NEW YORK--(BUSINESS WIRE)--Fitch Ratings has assigned a 'BBB' rating to Kellogg Company's (Kellogg) $600 million senior unsecured notes due 2023. Proceeds from the notes will be used to refinance the $500 million senior unsecured notes due November 2016 and reduce commercial paper outstanding, which totaled $420 million at Oct. 1, 2016. A full list of ratings follows at the end of this release.
KEY RATING DRIVERS
Kellogg's ratings reflect Fitch's expectations that organic volume will remain modestly negative over the medium term given Kellogg's exposure to mature markets at about 85% of total sales and an underdeveloped natural/organic offering. Volumes have been negative in the range of -0.5% to -2.6% on a consolidated basis in five of the past six years.
Changing consumer preferences have had a negative impact on Kellogg's performance, due to the company's portfolio orientation toward cereal and processed foods. U.S. Morning Foods (mainly ready-to-eat cereal) and U.S. Snacks, which represent over $6 billion of the company's revenues and roughly 45% of the portfolio, have had negative organic growth in the -1.6% to -5.7% range over the past three years. Positive growth in some brands, such as the high-single-digit levels for the Pringles brand with nearly $2 billion in revenues, has been offset by negative organic growth trends in other brands.
Pricing/mix is expected to be modestly positive to the top line driven by mix shift towards higher-growth categories. While Kellogg's exposure to developing markets remains low at about 15%, Fitch views this as a long-term positive despite near-term weakness seen in China, Russia and Latin America that has been exacerbated by the strong U.S. dollar.
Fitch expects leverage to remain in the low-3x range over the next two years, above the 2.75x average seen from 2011 through 2014. EBITDA is expected to remain in the $2.5 billion range over the next 24-36 months, in line with 2015 levels. Debt is expected to remain essentially flat and Fitch expects that Kellogg will continue to allocate $1.4 billion annually to gross share repurchases and dividends.
Substantial Restructuring Costs: In November 2013, Kellogg announced Project K, a global restructuring program with savings expected to reach an annual run rate of $425 million to $475 million by 2018. Most of the savings are expected to be reinvested back into business for brand support.
The restructuring costs are expected to be in the range of $1.2 billion to $1.4 billion and will require about $300 million in incremental capital expenditures. Estimated cash costs are about $1 billion. The project's substantial cash cost to date, which is about halfway through, has been largely offset by working capital improvements. However, free cash flow (FCF) declined from $603 million in 2013 to $438 million in 2015 due to the decline in EBITDA.
Fitch estimates that FCF (after dividends and cash restructuring costs) will be around $450 million-$500 million in 2016, given continued cash costs related to the restructuring program and Fitch's assumption of neutral working capital. Annual FCF should improve meaningfully to around $600 million-$700 million as Project K cash costs subside in 2017.
--Revenues decline 5% in 2016 due to negative F/X translation with organic growth expected to be in the 4% range driven by pricing actions primarily in Venezuela. Organic sales growth is expected to be essentially flat, with volume growth of -0.5%-1%, offset by modest benefit from pricing/mix.
--EBIT margin is expected to 15.3% in 2016 and expand modestly to around 15.5%-16.0% in 2018.
--EBITDA is expected to remain in the range of $2.5 billion over the 24-36 months, in line with 2015 levels.
--FCF after dividends is expected to be $250 million-$300 million in 2016 but improve meaningfully to around $600 million-$700 million as Project K cash costs subside in 2017.
--Leverage (gross debt to EBITDA) remains in the low-3x range in 2016 and 2017.
Future developments that may, individually or collectively, lead to a negative rating action include:
--A negative rating action could occur if Kellogg's organic growth rate is negative in the low single digit range. Consistently negative trends would signal that the company's renovation and brand support efforts are not effective and/or that emerging markets performance is worse than expected.
--Leverage moving toward mid-3.0x as a result of either poor performance or material debt-financed share buybacks or acquisitions.
Future developments that may, individually or collectively, lead to a positive rating action include:
--A positive rating action could occur with sustained low- to mid-single-digit organic growth with volume trends turning positive and with overall market shares stable or improving. In addition, Kellogg would have to maintain leverage consistently below 3x.
Kellogg's $2.5 billion liquidity included its undrawn $2 billion revolving bank facility plus $531 million cash and equivalents at July 2, 2016. While there is pressure on FCF in 2016, Fitch expects this measure to improve substantially beginning 2017.
FULL LIST OF RATING ACTIONS
Fitch currently rates Kellogg as follows:
--Long-Term Issuer Default Rating (IDR) 'BBB';
--Senior unsecured debt 'BBB';
--Bank credit facility 'BBB';
--Short-Term IDR 'F2';
--Commercial paper (CP) 'F2'.
Kellogg Europe Company Limited
--Long-Term IDR 'BBB';
--Short-Term IDR 'F2';
Kellogg Holding Company Limited
--Long-Term IDR 'BBB';
--Short-Term IDR 'F2';
Kellogg Canada, Inc.
--Long-Term IDR 'BBB';
--Senior unsecured debt 'BBB'.
The Rating Outlook is Stable.
Date of Relevant Committee: Feb. 18, 2016
Additional information is available at 'www.fitchratings.com'.
Summary of Financial Statement Adjustments - Financial statement adjustments that depart materially from those contained in the published financial statements of the relevant rated entity or obligor are disclosed below:
--Historical and projected EBITDA is adjusted to add back non-cash stock-based compensation and exclude restructuring charges. For example, in 2015 Fitch excluded $848 million in one-time restructuring charges related to Kellogg's Project K initiative, integration costs, acquisition and divestiture charges, and Venezuela remeasurement charges. Fitch added back $55 million in non-cash stock-based compensation to its EBITDA calculation.
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage - Effective from 17 August 2015 to 27 September 2016 (pub. 17 Aug 2015)
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