Picard : A change of shareholders?

Wednesday 25 January 2017 - - - - - Following Aryzta’s profit warning yesterday morning, the group announced that it was undertaking a strategic review of its investment in joint ventures, in particular its 49.5% stake in Picard. We think that Aryzta will probably decide not to exercise its call option on the remaining capital and is more likely to be considering a sale. This has prompted us to review the potential performance of Picard bonds in this new context. - > - Major profit warning by Aryzta - Aryzta has announced that EPS in the five months to the end of December 2016 were down 20% and that it expected a similar decrease in the full year (ending on 31 July 2017). Aryzta had confirmed its EPS guidance at the end of November at the Q1 trading update (EPS of 358 cents, up 2% from the prior year). The group is now guiding for an annual EBITA margin of 9/10% vs. 10.5%/11.5% initially and sales growth of between -2%/+1% vs. +1/+2% previously. Free cash flow guidance was lowered to € 185-235m vs. € 225-275m initially. The group blamed difficulties in North America, as well as weakness in Germany and the first impact of Brexit. - A probable sale of the 49.5% stake in Picard - Aryzta announced immediately afterwards that its supervisory board (chaired since September 2016 by Gary McGann, former CEO of Smurfit Kappa for 13 years) will review its investments in joint ventures, especially Picard, by far the group’s biggest JV. Picard has been 49.5%-owned by Aryzta since 2015, and the group has a call option on the remaining share capital exercisable in September 2018, September 2019 and September 2020.We think an exit from Picard is the most likely outcome in the future. Lion Capital, Picard’s other shareholder, probably wants to offload its stake after seven years. A sale of the entire group this year or next may now be foreseeable. Picard is likely to attract a fair number of potential buyers in view of its solid business model (14% EBITDA margin and high and recurrent cash generation), making it an ideal candidate for a fourth LBO. However, the Picard FRN 2019 and 7.75% 2020 notes contain protective covenants regarding additional indebtedness, preventing a significant releveraging of the group. Moreover, there is a high probability that these bonds would be refinanced (especially the 2020 notes with a 7.75% coupon) if Picard were taken over. - We are lowering our recommendation to Neutral. - The Picard Bondco 2020 bonds have barely reacted to the newsflow on Aryzta. They are trading at 104.75% (mid), representing a YTC of -3.1%, according to Bloomberg, with a call date on 24 February 2017. Since the group only has to provide a minimum ten days’ notice, the call could in theory be announced from 4 February at 103.875% (which would generate a YTC of -29%). The yield-to-call would become positive for the bond from a call date in mid-March onwards, but this scenario is too hypothetical at this stage and the risk of a highly negative YTC in case of an earlier than expected call does not allow us to assign a Buy recommendation to the credit for investors who do not already hold it in their portfolios. In contrast, for holders who entered earlier, we recommend holding onto it (keeping in mind that the notes will probably be called in within the next few months). We are therefore lowering our recommendation to Neutral from Buy.