-- We no longer believe Finmeccanica SpA's credit metrics will
improve markedly in 2013, even if some possible disposals are forthcoming.
-- We are therefore lowering our corporate credit ratings on the company
to 'BB+/B' from 'BBB-/A-3'. We are also assigning a recovery rating of '3' to
the company's unsecured notes, corresponding to an issue rating of 'BB+'.
-- The outlook is stable, reflecting our base-case assumption that
Finmeccanica can slightly improve its operating profits in 2013.
On Jan. 18, 2013, Standard and Poor's Ratings Services lowered its long- and
short-term corporate credit ratings on Italy-based aerospace and defense group
Finmeccanica SpA to 'BB+/B' from 'BBB-/A-3'. The outlook is stable.
At the same time, we assigned a recovery rating of '3' to Finmeccanica's
unsecured notes, indicating Standard & Poor's expectation of meaningful
(50%-70%) recovery in the event of a payment default. This corresponds to an
issue rating of 'BB+' for the unsecured notes, in line with the corporate
credit rating on the group.
The downgrade reflects our base-case assumption that Finmeccanica is unlikely
to achieve a financial risk profile in line with a 'BBB-' rating in the near
term. The previous rating was underpinned by our expectation that Finmeccanica
would be able to improve its credit metrics through disposal proceeds of at
least EUR1.0 billion in 2012. This would have resulted in stronger credit
ratios, such as funds from operations (FFO) to debt of 25% by year-end 2012.
However, Finmeccanica has not achieved this ratio, which we would have viewed
as commensurate with a 'BBB-' rating, owing to ongoing delays in planned
Our rating action factors in the operational improvements reported in 2012 in
some of Finmeccanica's business lines and the likely benefits of the company's
continued efficiency programs in 2013 and beyond. We believe that operating
profits and cash generation in 2012 were in line with our expectations. In
2012, however, Finmeccanica only completed the sale of its 14% stake in Avio,
generating proceeds of EUR260 million. This was insufficient to achieve a marked
improvement in its financial risk profile. Finmeccanica's financial ratios
have been weak for the rating for some time. For example, we estimate FFO to
debt for 2012 to have been about 20%, which is below our indicative ratio of
25%. We estimate fully adjusted debt to EBITDA to have been about 4.0x at
year-end 2012, which is also at the lower end of the range we consider
commensurate with a "significant" financial risk profile.
In 2013, we anticipate that credit ratios such as FFO to debt or debt to
EBITDA are unlikely to improve markedly. Although the full disposal of
Finmeccancia's stake in Ansaldo Energia that could yield proceeds of EUR400
million-EUR500 million would be a positive, it would still leave the company's
financial risk profile in the "significant" category, according to our
criteria, with no positive rating implications.
Given continuing uncertainty regarding the company's disposal decisions and
their timing, we are now less confident that Finmeccanica will be able to
carry out disposals as it previously planned. We will therefore include the
proceeds of any such disposals in our base-case calculation of credit ratios
once any transactions are closed.
We believe Finmeccanica was able to achieve its public financial guidance for
2012. We estimate that revenues for 2012 will be EUR16.9 billion-EUR17.3
EBITA about EUR1.1 billion, and free operating cash flow (FOCF) minimally
positive. Our base-case for 2013 incorporates a mild improvement in operating
profits on the back of a flat sales development. We expect that defense
procurement spending in Italy will increase moderately and stay flat in the
U.K. in 2013, limiting growth opportunities. We think that Finmeccanica can
achieve FOCF of about EUR0.2 billion-EUR0.3 billion in 2013. This is supported
the existing order backlog of EUR44.7 billion of as of Sept. 30, 2012, and our
belief that efficiency measures initiated in 2011 will continue to bear fruit.
However, in view of Finmeccanica's fully adjusted debt of about EUR5.8 billion
expected at year-end 2012, we view a FOCF of EUR0.2 billion-EUR0.3 billion as
insufficient to allow for any marked deleveraging.
