Aug 20 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has affirmed L'Oreal SA's (L'Oreal) Short-term Issuer Default Rating (IDR) at 'F1+'. The agency has also affirmed L'Oreal USA Inc's commercial paper (CP) programme guaranteed by L'Oreal at 'F1+'.
The rating reflects L'Oreal's strong business profile and financial flexibility. L'Oreal's business profile is underpinned by the group's leading position in the cosmetics industry and its comprehensive market coverage, seen in its high diversification by segment, product, price range and geography. Its strong financial flexibility is supported by high cash flow generation capacity, ample liquidity reserves and sound financial metrics. Fitch believes this should allow L'Oreal to both meet its current financial policy, characterised by steadily increasing returns to shareholders and measured bolt-on acquisitions, or any deterioration in its operating performance, notably from its sales exposure to the more cyclical luxury and hair care professional markets.
KEY RATING DRIVERS
Consolidating Leading Market Position
L'Oreal's strong business profile is underpinned by its leading position in the cosmetics industry. In 2012 the company's sales grew faster than the cosmetics market in all its geographical areas of operations, with total organic growth excluding currency fluctuations of 5.5% against estimated market growth at 4.6%. Comprehensive market coverage, product range and pricing points enable the group to address structural factors affecting the cosmetics industry, such as an ageing global population and the economic development of emerging markets.
Enhanced Geographical Diversification
In 2012 emerging markets became L'Oreal's largest sales contributors, representing 38% of its total revenues. This reflects the company's successful strategy at adapting to local consumer tastes in the context of fast-growing beauty products consumption in these geographies. At EUR1.5bn before non-allocated expenses, their operating profit contribution to L'Oreal's cosmetics branch is now close to the company's historic market of Western Europe's operating profit of EUR1.6bn. Increasing sales exposure to fast-growing emerging markets provides L'Oreal with greater resilience in operating performance and strengthens its long-term growth prospects.
Tough Consumer Environment
The group's sales development continues to be mainly constrained by the tough consumer environment in Western Europe, which represents 36% of 2012 total revenues. In terms of operating profit this is mitigated by the group's strong innovation capacity, marketing power and ability to control costs. In 2012 L'Oreal increased its operating margin in Western Europe by 40bps mainly thanks to optimised marketing expenses combined with market share gains due to leading share of voice amongst competitors.
Partial Exposure to Cyclical Markets
L'Oreal's sales and operating profit are exposed to cyclical markets through its Professional products and Luxury divisions (38% of 2012 revenues). Due to the economic growth deceleration experienced in major emerging countries such as China and Brazil since the end of 2012, Fitch expects the company's sales growth pace to slow down to the low single digits in 2013, from the high 10.4% reached in 2012.
Strong Free Cash Flow
The rating also reflects L'Oreal's strong free cash flow (FCF) generation capacity. In 2012 FCF after dividends was EUR1.4bn, up from EUR0.9bn in 2011. Over the next three years Fitch expects the group's annual FCF after dividends to remain above EUR1.0bn. Further EBITDA uplift should compensate for working capital needs growing in line with sales, as well as a continued steady increase in dividends.
Strong Credit Metrics
L'Oreal lease-adjusted gross funds from operations (FFO) leverage decreased to 0.9x in 2012 from 1.8x in 2009 (to 0.8x from 1.6x on a lease-adjusted net debt/EBITDAR basis over the same period). The company's financial flexibility is further reflected in its positive net cash position, at EUR1.6bn at year-end 2012. With a lease-adjusted gross FFO leverage ratio that Fitch expects to remain at or below 1.0x in the near-term in the absence of major debt-funded acquisitions, the company's short-term IDR should remain comfortably at 'F1+'.
M&A, Returns to Shareholders
Fitch expects L'Oreal to pursue bolt-on acquisitions and share buybacks, in addition to further increase in dividends. The group restarted its share buyback programme in 2012 and has bought back EUR1.0bn worth of shares since. Fitch believes the company's strong cash flow generation capacity, sound credit metrics and high liquidity reserves should allow the company to continue to conduct this financial policy without significantly hampering its financial profile.
Negative: Future developments that could lead to negative rating action include:
- Total CPs back-up lines below 100% of total amount drawn under the CP programmes
- Sharp deterioration in the group's FCF profile
- Adjusted gross FFO leverage ratio above 2.0x (1.5x net) or temporarily higher