Johannesburg, 08 December 2017 — Global Credit Ratings has today affirmed the national scale Issuer ratings assigned to Adcorp Holdings Limited of BBB-(ZA) and A3(ZA) for the long and short term respectively, with the outlook accorded as Negative.
SUMMARY RATING RATIONALE
Global Credit Ratings (“GCR”) has accorded the above credit ratings to Adcorp Holdings Limited (“Adcorp”, or “the group”) based on the following key criteria:
As cautioned in GCR’s market alert dated 19 September 2017, and following negative rating action taken in June 2017, Adcorp breached the EBITDA interest cover covenant in respect of its Group 1 secured notes, on the back of weak operating performance. The net debt to EBITDA covenant was also breached, with the normalised metric reaching a high of 6.7x at 1H FY18 (FY17: 3.2x). Accordingly, and in line with plans to secure a funding profile that is better suited to Adcorp’s operating model and atypical cash conversion cycle (where cash serves as working capital), Adcorp has secured a R1bn, three-year syndicated facility, which together with internal cash resources, has enabled the repayment of ABCB04 (R209m) and the refinance of the other Group 1 Notes (as well as drawn bank facilities) on more favourable terms. The facility has ratcheted margin and covenant features, while drawdowns are structured to amortise five months prior to the final maturity date. A new AUD47m structure comprising amortising term debt, revolving credit and a bank guarantee has also been secured for Australia. Broadly, plans to contain group gearing further are still in place, and will continue to be monitored by GCR.
The group identifies as a global workforce solutions group, supported well-entrenched brands. It, however, continues to face challenging conditions across its territories, with local operations still clawing back volumes lost in the wake of changes to the Labour Relations Act. In addition, its international operations registered much weaker than expected performance in 1H FY18, due to the commodity price downturn and the resultant mothballing of several projects in oil & gas in particular.
In order to better position itself amidst challenging conditions across its key territories and to ensure profitability through the cycle, management is in the process of refining group strategy, while extensive changes have been made to the executive (as well as the rest of the board), and operating structures are being overhauled. Although planned changes are positively viewed, weak domestic macroeconomic fundamentals and socio-political uncertainty may curtail volume and earnings progression over the rating horizon. Accordingly, the Issuer ratings have been placed on negative outlook, with decisive and timely execution of the ongoing turnaround initiatives required to stabilise the ratings.
The sale of the Nihilent investment and plans to divest of the rest of Africa (“RoA”) operations following the jettisoning of the Singapore-driven expansion strategy will see the group focus on further entrenching its market position in SA and Australia. In addition, management plans to restore the group’s fortunes by leveraging the strong core entities, adopting a lean, scalable structure, strengthening the group brand, and achieving a sustainable change in the corporate culture. Stripped of RoA operations, group revenue fell by an annualised c.2% in 1H FY18, while the EBITDA margin contracted by 1.2 percentage points to a new low of 1.3% (five-year average: 3.5%). The clean-up of the debtors book resulted in a R78m writedown, which together with the impairment of intangibles and the group’s RoA assets, reduced Adcorp’s interim attributable earnings margin by c.2.5 percentage points.
Whilst certain international operations acquired over the years were inherently margin dilutive, significant pressure has arisen from a 313% rise in head office costs from FY12 to FY17, on the back of redundancies, role duplication and a top-heavy structure (inter alia). Note is taken of remedial action being taken in this regard, including simplification of internal IT operations, staff cost rationalisation, and the exiting of the Genpact contract. This is expected to unlock c.R200m in cost savings and sustain efficiencies seen in the cash conversion, albeit the full effect on cash flows will only be evident from FY19.
