June 28, 2017 / 2:58 PM / 3 months ago

Fitch upgrades Novartex IDR to 'CCC' After Restructuring

(The following statement was released by the rating agency) LONDON/PARIS, June 28 (Fitch) Fitch has downgraded Novartex SAS's (Vivarte) Long-Term Issuer Default Rating (IDR) to 'RD' from 'C' following completion of its debt restructuring on 21 June 2017. Fitch immediately upgraded the IDR to 'CCC' to reflect Vivarte's new business plan and capital structure. In addition, under the new plan and capital structure Vivarte SAS's senior secured debt ("new money") instrument rating is upgraded to 'CCC' from 'CCC-'/RWP. Following the debt restructuring, Novarte SAS's reinstated debt is affirmed at 'C' and withdrawn upon its conversion into equity. The conclusion of the financial restructuring represents a restricted default under Fitch's methodology. The IDR of 'CCC' reflects high execution risk in sustainably turning around Vivarte's remaining activities due to a very unfavourable market environment, while maintaining high leverage. This is despite positive initiatives accompanying the debt restructuring, such as comprehensive asset-disposal and cost-cutting plans. High operational risk compounds a high level of refinancing risk inherent in the fiducie agreement between the company and its lenders, which was signed in parallel with the debt restructuring agreement. Under the fiducie terms the group has to prepay at least EUR300 million of remaining debt by October 2019. KEY RATING DRIVERS Financial Restructuring Plan Complete: The debt restructuring concluded on 21 June 2017. As a result, financial debt has been reduced by more than half to approximately EUR590 million, including EUR548 million of new money senior secured debt. Fitch expects FFO adjusted gross leverage to fall to 8.8x at the end of the financial year ending August 2017 versus 13.5x one year earlier. Adverse Market Changes: Fitch estimates market risks are increasing for Vivarte, thus further compromising the chances of a successful repositioning. The French apparel retail sales dropped by around 12% between 2012 and 2015 and by a further 1.2% in 2016. Customers are not only shifting to lower prices but also reducing the number of purchases, fuelling competition. Having been harmed by fast-fashion players such as Zara and H&M, Vivarte now also has to face new entrants (pure online retailers, Primark), which are more aggressive in terms of prices and also challenge traditional fast-fashion retailers. Asset Pruning; Cost-Cutting: Management's brand disposal plan and the closing of non-performing stores are credit-positive. If executed effectively, they should help management focus on turning around the remaining brands while supporting liquidity to fund investments. Execution Risk in Operational Turnaround: Management's ability to generate like-for-like sales growth in a declining market remains uncertain. Beyond cost-cutting measures, as fruitful as they may be, like-for-like growth is a key element to sustainable profitability. In the current market environment, characterised by intense competition and customers' lack of loyalty, the success of a brand goes depends not just on prices, but also on a wide variety of other factors including omni-channel capacity, and customer experience. In its rating case Fitch incorporates this risk through like-for-like sales stabilising in FY19, with EBITDA margin slowly growing to around 6% by that time, driven by cost reductions. High refinancing Risk: Fitch evaluates Vivarte's refinancing risk at FYE19 rather than at FYE21, despite the maturity of the remaining new money being lengthened by two years to October 2021. Our assessment derives from the terms of the fiducie agreement: failure to prepay at least EUR300 million of debt by October 2019 would lead to the sale of the group. Fitch expects FFO adjusted gross leverage at 7.9x at FYE19, a level of refinancing risk consistent with a 'CCC' IDR. Any upgrade would be conditional on a successful asset sale leading to at least a EUR300 million debt repayment, then to improved business and financial profiles of the remaining assets. Expected New Money Recoveries: The upgrade of the new money instrument rating to 'CCC' from 'CCC-' reflects Recovery Ratings in the 'RR4' range (31%-50%) and Vivarte's post-restructuring IDR of 'CCC'. Fitch estimates post-restructuring sustainable EBITDA of EUR90 million and a multiple of 4.0x. The EBITDA level reflects the group's smaller scale after asset disposals and store closures, together with low profitability prospects following recurring turnaround failures. The distressed multiple is at the low end of the sector due to the likely loss of attractiveness among potential buyers following numerous failed restructurings in an adverse market environment. Fitch assumes fully drawn letter of credit commitments ranking ahead of the super senior debt in the payment waterfall. DERIVATION SUMMARY Vivarte is a diversified retailer in terms of price points (low cost and mid-market), locations (both downtown and out-of-town) and products (apparel and footwear). However, it has a lower EBITDAR margin than most non-food retailers due to its uncompetitive position in the fast-changing market, also leading to higher leverage. Its large capex needs and restructuring costs also weaken its cash conversion capability compared with relatively asset-light competitors. