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Fitch Assigns Russia's X5 Retail Group 'BB' IDRs; Outlook Stable
February 9, 2015 / 9:27 AM / 3 years ago

Fitch Assigns Russia's X5 Retail Group 'BB' IDRs; Outlook Stable

(The following statement was released by the rating agency) MOSCOW/LONDON, February 09 (Fitch) Fitch Ratings has assigned X5 Retail Group N.V. (X5) Long-term foreign and local currency Issuer Default Ratings (IDRs) of 'BB' and a National Long-term Rating of 'AA-(rus)'. The Outlooks are Stable. A full list of rating actions is below. The ratings reflect X5's strong market position as the second-largest food retailer in Russia with a multi-format store-base and healthy operating performance demonstrated in 2014, which we expect to continue in the medium term, particularly in the soft discounter format. The ratings are supported by moderate leverage together with adequate financial flexibility thanks to the group's limited FX risks, capex scalability and adequate near-term liquidity profile. The ratings are constrained by a weak fixed charge coverage ratio (2013: 1.9x), pressured by relatively high share of leased space in X5's real estate portfolio. While this metric is below the median for a 'BB' food retail rating category (2.0x), we acknowledge the flexibility provided by the high share of variable leases and easy cancellation of lease contracts. Fitch expects the ratio to remain within 1.6x-1.8x over the next three years due to the expected further increase of leased space share in the group's store base and assuming the current high interest rate environment in Russia persists. Although we expect a stable credit profile, weaker profit margins together with lower than expected coverage metrics or a reduced share of revenue-linked contracts in the lease portfolio may put negative pressure on the ratings. KEY RATING DRIVERS Leading Multi-Format Retailer in Russia The rating is supported by X5's strong market position as the second-largest food retailer in Russia, which is one of the top-10 largest food retail markets in the world. The business model is supported by own logistics and distribution systems and multi-format strategy with a focus on a defensive discounter format. Despite increasing competition from other large retail chains in the country, Fitch believes that X5 is well positioned to retain and improve its market position in the medium term. The ratings also factor in X5's strong bargaining power over suppliers due to its large scale and growing geographical presence across Russia's regions. Subdued Consumer Sentiment We expect that the slowdown in the Russian economy, increasing inflation and weak rouble will translate into subdued consumer sentiment in 2015-2016. However, we believe that X5's revenues and operating margins will not be negatively affected by consumers' purchasing power erosion as a potential decrease in supermarket and hypermarket traffic will be offset by more frequent purchases at discounters, as demonstrated during 2008-2009. We also expect accelerated traffic migration to the largest retail chains, including X5, thanks to their better price proposition in comparison with traditional stores and small retailers. Improved Operating Performance Since 4Q13, X5 has demonstrated healthy like-for-like (LFL) sales growth and stabilisation in margins. We expect positive LFL sales trends to continue in the medium term on the back of on-going store refurbishments, assortment optimisation and high inflation in Russia. Despite pressure from potential margin sacrifices and higher lease payments, the EBITDA margin is expected to remain stable thanks to high price inflation outpacing growth of staff costs and other administrative expenses. We note that X5's current and expected levels of EBITDA margins (2013: 7.2%) are strong compared with Fitch-rated European food retailers. Stable Leverage We expect an acceleration in store openings over 2015-2017, which will enable X5 to take market share from traditional retailers and regional players hit by the challenging operating environment. However, this is likely to result in marginal changes in FFO adjusted leverage metrics due to expected strong revenue growth and cash flows from operations (CFO). We expect CFO should be sufficient to cover 60%-80% of planned capex in 2015-2016. Weak Coverage Metrics We expect the FFO fixed charge coverage ratio to remain weak for the ratings, at around 1.6x-1.8x over 2015-2017, as a result of higher operating lease expenses and the high interest rate environment in Russia. However, this is mitigated by the partial dependence of leases on store turnover, favourable lease cancellation terms and the high share of fixed-rate debt. Financial flexibility is also supported by X5's sound liquidity position and limited FX risk as its debt, revenues and most of costs, with the exception of certain lease contracts and minor direct imports (2% in 