Sept 26 -
Summary analysis -- Peugeot S.A. ---------------------------------- 26-Sep-2012
CREDIT RATING: BB/Negative/B Country: France
Primary SIC: Motor vehicles
and car bodies
Credit Rating History:
Local currency Foreign currency
25-Jul-2012 BB/B BB/B
06-Aug-2009 BB+/B BB+/B
05-Mar-2009 BBB-/A-3 BBB-/A-3
The ratings on France-incorporated European auto manufacturer Peugeot S.A. (PSA) reflect Standard & Poor’s Ratings Services’ view of the company’s fair business risk profile and significant financial risk profile.
We base our assessment of PSA’s fair business risk profile on the company’s historically weak profitability and high exposure to difficult market conditions in its core European markets. Our assessment also factors in PSA’s exposure to the cyclical, highly competitive, and structurally oversupplied auto industry.
These constraints are partially mitigated by the group’s strong market position as Western Europe’s second-largest car manufacturer and largest light commercial vehicle manufacturer in Europe.
Our assessment of PSA’s significant financial risk profile reflects our assessment of the company’s unsustainably high rate of cash depletion in its core industrial operations and weak credit metrics compared with those of peers. These weaknesses are partially mitigated by PSA’s historically moderate financial policy and still adequate financial flexibility in our opinion.
S&P base-case operating scenario
In our base case, we anticipate that PSA’s revenues will fall by several percentage points in 2012 primarily on steep declines in vehicle unit sales in several European countries, including France, Italy, and Spain. Europe still contributed 58% to PSA’s unit sales in 2011. Overall for the year, PSA’s unit sales may fall by more than 10%, with a 13% effective decline already experienced year on year during the first half.
We anticipate that PSA’s automotive operations will report a recurring operating loss in excess of EUR1 billion this year, given the EUR662 million loss PSA’s automotive operations already generated during the first half. This is likely to be only partly offset by earnings at PSA’s captive finance subsidiary, Banque PSA Finance (BBB-/Negative/A-3), and the company’s main industrial subsidiary, Faurecia, from which we expect steady earnings contributions this year. For instance, the company’s European capacity utilization rate was at an all-time low of 76% at end-June 2012. In addition, while sales outside Europe are growing, this has so far failed to translate into any substantial positive impact on consolidated operating earnings for the automotive division.
We consider that PSA’s recently weak operating performance will likely continue in 2013, as a result of its high operating leverage, the cash impact of restructuring charges, and continuing stiff competition in its European home market. Under our base-case scenario, the group’s core automotive operations will still report substantial negative operating earnings in 2013, in a European car market that we expect to remain sluggish following the likely 7% drop this year.
S&P base-case cash flow and capital-structure scenario
In our base-case scenario, we foresee PSA generating negative free operating cash flow (FOCF), purely from operations, of about EUR2.0 billion this year, with only a limited improvement in 2013, when the main cash impact of recently announced restructuring measures will be felt. In our view, the company’s ability to stabilize debt this year and next will rely primarily on one-off corporate measures like divestments or the recent equity increase subscribed by General Motors Co. (GM, BB+/Stable/--).
We consequently anticipate that PSA will at best maintain its ratio of funds from operations (FFO) to Standard & Poor‘s-adjusted debt at about 20% by year-end 2013, factoring in noticeable moderation in capital expenditures (capex) from the 2011 high, no dividends, and no adverse working capital swings.
Under our base case, we foresee PSA deleveraging in 2012 only in case of high asset disposals, and we also expect the company to be unable to break even in FOCF terms before 2014.
The short-term rating is ‘B’. We view PSA’s liquidity as adequate under our criteria, based on our projection that the ratio of potential sources to uses of liquidity will exceed 1.5x in each of the coming two years.
The company’s financial flexibility and liquidity are underpinned by:
-- Cash and cash equivalents of EUR7.6 billion in the industrial division at end-June 2012, of which we view EUR2.0 billion as tied to maintain ongoing operations.
