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U.K.-Based EG Group Ltd. Downgraded To 'B-' On Expected Slower Deleveraging Amid COVID-19 Disruption; Outlook Stable

  • We think petrol station operator EG Group's earnings, cash flows, and pace of leverage reduction will fall short of our previous expectations as the COVID-19 pandemic leads to declines in fuel demand, the closure of food-to-go (FTG) operations, and reduced sales at its convenience stores.
  • We expect the group's diversified operations, substantial contribution from convenience stores, very high fuel margins, and cost-saving and cash preservation initiatives in 2020 will curtail earnings erosion in the next 12 months, and cash flows will likely stay positive.
  • We are lowering our long-term issuer credit rating on EG Group to 'B-' from 'B'.
  • The stable outlook reflects our view that the group will likely prevent its S&P Global Ratings-adjusted debt to EBITDA from significantly exceeding 10x in 2020, and promptly reduce it to about 8x by end-2021, unless the fallout from the pandemic is greater than we currently anticipate.
LONDON (S&P Global Ratings) May 1, 2020--S&P Global Ratings today took the rating actions listed above.
We expect the deterioration in EG Group's performance due to the COVID-19 pandemic will be significant but short-term, with a rebound in the second half of the year. U.K.-based EG Group is one of the world's largest independent petrol station and convenience store operators. We expect the group to report about €760 million EBITDA (adjusted EBITDA of about €870 million) at the end of 2019, with about €8.4 billion in reported debt (adjusted debt of about €11 billion).
As the COVID-19 pandemic has spread, worldwide government-imposed shutdowns have not affected most of the group's network: it has only closed its FTG sites. However, we expect continuous social distancing and self-isolation measures will significantly reduce traffic at EG Group's stations and suppress both fuel and nonfuel sales. Notably, we forecast fuel volumes will drop by 50%-60% year-on-year in Europe and by 40%-50% in Australia and the U.S. in the months between March and May, 2020. We expect merchandise earnings--which account for about 40% of the group's gross profit and comprise both the currently operating convenience stores and the closed FTG sites--to be more resilient and stay largely flat thanks to the contributions of entities acquired in 2019. That said, since demand for EG Group products is mostly nondiscretionary, we think sales will gradually return to normal levels once governments lift restrictions.
Despite the drop in fuel volumes, we anticipate the group's revenue will increase by up to 5% in 2020 compared to 2019, thanks to very high fuel margins and the full consolidation of the businesses acquired in 2019. However, we think the prolonged closure of EG Group's high-margin FTG sites and subdued trading at its convenience stores will dilute the profitability of the group's nonfuel activities. We estimate that EG Group will show adjusted EBITDA of €0.9 billion-€1.1 billion in 2020, exceeding 2019's figure. However, these forecasts compare unfavorably to the €1.3 billion in our previous base case, and to the €1.1 billion-€1.2 billion we estimate the group would have generated on a pro forma basis, accounting for the full-year contribution of the acquired businesses in 2019.
We think adjusted debt to EBITDA will remain elevated through 2021 due to EG Group's substantial debt burden and soft macroeconomic prospects. We estimate the group had about €8.5 billion in financial debt as of March 31, 2020, about €120 million more than at end-2019, reflecting additional debt raised to fund an acquisition. We expect this, in combination with the slowdown in earnings expansion, will push EG Group's adjusted debt to EBITDA to at least 10x at end-2020. Our adjusted debt includes shareholder loans issued outside the restricted group, operating lease liabilities, and asset retirement obligations. Although this leverage level is likely to be a one-off peak, primarily stemming from COVID-19 lockdowns and social distancing, we think the group's debt to EBITDA will be remain elevated postcrisis, and it will take the group about a year longer than we had previously expected to reduce its adjusted debt to EBITDA below 8x. We assume most of the group's FTG sites will reopen in June 2020, and monthly fuel volumes will return to normal by the fourth quarter of the year. However, over the medium term, earnings will likely expand slower than the group initially planned, owing to a recessionary economy and high unemployment worldwide.
EG Group's global footprint, key role for financially strong suppliers, and ability to tap into multiple government programs support its adequate liquidity. We think the group has sufficient liquidity resources to weather the next 12 months of operations in a disrupted environment. Its position is underpinned by more than €400 million in cash coupled with residual revolving credit facility (RCF) availability of about €100 million. We understand the group is also in talks with lenders in different regions to secure additional sources of funding, through government-backed loans and financing schemes. In addition, EG Group was able to take advantage of its size and scale to negotiate more favorable payment terms and stock management with fuel suppliers, supporting working capital in the short term. As a result, we expect EG Group to report positive free operating cash flow (FOCF) in excess of €100 million in 2020 and 2021. This should allow the group to comfortably cover its lease payments and meet other cash charges, such as mandatory debt amortization, in full. However, if anemic trading were to persist for an extended period, we think this could curtail the group's internal cash generation and liquidity buffer.

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