Fitch Affirms Imperial Tobacco Group PLC at 'BBB'; Outlook Stable

Mon Oct 7, 2013 12:51pm EDT

(The following statement was released by the rating agency) MILAN/LONDON, October 07 (Fitch) Fitch Ratings has affirmed Imperial Tobacco Group PLC's (Imperial) Long-term Issuer Default Rating (IDR) and senior unsecured rating at 'BBB' and Short-term IDR at 'F3'. The Outlook on the Long-term IDR is Stable. The senior unsecured ratings of the debt of Imperial's subsidiaries, Imperial Tobacco Finance PLC and Altadis Emisiones Financieras have also been affirmed at 'BBB'. The affirmation reflects Fitch's confidence that amid an accelerated volume decline in the core EU tobacco market, the company should be able to defend its profits thanks to the still strong pricing power of the industry and its resumption of cost-rationalisation programmes. Although we no longer expect Imperial to sustain growing free cash flow (FCF) generation, FCF is sufficient to cover shareholder distribution budgets. Leverage remains comfortable for the current 'BBB' rating and enjoys adequate headroom for the expected magnitude of adverse industry developments. KEY RATING DRIVERS Fourth-Largest Tobacco Company Although the smallest and the least geographically diversified of the four global players, Imperial benefits from a portfolio of mid- to low-priced cigarette brands and make-your-own products, which provides advantages in the high-price environments of its core markets. Imperial's ratings reflect its size, brands and strength in the consolidated global tobacco industry, with strong positions in the cash-generative UK, German and French markets. Challenging Core EU Market The fragile consumer spending environment in Southern Europe and the increase in illicit trade in the EU are affecting Imperial's consolidated volume performance. Due to its heavy exposure to the region (70% of total FY12 profits), these dynamics are a cause of concern for Imperial's profits. The company's H113 volumes dropped by 5.9%, with tobacco net revenues reporting a 2% decline and operating profit contracting by 5.2% in organic terms. Fitch expects overall FY13 performance to benefit from price increases introduced during the second half but believes the company's operating profile has mildly deteriorated due to its vulnerability to the downsides of the EU tobacco market. Resilient Profits Fitch expects Imperial will be able to maintain broadly stable revenue and profit growth, thanks to a combination of price increases that should compensate for volume declines in the EU together with product mix improvements and volume growth in emerging markets. Cost rationalisations, through a programme that targets GBP300m annual savings by 2018, should also support profitability. Regulatory Pressures Continue The ratings factor in the progressive increase of regulation in the sector. This includes the gradual extension of smoking and advertising restrictions to the less regulated developing markets of Eastern Europe and Asia. The Australian plain packaging legislation could have adverse effects if it was replicated across the world although we see this risk as low at present. Conversely, we expect limited adverse effects from the new EU Directive. Substantial Cash Flow The ratings are supported by the group's stable and substantial funds from operations (FFO; FY11-FY12: GBP2bn). Fitch expects pre-dividend FCF (excluding any exceptional working capital swings) to remain stable at approximately GBP1.5bn to GBP1.9bn, hence sufficient to cover dividends (GBP1bn in FY12 and growing in the high single digits) and annual share repurchases of GBP0.5bn. Stable to Declining Leverage Imperial's FFO adjusted net leverage reduced slightly over FY10-FY12 to 3.4x from 3.6x and lease-adjusted net debt/operating EBITDAR reduced to 2.7x from 3.0x. Although there could be a mild increase in leverage in FY13, Fitch expects Imperial's credit metrics to remain compatible with its 'BBB' rating. Adequate Liquidity The company's liquidity profile undergoes swings in relation to the collection and payment of excise duties affecting tobacco manufacturers. For Imperial these can be as much as GBP0.9bn intra year. Imperial has revolving credit facilities amounting to GBP3.6bn as well as access to the commercial paper market to meet such liquidity requirements. Imperial repaid a EUR0.5bn bond in early October 2013. It also has GBP1.0bn maturing in November 2013 and GBP0.6bn due in September 2014. The two 2013 maturities have already been pre-financed through USD2.25bn bonds issued earlier in 2013. We expect the 2014 debt maturity will be addressed by a combination of cash generated from operations as well as new financing. RATING SENSITIVITIES Negative: Future developments that may, individually or collectively, lead to a negative rating action include: - EBITDA contracting as a result of pricing and cost optimisation not adequately compensating volume declines - Major acquisition or more aggressive shareholder distribution policies - Net lease adjusted debt/operating EBITDAR above 3.0x equivalent to net lease-adjusted debt/FFO above 3.5x for more than 12-18 months - FFO fixed charge cover ratio below 4.0x - Annual FCF margin dropping below 3% Positive: Future developments that may, individually or collectively, lead to a positive rating action include: - Net lease-adjusted debt/operating EBITDAR at around 2.0x - 2.3x maximum equivalent to net lease-adjusted debt/FFO sustainably below 3.0x subject to: - FCF growing to consistently above GBP700m - Stable or growing EBITDA, with competitive environment not posing concerns - FFO fixed charge cover ratio above 6.0x Contact: Primary Analyst Giulio Lombardi Senior Director +39 02 8790 87214 Fitch Italia SpA Vicolo Santa Maria alla Porta, 1 20123 Milan Secondary Analyst Ching Mei Chia Director +44 20 3530 1068 Committee Chairperson Pablo Mazzini Senior Director +44 20 3530 1021 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. Additional information is available at www.fitchratings.com. Applicable criteria 'Corporate Rating Methodology' dated 5 August 2013 is available at www.fitchratings.com. Applicable Criteria and Related Research: Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage 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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