-- Unused company credit lines, notably a EUR2.4 billion committed syndicated bank line of which EUR2.2 billion matures in July 2015 and EUR0.2 billion in July 2014.
These liquidity sources compare with EUR2.5 billion of short-term debt borne by the industrial division and maturing within 12 months as of June 30, 2012.
Although PSA benefits from an extended debt maturity profile, repeated negative free cash flow from operations would ultimately take a toll on the company’s liquidity position. In 2013, we would expect measures to limit capital investment and contain costs in the troubled European market to mitigate the risk of more substantial cash uses than PSA can fund so as to maintain adequate liquidity.
The issue rating on the senior unsecured notes issued by PSA is ‘BB’, in line with the corporate credit rating on the group. The recovery rating on these notes is maintained at ‘3’, indicating our expectation of meaningful (50%-70%) recovery in the event of a payment default.
The recovery rating on the notes is underpinned by the company’s substantial enterprise value based on its good market positions and its extensive product range with well-recognized brands. We cap the recovery rating at‘3’, owing tothe unsecured nature of the notes, the possibility of capital structure changes on the path to default, and the relatively unfriendly jurisdiction for creditors in France.
In line with our criteria to calculate recovery, we have simulated a hypothetical default scenario for PSA. Such a hypothetical default would most likely result from overall economic deterioration and declining car sales. Under our simulated scenario, we assume a default in 2016 based on the above factors.
We estimate the stressed enterprise value of the group’s automobile division at the point of hypothetical default at about EUR9.8 billion. As part of our valuation approach, we applied haircuts to asset values, taking into account balance sheet shrinkage under a default scenario and forced sale values. This is because we believe that stressed balance sheet asset values provide a good indicator of the enterprise value at default. In line with our captive finance methodology, we have not included in our analysis PSA’s wholly owned finance subsidiary, BPF. We have also assumed that the existing committed facilities would be maintained on an unsecured basis until the point of default and would be fully drawn at that time. In addition, we have assumed that all existing debt maturing in the coming three to four years will be refinanced.
To calculate unsecured debt recoveries, we deducted EUR4.8 billion in priority liabilities from the estimated stressed enterprise value. These liabilities include secured loans, structurally senior debt, enforcement costs, 50% of the year-end 2011 reported net pension deficit, and prepetition interest. We estimate that the residual value would allow for recovery prospects in the 50%-70% range (equivalent to a recovery rating of ‘3’) for the roughly EUR7 billion of senior unsecured claims (including notes and prepetition interest) outstanding at default.
The negative outlook captures the risks that PSA might be unable to markedly reduce its cash flow burn in 2013 from the current unsustainably high level and an ongoing reduction in car sales. While so far PSA has shown good progress in executing its disposal strategy, the outlook also reflects the possibility that turbulent capital markets and political risk may hamper the execution of PSA’s announced restructuring and disposal plans.
Furthermore, there is uncertainty whether in 2013 PSA’s key markets will halt their decline and how competitively PSA will be positioned in these markets.
We would lower the rating if PSA is unable to maintain its ratio of FFO to adjusted debt at about 20% throughout 2012-2013--the level we see as commensurate with the company’s ‘BB’ rating. An additional revenue decline in 2013, coupled with further gross margin weakening, could cause this ratio to fall below our target. A downgrade could also occur if asset disposals generate insufficient proceeds in 2012-2013.
In our base-case scenario of anemic car market growth in Europe in 2013, any marked improvement in PSA’s credit ratios would likely only stem from further progress in its asset streamlining, including divestments and plant closures, as well as a conservative approach to capex, dividends, and working capital management.
We could revise the outlook to stable if we saw clear evidence of improving credit ratios, specifically FFO to adjusted debt well above 20% over 2013-2014, which will partly depend on sufficiently supportive industry conditions, but also on PSA’s demonstrated ability to restore profitability and reduce debt.
Related Criteria And Research
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
-- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Research Update: French Carmaker Peugeot Downgraded To ‘BB’ On Rapid Cash Burn And Mounting Operational Challenges; Outlook Negative, July 25, 2012