TEXT - S&P revises Grohe Holding GmbH outlook to positive
Overview -- We anticipate that Grohe Holding GmbH (Grohe), the indirect parent of Germany sanitary fittings manufacturer Grohe AG, will return to generating positive free operating cash flow in 2013, with improving credit metrics. -- We forecast improvements in the group's trading performance, supported by Grohe's stake in Chinese joint venture partner Joyou AG and margin improvements, despite difficult conditions in European end-markets that we believe will persist. -- We are therefore revising the outlook on Grohe to positive from stable and affirming our 'B-' long-term corporate credit rating on the group. -- The positive outlook reflects that we could upgrade Grohe by one notch if the group can sustain funds from operations to debt in the high single digits and positive discretionary cash flow. Rating Action On Dec. 20, 2012, Standard & Poor's Ratings Services revised its outlook on Grohe Holding GmbH (Grohe), the indirect parent of German sanitary fittings manufacturer Grohe AG, to positive from stable. At the same time, we affirmed our 'B-' long-term corporate credit rating on Grohe. In addition, we affirmed our 'B-' issue ratings on Grohe's senior secured debt--comprising the EUR375 million-equivalent senior secured term loan and the EUR500 million senior secured notes. The recovery rating on these debt instruments is '3', indicating our expectation of meaningful (50%-70%) recovery in the event of a payment default. Finally, we affirmed our 'B+' issue rating on Grohe's EUR150 million super senior revolving credit facility (RCF) due 2016. The recovery rating on the super senior RCF is '1', indicating our expectation of full (90%-100%) recovery for debtholders in the event of a payment default. Rationale The outlook revision reflects our view that Grohe will continue to outperform the tough conditions in its end markets, with modest positive sales growth in 2013 for its core operations (excluding consolidated sales from its Chinese joint venture partner Joyou AG). This is despite our view that the European end markets--where Grohe still derives about one-half of its sales--will remain extremely difficult in 2013. We believe that improvements in Grohe's trading performance will come from increased market penetration, particularly in the U.S., as well as from margin improvement supported by Grohe's strong pricing power and product and country mix changes. Results should derive support from double-digit organic growth from Asia, principally through Joyou, although we proportionally deconsolidate the joint venture to reflect Grohe's 35.8% economic interest. At the same time, we believe that Grohe's Standard & Poor's-adjusted debt will peak in 2012 due to a number of cash outflows that we do not anticipate will be repeated. These outflows include an EU competition fine paid in 2010; the costs of Grohe's acquisition of its stake in Joyou (including EUR45 million of shareholder loans); and record-high capital expenditure (capex) in 2011 and 2012 that we believe Grohe will not sustain in future. As a result of the aforementioned improvements, we believe that Grohe's credit metrics will improve in the short term, with funds from operations (FFO) to debt growing to the high single digits in 2013 from 5.5% at Sept. 30, 2012. We also believe that the group will return to posting positive free operating cash flow (FOCF), following negative FOCF in 2010 and 2011. The ratings on Grohe reflect our assessment of the group's "highly leveraged" financial risk profile and "fair" business risk profile. Our view is based on Grohe's exposure to volatile commodity prices and exchange rate fluctuations, its limited scale, and its dependence on some key markets such as Germany. We consider Grohe's solid market position in the fragmented European sanitary fittings industry, good product diversity, strong brand name, and exposure to the less cyclical renovation and refurbishment end-market (which we estimate at about 70% of the group's sales), to be rating strengths. Liquidity We assess Grohe's liquidity as "strong" under our criteria (see "Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers," published Sept. 28, 2011, on RatingsDirect on the Global Credit Portal). As of Sept. 30, 2012, Grohe had EUR64 million available under its super senior RCF, as well as reported cash and funds in overnight deposits of EUR151 million. However, we assess that Grohe's effective cash for liquidity purposes is about EUR80 million, as we believe Grohe has limited recourse to EUR71 million of reported cash that is held at Joyou. We also anticipate that Joyou's net cash position will become unsustainable due to its large capex plans and short-term financing. These liquidity sources, combined with our forecast of limited positive discretionary cash flow in 2013, cover our forecast uses of liquidity by more than 1.5x for the next 12 months, given no significant short-term liabilities. Over 2012, Grohe fully refinanced its EUR300 million 2014 senior secured floating-rate notes, and its EUR335 million senior notes due in 2014, through the issuance of a EUR375 million-equivalent (both U.S. dollar and