Johannesburg, 15 June 2017 — Global Credit Ratings (“GCR”) has downgraded the final, public long-term credit ratings accorded to the following Senior Secured Notes issued by Adcorp Holdings Limited (“Adcorp”) to ‘BBB+(ZA)’ from ‘A(ZA)’, and placed the Notes on ‘Rating Watch’:
|●||R400m 5 Year Secured Term Notes,||stock code ADCB01;||maturing 8 March 2018 (“R400m 5 Year Secured Term Notes”);|
|●||R209m 3 Year Secured Term Notes,||stock code ADCB04;||maturing 27 November 2017 (“R209m 3 Year Secured Term Notes”); and|
|●||R100m 3 Year Secured Term Notes,||stock code ADCB05;||maturing 4 December 2018 (“R100m 3 Year Secured Term Notes”).|
The Secured Term Notes mentioned above are collectively referred to as the Group 1 Notes.
The final, public ratings accorded to the Group 1 Notes relate to ultimate payment of interest and principal (as opposed to timely, akin to an expected loss rating which is a function of probability of default and loss severity).
Adcorp is the largest diversified workforce and business process outsourcing company in South Africa, offering placements over a wide range of industries. Recently the group has been faced with a challenging operating environment in the wake of changes made to the Labour Relations Act that resulted in significant deterioration in their trading volumes and sizeable losses (particularly linked to operations outside South Africa).
The Issuer’s bank accounts and trade receivables, among others, were ceded to the Security SPV in accordance with the Security Cession Agreement as collateral for the due, proper and timely payment of the obligations to the Group 1 Noteholders and overdraft facility providers (FirstRand Bank Limited: R190m and Absa Bank Limited: R170m), who rank pari passu and share pro rata in terms of the security agreements.
The Transaction depends on the ability of Adcorp, and after the occurrence of an Event of Default, the Security SPV, to collect payments under the trade receivables. The amount collected on the total debtors’ book as a percentage of the previous month’s outstanding debt balance has followed an upward trend, increasing from 53.4% in Jun’16 to 73.6% in Dec’16. The total debtors’ ageing profile has also improved from the 12 month high of 12.3% reported in Jun’16 to a moderate 6.8% as at 31 Dec’16.
The unsecured corporate rating of the Issuer was downgraded by GCR in June 2017, from ‘BBB(ZA)’ to ‘BBB-(ZA)’ with the ratings placed on ‘Rating Watch’. The rating action followed the release of Adcorp’s FY17 results which evidenced high gearing at 197% (FY16: 99%), as well as gross and net debt to EBITDA of 600% and 363% (FY16: 367% and 212%) respectively.
There was no breach in any of the Transaction covenants during the period under review (December 2016 to March 2017) with the Debtors Cover Ratio reported as 1.54x (covenant: ≥1.5), whilst the EBITDA Interest Cover Ratio was reported as 4.10x (covenant: ≥4) at 30 April 2017. However, GCR is particularly concerned about the evidenced pressure on Adcorp’s earnings having the potential to impact the EBITDA Interest Cover Ratio adversely. GCR noted that the EBITDA Interest Cover Ratio averaged 6.0x from January 2015 to December 2015, and has only managed to average 4.3x over the 12 month period to April 2017. The calculation of this covenant previously incorporated the aggregated once off and extraordinary items to be nullified at the beginning of each new financial year. Given that Adcorp accounted for certain once off and extraordinary costs of R124m in February 2017, and due to the covenant calculation being based on a 12 month rolling basis, Adcorp will continue to incorporate this cost into the current financial year for the EBITDA Interest Cover Ratio covenant calculation. GCR received a legal opinion confirming the extraordinary/abnormal nature of the incurred costs.
The ratings of the Group 1 Notes are derived by applying a notching approach, starting from the senior unsecured long-term corporate credit rating of the Issuer. The ratings incorporate the recoveries from the ceded trade receivables and relate to the ultimate repayment of interest and principal (as opposed to timely, akin to a loss severity rating, which is a function of probability of default and loss severity). Based on the expected “Superior Recovery Prospects” on the Group 1 Notes in an enforcement scenario and in light of the analysis carried out as above, a rating uplift of two national scale notches has been deemed appropriate for this transaction.
