CHICAGO--(BUSINESS WIRE)--Fitch Ratings has assigned a rating of 'B' to Bombardier Inc.'s (BBD) planned issuance of senior unsecured notes. Proceeds will be available to repay outstanding debt. The Rating Outlook is Negative. A full list of ratings follows at the end of this release.
KEY RATING DRIVERS
The planned debt issuance would reduce near-term liquidity concerns to the extent it is used to repay debt maturities scheduled through 2018. BBD continues to generate negative FCF which Fitch expects will continue at least through 2018. Negative FCF is primarily associated with the C Series and Global 7000 aircraft programs and takes actions to improve BBD's overall operating performance. In the absence of the proposed debt issuance and debt repayment, Fitch expects liquidity could be inadequate to fund BBD's cash requirements as early as 2018 if FCF does not become positive by then.
Fitch estimates FCF in 2016 will be negative $1.4 billion, which would represent an improvement from negative $2 billion in 2015. The large negative FCF partly reflects a build-up of C Series inventory associated with late deliveries of GTF engines by Pratt & Whitney. BBD now plans to deliver seven C Series aircraft in 2016, down from its original plan of at least 15 aircraft. Due to the delay and other production risks that are possible, Fitch believes it could be challenging for the C Series to become cash positive by 2020 or 2021 as originally projected by BBD, although it is still early in the production ramp-up and there is time to make adjustments. The C Series has a backlog of 356 orders (316 orders excluding Republic Airways) which is sufficient to support the production ramp through 2020. In 2016, development spending for the C Series is winding down with entry into service for the CS300 planned by the end of the year. However, development spending will remain elevated for the Global 7000 business jet.
Fitch notes that funds from the sale of equity stakes in BT and the C Series support BBD's liquidity, but the transactions also reduce BBD's share of long term earnings in the businesses. The reduction in earnings and dividends from BT will be material while the C Series will generate losses initially. Fitch does not expect to adjust credit metrics related to EBITDA but BT's FCF will be reduced if CDPQ receives cash dividends from the transportation business.
Fitch believes BBD is taking effective actions to improve its operating performance, and several developments could lead to an improved outlook for BBD's results. These include a successful ramp of C Series production, entry into service of the Global 7000 on budget and on time (currently expected in late 2018), a recovery in the business jet market, an effective realignment of BT's operations leading to higher margins, and possible additional support from the governments of Quebec or Canada.
Operating concerns include low margins, the weak business jet market and execution challenges at BT which are being addressed through BT's action to streamline the business and realize operating synergies. BBD will incur approximately $475 million to $525 million of charges to reduce its workforce across the company between 2016 and 2018 by 14,500 employees, or roughly 20% of BBD's total headcount. The workforce reductions will be concentrated at BT and Aerostructures. BBD estimates annual cost savings will reach $500 million - $600 million by the end of 2018.
Other concerns include competitive pressure in each of BBD's segments, the risk of C Series cancellations, and high leverage. An eventual return to positive FCF would help BBD's rebuild its financial flexibility and support the company's plan to de-leverage. However, Fitch believes a meaningful decline in leverage over the long term will be difficult to achieve without a successful ramp of C Series production, timely entry into service of the Global 7000 business jet, higher margins at BT, and a clear plan to address the reduction of earnings and cash flow associated with the minority interests in BT and the C Series.
Rating concerns are mitigated by BBD's diversification, well established market positions in its business jet, regional aircraft and rail transportation businesses; early progress toward building higher margins; a portfolio of commercial aircraft and large business jets which the company has continued to refresh; high liquidity in the near term; and entry into service of the C Series earlier in 2016 which so far is meeting performance targets.
BBD's bank facilities contain various leverage and liquidity requirements for both BBD, including Bombardier Aerospace (BA), and BT. Minimum required liquidity at the end of each quarter is $750 million for the BBD facility and EUR600 million at BT. BBD does not publicly disclose required levels for other covenants but there is a risk that weaker than expected operating results or an increase in debt could result in noncompliance. The lowest levels of covenant compliance typically occur in the middle of the year instead of at year-end because of BBD's cash flow profile.
Fitch views BBD's strong position in the global business jet market as a rating strength. In the regional aircraft market including regional jets and turboprops, BBD is among the global market leaders, but the segment is a smaller contributor to BBD's overall profitability than business jets.
BBD's low margins in the aerospace business continue to be a concern, and weakness in the large business jet category could hinder BBD's long-term profitability and cash flow. BBD plans to implement furloughs during certain periods in 2017 for its Global 5000 and 6000 business jets to manage production levels. In the near term, aerospace margins will be negatively affected by lower production of global business jets in 2016, and profitability will be pressured by negative margins on the C Series for several years while production ramps up.
BBD has been challenged to generate orders for its regional aircraft and the backlog as of Sept. 30, 2016 was near the lower end of its historical range despite an increase in orders through the first nine months of 2016. This trend is a concern when considering Embraer which competes with BBD's regional jets and continues to invest in aircraft development.
BT has strong positions in its rail markets, particularly in Europe, which represents BT's largest market. The competitive landscape is evolving, however, including several mergers and acquisitions. These transactions could exacerbate pricing pressure across the industry and make it more challenging for BT to build stronger margins. The EBIT margin before special items was 6.7% in the first nine months of 2016 compared to BT's long-term goal of 8%. Streamlining efforts are focused on higher-margin services and systems revenue. BT has much lower capital requirements than BBD's aerospace businesses and generates more stable FCF, but the timing of BT's FCF can vary between quarters due to the nature of its contracts.