We continue to classify Finmeccanica's business risk profile as "satisfactory"
under our criteria. This is supported by our view of the group's diverse
positions in the European aerospace and defense industry and favorable
business mix, which is skewed toward predictable military activities. The
business risk is constrained, however, by some reliance of the group on its
domestic Italian military market, moderate profitability compared with peers
in the industry, and the weak business positions of its noncore activities,
notably its transportation division. Our management and governance score on
Finmeccanica is "satisfactory" according to our criteria.
We assess Finmeccanica's liquidity as "strong," as defined in our criteria,
and calculate that liquidity sources will exceed needs by more than 2x over
the next 24-36 months. This is mainly because Finmeccanica's average debt
maturity is about 10 years.
Sources of liquidity include:
-- Surplus cash of about EUR0.7 billion as of Sept. 30, 2012. This is
reported cash of EUR1.1 billion, less EUR0.4 billion that we consider to be tied
to operations. The cash balance in September is at its seasonally lowest
point. As is usual in the defense industry, the majority of free cash flow is
generated in the second part of the year. Therefore, we expect Finmeccanica's
cash balance at year-end 2012 will be significantly higher than at
-- A EUR2.4 billion revolving credit facility (RCF) maturing in September
2015. To our knowledge, this RCF does not contain financial covenants. As of
Sept. 30, 2012, EUR930 million of this RCF was used. We believe that
Finmeccanica generated significant FOCF in the fourth quarter of fiscal 2012.
We therefore expect the RCF to be undrawn again at year-end 2012.
In our liquidity analysis, we disregard uncommitted lines amounting to EUR0.6
billion as of Sept. 30, 2012. Finmeccanica's financial maturities over the
next 36 months are:
-- Debt of about EUR800 million due in 2013. This primarily relates to the
EUR750 million due in December 2013. This is the remaining outstanding amount of
a bond with a face value of EUR1.0 billion at issuance, after deducting EUR250
million of face value that Finmeccanica bought back in the market. In November
2012, Finmeccanica placed a five-year EUR600 million bond, the proceeds of which
will be used to refinance the EUR803 million due in December 2013.
-- Debt of EUR46 million due in 2014.
-- Debt of EUR46 million due in 2014.
For 2013, we anticipate that FOCF will be positive by EUR0.2 billion-EUR0.3
billion. Because Finmeccanica suspended dividend payments, we likewise
anticipate a positive discretionary cash flow in 2013. Therefore, we believe
that cash flows from ongoing operations will not affect Finmeccanica's
liquidity in 2013.
The recovery rating (which is based on Standard & Poor's assumptions and
calculations) on the existing unsecured notes issued by Finmeccanica SpA and
its 100% owned finance subsidiaries Finmeccanica Finance S.A. and Meccanica
Holdings USA Inc. is '3', indicating Standard & Poor's expectation of
meaningful (50%-70%) recovery in the event of a payment default. This
corresponds to an issue rating of 'BB+' for the unsecured notes, in line with
the corporate credit rating on the group.
The recovery rating is supported by the group's significant asset valuation
and its strong position as a supplier to the Italian and U.K. defense markets.
At the same time, the recovery rating is constrained at '3' by the group's
significant debt outstanding at our simulated point of default, the notes'
weak documentation, and Italy's insolvency regime, which we view as a less
creditor-friendly jurisdiction than those of other countries in the region.
The capital structure includes an unsecured RCF of EUR2.4 billion due 2015 and
EUR500 million of unsecured European Investment Bank (EIB) loans due 2022
borrowed by Finmeccanica, debt at various subsidiaries of about EUR400 million,
and unsecured notes of an amount equivalent to EUR3.6 billion. The company
provides guarantees of an amount of EUR21 billion to its clients. We understand
that these guarantees are primarily made up of parent company guarantees
issued in favor of clients, commercial counter guarantees issued in favor of
banks, and sureties against their guarantees issued in favor of clients. We
believe that from all these guarantees, those most at risk of a call on the
company at default would be progress payment bonds of about EUR4 billion. We
have therefore included them in the waterfall. We have excluded the debt and
valuation of the joint ventures from our analysis.