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - progressive stabilisation of like-for-like sales by FY19, growth below 1% thereafter; - negative net proceeds from asset disposals in FY17, including the upcoming disposal of Kookai by financial year end, net proceeds limited to EUR50 million from the sale of Chevignon and Merkal in FY18, no other brand disposals; - progressive EBITDA margin recovery towards 6.2% in FY19, driven by the disposal or closure of non-performing assets and to a lesser extent by like-for-like sales growth and business model optimisation; - broadly neutral annual changes in working-capital needs; - close to EUR150 million non-recurring cash flow in FY17-FY18 related to discontinued activities and restructuring costs, falling to EUR15 million per annum thereafter; - EUR55 million financing cash outflow in FY17 resulting from financial restructuring and increase in cash collateral. RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action -Evidence of return to positive like-for-like sales growth, with significant improvement in profitability -Reduced refinancing risk, implying successful repayment of at least EUR300 million debt through asset sales by October 2019 -Improved financial flexibility including neutral FCF, FFO fixed charge cover sustainable above 1.5x and perennial access to committed facilities to fund working capital Future Developments That May, Individually or Collectively, Lead to Negative Rating Action - Fitch's increased perception that the group will fail to repay at least EUR300 million of remaining new money by October 2019, which would probably be due to a lack of sales and EBITDA improvement in FY18 -Major deterioration in liquidity LIQUIDITY Limited Liquidity: Fitch expects limited net proceeds from asset sales over FY17-FY18. Should Vivarte's operating performance come under further pressure, banks could deny the renewal of the existing letters of credit and therefore compromise its liquidity position. This is despite the additional cash headroom provided by lower debt and the toggle option. FULL LIST OF RATING ACTIONS Novartex SAS --Downgrade to 'RD' on completion of debt restructuring --Upgrade to 'CCC' post debt restructuring Vivarte SAS --Senior secured debt ("new money"): upgrade to 'CCC'/'RR4' (33%) from 'CCC-'/'RR4' (47%) RWP Novarte SAS --Senior secured debt ("reinstated debt"): affirmed at 'C'/'RR6' (0%) on completion of debt restructuring, withdrawn Contact: Principal Analyst Louise Liu Analyst +44 20 3530 1660 Supervisory Analyst Anne Porte Director +33 1 44 29 91 36 Fitch France SAS 60 rue de Monceau 75008 Paris Committee Chairperson Ed Eyerman Managing Director +44 20 3530 1359 Summary of Financial Statement Adjustments Readily Available Cash: At 31 August 2016 Fitch estimated EUR100 million of the group's reported cash and cash equivalents as restricted, required to fund the group's intra-year working capital needs. The amount is likely to decrease in FY17 due to working-capital optimisation measures, the planned disposal of several brands, and the full-year impact of past store closures. Operating Leases: Fitch adjusts the debt by adding a multiple of 8x of yearly operating lease expense related to long-term assets (EUR297.8 million in FY16). Funds from Operations (FFO): Fitch excludes from FFO what it estimates to be one-off cash costs related to the ongoing operational restructuring (EUR28.4 million in FY16). Free Cash Flow (FCF): Fitch excludes from its FCF calculation all cash flows related to discontinued activities (- EUR85.3 million in FY16) in order to better assess FCF from continuing operations. Fitch also excludes the change in cash collateral and reclassifies it as an outflow related to financing activities. CICE financing (French Competitiveness and Employment Tax Credit): On 12 July 2016, the group entered into a loan agreement with Banque Publique d'Investissement for the pre-funding of 80% of the CICE receivable for the 2014 calendar year, representing an amount of EUR14.5 million. This funding takes the form of a confirmed credit line over 12 months and renewable upon maturity, until the repayment of the receivable by the French tax department. Fitch excludes outstanding factoring related to the monetisation of the tax credit granted by the French government from its debt calculation. Media Relations: Adrian Simpson, London, Tel: 203 530, Email: adrian.simpson@fitchratings.com. Additional information is available on www.fitchratings.com. 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