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Rating action

Scope Ratings GmbH (Scope) has today placed the B issuer rating and B- senior unsecured debt rating of Hungarian real estate company Appeninn Holding Nyrt. under review for a possible downgrade.

Rating rationale

The rating action follows Appeninn’s change of strategy to focus on commercial real estate, which does not warrant an upgrade of either the issuer rating or the senior unsecured debt rating. An upgrade of the debt rating would be needed to prevent the full repayment in April 2023 of the HUF 20bn bond issued under the Hungarian National Bank’s bond scheme. The ratings were placed under review for a potential downgrade as future acquisitions could still lead to an improved financial risk profile or improved recovery expectations for senior unsecured debt holders if executed (hence the under review), while the potential downgrade indicates the direction in absence of such potentially beneficial actions.

Appeninn once again shifted its strategy in February 2022 and will no longer develop and thereafter operate a tourism exposure in the Balaton, Tokaj and Lepence areas in Hungary. Most of its tourism assets were sold in 2022, with the remainder sold in January 2023, according to the company. The company intends to use the sales proceeds to buy performing commercial real estate in Hungary and Poland. The issuer has informed Scope of its acquisition targets within retail and office, which were yet to be performed at the time of this rating action. In light of Appeninn’s track record of strategy changes, Scope has not reflected the acquisition targets in its base case and will do so only once they are executed.

Appeninn’s business risk profile assessment is unchanged at B. This is driven by: i) the company’s small size, resulting in cash flow volatility; ii) its limited geographic diversification, concentrated on Budapest; and iii) high tenant concentration. Further drivers are Appeninn’s asset quality, with the exposure to the second-tier market of Budapest, the relatively low and declining weighted average unexpired lease term (2.9 years), and the moderate occupancy rate of 89% on its commercial real estate exposure, a result of the dated assets in need of maintenance spending. Profitability, as measured by the Scope-adjusted EBITDA margin, has been rather volatile, averaging 68% for 2016-2022, with a trough of 49% and peak in 2022 of 80% after development costs were discontinued and omitted from the income statement.

The financial risk profile continues to be assessed at B. The decision to abandon the development of the tourism assets, while credit-positive as it no longer causes financial strain, is still unlikely to lead to improved leverage or interest cover in the short-term. The significant cash amount on the balance sheet at year-end 2022 is also credit-neutral as it came from asset sales and is therefore temporary. Scope-adjusted EBITDA interest cover deteriorated to 1.2x in 2021 and Scope expects it to improve somewhat towards 1.7x for 2023 and 2024. Leverage as measured by the Scope-adjusted loan/value stood at 58% at YE 2022 and is expected to remain at these levels in the absence of changes to Appeninn’s portfolio structure or a significant depreciation in fair value. Scope-adjusted debt/EBITDA remains elevated at 17-18x.

Appeninn’s liquidity is adequate. Breakeven cash flow and unrestricted cash can cover the limited short-term debt. The potential early repayment of the HUF 20bn bond could be covered by cash on the balance sheet (EUR 55m at YE 2022) if not deployed for acquisitions.

Appeninn has seen multiple changes of management and strategy over the last four years driven by changes in dominant shareholders, which has led to reduced clarity and transparency towards stakeholders and the rating agency. Contracts were and continue to be awarded to closely related companies (In-Management Kft. takes care of operations and maintenance) and transactions are undertaken with related parties, which Scope cannot verify to be at arm’s length. In the current corporate structure, many corporate functions are outsourced to third parties, with crucial functions assigned to related parties, as in the above example. Such behaviour raises concerns on transparency and corporate governance (ESG factor: credit-negative).

One or more key drivers of the credit rating action are considered an ESG factor.

Under review for a possible downgrade

All Appeninn’s credit ratings have been placed under review for a possible downgrade. Scope will closely follow developments related to acquisitions or repayment of debt and determine whether the financial risk profile of the issuer or recovery expectations for senior unsecured debt holders improve as a result.

A downgrade by up to five notches is possible if executed acquisitions or alternatively debt repayments did not benefit credit metrics or recovery expectations for senior unsecured debt holders in the short term, resulting in an acceleration of the bond repayment of the HUF 20bn bond in April 2023.

The issuer rating could be confirmed subject to a successful execution on the proposed acquisition pipeline with neutral implication on the company’s business and financial risk profile while benefitting expected recovery for senior unsecured debt holders.

Scope could upgrade the issuer rating by up to one notch if acquisitions benefitted credit metrics by lifting Scope-adjusted EBITDA interest cover above 1.7x on a sustained basis while the Scope-adjusted loan/value ratio stays below 60%. This while ensuring an at least ‘average recovery’ for senior unsecured debt holders. Such a scenario is viewed as remote at present.

Scope will resolve the review status once the acquisitions are done and/or the company has deleveraged through the repayment of outstanding debt. Scope expects to resolve the review by early-April 2023.

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 Real Estate Rating Methodology, 25 January 2023), 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: Thomas Faeh, Executive Director
Person responsible for approval of the Credit Ratings: Philipp Wass, Executive Director
The Credit Ratings/Outlook were first released by Scope Ratings on 1 October 2019.The Credit Ratings/Outlook were last updated on 12 April 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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