Fitch Upgrades Avangardco's Local Currency IDR to 'B+', Affirms Foreign Currency IDR at 'B'

Wed May 22, 2013 11:39am EDT

(The following statement was released by the rating agency) LONDON/MOSCOW, May 22 (Fitch) Fitch Ratings has upgraded Avangardco Investments Public Limited's (Avangardco) Long-term local currency Issuer Default Rating (IDR) to 'B+' from 'B' and the National Long-term Rating to 'AA+(ukr)' from 'A+(ukr)'. These ratings have been removed from Rating Watch Positive (RWP). They were placed on RWP on 12 March 2013 following the expectation of increased legal linkages with its parent company, UkrLandFarming PLC (ULF) which has a local currency IDR of 'B+' and a foreign currency IDR of 'B'. The Foreign Currency IDR and the Senior Unsecured Rating for the USD200m 2015 notes have been affirmed at 'B' and 'B'/RR4, respectively. The Outlooks for all ratings are Stable. These rating actions follow the recent placement of a total of USD425m of notes by ULF to which Avangardco's key operating subsidiaries provide an unconditional and irrevocable suretyship on a joint and several basis. Such legal ties add to the cross-default clauses already in place. Although Avangardco's bondholders do not benefit from a parent guarantee, this is mitigated by the stronger financial standing of Avangardco and a diminishing refinancing risk of its own Eurobond due in October 2015. The ratings are predicated upon ULF's commitment to respect Avangardco's bondholders and minority shareholders' rights. KEY RATING DRIVERS Local currency IDR equalised with its parent's Aside from the increased legal linkages, strategic ties are expected to remain strong, with Avangardco providing ULF substantial revenue and profit diversification, being an integral part to ULF's strategy of increasing its presence across the agricultural value chain. Fitch acknowledges that Avangardco's management teams and treasury functions remain separated from ULF and that trading relations between the two companies are limited. Standalone profile consistent with a 'B+' local currency rating On a standalone basis, Avangardco's local currency IDR also supports a 'B+' rating in our view reflecting its scale and leading market position supported by its low leverage. Further scope for an upgrade of Avangardco's local currency IDR would however only be driven by ULF's rating level and is ultimately dependant on ULF and Avangardco's efforts to embrace greater transparency and adherence to high-standard corporate governance practices. Improving financial flexibility Despite Avangardco's recent high capex related to Avis, Chornobaivske, and Imperovo Foods Fitch expects declining capex from 2013 and hence funds from operations (FFO) adjusted gross leverage to decline gradually towards 1.1x by end-2014 from 1.4x in 2012. Although Avangardco may decide to instate a dividend policy as free cash flow (FCF) turns positive, the current ratings do not assume a substantial dividend pay-out until the company accumulates sufficient resources to repay its Eurobond due in October 2015. Weak diversification, strong market positions Limited diversification beyond its two main product lines of eggs and egg products weighs negatively on Avangardco's business risk profile. This is driven by limited scope for further organic growth in Ukraine where Avangardco holds leading market positions and per capita consumption of eggs is one of the highest in the world along with exposure to health scares associated with birds and thus eggs or poultry production. Exports critical to strategy In 2012 exports represented 20% of group sales, approximately USD128m. Avangardco is somewhat reliant on export markets to channel increased expected egg production due to the limited upside in Ukraine. The main export markets remain North Africa, the Middle East and Asia; however there are opportunities from the EU's recent decision to open its egg and poultry market to imports from Ukraine (albeit subject to import tariffs). This should contribute to the group's focus on exports and greater diversification of sales by channel and destination. High profitability under pressure Avangardco reported a strong EBITDA margin in 2012 of 39.8%, only 100bp lower than 2011 despite high grain prices reflecting the group's early purchasing of grain, partnerships with local farmers and adequate pricing power. High prices of corn and oilseeds, if combined with failure to channel additional production capacity externally could create overcapacity in the domestic egg market and downward price pressure causing some erosion of profit margins especially after 2014. Limited impact from guarantee to ULF on Avangardco's bondholders Previously Fitch had stated that Avangardco's low leverage, with low secured debt, and an expanding asset base were reflected in high recovery prospects for bondholders. Fitch estimates that, even including the burden of the new guarantee (estimated for the total amount of USD425m including the tap issue amount) as a contingent liability, net debt to EBITDA would be 2.3x, below Avangardco's debt incurrence maximum leverage test of 3x. Fitch expects above-average recovery prospects for unsecured creditors at Avangardco level, albeit capped at 'RR4' (31%-50%) for the Ukraine jurisdiction, hence the affirmation of the foreign currency senior unsecured rating at 'B'. RATING SENSITIVITIES Negative: Future developments that could lead to negative rating action include: - FFO adjusted leverage (gross) to 3.0x (both for ULF and Avangardco) on a continuing basis - FFO fixed charge cover weakening below 4x - Diminishing liquidity cushion ahead of the maturity of its Eurobond due in October 2015 or evidence of weaker linkages with ULF or higher than expected dividends paid. Positive: While Avangardco's business risk profile would not lend itself to a higher rating on a standalone basis, future developments that could lead to a positive rating action are inherently linked to its parent company assuming either greater linkages with (or full integration of Avangardco into) ULF: - Group consolidated FFO margin above 30% - Expansion plan funded mainly by internal cash flows - Group consolidated FFO adjusted leverage (gross) below 1.5x on a continuing basis - Stronger corporate governance practices (and unwinding of transactions with related-party banks) at group level. An upgrade of the foreign currency IDR would be possible only if the Country Ceiling for Ukraine was upgraded (currently 'B') Contact: Principal Analyst Anton Shishov Associate Director +7 495 956 55 69 Supervisory Analyst Pablo Mazzini Senior Director +44 20 3530 1021 Fitch Ratings Limited 30 North Colonnade London E14 5GN Committee Chairperson Giulio Lombardi Senior Director +39 02 8790 87214 Media Relations: Julia Belskaya von Tell, Moscow, Tel: +7 495 956 9908, Email: julia.belskayavontell@fitchratings.com; Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. Additional information is available on www.fitchratings.com. For regulatory purposes in various jurisdictions, the supervisory analyst named above is deemed to be the primary analyst for this issuer; the principal analyst is deemed to be the secondary. Applicable criteria, 'Corporate Rating Methodology' dated 8 August 2012 are available at www.fitchratings.com. Applicable Criteria and Related Research: Corporate Rating Methodology here Additional Disclosure Solicitation Status 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 WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

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