Senior Structured Analyst
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Structured Finance Analyst
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Sector Head: Structured Finance Ratings
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APPLICABLE METHODOLOGIES AND RELATED RESEARCH
Global Structurally Enhanced Corporate Bonds Rating Criteria – Sep ’16;
Global Criteria for Rating Corporate Entities – Feb ’17;
Adcorp Holdings Limited Rating Announcement – May ’17; and
RATING LIMITATIONS AND DISCLAIMERS
ALL GCR’S CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: http://GLOBALRATINGS.NET/UNDERSTANDING-RATINGS. IN ADDITION, GCR’S RATING SCALES AND DEFINITIONS ARE ALSO AVAILABLE FOR DOWNLOAD AT THE FOLLOWING LINK: http://GLOBALRATINGS.NET/RATINGS-INFO/RATING-SCALES-DEFINITIONS. GCR’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, PUBLICATION TERMS AND CONDITIONS AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE AT http://GLOBALRATINGS.NET.
|Ageing||The age of an asset or obligation.|
|Agent||An agreement where one party (agent) concludes a juristic act on behalf of the other (principal). The agent undertakes to perform a task or mandate on behalf of the principal.|
|Agreement||A negotiated and usually legally enforceable understanding between two or more legally competent parties.|
|Arranger||Usually an Investment bank that advises and constructs a transaction and acts as a conduit between the transaction parties: Client, Issuer, Credit Rating Agency, Investors, Legal Counsel and Servicers.|
|Arrears||General term for non-performing obligations, i.e. obligations that are overdue.|
|Bad Debt||A bad debt is an amount owed by a debtor that is unlikely to be paid when due, for example, to a company going into liquidation. This typically refers to default rather than delinquency.|
|Bond||A long term debt instrument issued by either: a company, institution or the government to raise funds.|
|Collateral||An asset pledged as security in event of default.|
|Corporate Credit Rating||A credit rating accorded to a corporate entity.|
|Covenant||A provision that is indicative of performance. Covenants are either positive or negative. Positive covenants are activities that the borrower commits to, typically in its normal course of business. Negative covenants are certain limits and restrictions on the borrowers’ activities.|
|Credit Rating Agency||An entity that provides credit rating services.|
|Credit Risk||The probability or likelihood that a borrower or issuer will not meet its debt obligations. Credit Risk can further be separated between current credit risk (immediate) and potential credit risk (deferred).|
|Debt||An obligation to repay a sum of money.|
|Debtor||The party indebted or the person making repayments for its borrowings.|
|Default||A default occurs when: 1.) The Borrower is unable to repay its debt obligations in full; 2.) A credit-loss event such as charge-off, specific provision or distressed restructuring involving the forgiveness or postponement of obligations; 3.) The borrower is past due more than X days on any debt obligations as defined in the transaction documents; 4.) The obligor has filed for bankruptcy or similar protection from creditors.|
|Delinquency||When a receivable is overdue and not paid on its payment due date.|
|Enforcement||To make sure people do what is required by a law or rule et cetera.|
|International Scale Rating LC||International local currency (International LC) ratings measure the likelihood of repayment in the currency of the jurisdiction in which the issuer is domiciled. Therefore, the rating does not take into account the possibility that it will not be able to convert local currency into foreign currency or make transfers between sovereign jurisdictions.|
|Issuer||The party indebted or the person making repayments for its borrowings.|
|Liability||All financial claims, debts or potential losses incurred by an individual or an organisation.|
|Liquidity||The ability to repay short-term obligations or short-term availability of liquid assets to a market or entity.|
|Liquidity Risk||The risk that a company may not be able to meet its financial obligations or other operational cash requirements due to an inability to timeously realise cash from its assets. Regarding securities, the risk that a financial instrument cannot be traded at its market price due to the size, structure or efficiency of the market.|
|Long-Term Rating||A long term rating reflects an issuer’s ability to meet its financial obligations over the following three to five year period, including interest payments and debt redemptions. This encompasses an evaluation of the organisation’s current financial position, as well as how the position may change in the future with regard to meeting longer term financial obligations.|
|Loss||A tangible or intangible, financial or non-financial loss of economic value.|
|Market||An assessment of the property value, with the value being compared to similar properties in the area.|
