for X5 Retail Group and RUB315,000 for Lenta for the 12 months to September 2014. RATING SENSITIVITIES Negative: Future developments that could lead to a negative rating action including but not limited to the Outlook being revised to Negative, are: - A sharp contraction in like-for-like sales growth relative to peers - Material failure in executing its expansion plan - EBITDAR margin erosion to below 9% (FY13: 10.1%) - FFO-adjusted gross leverage remaining above 4.5x on a sustained basis - Deterioration of liquidity position as a result of high capex and weakened capital market in the country Positive: Future developments that could lead to a positive rating action include:- - Solid execution of its expansion plan and positive like-for-like sales growth relative to peers - Maintaining current market position in Russia's retail sector - Ability to maintain the group's EBITDAR margin of at least 9.5%-10% - FFO-adjusted gross leverage below 3.5x on a sustained basis - FFO fixed charge coverage around 2.0x on as sustained basis LIQUIDITY AND DEBT STRUCTURE At end-October 2014 about 76% of O'key's debt was long-term (RUB29bn) and most short-term debt maturities were revolving credit facilities. In addition, O'key has a bond programme with a total value of RUB25bn, including six tranches (RUB3bn-5bn) of five-year maturity each, but given the weak capital market in Russia it is unlikely to be placed in near term. Combined with strong operating cash flow expected in FY14-15 we believe that liquidity sources are sufficient both for debt servicing and for financing O'key's expansion plans. Available cash totalled RUB1.4bn as of end-June 2014 and undrawn committed credit facilities amounted to RUB13.3bn as of 10 October 2014. Contact: Principal Analyst Tatiana Bobrovskaya Associate Director +7 495 956 5569 Supervisory Analyst Ching Mei Chia Director +44 20 3530 1068 Fitch Ratings Limited 30 North Colonnade London E14 5GN Committee Chairperson Giulio Lombardi Senior Director +39 02 8790 87214 Media Relations: Elaine Bailey, London, Tel: +44 203 530 1153, Email:; Ksenia Ivanova, Moscow, Tel: +7 495 956 99 01, Email:; Athos Larkou, London, Tel: +44 203 530 1549, Email: Additional information is available on 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. Applicable criteria, Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage, dated 28 May 2014, are available at Applicable Criteria and Related Research: Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage here Additional Disclosure Solicitation Status here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

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