Fitch Ratings has affirmed Bellis Finco plc (ASDA) Long-Term Issuer Default Rating (IDR) at 'B+' with a Stable Outlook.
Fitch has also assigned a final rating of 'BB'/'RR2' to Bellis Acquisition Company Plc's new GBP684 million private placement, which is aligned with its other senior secured debt. A full list of rating actions is below.
ASDA has completed its acquisition of a majority of EG Group's UK business for GBP2 billion, paying GBP250 million less than previously envisaged due to exclusion of - we estimate - around 500 foodservice sites. The reduced acquisition consideration was funded using less debt and will lead to marginally lower pro forma leverage at 2023 than under our previous forecast. The pace of deleveraging and the positive effect of the acquisition on ASDA's business profile remain in line with the expectations underlying our May 2023 rating action.
ASDA's Long-Term Issuer Default Rating (IDR) of 'B+' captures its high pro-forma EBITDAR leverage of marginally below 6.0x, with potential to deleverage towards 5.0x by 2024. Delivery on this trajectory would be positive for the rating but is subject to execution risk on achieving profit growth in a competitive environment, integrating acquired businesses and delivering synergies, as well as reducing the debt quantum.
Key Rating Drivers
Acquisition Completed: ASDA has now completed the material acquisition of a majority of EG Group's UK business for around GBP2 billion. The transaction perimeter was smaller than originally envisioned (the KFC and Starbucks franchises were excluded), and it was funded using GBP186 million less debt.
Our revised forecasts incorporate lower incremental pro forma EBITDA of around GBP140 million (vs GBP180 million previously) from EG's UK operations in 2023. We expect marginally better pro forma leverage metrics with EBITDAR leverage slightly below 6.0x for 2023, which is aligned with the rating sensitivities.
Slightly Revised Forecast: Our overall EBITDA (post rents) forecast in FY24 is by around GBP60 million lower at GBP1.16 billion than previously projected. This incorporates a slight uplift in ASDA's standalone forecast following strong 3Q23 YTD performance, which partly offsets the smaller transaction perimeter and lower synergies.
Execution Risk on Profit Growth: We see moderate execution risk to achieve continued sales growth, given some loss of customers to competitors in 3Q23, profit recovery for standalone ASDA and delivery on around GBP90 million of synergies, to which we have applied a small haircut. Our forecasts build in a recovery in gross profit margin, following investment in price during 2022-2023, despite pass-through on products where raw material costs have declined and due to increased procurement benefits. We expect the fuel margin from the EG UK segment to slightly decline, compensated by an uplift in volumes as pump prices fall. We assume margin pressure will persist, with a slight fuel margin reduction for ASDA within our model.
Deleveraging Potential: Post 3Q23, ASDA has taken the first steps since the 2021 LBO to reduce debt by repaying GBP200 million bridge facility it used to fund its acquisition of Co-Op stores. We continue to anticipate deleveraging to around 5.0x by 2024, but this is contingent on profit growth and on ASDA allocating cash to debt reduction, in line with their communicated intentions to deleverage.
Acquisition Improves Business Profile: Acquisition of EG's UK operations increases ASDA's scale and broadens diversification by expanding its presence into convenience and also adding some expertise in food service. We forecast 2025 EBITDAR will approach GBP1.7 billion, which maps to a 'bbb' category score for scale under our Food Retail Navigator. ASDA has become the number-two petrol forecourt operator in the UK, with around 800 petrol filling stations (PFS). It now also runs around 500 convenience sites at petrol filling stations and around 400 food service sites.
Weak FCF: We expect weak free cash flow (FCF) generation in the next two years due to higher interest, capex and Project Future IT separation costs, before it recovers to 1% of sales in 2025.
Resilient Food Retail: ASDA has a strong business model in a resilient, but competitive, UK food retail sector, and high financial flexibility. It has a good brand and scale, and has reversed its like-for-like (lfl) sales and market-share declines, due to its focus on value and investment in price. ASDA holds the number-two position in online grocery sales in the UK with around 16% of sales in 2022.
