Aernnova Aerospace Assigned 'B+' Ratings; Outlook Revised To Negative On Global Suspension Of Air Travel

  • On Jan. 20, 2020, S&P Global Ratings assigned its preliminary 'B+' issuer credit and issue ratings to Spain-based aero structure and engineering services provider Aernnova Aerospace Corp. S.A. (Aernnova), along with a stable outlook.
  • Aernnova recently issued a €490 million term loan B and used part of the proceeds to repay all outstanding term debt.
  • Aernnova has leading niche market positions and established long-term customer relationships with key aerospace customers, but high customer concentration and average profitability.
  • We are assigning our 'B+' long-term issuer credit rating to Aernnova, and our 'B+' issue rating and '3' recovery rating to the company's term loan B, and revising our outlook to negative from stable.
  • The negative outlook reflects the fact that due to the global suspension of international and regional travel, and the likely impact it will have on the delivery and production rates of Aernnova's main customer Airbus, we see a risk that Aernnova may not maintain its credit metrics over our 12-month rating horizon.
PARIS (S&P Global Ratings) March 27, 2020—S&P Global Ratings today took the rating actions listed above.
S&P Global Ratings acknowledges a high degree of uncertainty about the rate of spread and peak of the coronavirus outbreak. Some government authorities estimate the pandemic will peak about midyear, and we are using this assumption in assessing the economic and credit implications. We believe the measures adopted to contain COVID-19 have pushed the global economy into recession (see our macroeconomic and credit updates here: As the situation evolves, we will update our assumptions and estimates accordingly.
The recent refinancing, coupled with the acquisition of U.K.-based aerospace business Hamble, will slightly dilute Aernnova's margins and raise its leverage.
However, Aernnova exhibits a good track record of integrating mergers and acquisitions and has robust free operating cash flow (FOCF) generation that supports its deleveraging prospects. Aernnova initially used €390 million of the term loan B to repay €280 million of existing term debt and planned to fund a one-off €100 million dividend to its shareholders. However, in light of the ongoing uncertainty caused by the spread of COVID-19, Aernnova's management decided to not pay the €100 million dividend to shareholders and instead retained the cash on its balance sheet to bolster its liquidity.
We also understand that the company subsequently drew the loan's €100 million delayed-draw portion and will also use these funds to strengthen its liquidity position. Finally, Aernnova drew €35 million from its revolving credit facility (RCF). We therefore estimate that--including existing cash on balance sheet--the company now has more than €280 million of liquidity sources, putting it in a strong position to weather potential near-term disruption caused by COVID-19.
As airlines delay taking delivery of new aircraft, Airbus could potentially lower its production rates.
As Airbus is Aernnova's largest customer, any reduction in Airbus' production rates would also affect Aernnova's production volumes, revenues, and absolute EBITDA, which could put pressure on the company's S&P Global Ratings-adjusted credit metrics. However, we believe that Aernnova's management is well prepared to adapt the business quickly and preserve margins.
However, as governments attempt to halt the spread of the COVID-19 pandemic, with most global and regional air travel shut down, we note that the majority of airlines have grounded most or all of their fleets. We currently expect a likely fall of about 30% in airline flying hours in 2019 (see "Ratings On European Airlines Lowered And Placed On CreditWatch Negative Due To Coronavirus Outbreak," published March 20, 2020). We expect many airlines to push hard to delay taking delivery of new planes until at least the end of the summer 2020. This, coupled with the potential for COVID-19 to cause future temporary production facility shutdowns, will likely affect delivery and therefore production rates at Airbus and Boeing. (See "Airbus 'A+/A-1+' Ratings Put On Watch Negative On Aircraft Delivery Delays Linked To COVID-19," published March 27, 2020, and "Boeing Co. Announces A Two-Week Shutdown Of Its Seattle-Area Operations, Ratings Remain On CreditWatch Negative," published March 23, 2020.)
We therefore expect that Airbus will lower delivery and production rates in 2020, which will have a knock-on effect further down its supply chain. Indeed, Airbus recently announced to the market that it is preparing for a period of lower production by bolstering its liquidity position and suspending its dividends. We note that Airbus recently closed its Toulouse and Hamburg production sites to assess them for COVID-19 risk and Aernnova followed suit, which is evidence of how closely correlated Aernnova's production cycle is with Airbus'.
For now, Airbus plans to maintain production and support its supply chain, meaning that Aernnova will also keep producing in line with the rates that Airbus decides on, albeit potentially at a lower rate.
If Airbus lowers production, we would expect Aernnova to experience a drop in revenues, profitability, and cash flows, thereby potentially weakening its credit metrics. However, we still forecast that FOCF should remain strongly positive in 2020. We continue to forecast that FFO cash interest will remain robust, at more than 7x in 2020 and 2021. Robust, positive FOCF generation is one of the supporting factors that underpins the 'B+' ratings.
We include in Aernnova's adjusted debt for 2020 the €390 million term loan in full (including the recent draw-down of the delayed-draw portion), then add €11 million for operating-lease obligations and about €35 million for factoring.
We also include in adjusted debt the public institutions debt. Pro forma the planned amortization schedule, we forecast that the balance of this debt will have been about €115 million in fiscal 2019. Despite incorporating high cash balances in our assessment of Aernnova's liquidity, we continue to apply a 100% cash haircut when we calculate leverage and cash flow metrics, as we do for financial sponsor-owned companies.
We bear in mind that once COVID-19 uncertainty has abated, Aernnova might follow a shareholder-friendly policy in terms of dividends and dividend recapitalizations. However, management has a clear commitment to keep leverage under 5x, has a large ownership stake in the business, and the financial-sponsor owners take a relatively conservative approach to leverage. Although we focus on S&P Global Ratings-adjusted debt, we note that the current large cash balances in excess of €280 million--to bolster liquidity for COVID-19 uncertainty--lower the company's reported net leverage considerably.
