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Rating action

Scope Ratings has today downgraded Hungary-based Hell Energy Magyarország Kft’s issuer rating to B+/Stable from BB/Stable. Senior unsecured debt was also downgraded to B+ from BB.

Rating rationale

The rating at B+ is supported by a strong market position in CEE, high margins despite the pandemic, and significant growth potential. The rating is constrained by limited product diversification and increasing leverage.

Business risk profile

Hell Energy’s business risk profile is primarily supported by the consumer products sector’s strong industry risk profile, which benefits from low cyclicality, medium barriers to entry, and is rated A. The business risk assessment profile was completed this year with a brand-strength element as published in the Consumer Products Methodology on 23 September 2020.

The company is the market leader in the energy-drink segment in Hungary and nine other countries that are mostly in Central and Southeast Europe, and it has good diversification within the non-alcoholic beverages segment, being supported by a granular client and supplier base. The recently introduced energy-coffee product quickly became the market leader in five^a countries. Hell Energy has a market presence in over 50 countries, although most of its sales are in the CEE markets, which gives it room for organic growth once production capacity is expanded.

Profitability on a sustainable EBITDA-margin basis is in the range of 15-20%. This is in line with sector peers, particularly given the Hell Group’s above-average degree of vertical integration and its relatively new and efficient production facility.

Hell Energy’s business risk profile is constrained by limited diversification with regard to product categories (non-alcoholic beverages) and large exposure to CEE/CSE markets as well as the company’s relatively small absolute size compared to international consumer products peers. Scope assesses the company’s business risk profile as BB+. 

Financial risk profile

Hell’s financial risk profile is strongly affected by a recently announced investment programme of around HUF 80bn¹, of which HUF 67bn is planned to be financed by a new senior unsecured bond issuance (with a fixed coupon, 10-year maturity, and linear amortization of 10% from year 5 with 50% balloon at maturity, with a corporate guarantee from Quality Pack Zrt, - owned 100% by the issuer^b) and the remainder from a state subsidy and operating cash flow. The state subsidy is not contracted at this stage, and any shortfall arising from a lower subsidy amount will be covered by equity or a subordinated intercompany loan provided by the owners. No equity contribution is planned otherwise. Cost overrun and timing delays are mitigated by using the same technology suppliers as before, and a new filling line will be quickly installed in place of the existing PET line to boost output needed to achieve high revenue-growth targets.

The bond proceeds will be earmarked for capital expenditure to greatly increase production capacity in beverage manufacturing and filling, and aluminium can manufacturing.^c

The new investment programme follows a deleveraging from the previous programme that started in 2015 for the can manufacturing facility and additional filling lines, resulting in Scope-adjusted debt/EBITDA of above 7x in 2017. Current SaD/EBITDA projections are slightly more moderate, around 6x at peak with a deleveraging to below 4x in 2024 at the earliest. Nominal leverage is expected to reach HUF 115bn and triple by 2022 compared to 2020 levels.

The rating is supported by strong interest coverage of well above 5.0x and no large debt repayments in the coming years. Free operating cash flow/SaD will stay negative for the next two years according to Scope’s base-case forecast. Since the company still lacks absolute size compared to global consumer product brands, Scope has taken potentially higher revenue and cash flow volatility into account, which constrains the financial risk profile to some extent. In addition, the group has issued financial guarantees to third parties covering financial leasing contracts that are now being phased out. Those entities are part of the larger, family-owned Hell Group, but not part of the rated entity. Scope does not incorporate these in its base-case forecast metrics since it deems the likelihood of any payments resulting from those contingent liabilities to be negligible at this point.

Operating leverage, as measured by Scope-adjusted debt/EBITDA, ranges between 6.1x and 4.9x^d, which is commensurate with a lower B rating category. Scope therefore assesses Hell Energy’s financial risk profile as B.

All ratings reflect ambitious growth figures in Scope’s underlying base case starting in 2021. Financial metrics in the agency’s base case are therefore subject to larger potential volatility if the issuer cannot achieve those growth plans.

Liquidity has been adequate since the company has minimal short-term debt as of YE 2020 and maintains significant committed short-term credit lines at various banks. 

Outlook and rating-change drivers

The rating Outlook is Stable based on expected operating leverage increasing to around 6x by YE 2022, with deleveraging below 4x from 2024 at the earliest due to the expected investment programme, which will be funded mainly by a planned HUF 67bn corporate bond placement.

A positive rating action is remote at this stage but may be taken if the issuer shows financial leverage measured by SaD/EBITDA of less than 4.0x on a sustained basis.

Scope may consider a negative rating action if financial leverage deteriorates to more than 6.0x on a sustained basis or if free operating cash flow/SaD stays negative beyond 2023. 

Long-term and short-term debt ratings

The issuer’s senior unsecured debt is rated in line with the issuer rating, based on Scope’s expectation of an average recovery.

Rating driver references
1. Hell Energy’s new investment programme

Editorial note: The following corrections were made on 20 July 2021.
a. The number of countries was corrected from four to five.
b. “bullet repayment” was corrected to “linear amortization of 10% from year 5 with 50% balloon at maturity, with a corporate guarantee from Quality Pack Zrt, - owned 100% by the issuer”.
c. The sentence was corrected; the original sentence was: “The bond proceeds will be earmarked for capital expenditure to greatly increase production capacity in beverage-filling lines, the coffee production facility, and can manufacturing.”
d. This figure was corrected from 3.8x to 4.9x.
 
Stress testing & cash flow analysis
No stress testing was performed. Scope Ratings performed its standard cash flow forecasting for the company.

Methodology
The methodologies used for these Credit Ratings and/or Outlook, (Corporate Rating Methodology, 6 July 2021; Rating Methodology: Consumer Products, 30 September 2020), are available on https://www.scoperatings.com/#!methodology/list.
Scope Ratings GmbH and Scope Ratings UK Limited apply the same methodologies/models and key rating assumptions for their credit rating services, while Scope Hamburg GmbH’s methodologies/models and key rating assumptions are different from those of Scope Ratings GmbH and Scope Ratings UK Limited.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other 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 Credit Rating performance report at https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. 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 Ratings’ definitions of default and Credit 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 factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With the 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 Ratings: public domain, the Rated Entity, the Rated Entities' Related Third Parties and Scope Ratings' internal sources.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting the Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlook and the principal grounds on which the Credit Ratings and/or Outlook are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlook are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlook are UK-endorsed.
Lead analyst: Barna Szabolcs Gáspár, Associate Director
Person responsible for approval of the Credit Ratings: Olaf Tölke, Managing Director
The Credit Ratings/Outlook were first released by Scope Ratings on 8 November 2019.

Potential conflicts
See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings.
Scope Ratings provided the following Other Services to the Rated Entity and/or its Related Third Parties within the two years preceding this Credit Rating action: Rating Assessment Service

Conditions of use/exclusion of liability
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