Derivation Summary
Fitch rates ASDA using its global Food Retail Navigator. The acquisition of EG Group's UK and Ireland operations increased ASDA's scale and improved its market position, although this is still weaker than that of other large food retailers in Europe, such as Tesco plc (BBB-/Stable) and Ahold Delhaize NV. Fitch views ASDA's and Market Holdco 3 Limited's (Morrisons; B+/Stable) business profiles as broadly comparable. However, the EG acquisition enhanced ASDA's scale and recent lfl sales growth positions, albeit weakened in 3Q23, puts its business profile slightly ahead of Morrisons'. Both Morrisons and ASDA's operations remain focused in the UK only.
ASDA has a larger market share than Morrisons, but the latter has stronger vertical integration that supports profitability and a better-invested store format with a higher portion of freehold assets. ASDA's recent recovery in lfl sales underlines some competitive advantage at times when consumers trade down and tighten their spending in the current cost-of-living crisis, while recent customer losses due to switching to other large full-scale grocers suggest that the market remains very competitive.
ASDA has had greater access to convenience following the EG Group acquisition, like Morrisons, which is also working towards increasing its access to the faster-growing convenience market. This presents execution risk for both. ASDA benefits from a stronger online market share than Morrisons and the addition of the high-margin food service segment.
We expect ASDA's EBITDAR leverage, pro forma for the acquisition, at around 6.0x at end-2023, before it potentially declines to around 5.0x by end-2024. This is meaningfully higher than Tesco's (around 3.5x excluding Tesco Bank) but below Morrisons' (around 7.0x at FYE23/year-end October), and our projection for WD FF Limited's (B/Stable) of 6.5x at FYE24 (year-end March).
We expect a recovery in ASDA's profit margins with a funds from operations (FFO) margin trending towards 3% and FCF margin to 1% by 2025 as one-off separation costs from Walmart subside and synergies from the EG acquisition materialise.
Key Assumptions
Fitch's Key Assumptions within our Rating Case for the Issuer:
ASDA's standalone revenue to remain broadly flat in 2023, as a strong rebound in ex-petrol revenue (up 6%) is offset by a decline in petrol revenue (with -15% decline in volume vs 2022). Revenue to grow on average around 2% in 2024-2026 driven by slowing ex-petrol lfl revenue growth and incrementally slowly declining fuel volumes.
Acquired EG Group UK standalone pro forma estimated revenue of around GBP2.4 billion (2023) to remain broadly flat during 2024-2026. We expect growth in grocery revenues due to store conversions to 'ASDA Express' format and in foodservice segments. We expect this to be largely offset by a reduction in petrol retail prices towards ASDA prices and in oil price movements. The EG Group UK segment has been consolidated into the ASDA perimeter as of November 2023.
Combined revenue to be flat in 2024 (vs pro forma 2023) and to grow on average nearly 2% in 2025 to 2026.
EBITDA margin to improve to 3.8% in 2023 and towards 5.0% by 2026 as ASDA increases its gross profit margin and delivers synergies.
Annual working-capital (WC) inflow of about GBP80 million to GBP100 million in 2023-2024 on the back of payable day improvements and WC synergies brought by the Arthur and EG Group UK acquisitions. WC movements to be marginally positive from 2025 onward.
Average capex of about GBP560 million p.a. in 2024-2026, on the back of notably larger operation, larger growth capex and capex to drive synergies.
Exceptional costs in total of GBP450 million across 2023 and 2024 to separate IT systems from ASDA's previous owner (Project Future).
Debt repayments of GBP200 million (Arthur bridge) in 2023 (repaid) and scheduled debt repayments under term loan A (GBP195 million, maturing in 2025); in addition we have also assumed additional voluntary prepayments of GBP250 million a year in 2024 and 2025.
No dividends or major M&A activities over the next four years.
Recovery Analysis
Fitch's Key Recovery Rating Assumptions:
Under our bespoke recovery analysis, higher recoveries would be realised through reorganisation as a going-concern in bankruptcy rather than liquidation. We have assumed a 10% administrative claim.
