NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the ratings of BRF S.A. (BRF) and revised the Rating Outlook to Stable from Negative. A complete list of BRF's ratings follows at the end of this release.
The Outlook revision reflects the rapid deleveraging BRF demonstrated in the first half of 2013 (1H'13), as a consequence of the recovering profitability of its export businesses, coupled with the efficiency in managing its domestic market share after the brand suspensions and asset disposals. As of July 30, 2013, BRF's net debt-to-EBITDA was 2.5x, significantly below the 3.2x at the end of 2012. The increase in leverage during 2012 reflected BRF's depressed financial performance, which was due to weak export markets and elevated costs related to higher corn prices. Increased expenses related to assets transferred to Marfrig Alimentos S.A. (Marfrig) and the launch of new products geared towards protecting the company's market share after the suspension of certain Perdigao brands also contributed to weak profitability. The asset swap and the brand suspensions were necessary to satisfy the ruling made by CADE, the Brazilian antitrust authority, regarding the merger of Sadia and Perdigao into BRF.
KEY RATING DRIVERS
The 'BBB-' rating continues to take into consideration BRF's strong business profile as one of the largest producers and distributors of food in Brazil. The company is the largest poultry exporter worldwide and has market shares of more than 50% in most of its product segments domestically. BRF benefits from its extensive products offering and strong brand recognition, which allows it to charge premium prices. Its geographically diversified production base throughout Brazil mitigates risks related to disease, the imposition of sanitary restrictions by foreign governments, as well as tariffs or quotas applied regionally by some importing blocs or countries.
Deleveraging to Continue:
BRF's leverage declined during 1H'13 and Fitch expects that the deleveraging process will continue through the year. By the end of 2013, BRF's net leverage metric should be at or around 2.0x. BRF is poised to benefit from several positive factors in 2013, including an improvement in the company's export markets, the realization of further synergies from the Sadia integration, and the winding down of costs related to the asset swap. These factors were in play during the 1H'13, when the company's EBITDA margin improved to 10.9% as compared to 7.7% during the first half of last year. Potential risks that would slow down BRF's operational recovery include intensified competition in the company's domestic segment, softening of consumption due to inflation, higher costs resulting from a weaker Real, and currency exchange rate volatility.
Improving Profitability Domestically:
Fitch expects that the domestic operating margin will return to the low double digits in 2013. In the months after the asset swap, the company was able to prevent a substantial deterioration in its domestic market share, to increase prices, and reverse domestic margin decline. BRF's domestic operating margin plunged to as low as 6.1% in 2Q'12 from 10.7% in 2011, reflecting elevated marketing expenses, and transitory costs and inefficiencies. The margin recovered to 8.2% by the end of 2012 and to 10.4% in 1H'13. BRF's operating margin improved significantly in 1Q'13 to 13.4%, but declined by 600 basis points (bp) in 2Q'13 to 7.3%. About 400 bp of this decline was due to higher marketing and transitory expenses that are not recurring; the remaining 200 bp deterioration was gross margin compression due to increase in costs that are pegged to the U.S. dollar.
Fitch will continue to closely monitor development in the domestic market - both market share and profit margins, with a special attention to the trade-off between long-term profitability and market share. In an environment of rising inflation, especially food price inflation, declining consumer confidence and intensifying competition, the profitability of the branded food business as a whole may be declining.
Robust CFFO / Constrained FCF:
Fitch expects that BRF's cash flow generation will be constrained by the company's investment program. BRF is expected to invest BRL2 billion in capex in 2013. During 2012, free cash flow (FCF) generation was negative BRL374 million after BRL2.4 billion of capex and BRL440 million of dividends. While BRF's expansion program has a large discretionary component, the company's strategy is geared toward expansion in the medium and long term, which takes priority over cash preservation in the short term.
Acquisition Risk Remains:
While the company's acquisition program was put on hold during the transition period, Fitch expects that once operations and the balance sheet improve sufficiently, the company will continue to pursue diversification through both organic growth as well as acquisitions. Fitch notes favorably that BRF has a long track record of equity infusions to support the balance sheet while executing its growth strategy.
A rating downgrade could be triggered by a substantial deterioration in the company's domestic operating margins, coupled with market share erosion beyond anticipated levels as a result of competitive pressures and/or net leverage increase of above 3.0x as a result of a large debt-financed acquisition. An upgrade is unlikely in the near term, but could be achieved through permanent reduction in company's net debt leverage to 1.0x in mid cycle.
Fitch affirms the following outstanding ratings for BRF:
--Foreign & local currency Issuer Default Rating at 'BBB-';
--National Long Term Rating at 'AA(bra)';
--Notes due 2018, 2022 and 2023 at 'BBB-';
--Notes due 2020 issued by BFF International Ltd. and guaranteed by BRF and Sadia at 'BBB-';
--Bonds due 2017 issued by Sadia Overseas Ltd. and guaranteed by BRF at 'BBB-'.
The Rating Outlook is revised to Stable from Negative.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 13, 2010);
--'National Ratings Criteria' (Jan. 19, 2011).
Applicable Criteria and Related Research:
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage
National Ratings Criteria