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Rating action

Scope Ratings GmbH (Scope) has today affirmed Hungary-based Pannon-Work Zrt’s issuer rating at B+/Stable. The senior unsecured guaranteed bond rating (ISIN: HU0000360052) has been affirmed at BB-.

Rating rationale

The rating action reflects Pannon-Work’s good cash flow from the Hungarian temporary staffing market, complemented by increasing recurring revenue provided by HR payroll services, accommodation for workers and 5 MW of solar power generation.

Pannon-Work’s business risk profile (assessed at B+) is driven by its position as the fourth largest personnel service provider in Hungary. The Hungarian market is very fragmented, with the top four players holding a market share of around one-third. 

Growth over the years has been driven by the labour shortage in Hungary and companies’ need for an intermediary to offer flexibility by leasing out personnel when required. The labour shortage and further workforce needs created by large-scale investments in the automotive, retail and consumer goods sectors may continue to be an issue, enabling the workforce leasing market to grow. At the same time, clients are continuously tendering out contracts with workforce agencies and the leased workforce is the easiest to let go, as seen in the pandemic. Cash flow arising from Pannon-Work’s blue collar workforce leasing is therefore volatile and vulnerable. 

Hungary’s strong foreign direct investment pipeline in the assembly industry provides a good market outlook for the business¹. Sluggish economic growth and parts shortages may force the temporary closure of some assembly lines, which could impact Pannon Work’s cash flow since temporary staffing is a margin business relying on staffing costs. Wage inflation is rather passed through hence the issuer may keep its margins.

Despite the company’s efforts to expand its range of services, it faces concentration risk due to its sole exposure to Hungary and low customer diversification. Low geographical and client diversification has led to volatile cash flow from Pannon-Work’s main activity. Although the top five clients contribute more than two-thirds of revenue, most of them are bound to Pannon-Work for more than five years, which ensures a visible income stream in the coming years. In addition, since there are significant investments in Hungary with a need for labour, especially in the automotive parts segment, Scope expects the blue-collar workforce leasing market to grow, especially in the electric vehicles market, which may provide additional opportunities for Pannon-Work to grow its client base. 

Furthermore, recurring revenue from the acquired solar energy production and revenue from outsourced services such as payroll services provided by the recently acquired HR-Face Kft. largely mitigate vulnerable cash flow since clients do not change service providers frequently due to the administrative burden. Scope notes that the recently introduced windfall tax does not apply to small power plants with a capacity below 0.5 MW such as Pannon-Work’s.

Profitability as measured by a Scope-adjusted EBITDA margin of 5.0% in 2021 is similar to that in previous years. Improved profitability from historical levels of 2%-3% is mainly due to recurring revenue and its EBITDA contribution. From 2022 onwards, around one-third of EBITDA is generated by payroll services, accommodation and green energy production, which have more protected cash flows than blue-collar workforce leasing. The increase in recurring revenues and their EBITDA contribution support the rating.

Pannon-Work’s financial risk profile (assessed at BB-) is driven by high indebtedness caused by debt financed investments. Leverage is weak but still reasonable, with Scope-adjusted debt/EBITDA at 4.5x in 2021, up from 2.5x in 2019 and funds from operations/Scope-adjusted debt at around 15%. Debt is mainly composed of a HUF 3.5bn senior unsecured guaranteed bond and of a HUF 700m senior secured long-term loan for capex and acquisitions. Investments in assets generating recurring cash flow support EBITDA growth and will allow gradual deleveraging. 

The bond proceeds were used to repay around HUF 1.1bn of Pannon-Work’s short-term debt. The remainder was invested in solar power plants that have been generating cash flow since mid-2021. Future investments with the aim to increase solar power generation could weaken leverage once again towards 5x.

Scope-adjusted EBITDA interest cover was strong in 2021 at 11.6x. The EBITDA ramp-up is visible in the expansion of the temporary staffing business, solar power generation and real estate segments. Most of the debt instruments are long term and have fixed interest rates of up to 3% per year, which are beneficial in the current soaring interest rate environment in Hungary. The rise in interest rates to above 10% moderately affects Pannon-Work, as the company has only HUF 0.3bn in variable interest rate debt drawn by end-2021 and no large variable-rate debt financing is planned. Thus, Scope forecasts Scope-adjusted EBITDA interest cover to stay at around 6x. 

Scope has not applied any notching on supplementary rating drivers. The company distributes reasonable dividends. All acquisitions performed resulted in acceptable leverage and low execution risk. The acquired businesses were either complementary to the core business or operation and maintenance has been outsourced in case of renewables. New businesses provide additional strong recurring cash flow generation pointing towards a successful and fast integration.

Scope deems Pannon-Work’s liquidity is adequate. Pannon-Work refinanced most of its short-term debt in 2020 with long-term debt, which significantly improved the liquidity ratio. The HUF 950m factoring line is unused and only about 10% of the revolving credit facility of HUF 1.05bn is used, which provide additional headroom. The factoring line was not taken into account when calculating liquidity. The liquidity ratio is projected at above 5x with minimal short-term debt.

Outlook and rating-change drivers

The Outlook for Pannon-Work is Stable and reflects Scope’s view that the company can retain its major clients and keep its strong cash flow generation. The Stable Outlook reflects Scope’s expectations that leverage (Scope-adjusted debt/EBITDA) will remain high, but to gradually decrease to the lower end in the 4.0-4.5x range over the next few years after debt-financed investments bear fruit.

A positive rating action is remote at this stage but could be warranted if Pannon-Work grows significantly in size benefiting the company’s diversification, especially as regards customers, while Scope-adjusted debt/EBITDA improves to significantly below 4x. This could be achieved by improving profitability, a higher EBITDA contribution from HR services or reduced shareholder remuneration.

A negative rating action could occur if Scope-adjusted debt/EBITDA exceeded 6x on a sustained basis. This could result from lower-than-expected EBITDA from HR-related services, solar energy production assets or further large debt-funded capital expenditure or acquisitions.

Long-term debt ratings

Scope assesses Pannon-Work’s senior unsecured bond (ISIN: HU0000360052) guaranteed by Gamax Kft. at BB-, one notch above the issuer rating. The bond rating reflects the ranking status of the debt, ranking below senior secured loans (for capex, acquisition and working capital) as well as the ‘above-average’ recovery potential due to the high market value of the standardised 0.5 MW solar power plants.

1. Flextronics and Lenovo existing plants and expansions, Audi’s new electric engine plant, Mercedes’ continuous expansion of its existing plant in Kecskemét, BMW’s new EUR 1bn plant in Debrecen, Samsung’s existing business and Samsung SDI’s EUR 1.2bn investment, SK Innovation’s EUR 2bn investment, Suzuki’s and Hankook’s existing investments and connected logistics of all entities

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, (General Corporate Rating Methodology, 15 July 2022; European Utilities: Renewable Energy Rating Methodology, 17 January 2022), are available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
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-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. 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-governance/definitions-and-scales. 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://scoperatings.com/governance-and-policies/rating-governance/methodologies.
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: Philipp Wass, Executive Director
The Credit Ratings/Outlook were first released by Scope Ratings on 14 August 2020. The Credit Ratings/Outlook were last updated on 17 August 2021.

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.

Conditions of use/exclusion of liability
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