euro-denominated) senior secured term loan maturing in May 2017 and EUR260 million of second-lien floating-rate notes maturing in October 2017. Following the repayments, Grohe has pushed back all its long-term debt maturities to 2017, when approximately EUR1.1 billion is due. Grohe has a EUR150 million super senior RCF with a springing maturity in March 2016. The springing maturity was activated by the redemption of Grohe's subordinated floating-rate notes. The RCF has one financial maintenance covenant specifying minimum indenture EBITDA generation of at least EUR100 million. We project that Grohe should maintain significant headroom under this covenant, thereby ensuring continuous availability of the RCF. Recovery analysis The issue rating on Grohe's EUR150 million super senior RCF due 2016 is 'B+', two notches above the corporate credit rating. The recovery rating on the super senior RCF is '1', indicating our expectation of full (90%-100%) recovery for debtholders in the event of a payment default. The issue rating on Grohe's senior secured debt--comprising the EUR375 million-equivalent senior secured term loan and EUR500 million senior secured notes--is 'B-', in line with the corporate credit rating. The recovery rating on these debt instruments is '3', indicating our expectation of meaningful (50%-70%) recovery in the event of a payment default. The recovery ratings are supported by our valuation of Grohe as a going concern, reflecting the group's good market position in Europe, and the comprehensive security package. The recovery rating on the super senior RCF reflects its seniority over the various senior secured notes and subordinated notes. The recovery ratings on the senior secured notes reflect their legal seniority to the subordinated notes. To determine recoveries, we simulate a hypothetical default scenario. Our simulated default scenario contemplates a default in 2015 assuming a combination of a high financial leverage, a prolonged and severe deterioration in the construction market, and a weak macroeconomic environment from 2012, leading to a reorganization of the group. We estimate a stressed enterprise value at the point of default of about EUR1,030 million, implying a stressed EBITDA multiple of 5.5x. After deducting priority liabilities of about EUR230 million, mainly comprising enforcement costs, pension liabilities, and debt at the subsidiary level, we arrive at a net stressed value of about EUR800 million. This leaves residual value available for the super senior debtholders. At default, we assume that the super senior RCF would be fully drawn and have EUR160 million outstanding, including six months prepetition interest. Consequently, the recovery rating on the super senior RCF is '1', indicating our expectation of full (90%-100%) recovery for debtholders in the event of a payment default. This leaves about EUR640 million of residual value for the senior secured debtholders. At default, we assume about EUR920 million senior secured debt outstanding, including six months of prepetition interest. This equates to a recovery rating of '3' on the senior secured debt, indicating our expectation of meaningful (50%-70%) recovery prospects in the event of a payment default. Outlook The positive outlook reflects our view that despite difficult core European end-markets, Grohe's trading performance will continue to improve in 2013, supported by increased earnings from Asia. We believe that Grohe should return to generating positive FOCF in 2013, which in the absence of large cash outflows such as the EU fine paid in 2010 and the Joyou acquisition in 2011, should allow the group to deleverage. We believe that Grohe could achieve a 'B' rating if it can sustain adjusted FFO to debt in the high single digits and positive discretionary cash flow. We could revise the outlook to stable should we no longer believe that Grohe's credit metrics will improve at the rate we anticipate. This could in our view occur either through a more pronounced deterioration in the group's markets than we currently forecast, the incurrence of additional debt as a result of higher investments than we currently anticipate, or further significant share purchases in Joyou. Related Criteria And Research All articles listed below are available on RatingsDirect on the Global Credit Portal, unless otherwise stated. -- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 -- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Use Of CreditWatch And Outlooks, Sept. 14, 2009 -- Criteria Guidelines For Recovery Ratings On Global Industrial Issuers' Speculative-Grade Debt, Aug. 10, 2009 -- Key Credit Factors: Business And Financial Risks In The Global Building Products And Materials Industry, Nov. 19, 2008 Ratings List Ratings Affirmed; CreditWatch/Outlook Action To From Grohe Holding GmbH Corporate Credit Rating B-/Positive/-- B-/Stable/-- Ratings Affirmed Grohe AG Senior Secured* B+ B+ Recovery Rating 1 1 Grohe Beteiligungs GmbH Senior Secured* B+ B+ Recovery Rating 1 1 Grohe Holding GmbH Senior Secured B- B- Recovery Rating 3 3 Senior Secured B+ B- Recovery Rating 1 1 *Guaranteed by Grohe Holding GmbH.
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