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Fitch: Sterling Slide May Pressure UK Retail, Airline Ratings
October 17, 2016 / 11:01 AM / a year ago

Fitch: Sterling Slide May Pressure UK Retail, Airline Ratings

(The following statement was released by the rating agency) LONDON, October 17 (Fitch) The recent further slide in sterling, if maintained, will increase pressure on some UK corporate ratings, particularly in the retail and airlines sectors, Fitch Ratings says. Currency hedging and other self-help measures will limit the near-term financial impact but ratings could be affected if companies are unable to rebalance capital structures or limit the impact on the cost of imported goods when hedges expire. The pound is now down nearly 20% since the start of 2016 - a scenario that we considered in a July report shortly after the Brexit vote. Our analysis of 13 Fitch-rated companies that were potentially most exposed to currency depreciation indicated that retailer New Look could face the biggest impact on its leverage and credit profile, followed by Tesco and, to a lesser extent, British Airways. This is largely driven by the rising cost of imported goods and, in some cases, a mismatch between the proportions of foreign-currency revenue and debt, which can increase debt-service costs as the pound weakens. Our analysis was done on an unhedged basis to determine corporate vulnerability over the medium and long term. In common with other retailers, New Look and Tesco both use derivatives to hedge their foreign-currency exposures, but these do not always cover all their exposure and are generally for a maximum of 12 to 15 months. Our calculations indicate a 20% drop in sterling could increase New Look's unhedged leverage (FFO adjusted gross leverage) towards 7.9x (vs 6.8x at FY ended March 2016). The company can still mitigate margin erosion, as seen when the pound fell 28% in 2009, by rationalising its cost structure, negotiating with suppliers and optimising supply-chain infrastructure and sourcing geographies. Not all hedging strategies are the same and some only provide protection within a certain range, meaning some retailers may have limited protection against further declines. This was demonstrated by Sports Direct's profit warning following the recent extreme sterling volatility, when it said its sterling/US dollar hedge had crystallised at a rate of 1.19, which would reduce forecast underlying EBITDA by GBP15m. Our analysis of a 20% sterling depreciation showed that Tesco's unhedged leverage would rise meaningfully. As the country's largest retailer, we believe it will be able to mitigate the impact once hedges expire by sourcing from cheaper locations. But this could increase tensions with suppliers, leading to more disruption such as the retailer's temporary decision to remove Unilever products from its website following a pricing dispute. While we expect consumers to bear some of the cost of the weakening pound (we expect CPI inflation to grow by 2.8% in 2017 and 2.6% in 2018), retailers will be wary of raising prices as they may lose customers. Discussions with suppliers will be tough in the months to come and will demonstrate whether pricing power stays with big suppliers or is shared with large retailers. We expect small domestic suppliers with high exposure to foreign-currency inputs to suffer the most. For British Airways the potential impact on leverage arises because about 80% of its debt is in foreign currency, versus around half of its revenue. Our analysis showed some companies would benefit from weaker sterling, including exporters like Rolls Royce, although potential benefits to leverage are limited and will probably be delayed by hedging contracts. For more information on our analysis, see the report "Brexit FX Impact on UK Corporates" available at or by clicking the related research link below. Contact: Roelof Steenekamp Senior Director Corporates +49 69 7680 76 113 Fitch Deutschland GmbH Neue Mainzer Strasse 46-50 60311 Frankfurt am Main Pablo Mazzini Senior Director Corporates +44 20 3530 1021 Simon Kennedy Senior Analyst Fitch Wire +44 20 3530 1387 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at All opinions expressed are those of Fitch Ratings. Related Research Brexit FX Impact on UK Corporates - Amended 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 WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. 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