Finmeccanica and Finmeccanica Finance S.A. have issued notes amounting to
about EUR3.6 billion under the existing EUR3.8 billion euro medium-term note
(EMTN) program. Meccanica Holdings USA Inc. has issued notes of about EUR1.0
billion outside the EMTN program. The EMTN notes' documentation and the
documentation for the bonds issued by Meccanica Holdings is weak. The notes
are unsecured, benefit from a guarantee from the parent company Finmeccanica,
and do not contain any incurrence covenants. Nonpayment of debt borrowed by
the finance subsidiaries or any material subsidiary for an amount exceeding
EUR25 million would trigger a cross-default.
Given the absence of any maintenance or incurrence covenants, securities, or
guarantees, we view the RCF documentation as weak. The documentation includes
restrictions on provisions of security to tradable debt and we understand that
bank loans are not included in the definition of negative pledge in the
documentation. Furthermore, the documentation includes provisions for
additional debt with a carve-out for debt in respect of guarantees to third
parties, debt raised by finance subsidiaries, and any other debt not exceeding
50% of the total net worth of Finmeccanica.
To calculate recoveries, Standard & Poor's simulates a hypothetical default
scenario, which, in the case of Finmeccanica, would be caused by a prolonged
economic slowdown paired with an inability to raise additional debt in a
stressed capital market. We assume that the primary insolvency proceedings
would occur in Italy. We have relied on the EBITDA multiple approach and
discrete asset valuation approach to calculate the stressed enterprise value
of Finmeccanica. We believe the group would reorganize as a going concern
because it has, in our view, a sustainable business and strong position as
supplier of defense products.
We have applied a stressed EBITDA multiple of 6x to the stressed EBITDA,
resulting in a stressed enterprise value of about EUR7.0 billion (excluding
joint ventures) at our hypothetical point of default in 2018. We have assumed
that debt maturing prior to 2018 is refinanced under similar terms, and that
all facilities are fully drawn at the point of default.
To calculate recoveries, we deduct priority liabilities of about EUR1.2 billion,
comprising enforcement costs, 50% of the present value of net pension
liabilities, part of the factoring amounts, and debt at subsidiaries' level.
This gives us a net stressed enterprise value of about EUR5.4 billion for the
pari passu-ranking unsecured debt. This includes the unsecured notes, the
unsecured RCF, outstanding EIB loan in the hypothetical default year, and
progress payment bonds. This leads to our expectation of recovery prospects in
the 50%-70% range for the notes, and a recovery rating of '3'.
The stable outlook reflects our view that Finmeccanica can slightly improve
its operating profits on the back of flat sales in 2013. Under our base case,
we believe the company will generate FOCF of about EUR0.2 billion-EUR0.3 billion
in 2013 and, consequently, we expect credit metrics to improve mildly in 2013.
We would view an adjusted FFO-to-debt ratio in the range of 20%-25% and
positive FOCF generation as commensurate with the current rating.
We could consider a positive outlook or rating action on Finmeccanica if it
reduces its sizable fully adjusted debt. We would be unlikely to revise the
outlook as a result of higher cash generated from ongoing operations because
of the limited discretionary cash flow it generates relative to its sizable
fully adjusted debt. In view of the slow execution of asset disposals, we will
include proceeds from such disposals in our calculation of financial credit
metrics once the transactions are closed.
We would view an improvement in Finmeccanica's adjusted FFO-to-debt ratio
toward 30% as indicative of a possible positive rating or outlook action. If
the company is able to close the sale of Ansaldo Energia, it would strengthen
its financial risk profile but not necessarily lead to positive rating action.
This is because we think that upon a potential closing of any such
transaction, the resulting credit metrics such as FFO-to-debt would remain
We could take a negative rating action if FFO to debt fell toward 15% and debt
to EBITDA dropped to about 4.5x. This is because these credit ratios would be
indicative of an "aggressive" financial risk profile.
Downgraded; CreditWatch/Outlook Action
Corporate Credit Rating BB+/Stable/B BBB-/Negative/A-3
Senior Unsecured BB+ BBB-
Recovery Rating 3 NR
Finmeccanica Finance S.A.
Meccanica Holdings USA Inc.
Senior Unsecured* BB+ BBB-
Recovery Rating 3 NR
*Guaranteed by Finmeccanica SpA.