Rating action

Scope Ratings has today affirmed the issuer rating of BB- for Georgian Beer Company JSC (GBC) as well as its Stable Outlook. The agency has also assigned a first-time instrument rating of BB to the senior unsecured corporate bond issued in December 2018.The agency also affirms the senior unsecured debt rating of BB.

Rating rationale

The issuer rating mainly reflects GBC’s low leverage and resulting robust key credit metrics; significant market shares in Georgia as a leading beer and lemonade/juice producer; and high level of profitability. The rating also reflects Scope’s view on the evolving macro-economic and industrial environment in which the company operates, with risks and opportunities presented by expected industry consolidation and the significant change for the general retail segment in the future.

With regards to the business risk profile (rated at BB-), Scope considers GBC’s underlying industry – branded consumer goods – to have relatively favourable credit characteristics such as a low macro-economic cyclical exposure and medium market entry barriers. Combined with Scope’s view of the industry’s low substitution risk, this translates into an overall industry risk rating of A. With respect to competitive position, GBC’s market shares and comparatively high operating margins provide the strongest support for the ratings. Between 2017 and 2018, the company’s Georgian beer market shares improved slightly to about 30%, even given the saturated market for beer. The market shares for carbonated soft drinks and juices have also increased more strongly in 2018 from 2017 following the installation of a new aseptic filling line last year, to about 17% and 20%, respectively, from 16% and 15%. Scope considers these results, just six years after the company started production, to be a major achievement, reflecting the focus on premium brands and quality vis-à-vis the competition. This ambition is underscored by the company being the first domestic beer brewer to operate licenses from international breweries Holsten (replacing Königs Pilsener) and Bavaria. However, EBITDA margin decreased to about 22% in the first six months of 2018 (26% in 2017), reflecting the higher raw material prices for hops and malts and adverse currency effects. Scope has already assumed some downside on EBITDA margin due to competitive forces and did not adjust the figure further as a result. Nevertheless, GBC’s operating profitability still compares well to international peers, in Scope’s view.

In terms of diversification, GBC does not compare favourably with larger multinational consumer goods peers, given its focus on one country and one industry (beverages). This might improve in future following plans to significantly increase the export share of sales, which currently stands at about 6%. Scope believes that the company’s diversification by product and customer is significantly more robust than that by region and industry, as GBC’s product range encompasses a wide range of individual beverages in different end-user markets. In addition, GBC’s customer diversification is wide, with about 15,000 points of sale throughout Georgia ranging from small bazaar-style shops to large supermarkets.

GBC’s financial risk profile (rated BB) is slightly stronger than its business risk profile. Operating profitability is solid with a EBITDA margin of about 22% (despite having deteriorated from about 28% in 2016), which enabled significant free cash generation. This has led to a strong equity ratio of more than 50% of total assets, reflecting management’s conservative approach of retaining net profits. As no dividend payments or acquisitions have been made, the company’s credit metrics are healthy. This is demonstrated by a funds from operations (FFO)/Scope-adjusted debt (SaD) ratio of more than 30% for 2018 and a SaD to EBITDA of about 2.5x, which are good for the rating (figures are estimates as the final 2018 report was yet to be released as of the rating date). However, negative free cash flow is very likely for 2018 due to GBC’s strategic expansion, with investment assumed at GEL 16m, which is substantial compared to the maintenance level of about GEL 6m. The previous year’s overall free cash flow, while positive, still suffered a build-up of working capital in the context of its growth, having absorbed GEL 8.6m of cash in 2017.

GBC’s liquidity profile is adequate in the agency’s opinion. This is based on the relatively low short-term debt maturities of about GEL 5m per year, more than GEL 5m of multi-year committed credit lines, and about GEL 5m of cash. Short-term bank loans have also benefited from repayment following the application of a large part of the bond proceeds.