The Recovery Rating (RR) of '4' for BBD's senior unsecured debt and bank credit facility supports a rating of 'B', reflecting expectations of average recovery prospects (31% to 50%) in a distressed scenario. Although Fitch's recovery model produces a Recovery Rating of 'RR3', Fitch assigns an 'RR4' Recovery Rating due to BBD's near-term risks as well as negative earnings and cash flow associated with the C Series until there is better visibility of long-term performance of the program.
The recovery analysis assumes that, in a distress scenario, BT is separated from BBD and is excluded from bankruptcy as BT is relatively independent of BBD's aerospace business. BT is consistently profitable, generates positive FCF and has little outstanding debt, although its use of factoring and forfaiting is substantial. BT's bank facility is not guaranteed by BBD. Under this scenario, Fitch excludes earnings dilution from the C Series during the next few years and assumes a fair valuation is received for BBD's 70% interest in BT, with the value added to BA's stand-alone going concern value. The 'RR6' for subordinated convertible debt and preferred stock reflects a low priority position relative to BBD's debt.
Fitch's key assumptions within its rating case for the issuer include:
--FCF in 2016 will be approximately negative $1.4 billion;
--Business jet deliveries in 2016 decline to 150 aircraft, including 50 large jets, compared to 199 aircraft in 2015;
--C Series deliveries in 2017 increase to at least 30 aircraft following a reduction to the delivery schedule in 2016 associated with delayed shipments of GTF engines;
--The commercial aircraft segment experiences losses for the next several years due production losses on the C Series;
--Development spending declines in 2017 as C Series shifts to production, but development spending for the Global 7000/8000 continues through 2018;
--BT generates slow growth, excluding the impact of foreign currency, and slightly higher EBIT margins.
Future developments that may, individually or collectively, lead to a downgrade of BBD's ratings include:
--FCF is materially more negative than Fitch's estimated levels of negative $1.4 billion in 2016, declining below negative $1 billion in 2017;
--Cash balances decline below $2 billion before there is a clear path to reach positive FCF;
--C Series production encounters unexpected challenges or delays that increase the program's expected use of cash;
--Weak industry demand in the aerospace business leads to production cuts beyond levels already planned;
--Operating margins deteriorate consistently at BT.
Future developments that may, individually or collectively, lead to a stable Rating Outlook include:
--FCF improves and appears likely to reach a breakeven level by sometime in 2018;
--Steady improvements in segment operating margins, excluding the expected negative impact of C Series production;
--Order rates for business and regional aircraft support high customer advances;
--Consistently lower leverage, including debt/EBITDA below 6.0x.
BBD's liquidity at Sept. 30, 2016 included cash of $3.4 billion plus nearly $1.1 billion of availability under bank facilities. In addition to a $400 million bank revolver available to BBD and BA that matures in 2019, BT has a separate EUR658 million ($738 million) revolver that matures in 2019 under which EUR75 million ($84 million) was outstanding. BA and BT also have letter of credit (LC) facilities that are used to support performance risk and secure advance payments from customers.
Liquidity has increased materially in 2016 due to $2.5 billion of cash raised from the sale of minority interests in BT and the C Series program. In February 2016 BBD sold a 30% stake in BT for $1.5 billion to Caisse de depot et placement du Quebec (CDPQ), and it sold a 49.5% interest in the C Series program for $1 billion to the Government of Quebec in 2016.
BBD makes significant pension contributions which it estimates will total $300 million in 2016. Net pension liabilities totaled $1.6 billion at the end of 2015, including $959 million at funded plans. The estimated net liability increased to $3.3 billion as of Sept. 30, 2016 due largely to lower discount rates as well as changes in other assumptions.
In addition to the two committed bank facilities, BBD has other facilities including bilateral agreements and bilateral facilities with banks and insurance companies. BA uses committed sale and leaseback facilities ($19 million outstanding at Sept. 30, 2016) to help finance its trade-in inventory of used business aircraft. In addition, BT uses off-balance-sheet non-recourse factoring facilities in Europe ($1 billion outstanding at Sept. 30, 2016) and forfaiting arrangements with third party advance providers ($494 million at Sept. 30, 2016) in exchange for rights to customer payments on long term contracts at BT.
FULL LIST OF RATING ACTIONS
Fitch currently rates BBD as follows:
--Senior unsecured bank revolver 'B'/'RR4';
--Senior unsecured debt 'B'/'RR4'.
--Preferred stock 'CCC+'/'RR6'.
The Rating Outlook is Negative.
BBD's debt at Sept. 30, 2016, as calculated by Fitch, totaled approximately $10.6 billion.
Date of Relevant Rating Committee: Sept. 23, 2016
SUMMARY OF FINANCIAL STATEMENT ADJUSTMENTS
Factoring: BBD's debt includes sale and leaseback obligations and is adjusted for $347 million of preferred stock which Fitch gives 50% equity interest. Fitch also includes usage under factoring and forfaiting facilities and construction advance arrangements, primarily at BT. Fitch's debt calculation excludes adjustments for interest swaps reported in long-term debt as the adjustments are expected to be reversed over time.
Additional information is available at www.fitchratings.com.
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)
Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers (pub. 05 Apr 2016)
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