|Notching||A movement in ratings.|
|Noteholder||Investor of capital market securities.|
|Obligation||The title given to the legal relationship that exists between parties to an agreement when they acquire personal rights against each other for entitlement to perform.|
|Pari Passu||Side by side; at the same rate or on an equal footing. Securities issued with a pari passu clause have rights and privileges that are equivalent to those of existing securities of the same class.|
|Principal||The total amount borrowed or lent, e.g. the face value of a bond, excluding interest.|
|Provision||An amount set aside for expected losses to be incurred by a creditor.|
|Rating Outlook||A Rating outlook indicates the potential direction of a rated entity’s rating over the medium term, typically one to two years. An outlook may be defined as: ‘Stable’ (nothing to suggest that the rating will change), ‘Positive’ (the rating symbol may be raised), ‘Negative’ (the rating symbol may be lowered) or ‘Evolving’ (the rating symbol may be raised or lowered).|
|Receivables||General term for economic benefit derived from an asset.|
|Recovery||The action or process of regaining possession or control of something lost. To recoup losses.|
|Repayment||Payment made to honour obligations in regards to a credit agreement in the following credited order: 3.) Satisfy the due or unpaid interest charges; 4.) Satisfy the due or unpaid fees or charges; and 5.) To reduce the amount of the principal debt.|
|Securities||Various instruments used in the capital market to raise funds.|
|Security||An asset deposited or pledged as a guarantee of the fulfilment of an undertaking or the repayment of a loan, to be forfeited in case of default.|
|Security Agreement||A negotiated and usually legally enforceable understanding between two or more legally competent parties that specifies the collateral held as security.|
|Senior||A security that has a higher repayment priority than junior securities.|
|Short-Term Rating||A short term rating is an opinion of an issuer’s ability to meet all financial obligations over the upcoming 12 month period, including interest payments and debt redemptions.|
|Stock Code||A unique code allocated to a publicly listed security.|
|Structured Finance||A method of raising funds in the capital markets. A Structured Finance transaction is established to accomplish certain funding objectives whist reducing risk.|
|Surveillance||Process of monitoring a transaction according to triggers, covenants and key performance indicators.|
|Timely Payment||The principal debt, interest, fees and expenses being repaid promptly in accordance with the contractual obligation.|
|Trade Receivables||A legally enforceable claim for payment to a business by its customer or clients for goods supplied and or services rendered in execution of the customer’s order.|
|Transaction||A transaction that enables an Issuer to issue debt securities in the capital markets. A debt issuance programme that allows an Issuer the continued and flexible issuance of several types of securities in accordance with the programme terms and conditions.|
|Under Review||Failure to carry out a full review of a rated entity within the designated timeframe, either through lack of information or delays in finalisation, i.e. review is ongoing.|
SALIENT FEATURES OF ACCORDED RATINGS
GCR affirms that a.) no part of the ratings was influenced by any other business activities of the credit rating agency; b.) the ratings were based solely on the merits of the rated entity, security or financial instrument being rated; c.) such ratings were an independent evaluation of the risks and merits of the rated entity, security or financial instrument; and d.) the validity of the ratings is for a maximum of 12 months, or earlier as indicated by the applicable credit rating document.
The Issuer participated in the rating process via face-to-face meetings, teleconferences and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.
The ratings above were solicited by the Arranger and Issuer of the Transaction; GCR has been compensated for the provision of the ratings.
The credit ratings have been disclosed to the Arranger and Issuer with no contestation of the ratings.
The information received from the Arranger / Issuer:
- Historical trade receivables data of the total portfolio and for the ceded portfolio up to 31 March 2017;
- Debtors ageing statistics for the abovementioned period;
- Provisions for bad debts and actual write-offs from provisions for the abovementioned period;
- Monthly collections for the abovementioned period;
- Audited financial statements of the Issuer for the year ended 29 February 2017;
- Legal opinion in respect of the extraordinary costs incorporated in the EBITDA calculation;
- Compliance Certificates up to 30 April 2017;
- Adcorp Legal Report as at 24 January 2017 and the total legal collections due; and
- Final, signed and executed Transaction documents.