2013), are rouble-denominated. Refinancing Risks in 2016 The debt maturity profile is skewed towards the end of 2016, when term loans and three local bonds mature. We believe refinancing risks are manageable due to capex scalability and our expectation that X5 will retain access to local funding thanks to the company's large scale, non-cyclical food retail operations. We also expect continuing compliance with bank financial covenants. Group Structural Debt Considerations The consolidated risk profile is reflected in the 'BB' IDR. Fitch notes that all debt within the group is unsecured while there are cross-suretyships between OpCos covering bank debt, including a RUB15bn club loan facility at X5 Retail Group N.V. (HoldCo) level. Debt that is raised at HoldCo and X5 Finance LLC (FinCo), including various bonds maturing between October 2015 and October 2016, is on-lent to OpCos mirroring the terms of external obligations. These intra-group loan agreements create an unsecured claim on the main profit generating OpCos thereby mitigating any structural subordination between HoldCo and OpCo creditors. Below-average Recoveries for Unsecured Bondholders Fitch has assigned a senior unsecured long term rating of 'BB'/'RR4' to the RUB8bn bonds issue due in June 2016, which have suretyship from Trade House Perekrestok CJSC, one of X5's major operating subsidiaries. The rating on the three bonds issued by X5 Finance LLC, which are not covered by suretyships from OpCos, are notched down to 'BB-'/'RR5', reflecting structural subordination to the rest of the group's debt considered as prior-ranking and comprising more than 2x 2014F EBITDA and therefore weak recovery prospects in the event of default. LIQUIDITY AND DEBT STRUCTURE Fitch assesses X5's liquidity as adequate for the rating. At the end of September 2014, X5 had committed undrawn bank facilities of RUB57.9bn and unrestricted cash balances of RUB3.5bn. Despite expected negative free cash flow (FCF) in 2015, short-term liquidity should be sufficient to cover short-term debt commitments of RUB15.9bn due in 2015. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: -Annual revenue growth of around 20% driven by high single-digit LFL sales growth and selling space CAGR of 15% over 2015-2017 -Stable EBITDA margin, at around 7% -Capex at around 5% of revenue -No dividends -Neutral to negative FCF margin -No large-scale M&A activity RATING SENSITIVITIES Negative: Future developments that could lead to negative rating action include: - A sharp contraction in like-for-like sales growth relative to close peers. - EBITDA margin erosion to below 6.5% (2013: 7.2%). - FFO-adjusted gross leverage above 5.0x on a sustained basis (2013: 4.3x). - FFO fixed charge cover significantly below 2.0x on sustained basis if not mitigated by flexibility in managing operating lease expenses, including alignment of leases with store revenue. - Deterioration of liquidity position as a result of high capex, worsened working capital turnover and weakened access to local funding in the face of Rouble bonds maturing in 2015-2016. Positive: Future developments that could lead to positive rating action include: - Positive like-for-like sales growth comparable with close peers together with maintenance of its leading market position in Russia's food retail sector. - Ability to maintain the group's EBITDA margin at around 7%. - FFO-adjusted gross leverage below 3.5x on a sustained basis. - FFO fixed charge coverage around 2.5x on a sustained basis. FULL LIST OF RATING ACTIONS X5 Retail Group N.V. Long-Term foreign currency IDR assigned at 'BB', Stable Outlook Long-Term local currency IDR assigned at 'BB', Stable Outlook National Long-Term Rating assigned at 'AA-(rus)', Stable Outlook X5 Finance LLC RUB8bn guaranteed bonds due June 2016 Senior unsecured Long-Term Rating of 'BB'/RR4 Senior unsecured National Long-Term Rating of 'AA-(rus)' RUB5bn bonds due October 2015 Senior unsecured Long-Term Rating of 'BB-'/RR5 Senior unsecured National Long-Term Rating of 'A+(rus)' RUB5bn bonds due September 2016 Senior unsecured Long-Term Rating of 'BB-'/RR5 Senior unsecured National Long-Term Rating of 'A+(rus)' RUB5bn bonds due October 2016 Senior unsecured Long-Term Rating of 'BB-'/RR5 Senior unsecured National Long-Term Rating of 'A+(rus)' Contact: Principal Analyst Anna Zhdanova, CFA Analyst +7 495 956 9901 Supervisory Analyst Tatiana Bobrovskaya Associate Director +7 495 956 5569 Fitch Ratings CIS Ltd 26 Valovaya Street Moscow 115054 Committee Chairperson Pablo Mazzini Senior Director +44 20 3530 1021 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email:; Ksenia Ivanova, Moscow, Tel: +7 495 956 99 01, 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', dated 28 May 2014, and 'Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers' dated 18 November 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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