Dec 03 -
Summary analysis -- FirstGroup PLC -------------------------------- 03-Dec-2012
CREDIT RATING: BBB-/Negative/A-3 Country: United Kingdom
Primary SIC: LOCAL AND
Credit Rating History:
Local currency Foreign currency
23-Apr-2007 BBB-/A-3 BBB-/A-3
12-Feb-2002 BBB/A-2 BBB/A-2
The ratings on U.K.-based transport operator FirstGroup PLC (FirstGroup) reflect Standard & Poor’s Ratings Services’ view of the company’s “satisfactory” business risk profile, tempered by its “significant” financial risk profile.
The business risk profile is supported by FirstGroup’s leading position in the U.K. and North American transport markets; the diversity of its operations; the significant proportion of earnings that are contractual; and the limited cyclicality and flexible operating model of the unregulated U.K. bus operations. These factors are tempered, in our view, by the exposure of the bus businesses to increases in fuel prices, wage costs, and variations in passenger numbers, and by the competitive nature of the U.K. rail industry, which features franchise renewal risk at maturity.
FirstGroup’s financial risk profile is constrained by relatively high leverage following the acquisition of Laidlaw International Inc. in 2007. The group has been gradually reducing debt since the acquisition, although since financial-year 2011 reported net debt has remained stable. We understand that FirstGroup plans to reduce leverage further in the medium term. We view FirstGroup’s financial policy as moderate, reflecting the group’s acquisitive history and shareholder-friendly orientation.
S&P base-case operating scenario
Our base-case operating scenario reflects our view that, despite continued weak economic conditions and high fuel prices, FirstGroup will be able to restore the profitability of its core U.K. and U.S. bus operations. We anticipate that the group will continue to benefit from its diversified portfolio of mainly stable businesses, its cost-control initiatives, and its fuel hedging strategy.
We forecast that for the 12 months ending March 31, 2013, FirstGroup’s adjusted revenues (excluding U.K. rail) will decline by about 2.6%, compared with the previous year, and that it will stabilize the following year. We also anticipate that in 2013 the adjusted EBITDA margin will be about 12%, compared with about 13% the previous year, and that it will recover to 2012 levels the following year.
Variation in the profitability margin reflects our expectation that profitability at the group’s U.S.-based First Student division will improve in 2013, on the back of measures to strengthen the operating model and increase the number of contract renewals.
It also reflects our anticipation that FirstGroup’s U.K. bus business’ profitability will weaken in 2013, and gradually recover thereafter as less-profitable bus assets are sold. Our base-case scenario incorporates a slower implementation of the disposal program than that forecast by the management team; we expect to see proceeds of GBP50 million in 2013 and the remainder of the disposal program the following year.
S&P base-case cash flow and capital-structure scenario
We forecast that adjusted funds from operations (FFO) will weaken over the next couple of years, reflecting weaker earnings and our forecast decline in dividends from U.K. rail franchises. We consider FirstGroup’s U.K. rail operations as an investment--i.e. we exclude them from forecast earnings, but include in adjusted FFO the dividends FirstGroup receives from its train operating companies (TOCs). We also add to debt any undrawn subordinated loan facilities that the group provides its TOCs, which we view as akin to financial guarantees.
Our base-case scenario does not incorporate any new rail franchises. This reflects uncertainty about the U.K.’s rail franchising process, and our view that re-franchising will be competitive, making it difficult to predict which franchise FirstGroup could secure and on what terms.
Our base-case scenario incorporates FirstGroup’s stated dividend policy, which involves the payment of a dividend of about GBP135 million (including minority dividend payments) in 2013. We note that the interim dividend has been kept at the level of the previous year, and that the final dividend will be decided in the coming months. Because the group has given no guidance on its dividend policy from 2014, we have not assumed any dividends after 2013.
We forecast that over the next two years, reported net debt will remain broadly stable at about GBP1.9 billion, while adjusted debt will decline slightly as U.K. rail franchises reach their term. We anticipate that adjusted FFO to debt will be below what we see as commensurate with the rating, at about 20% in 2013, before improving the following year to about 23%. Although this is below the 25% FFO-to-debt level that we see as commensurate with the rating, we take some comfort from FirstGroup’s commitment to its investment-grade rating, which it has maintained since 2002, the group’s stated focus on further leverage reduction, and management’s ability to manage dividend policy and asset disposals.