SAO PAULO--(BUSINESS WIRE)--Fitch Ratings has downgraded the long-term foreign and local currency Issuer Default Ratings (IDRs) of Brookfield Incorporacoes S.A. (Brookfield Incorporacoes) to 'B', from 'B+', as well as the long-term national rating to 'BBB+(bra)' from 'A(bra)'. The Rating Outlook for the corporate ratings is Stable. The full list of rating actions is at the bottom of this press release.
KEY RATING DRIVERS
The ratings downgrade reflects the continued and sharp weakening of Brookfield Incorporacoes' credit metrics. The company remains showing high cash consumption, which implies an increased pressure for refinancing of its corporate debt maturing in 2014 and 2015. The company's operating result further deteriorated during 2013 and Fitch expects a final result for the year well below Fitch's initial projections. Relevant volumes of cost adjustments and high sales cancellations remain negatively pressuring the company's operating margins, as the losses arising from the review process of costs of projects under development and internal controls have been greater than initial expectations, thus generating greater uncertainties.
The Stable Outlook considers as important Fitch's assumption that measures of financial re-equilibrium, to strengthen the company's capital structure on a sustainable manner, are necessary and therefore potentially should be implemented by the company within a period of six months. It also considers a gradual recovery of the company's operating results in the medium term, to levels nearer the industry average. Frustrations regarding these assumptions should result in new downgrading pressure.
Brookfield Incorporacoes' ratings continue supported by the integration and support from the controlling shareholder, Brookfield Asset Management (BAM, IDR 'BBB'), evidenced by the BRL400 million capital increase in November 2012, and by the recent announcement of a public offer for acquisition of the shares in circulation in the market for the cancellation of its registration as a public company. On an individual basis, without the support and integration of the company's business with the controlling group, Brookfield Incorporacoes' ratings would be lower in more than one notch.
High Corporate Debt Maturities in 2014 and 2015
Brookfield Incorporacoes' liquidity is pressured by high corporate debt maturities. At Sept. 30, 2013, the company reported cash and equivalents of BRL950 million for a total debt of BRL4.0 billion, of which BRL1.6 billion maturing up to end 2014 and BRL1.8 billion up to end 2015. The obligations with corporate debt were BRL814 million and BRL1.2 billion, respectively. The company benefits from the potential liquidity of receivables of concluded and sold units not linked to debt amounting to BRL596 million. A potential capitalization or partial monetization of its long term land bank is fundamental to strengthen its cash reserve and reduce debt refinancing pressures.
Leverage Should Remain High in the Short Term
Brookfield Incorporacoes' leverage remains high and should not reduce to conservative levels in the short term. The weak EBITDA generation resulted in high net debt/EBITDA ratio of 50.3x in the LTM ended September 2013, well above Fitch's expectations and industry peers. The recovery of EBITDA margin, slower than initial expectations, should contribute to maintain high leverage in 2014.
When analyzed under cash flow basis the company also remains highly leveraged. The ratio total receivables on the balance sheet plus total inventory plus revenue to be booked over net debt plus acquisition of property for development plus cost to be incurred of units sold also weakened, reaching 1.6x in September 2013, against 1.9x in December 2012 and 2.4x in December 2010.
Recovery of Operating Cash Generation in 2014
In LTM ended September 2013, Brookfield Incorporacoes reported adjusted EBITDA of BRL80 million. Funds from operations (FFO) were negative BRL322 million and cash flow from operations (CFFO) negative BRL366 million, which have been pressured by the company's low operating margins and high interest expense of its debt. Since 2009, the company has reported negative CFFO due to high working capital needs to support the business growth. The low EBITDA reflects the negative impact of the recognition of additional project costs of BRL207 million and BRL590 million of sales cancellations.
Fitch expects that the combination of a greater volume of project deliveries in 2013 and 2014, with the reduction of project launches in 2013, and with measures to increase sales speed, measured by pre sales net of sales cancellations over supply, and the transfer of homebuyer credits to banks, contribute for a recovery of operating cash generation in 2014 and mainly in 2015. The company's cash flow should benefit from around BRL4.1 billion of receivables maturing up to end 2014 and BRL2.0 billion in 2015. Despite an expected higher volume of cash inflows in 2014, it does not appear sufficiently robust to sustain a high volume of corporate debt maturing over the next 15 months and, at the same time, finance the cash needs for the company's growth.
Weak Operating Performance
Brookfield Incorporacoes operating results continue to be strongly affected by costs above budget and by high volume of cancellations of sales contracts. The company's sales speed remains weak and below market average. The average ratio pre sales net of sales cancellations/supply was of 14% by quarter, from January to September 2013, compared with an average of 19% by quarter in 2012. This reduction reflects the high volume of sales cancellations of BRl492 million in the first nine months of 2013 and BRL423 million in 2012, which was partially mitigated by the resale of units object of sales cancellations. From January to September 2013, around 60% of the units object of sales cancellations were resold and the inventory of concluded units represented 12% of the total inventory in September 2013.
Brookfield Incorporacoes has adopted a series of measures to recover its operational efficiency. However, lower margin projects are still in the conclusion phase and continue to pressure its results. The company's strategy focuses on cash generation, sales speed and transfer of homebuyer's credits to banks, which Fitch considers positive for the current moment of the company, despite the negative impact on its operating margins. The recovery of these margins should be gradual given the industry long cycle, but they should remain pressured by potential cost adjustments and sales cancellations in the short term. In the LTM ended September 2013, the company reported adjusted EBITDA margin of only 2.3%.
The ratings of Brookfield Incorporacoes can be negatively affected by continued cash consumption by the company, and by the maintenance of operating margins at current levels over the next 18 months. Frustrations regarding an improvement of the company's capital structure over the next six months can pressure the ratings. Positive rating actions are not expected in the short term.
Fitch has taken the following rating actions:
--Long-term foreign and local currency IDRs downgraded to 'B' from 'B+';
--Long-term national rating downgraded to 'BBB+(bra)' from 'A(bra);
--BRL366 million second debenture issuance, final maturity in 2016, downgraded to 'BBB+(bra)'from 'A(bra);
--BRL300 million third debenture issuance, final maturity in 2016, downgraded to 'BBB+(bra)'from 'A(bra)';
--BRL300 million fourth debenture issuance, final maturity in 2016, downgraded to 'BBB+(bra)' from 'A(bra)'.
--BRL300 million third debenture issuance, first series of BRL150 million due in 2015, downgraded to 'BBB+(bra)' from 'A(bra);
--BRL300 million fourth debenture issuance, first series of BRL76.76 million maturing 2015 downgraded to 'BBB+(bra)'from 'A(bra)'.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research
--'Corporate Rating Methodology' - Aug. 05, 2013;
--'National Ratings Criteria' - Oct. 30, 2013.
Applicable Criteria and Related Research:
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage