December 19, 2017 / 8:02 PM / a month ago

Fitch Upgrades Mastellone's IDRs to 'B'; Outlook Stable

(The following statement was released by the rating agency) NEW YORK, December 19 (Fitch) Fitch Ratings has upgraded Mastellone Hermanos Sociedad Anonima's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) to 'B' from 'B-'. The senior unsecured notes are upgraded to 'B/RR4' from 'B-/RR4'.The Rating Outlook is Stable. A full list of rating actions follows at the end of this press release. The upgrade of Mastellone's ratings is due to the company's solid liquidity position and vastly improved credit metrics as a result of the USD35 million capital injection from Arcor SAIC's (B+/Positive) and Bagley Argentina S.A., Arcor's subsidiary, during 2017. This capital increase further solidifies Mastellone's position as a long-term strategic investment for Arcor. The upgrade also reflects the expected improvement in Mastellone's operating performance because of improved operating performance and the expectation of the continuation of the Macri government's pro-business economic policies following the recent election. More than 90% of Mastellone's sales were made in Argentina during 2017 and the company is highly reliant upon producers of raw milk in the country. KEY RATING DRIVERS Shareholder Support: Fitch factors into Mastellone's rating the financial support from Arcor and Bagley. In December 2015, the two paid USD50 million for a 20.2% stake in Mastellone. Later in that year they increased their participations to 25%. This stake was increased to 38.4% in early 2017 based on a USD35 million capital increase from Arcor and Bagley and further transactions with the Mastellone family. Arcor has a call option for the outstanding corporate stock of Mastellone starting in 2020 and is expected to continue to increase its stake in the company. Low Leverage: The company's credit metrics are strong for the 'B' rating category. Fitch expects gross leverage to decline to 2.5x by 2018 from 3x in 2016 due to increased EBITDA related to price increases, low volume growth, and improved operating efficiencies. The company opened a new dry plant in Trenque Lauquen in 2017 after a total investment of about USD22 million. Fitch expects Mastellone to generate positive FCF despite increased investments in process automation, productivity, packaging, and capacity. Geographical Concentration: Mastellone generates most of its sales in Argentina. Sales outside Argentina as of Sept. 30, 2017 were about 7% in Brazil and Paraguay domestic markets and 1% from exports. The company is exposed to double-digit inflation in Argentina and other direct and indirect sovereign-related risks, including devaluation. Exposure to Currency Risk: Mastellone's debt is USD-denominated and creates currency risk, as company sales are mainly in Argentine pesos. The company has not entered into any agreements to hedge its debt exposure to devaluation risk. Volatility of Raw Milk Production: Mastellone's business is divided between sales to the Argentine and Brazilian and Paraguay domestic markets and exports; the excess between raw milk supply and domestic sales is exported. A shortage of raw milk production could lead to interruption of the company's export and foreign business or an increase in production costs. Strong Business Position: Mastellone is the largest dairy company and the leading processor of dairy products in Argentina. It is first in the fluid milk market regarding physical volume with a market share of approximately 66%. The company maintains the first- and second-place market position in most of its product lines. Its strong market shares allow it to benefit from economies of scale in the production, marketing, and distribution of products. Mastellone purchases about 16% of raw milk production in Argentina, which provides it with a degree of negotiating power. DERIVATION SUMMARY Mastellone is the largest dairy company and the leading processor of dairy products in Argentina. The concentration of Mastellone's operations in Argentine (B/Positive) is a constraining factor for the rating, as is its size. Mastellone displays a weaker position in terms of scale, product diversification, profitability and geographical diversification compared to its international peers such as Fonterra Co-operative Group Limited (A/Stable), Nestle SA (AA/Stable), Sigma Alimentos, SA de C.V. (BBB/Stable) or to Arcor (B+/ Positive) in Argentina. Mastellone's gross leverage is low for the 'B' rating category and compares favorably with its peers. During 2016, the median gross leverage ratio was 5.1x for the 'B' rating category in Latin America. The 'B' rating relative to leverage levels of around 3x reflect the weak economic environment in Argentina and risks in that country such as high inflation. Industry risks also have resulted in a more conservative rating than leverage metrics would indicate. KEY ASSUMPTIONS Fitch's Key Assumptions Within Our Rating Case for the Issuer --Revenues grow driven by domestic price increase above inflation in 2017; --EBITDA margin close to 6% in 2018; --Capex of around USD23 million in 2017; --Debt/ EBITDA to 2.5x in FYE18. Key Recovery Rating Assumptions Fitch believes that a debt restructuring would likely occur under stressed economic conditions in Argentina and/or external shocks such as climatic events or lack of access to certain export markets Therefore, Fitch has performed a going-concern recovery analysis for Mastellone that assumes the company would be reorganized rather than liquidated. Key Going-Concern Assumptions --Mastellone would have going-concern EBITDA of about ARS729 million. This figure is conservative at 40% below the company's LTM EBITDA of ARS1.2 billion, and takes into consideration factors such as climatic events, changes in raw material costs, sourcing and logistic issues, potential strikes or a shutdown of exports markets; --A distressed multiple of 6.5x due to strong brand and dominant position the Argentina dairy business; --A distressed enterprise value of ARS4.3 billion (after 10% of administrative claims); --Total debt of ARS3.5 billion. The recovery performed under this scenario resulted in a recovery level of 'RR1', consistent with securities historically recovering 91%-100% of current principal and related interest. Because of the Fitch's 'RR4' soft cap for Argentina, which is outlined in our criteria, Mastellone's Recovery Rating has been capped at 'RR4', reflecting average recovery prospects. RATING SENSITIVITIES Developments That May, Individually or Collectively, Lead to Positive Rating Action --Sustained gross leverage of 3.0x or lower could lead to an upgrade of the LC IDR --Sustained gross leverage of 3.0x or lower plus an upgrade of the 'B' Country Ceiling of Argentina could lead to an upgrade of the FC IDR and senior unsecured notes --Increased ownership above 50% in Mastellone by Arcor and Bagley could result in positive rating actions on the LC IDR, FC IDR and senior unsecured notes Developments That May, Individually or Collectively, Lead to Negative Rating Action --A downgrade of Argentina's country ceiling rating; --Weak liquidity; --Debt to EBITDA above 4x. LIQUIDITY Mastellone liquidity is strong. The company reported cash and equivalents and short-term investments of about ARS1.6 billion compared to short-term debt of ARS155 million as of Sept. 30, 2017. The total debt of ARS3.5 billion as of the same date is mainly composed of the 12.625% senior unsecured notes (USD200 million) due on July 3, 2021. The notes are callable at 50% of the outstanding principal on July 3, 2018. FULL LIST OF RATING ACTIONS Fitch has upgraded the following ratings: Mastellone Hermanos Sociedad Anonima --Long-Term Foreign Currency IDR to 'B' from 'B-'; --Long-Term Local Currency IDR to 'B' from 'B-'; --Senior unsecured notes to 'B'/RR4' from 'B-/RR4'. The Rating outlook is Stable. Contact: Primary Analyst Johnny Da Silva Director +1-212-908-0367 Fitch Ratings, Inc. 33 Whitehall Street New York, NY 10004 Secondary Analyst Jose Vertiz Director +1-212-908-0641 Committee Chairperson Joe Bormann, CFA Managing Director +1-312-368-3349 Summary of Financial Statement Adjustments - Fitch adjusts cash and cash-equivalents and short-term investments by applying advance rates in line with Fitch's Corporate Rating criteria. 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