Looking ahead, the containment of debt within management’s comfort levels, as well as the proven ability to sustainably reduce costs and stabilise volumes, supporting a recovery in margins and earnings despite a challenging operating climate are required to stabilise the ratings. Conversely, volatile gearing, failure to adhere to covenants, or a deterioration in asset quality or collections would be negatively considered. Economic and regulatory pressures that materially curtail the group’s free cash flows could also warrant negative rating action.
|NATIONAL SCALE RATINGS HISTORY|
|Initial rating (December 2012)||Last rating (June 2017)|
|Long term: BBB(ZA); Short term: A3(ZA)||Long term: BBB-(ZA); Short term: A3(ZA)|
|Outlook: Stable||Outlook: Rating Watch|
|Primary Analyst||Committee Chairperson|
|Patricia Zvarayi||Eyal Shevel|
|Senior Analyst||Sector Head: Corporate Ratings|
|(011) 784-1771||(011) 784-1771|
APPLICABLE METHODOLOGIES AND RELATED RESEARCH
Global Master Criteria for Rating Corporate Entities, updated February 2017
Adcorp Holdings Limited Issuer rating reports, 2012-June 2017
Adcorp Holdings Ltd Issuer and Group 1 Notes: update on Rating Watch, 19 September 2017
RATING LIMITATIONS AND DISCLAIMERS
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|Cash Flow||The inflow and outflow of cash and cash equivalents. Such flows arise from operating, investing and financing activities.|
|Commodity||Raw materials used in manufacturing industries or in the production of foodstuffs. These include metals, oil, grains and cereals, soft commodities such as sugar, cocoa, coffee and tea, as well as vegetable oils.|
|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.|
|Debt||An obligation to repay a sum of money. More specifically, it is funds passed from a creditor to a debtor in exchange for interest and a commitment to repay the principal in full on a specified date or over a specified period.|
|Drawdown||When a company utilises facilities availed by a financial institution or an international lender there is said to be a drawdown of funds.|
|Gearing||With regard to corporate analysis, gearing (or leverage) refers to the extent to which a company is funded by debt and can be calculated by dividing its debt by shareholders’ funds or by EBITDA.|
|Impairment||Reduction in the value of an asset because the asset is no longer expected to generate the same benefits, as determined by the company through periodic assessments.|
|Interest||Scheduled payments made to a creditor in return for the use of borrowed money. The size of the payments will be determined by the interest rate, the amount borrowed or principal and the duration of the loan.|
|Interest Cover||Interest cover is a measure of a company’s interest payments relative to its profits. It is calculated by dividing a company’s operating profit by its interest payments for a given period.|
|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.|
|Margin||A term whose meaning depends on the context. In the widest sense, it means the difference between two values.|
|Maturity||The length of time between the issue of a bond or other security and the date on which it becomes payable in full.|
|National Scale Rating||The national scale provides a relative measure of creditworthiness for rated entities only within the country concerned. Under this rating scale, a ‘AAA’ long term national scale rating will typically be assigned to the lowest relative risk within that country, which in most cases will be the sovereign state.|
|Rating Watch||Indicates that a rating is under review for possible change in the short term and the movement may be either positive or negative.|
|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.|
|Working Capital||Working capital usually refers to the resources that a company uses to finance day-to-day operations. Changes in working capital are assessed to explain movements in debt and cash balances.|
SALIENT FEATURES OF ACCORDED RATINGS
GCR affirms that a.) no part of the rating process 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.
Adcorp Holdings Limited participated in the rating process via face-to-face management meetings, teleconferences and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.
The credit ratings have been disclosed to Adcorp Holdings Limited with no contestation of the ratings.
The information received from Adcorp Holdings Limited and other reliable third parties to accord the credit rating included
- unaudited interim results for the six months to 31 August 2017 and related presentation;
- term sheet and other information related to the planned syndicated facility;
- the 2017 audited annual financial statements (plus four years of comparative numbers);
- signed Nihilent SPA and related SENS;
- a breakdown of facilities available and details of the SA operations’ indebtedness as at 31 August 2017; and
- the South African debtors’ profile as at 31 August 2017.
The ratings above were solicited by, or on behalf of, the rated client, and therefore, GCR has been compensated for the provision of the ratings.
GCR affirms Adcorp Holdings Limited’s rating of BBB-(ZA), Outlook Negative.