Neopost : Transformation in progress. Buy recommendation reiterated

We have a Stable opinion on the issuer. Neopost is pursuing its strategy of switching the balance of its activities to digital and logistical solutions in order to offset a declining core business. To square up to the marked slowdown in the equipment market, the group ramped up its investment during H1 while strengthening its cost-cutting plan to safeguard operating margin and FCF generated by its SME Solutions division. So far the plan is progressing as forecast by management which has delivered on its roadmap promises. Still, its credibility could be undermined should it fail to maintain underlying operating margin above 18%, a low point set by the group during this transformation phase. Neopost's financial position is solid, reflected in the level of FCF generated during H1 2016-17 and strong credit metrics. - - We reiterate our Buy recommendation on the 2.50% 2021 NEOFP paper and the 3.375% NEOFP ODIRNANE. Since our last credit focus published in October 2015, the 2.5% 2021 bonds have seen their spreads widen by 60bp to ASW+350bp, whereas the JPM 'BBB' and 'BB' indices have narrowed by 40bp and 76bp, respectively. The underperformance vs. our samples of Ba1/BB+ peers and non-listed issuers is also significant. Despite the road ahead and limited visibility at the operating level in the coming quarters, we think this trend is overdone. Neopost can rely on a solid financial profile and high FCF generation to finance its acquisitions and the development of innovations in order ultimately to implement its transformation successfully. We also reiterate our Buy recommendation on the ODIRNANE issue given: 1/ its attractive profile from a relative value perspective; 2/ the "value" dimension of the Neopost share; and 3/ the step-up provisions, an incentive for the group to call the bond. - - >Support factors - - Europe's leading supplier and the world's no. 2 in mail processing solutions, with 24% market share. - Limited price pressure on traditional activities owing to low competitive intensity and high barriers to entry, especially in terms of regulations. - Resilient business model gives a high share of recurring revenues (69% of sales). - Accelerated investment in digital and logistics solutions to ensure the ramp-up of growth drivers. - Strong financial profile featuring high FCF generation and a net leverage ratio, excluding leasing activities, of 1x.Points to watch - - Waning organic sales due to structurally declining traditional businesses and still1einadequate contribution of digital and logistics activities. - Shifting the balance of the business model in favor of new activities (Enterprise Digital Solutions and Shipping) which is squeezing group margins. Underlying operating margin, excluding acquisition-related expenses, shrank by 4 pts in the past 18 months to 18%. - Poor visibility on the group's near-term operating results, compounded by the absence of full-year guidance from management.