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Fitch Affirms OJSC Holding Company United Confectioners at 'B'; Outlook Stable

November 18, 2011 | Fitch Ratings

Fitch Ratings-London-17 November 2011: Fitch Ratings has affirmed Russia-based OJSC Holding Company United Confectioners' (UC) Long-term foreign currency Issuer Default Rating (IDR) at 'B' with a Stable Outlook and National Long-term Rating at BBB+(rus) with a Stable Outlook.

Fitch has also affirmed UC's subsidiary, OOO United Confectioners-Finance's (UC Finance) RUB3bn bond due May 2012 at 'B' and RUB3bn bond due April 2013 at 'B-'. While both bond issues potentially fully recover in a distressed scenario, due to the Recovery Rating (RR) cap, the RR for the 2012 bond is 'RR4', reflecting expected recovery prospects in a distressed scenario of 31%-50%, and the RR for the 2013 bond is 'RR5', which reflects expected recoveries of 11%-30%. The RRs reflect the different guarantee structures between the two bonds.

UC continued to demonstrate strong sales volume growth in 2010 and so far in 2011. The group gave up price increases in 2010, which has helped UC improve its market position at the cost of operating margin deterioration. As input costs increased, EBIT margin dropped to single-digits: 9.1% in 2010 and 8.4% in H111, which is below average profitability for packaged food companies. However, Fitch expects UC's profitability to improve in Q411 and FY2012, due to more favourable recent cocoa and sugar price movements and, generally more muted raw material price inflation forecasts for 2012. Enhanced profitability will likely be supported by the full effect of moderate price increases (already implemented throughout 2011) and improvements in product mix.

Continuing debt repayment has offset the decrease in profit margin, helping UC to keep leverage ratios relatively flat in 2010. However, Fitch notes that loan repayments were fully replaced by a respective increase in trade payables and hence a decline in working capital as percentage of sales to 11.8% (FY09: 14%). Favourable WC movements and cheaper borrowing costs allowed UC to deliver good FCF for second consecutive year in 2010. Fitch still has concerns over the sustainability of UC's positive FCF generation ability, due to slow payables turnover, which the agency does not consider sustainable, and increasingly extensive capex required for relocation of existing capacities (Rot Front), as well as the modernisation and installation of new production lines. Fitch expects this capex programme to be funded by both external and internal sources.

Fitch expects UC to increase its debt by end of FY2011 mainly to fund new production lines. Taking into account the decrease in profitability, credit metrics are somewhat weaker compared with 2010. Nevertheless, management has confirmed its commitment to achieve and maintain net debt/EBITDA ratio of 1.0x by 2013. Therefore, the current rating assumes that UC will keep a conservative financial policy, not involving sizeable M&A activities or allowing leakage of funds from the business that may increase leverage.

Corporate governance issues remain a key credit concern for Fitch, in particular increasing loans to related parties that exceed inter-group borrowings. In addition, UC maintains a significant portion of its cash, albeit decreasing, in Guta-Bank (unrated). Fitch also notes that the shareholders control the Board (which does not have any independent directors) thereby translating into a potential misalignment of interests between shareholders and debt holders. Corporate governance issues act as a cap preventing a higher rating. Greater transparency and disclosure of the rest of the group activities and intra-group transactions would help alleviate governance concerns.

The Stable Outlook is supported by improving liquidity and generally smooth maturity schedule of existing debt portfolio. As of November 2011, maturities up to 2012 are covered by available cash and committed facilities by 145%. Currency mismatch is not currently a major concern as the share of foreign currency loans decreased to 14% (as of November 2011) from 25% (as of September 2010).

Positive rating factors include sustainable liquidity and leverage ratios (liquidity score over 1.5x, adjusted TD/EBITDAR below 1.7x for two consecutive years), as well as stable positive FCF over RUB1bn. However, Fitch considers the proof of achieving a standalone business model and operational independence from Guta Group as key factors for a positive rating movement.

A negative rating action could occur if FCF generation materially deteriorates, or there is a substantial increase in leverage (to adjusted TD/ EBITDAR over 3.0x or 2.5x if the share of foreign-currency debt reaches 50%). Increase in loans to related parties (net of borrowings from related parties) plus a net increase in related party investments exceeding CFO minus maintenance capex and dividends would also be considered a negative factor.

Company: United Confectioners Holding

Full company nameOJSC United Confectioners Holding Company
Country of riskRussia
Country of registrationRussia
IndustryFood industry


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