For 2019, Scope expects a further positive operating performance, based on sales growth of more than 10% (mainly due to strong expected demand for non-beer products, in particular for juices following the installation of its new filling technology). The agency assumes lower profitability will accompany this, as retailers are likely to gain bargaining power vis-a-vis suppliers as they grow and gradually crowd out Georgia’s still dominant bazaar formats. On the other hand, the negative effects from input price inflation for raw materials and high capital expenditure for the growth programme are likely to be limited to the 2018 year. Therefore, Scope expects double-digit sales growth to continue into 2019, depending on how well the growth programme progresses. The latter will be funded by the new GEL 25m domestic bond issued in December 2018. While the bond is likely to open up potential for international growth via exports – benefiting the rating via stronger diversification – the immediate effects have been negative from a credit perspective because, as expected, the initial investment led to higher financial debt in 2018. Scope thus expects credit metrics to bottom out in 2019 with leverage – as expressed by SaD to EBITDA – at about 2.5x in 2019.

Scope’s projections on financial metrics for the next two years are conservative, reflecting the evolving dynamics of both the country of Georgia and the consumer goods industry. The potential downside in fastmoving economies and industries such as Georgia’s consumer goods industry is a key analytical consideration, as strong consolidation in food retail may change competitive dynamics profoundly in the near future.

Among the supplementary ratings drivers, Scope does not expect financial policy to be an issue. GBC is a traditional family-owned vehicle that is unlikely to apply aggressive shareholder remuneration policies or enter into expensive M&A. The maximum leverage of 3x prescribed by TBC Bank also provides a safeguard. The rating also assumes that GBC’s corporate governance regarding debt-holder protection vis-à-vis shareholders is addressed adequately as stipulated, in addition to being monitored by the National Bank of Georgia.

GEL 25m 11% bond 2018/2023 ISIN GE2700603725

Scope’s recovery assessment examines recovery values to bond holders in a hypothetical case of default. While this may seem remote from today’s perspective, Scope has assumed a significant fall in revenues in 2021 due to new market entrants and a significant price erosion for the company’s products. Scope calculated a recovery rate of about 70% for the GEL 25m senior unsecured bond (existing bank loans and vendor loans are secured) and deemed all available credit lines to be fully drawn at default. This results in a one-notch uplift for the bond compared to the issuer rating (in Scope’s hypothetical default case, based on a distressed EBITDA of about GEL15m and an exit multiple of four).

Outlook and rating-change drivers

The Outlook is Stable and reflects Scope’s expectation that GBC can maintain a FFO/SaD of above 30% without SaD/EBITDA significantly exceeding 3x. A positive rating action could be warranted by an FFO/SaD of above 35% and a SaD/EBITDA of below 3x, both on a sustained basis. A negative rating action could result from an FFO/SaD of below 30% and a SaD/EBITDA of above 3.5x, both also on a sustained basis.

Stress testing & Cash flow analysis
No stress testing was performed. Scope performed its standard cash flow forecasting for the company.

Methodology
The methodology used for this rating(s) and/or rating outlook(s): Rating Methodology: Corporate Ratings¹, is available on www.scoperatings.com. Historical default rates of Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerepweb/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default as well as definitions of rating notations can be found in Scope’s public credit rating methodologies on www.scoperatings.com.
The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months.

1 Editor's note (11 April 2019): A wrong publication date of the corporate rating methodology was deleted.

Solicitation, key sources and quality of information
The rated entity and/or its agents participated in the rating process. The following substantially material sources of information were used to prepare the credit rating: public domain, the rated entity, the rated entities’ agents, third parties and Scope internal sources.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Prior to the issuance of the rating or outlook action, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds on which the credit rating and/or outlook is based.

Regulatory Disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH.
Lead analyst Olaf Tölke, Managing Director
Person responsible for approval of the rating: Werner Stäblein, Executive Director
The ratings/outlooks were first released by Scope on 30.03.2018.

Potential conflicts
Please see www.scoperatings.com for a list of potential conflicts of interest related to the issuance of credit ratings.

Conditions of use / exclusion of liability
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