Verallia : We are lowering our recommendation from Buy to Neutral

Verallia posted satisfactory Q3 2016 results. Leverage was, however, hurt by a payment of € 230m to shareholders, financed by a tap on the senior secured bond only a few months after Apollo completed the acquisition. Verallia tried in October to return to the bond market via a PIK Toggles to pay another dividend to shareholders, but the company eventually backed out due to a reluctant market. The deterioration of credit metrics in the event of a new deal could have an impact on the performance of bonds which have outperformed the JPM B index since their issuance and are now performing below their peers. In this context, we are lowering our Buy recommendation to Neutral. - Verallia posted good Q3 2016 results - Sales fell by -1.1% but grew by 2.4% at constant forex to € 599m. EBITDA amounted to € 116m, up 2.8% and 8.8% at constant forex, i.e. a margin increase of 0.8 pt (at 19.3%), driven by a favourable price-cost differential and industrial optimisation. Given the repayment of equity contributions of € 230m, net debt rose to € 2,001m (vs. € 1,756m). Leverage was 4.5x vs. 4.0x three months ago. It would be stable compared to end-June at 4.0x, excluding cash return to shareholders. - An aggressive financial policy could lead to deterioration in credit metrics - Since the acquisition of Verallia by Apollo in 2015, the fund’s aggressive approach has become a reality. A first repayment of part of the equity contribution of € 230m was made only a few months after the acquisition was finalised, on the back of a tap on the senior secured bond. Verallia tried in October to return to the bond market via a PIK Toggles to make another dividend payout to shareholders, but the company eventually backed out after the market proved reluctant. Given that part of the equity contribution remains to be repaid, we expect the group to pay another dividend to shareholders, which would lead to deterioration in the group's credit metrics. - After outperforming the market, Verallia bonds now offer lower yields vs. peers - The senior secured 2022 and unsecured 2023 bonds have outperformed the JPM B index since their issuance in July 2015 (-53bp and -60bp respectively vs. -4bp). The yield offered by secured and unsecured bonds is now lower than their peers in terms of maturity and rating. Based on our internal model, the Z-spread was 335pb on average for B1-rated bonds with a workout set at 2018 (vs. 388pb) and 862pb for B3-rated bonds with a workout set at 2020 (vs. 569bp). - - - >