Aernnova's fair business risk profile reflects its niche market leading positions and key relationships with civil aerospace customers.
The competitive dynamics vary for commercial aerospace companies depending on their position in the supply chain. Original equipment manufacturers (OEMs), the companies that design, assemble, and market complete aircraft, and tier 1 suppliers, those that produce large assemblies or components, generally face a limited number of competitors. For tier 2 and lower suppliers, which produce smaller assemblies or basic parts or components, there are generally many more competitors. Our assessment of Aernnova's fair business risk profile reflects the company's position as a tier 1 and tier 2 supplier, high customer concentration, and average profitability. The acquisition of the lower-margin Hamble will slightly dilute group margins and increase overall customer concentration.
On one hand, Aernnova benefits from leading market positions across some of its businesses, including composites and empennage, where it has built a solid track record of designing and manufacturing over a number of years.
The company's revenue comes mainly from sales to major aviation and defense companies, including Airbus, Boeing, Embraer, and Bombardier. Aernnova has a solid and deep backlog with over five years' revenue coverage, including 87% of aero structure and component revenues for 2020-2022 already secured. The company remains the supplier for a typical program's life span, which is often over 30 years. There are notable barriers to entry given the expertise required for some of the more complex structures, and limited scope for customers to switch providers once full production is underway. Being present for several years on key contracts and performing as expected with regard to product quality and delivery deadlines has meant Aernnova stands in good stead to benefit from further contract awards. The company also has a good track record of integrating acquisitions.
On the other hand, Aernnova's position as a tier 1 and tier 2 supplier, with high concentration on a single OEM, constrains its competitive position.
There is significant customer concentration with Airbus, with its programs accounting for near to 50% of group 2018 revenues; in particular, the A350 XWB program (32%). Furthermore, we believe the Hamble acquisition will not materially change this high customer concentration, but will increase concentration on Aernnova's key customer Airbus, as Airbus is also a core customer for Hamble. However, Aernnova has a strong presence on many civil air platforms that are well positioned for good growth, including the Airbus A350 XWB, A330 NEO, A320 NEO, and A220; the Embraer E1 and E2; and the Boeing 787.
We also see some geographic concentration compared with the peer group.
The majority of Aernnova's revenue comes from a few core markets: Spain (46.1% of 2018 revenues), followed by the rest of the EU (18.5%), the U.S. (10.6%), Brazil (10.5%), Canada (8.2%), and the U.K. (Hamble).
Aernnova's adjusted margins have been steadily above 18% in recent years, but will weaken slightly in future.
However, we estimate that the Hamble acquisition will slightly dilute overall group margins from 2020 onward, to about 15%. We consider the company's level of profitability as average for the industry at 10%-18%.
A strong management team and commitment by the owners to maintain adjusted leverage of less than 5x support the 'B+' ratings.
We assess Aernnova's management and governance as fair. This reflects the company's clear strategic planning process and management being well experienced and incentivized, with the chairman and CEO, COO, CCO, and CFO benefiting from a combined 57 years of experience at Aernnova. The chairman and CEO and senior management own a 24.2% stake in the company. Towerbrook is the largest external shareholder, with an approximately 37.6% share in the company, with Peninsula Capital and Torreal holding about 14.7% and 10%, respectively. Towerbrook also holds a 13.6% stake in Aernnova via ANV Co-invest, but this is a passive investment with no board seat. Voting rights mirror economic interests. Although Aernnova is majority owned by financial sponsors, there is clear evidence of a commitment to keep leverage well below 5x.
We still consider Aernnova to be relatively immune to potential disruption from the U.K.'s departure from the EU and the U.S.-China tariff war.
We consider Aernnova to be relatively well insulated from the well-documented geopolitical and major platform risks that some rated peers are facing--specifically, the U.K.'s withdrawal from the EU, the ongoing U.S.-China trade disputes, and the grounding of the Boeing 737 MAX passenger plane. Although Aernnova will have production facilities, suppliers, and customers in the U.K. and Europe following the Hamble acquisition, we see the U.K.'s departure from the EU as having a minimal effect on the business versus some rated peers. Most of the company's business is local and there is very little cross-border flow of goods or services.
We apply a negative comparable ratings analysis of one notch to arrive at the rating of 'B+'.
This is because we believe the acquisition of Hamble, coupled with the refinancing and shareholder return, will result in margins softening to about 15% and a leverage spike of 4.7x in 2020. It also reflects Aernnova's relative size and scale, and its high customer concentration versus rated peers. Therefore, we see the company's business risk profile post-acquisition at the low end of the fair category.
The negative outlook reflects the global suspension of international and regional travel as governments try to contain the spread of the coronavirus. We expect Aernnova's main customer Airbus to lower delivery and production rates in 2020. We now see some risk that Aernnova might not maintain credit metrics commensurate with the rating, specifically adjusted EBITDA margins of about 15%, adjusted debt to EBITDA below 5x, and funds from operations (FFO) cash interest coverage of more than 3.0x over our 12-month rating horizon.
We could lower the rating on Aernnova if the company's margins were to deteriorate toward 10% or lower, debt to EBITDA were to rise to more than 5.0x on a sustained basis, FOCF were to turn negative, or the FFO-cash-interest-coverage ratio were to decrease below 3.0x without the prospect of a swift improvement. We could also lower the rating if the ratio of liquidity sources to uses were to decrease to less than 1.2x.
We consider a positive rating action unlikely at this stage, but we could raise the rating if Aernnova were to increase margins back to sustainably more than 18%, with continued positive FOCF, and improve debt to EBITDA to sustainably below 4x, supported by positive industry trends and a robust operating performance.
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