Koninklijke FrieslandCampina N.V. Downgraded To 'BBB/A-2' On Weak Operating Performance; Outlook Negative

  • Dairy company Koninklijke FrieslandCampina N.V. (Royal FrieslandCampina or RFC) has reported lower-than-anticipated operating margins for two years in a row, owing to high milk prices and competitive pressure on the infant formula segment in Hong Kong and China.
  • Therefore, our adjusted debt to EBITDA dramatically increased to 4.6x as of year-end 2018 and we expect the ratio to stay above 3.5x over the next 12-24 months.
  • Consequently, we are lowering our ratings on RFC to 'BBB' from 'BBB+'.
  • The outlook is negative, reflecting our view that RFC's turnaround strategy for its Dairy Essentials division might take longer than expected and that pressure on the Specialized Nutrition division could further weigh on margin recovery.
PARIS (S&P Global Ratings) April 19, 2019—S&P Global Ratings today took the rating actions listed above. The downgrade follows RFC's weaker operating results than anticipated in 2018, in the context of high milk prices, RFC's obligations to cooperative members to commercialize high milk volumes, and competitive pressures in Asian markets for infant formula. In addition, the negative outlook reflects our anticipation that RFC's profitability might be below our base-case assumptions in the next two years if market trends are negative. We consider that the company might not be able to restore margins, and this could both demonstrate a weaker business model than previously factored into our ratings and translate into weaker credit metrics than anticipated in our current base case, prompting us to lower the ratings.
The negative outlook reflects our view that RFC's turnaround strategy for its DE and CD divisions might take longer than expected and could be jeopardized by tough milk prices. In addition, the negative outlook reflects that ongoing pressure on the high-margin SN division in Hong Kong and China could further weigh on margin recovery. Therefore, we see at least a one-in-three chance that RFC will not be able to restore its profitability over the next 12-24 months, which would lead us to lower our ratings.
We could lower the 'BBB' long-term rating if RFC's operating performance remains constrained by operational headwinds. For example, if it is unable to cope with high milk supply while ramping up profitability or to rapidly pass on price increases to customers. If RFC is not able to restore its margin and deleverage below 4x by end of 2020, this would reflect a weaker business model than previously factored into our ratings. Finally, any significant change in financial policy, notably regarding debt-financed acquisitions, could be negative for the rating.
We could revise the outlook to stable if we saw improvement in RFC's profitability in the next 12-24 months following the successful implementation of the group's strategy. Moreover, a return to a 'BBB+' rating would be subject to significant improvements in the EBITDA margin, translating into credit metrics falling comfortably and sustainably in the 2.5x-3.5x range for debt to EBITDA. We would also seek to observe the group's maintenance of a conservative financial policy.
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