-- U.S. grocery store operator Roundy's Supermarkets' operating
performance was weaker than expected in the second quarter as a result of weak
economic conditions and intensifying industry competition. We believe that
trend will continue, at least for the near term.
-- We are lowering our ratings on Roundy's one notch, including the
corporate credit rating to 'B' from 'B+'.
-- The stable outlook reflects that, while we expect profit declines and
weaker credit ratios over the next year, those ratios are likely to remain
appropriate for the current rating category.
On Sept. 7, 2012, Standard & Poor's Ratings Services lowered its ratings on
Milwaukee-based Roundy's Supermarkets Inc., including the corporate credit
rating to 'B' from 'B+'. The outlook is stable.
The downgrade comes after weaker-than-expected operating trends in the second
quarter as a result of increased price competition and effective marketing
programs from competitors. We expect these factors will lead to weaker
performance and further credit metric deterioration.
The rating on Roundy's reflects our view of the company's business risk
profile as "weak," which we revised from "fair." This change incorporates that
weak economic conditions and new entrants into the industry, particularly
discounters, will increase competition and weaken the company's operating
performance and market presence. This is somewhat offset by the company's
relatively good presence in its local markets. We view Roundy's financial risk
profile as "highly leveraged," based on forecasted credit ratios.
Roundy's second-quarter operating trends, highlighted by a same-store sales
decline of 3.3% and an EBITDA deterioration of about 7.6%, were below our
expectations and weaker than most industry peers. For the remainder of 2012,
we anticipate further profit declines as the company takes price investments
as a result of competitors more aggressive pricing strategies and marketing
campaigns-leading to lower sales and operating margins. Below are our more
specific operating assumptions for 2012:
-- Sales growth of about 1%--new stores will offset a comparable-store
decline of about 2.5%-3.5% for the year;
-- We anticipate slight gross margin contraction of 10-20 basis points
-- Growth of general and administrative costs of about 3.0%-3.5%; with
expected sales growth, this would lead to EBITDA margin contraction of about
50 bps; and
-- EBITDA between $205 million and $210 million.
With our performance expectations, we project credit ratios, adjusted for
operating leases and company-sponsored pension plans at the end of 2012, to be
-- Debt to EBITDA in the 5.8x-6.0x range;
-- Adjusted EBITDA coverage of interest of 2.2x-2.3x; and
-- Funds from operations (FFO) to debt near 10%.
These ratios are in line with indicative ratios of highly leveraged financial
Historically, Roundy's operating trends have been consistent as compared to
many industry peers, and the company has been less vulnerable to weak economic
conditions and industry competition. The recent performance indicates that
Roundy's will be vulnerable to these factors over the near term. However, the
company still has a relatively good presence in many of its markets, and we
expect that performance could stabilize in 2013 if the company's pricing
strategies are more effective and industry competition moderates.
We view Roundy's liquidity as "adequate," which indicates our expectation that
liquidity sources should be greater than uses by a ratio of 1.2 to 1.0 over
the next two years. As of June 30, 2012, Roundy's sources of liquidity include
available borrowings of $94.9 million on its revolving credit facility, excess
cash which we estimate to be about $50 million-$60 million, and forecasted FFO
of about $130 million. We foresee liquidity uses to include some working
capital needs, capital spending between $60 million and $70 million, cash
dividends between $35 million and $40 million, term loan amortization annually
of $6.75 million, and cash flow sweep payments. Given the dividend payments
and capital spending assumptions, we expect Roundy's to generate about $25
million to $30 million of discretionary cash flow.
Relevant aspects of Roundy's liquidity are as follows:
-- We see coverage of uses by sources to be in excess of 1.2x for the
next two years;
-- We expect that sources would exceed uses even with a 15% drop in
-- We anticipate that the company will maintain adequate headroom over
maintenance financial covenants;
-- The company has sound relationships with its banks and a satisfactory
standing in the credit markets, in our view; and
-- Manageable near-term amortizations.
For the complete recovery analysis, please see the recovery report on
Roundy's, published Feb. 2, 2012, on RatingsDirect.
The outlook is stable. This incorporates expected profit declines and credit
metric deterioration, but we believe credit ratios will remain appropriate for
the financial risk assessment and rating category. We also expect Roundy's to
maintain adequate liquidity and generate positive discretionary cash flow. If
the operating declines are meaningfully worse than expected and EBITDA was
near $180 million, leading to leverage in the high-6x area and EBITDA coverage
of interest below 2x, we would likely consider a lower rating. This could
occur in 2012 if total revenue increased 1%, gross margins contracted 50 bps,
and operating and administrative expenses increased about 3.2%.
Conversely, given the company's operating trajectory and industry conditions,
we do not expect to consider a higher rating in the near term. However, if it
could improve leverage to the low-5x area and coverage to the mid-2x area, we
may consider a positive rating action. For that to occur, EBITDA would need to
improve to about $235 million, which we do not view as likely in the near term.
Related Criteria And Research
-- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Business Risk/Financial Risk Matrix Expanded, May 27, 2009
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
Roundy's Supermarkets Inc.
Corporate Credit Rating B/Stable/-- B+/Stable/--
Senior Secured B+ BB-
Recovery Rating 2 2