The latest information on the rating, including rating reports and related methodologies, is available on this LINK.

Rating action

Scope Ratings has changed the Outlook on the BB- issuer rating of Georgian Beer Company JSC (GBC) to Negative from Stable. At the same time, the BB- issuer rating has been affirmed and senior unsecured debt has been downgraded to BB- from BB.

Rating rationale

GBC’s business risk profile (rated BB-) benefits from stable demand in the underlying non-durable consumer products industry, which also has low cyclicality, medium entry barriers and low substitution risk. Despite fierce competition on the saturated Georgian beer market, Scope expects GBC to maintain its market shares in 2020, supported by the ramp-up of products launched last year. In 2020, the company’s top line is expected to take a hit from the Covid-19 pandemic. This is mainly due to constrained business operation during the lockdown on hotels, restaurants and cafes markets because 20% of GBC’s sales are generated in these segments. Despite the non-cyclical underlying market, the economic downturn may intensify and the recovery anticipated next year may be slow.

Management has maintained its organic growth strategy via a number of actions, including the enhancement of distribution channels. Scope believes that GBC will be able to keep profitability margins at around 20% going forward. These will be supported by reduced marketing and maintenance costs for the upcoming years and a temporary personal income tax break from the government but constrained by continued consolidation of the Georgian retail market. Scope underlines the currently still high profitability margins and flexible cost structure compared to consumer products peers, but cautions about risks threatening this margin, namely the company's forex exposure and the overall decreasing and volatile margin trend. Scope also views positively the brand value of ‘Zedazeni’ and concludes it to be in line with the overall competitive positioning of the company.

As regards GBC’s financial risk profile (rated BB-), Scope anticipates that the continued devaluation of the Georgian currency against the euro/US dollar, driven by small-scale economies’ vulnerability to external shocks like Covid-19 and the Nagorno-Karabakh conflict as well as internal political election risk, is likely to have a adverse effect on GBC’s operating cash flows in the short term. This is because most cash flows are generated in local currency, while substantial material costs are imported. Forex risk is also exacerbated by financial leases being denominated in EUR (around GEL 12.3m), which represents around 20% of total debt. Scope deems positively the refinancing of EUR-denominated loans (in the amount of EUR 5m) with the loans denominated in local currency in April 2020 which partially mitigates forex risk exposure.

Leverage as measured by Scope-adjusted debt/EBITDA has gone up significantly from below 2.3x to 3.0x in 2019 and is expected to increase further. Scope understands that GBC will focus on organic growth over the next few years and only pursue growth opportunities to a limited extent. However, the Covid-19 pandemic and increased competition on the local market is reducing GBC’s operating cash flow generation potential. Expected annual capex of mid single-digit million GEL in 2020-2021, with working capital investments, will put pressure on operating cash flow. Scope’s rating case incorporates free operating cash flows and discretionary cash flows of below GEL 3m in 2020-2021 and leverage is expected to increase above 3.0x (2020E: 3.3x; 2021E: 2.9x).

GBC’s liquidity profile benefits from the bullet repayment structure of the GEL 25m bond, which matures in 2023. However, Scope views the company’s liquidity as inadequate based on the metrics in its Corporates Methodology. Scope estimates that GBCs low cash levels in addition to break-even free operating cashflows will not be sufficient to cover significant short-term debt commitments of GEL8m related to working capital and capital investments needs. Even by accounting for the company’s undrawn committed lines of GEL3.5m, the ration remains inadequate, exposing the company to continued refinancing risks and a strong dependency on its banks. Hence, the liquidity assessment weighs negatively on the company’s overall rating.

Outlook and rating-change drivers

The Negative Outlook on GBC’s rating reflects the anticipated weakening of credit metrics in the short to medium term as a result of an increased interest payments and a more ambitious investment plan going forward. Scope’s base case indicates that one trigger (funds from operations/Scope-adjusted debt, SaD) has already been hit. Key credit metrics, including leverage as measured by SaD/Scope-adjusted EBITDA, could deteriorate in 2020 if no other cash inflow measures are taken. Scope’s outlook also foresees an improvement of the company’s funds from operations/SaD levels towards 30% again in 2021.

A positive rating action is seen as remote but could be warranted if funds from operations/SaD exceeds 35% on a sustainable basis and SaD/EBITDA trends below 3x on a sustained basis. Deleveraging could be achieved by increasing profitability via organic growth or increasing discretionary cash flow.

A negative rating action is possible if Scope sees a deterioration in credit metrics as indicated by funds from operations/SaD remaining below 30% on a sustained basis and SaD/EBITDA increasing above 3.5x on a sustained basis. Weak financial performance could be triggered by an extended Covid-19 effect, putting operating profitability under pressure, by higher-than-expected capital expenditures or by debt-financed investment in other projects.

Long-term debt rating

Scope has downgraded the rating on the GEL 25m (ISIN GE2700603725) senior unsecured bond to BB- from BB. Scope has revised its expectation for the senior unsecured debt to an ‘average recovery’ from a ‘above average recovery’ in a hypothetical default scenario resulting in an equalization of the debt category with the issuer level mainly driven by increased senior secured debt positions and pledged assets. Furthermore, while GBC’s 2019 annual report states that all assets (PPE, account receivables and inventories) are pledged to senior secured debt, the company has confirmed specific limits on the pledged account receivables and inventories.

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

Methodology
The methodologies used for this rating(s) and/or rating outlook(s) (Consumer Products Methodology, 30 September 2020; Corporate Rating Methodology, 26 February 2020) are available on https://www.scoperatings.com/#!methodology/list.
Information on the meaning of each rating category, including definitions of default and recoveries can be viewed in the “Rating Definitions - Credit Ratings and Ancillary Services” published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. Historical default rates of the entities rated by 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/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definitions of default and rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale. Guidance and information on how Environmental, Social or Governance factors (ESG factor) are incorporated into the rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The rating was requested by the rated entity or its agents. The rating process was conducted:
With Rated Entity or Related Third Party Participation  Yes
With Access to Internal Documents                               Yes 
With Access to Management                                         Yes
The following substantially material sources of information were used to prepare the credit rating: public domain, the rated entity 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. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and rating outlook is issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0.
Lead analyst Zurab Zedelashvili, Analyst
Person responsible for approval of the rating: Thomas Faeh, Executive Director
The ratings/outlooks were first released by Scope on 30 March 2018. The ratings/outlooks were last updated on 12 March 2020.

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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