The going-concern EBITDA estimate of GBP825 million (previously GBP850 million) reflects Fitch's view of a sustainable, post-reorganisation EBITDA, upon which we base the enterprise valuation (EV). The reduction in going concern EBITDA compared to the May review is due to the change in perimeter from the EG acquisition. The assumption also reflects corrective measures taken in the reorganisation to offset the adverse conditions that trigger its default, such as cost-cutting efforts or a material business repositioning.
We apply an EV multiple of 6.0x to the going-concern EBITDA to calculate a post-reorganisation EV. This multiple is aligned with Market Holdco 3 Ltd's (Morrisons).
ASDA's GBP667 million revolving credit facility (RCF) is assumed to be fully drawn upon default. The RCF ranks pari-passu with the company's GBP3,685 million equivalent (as of September 2023, pro forma for repayment of Arthur-related debt) senior secured debt issued by Bellis Acquisition Company plc in the debt waterfall. The new GBP684 million private placement facility ranks pari passu with ASDA's senior secured debt. However, we have treated as super senior the ground rent of GBP400 million, which is secured by specific fixed assets and is not available to the company's cash-flow backed lenders in debt recovery.
Our waterfall analysis generated a ranked recovery for the senior secured notes and term loans, as well as the new private placement facility, in the 'RR2' band, indicating a 'BB' instrument rating, two notches higher than the IDR. The waterfall analysis output percentage on current metrics and assumptions is 81% (previously 77%). The senior secured second lien debt (GBP500 million) is rated in the 'RR6' band with an instrument rating of 'B-', two notches below the IDR with a zero output percentage.
The difference in recovery percentage to the previous 77% (in May 2023) takes into account the smaller perimeter of the transaction, repayment of the GBP200 million Arthur bridge facility, downsizing of the private placement facility (to GBP684 million from GBP770 million) and reduced ground rents transaction (GBP400 million from GBP500 million previously).
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Upgrade:
Continued lfl sales growth along with improvement in gross margin, successful integration of acquired businesses and delivery of synergies, plus cost savings to offset operational cost inflation, leading to growth in EBITDAR and FCF with cash applied towards debt reduction resulting in:
EBITDAR gross leverage below 5.0x on a sustained basis;
EBITDAR fixed charge cover above 2.0x on a sustained basis.
Factors that Could, Individually or Collectively, Lead to Downgrade:
Lfl sale decline exceeding other big competitors', inability to grow profits, failure to integrate and generate synergies from acquired businesses, Project Future cost overruns leading to low-to-neutral FCF, and reduced deleveraging capacity;
Lack of debt prepayments;
EBITDAR gross leverage remaining above 6.0x on a sustained basis;
EBITDAR fixed charge cover below 1.7x on a sustained basis.
Liquidity and Debt Structure
Adequate Liquidity: Liquidity is adequate with GBP450 million cash on the balance sheet pro forma for the transaction and GBP200 million bridge facility repayment as at September 2023. ASDA also has access to an upsized, undrawn revolving credit facility (RCF) of GBP667 million.
Post-3Q23, ASDA has repaid the GBP200 million bridge loan related to the acquisition of Co-Op stores in 2023. Fitch assumes the company will voluntarily prepay up to GBP500 million of debt during 2024 and 2025, in addition to scheduled repayments under term loan A (GBP195 million due in 2025). Our rating case assumes completion of ground rent transaction (GBP400 million) to refinance currently drawn bridge loan (GBP290 million) and replenishing its cash position.
We project ASDA's liquidity to remain adequate over the next two to three years with mildly positive FCF generation, despite hefty payments related to IT separation one-off costs (Project Future). Fitch adjusts its readily available cash by GBP190 million for working-capital purposes from 2023 to reflect the larger scale of the group. We expect available liquidity ranging between GBP0.8-1 billion at FYE over the rating horizon.
Issuer Profile
ASDA is the third-largest supermarket chain in the UK, with around a 14% market share. Bellis Finco is the top entity of the restricted group, while Bellis Acquisition Company Plc is an entity one level below the restricted group that issues senior secured debt.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
ASDA has an ESG Relevance Score of '4' for group structure due to the complexity of the group structure with a number of related-party transactions. This has a negative impact on the credit profile, and is relevant to the rating in conjunction with other factors.
The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.
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