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Rating action

Scope Ratings GmbH (Scope) has today affirmed its BB- issuer rating on Tegeta Motors LLC (Tegeta) and revised the Outlook to Stable from Negative. Scope has also affirmed its BB- rating on senior unsecured debt.

Rating rationale

The rating affirmation and change in Outlook reflect the likelihood that EBITDA will increase in coming years, which combined with stable cost of debt and low inflation, will lead credit metrics to sustain at current level.

Following Scope’s expectations, 2022 exhibited weakening credit metrics, driven by partially debt-funded projects and stockpiling with less favourable repayment terms than in the past. Nonetheless, the issuer generated 9% higher EBITDA compared to 2021 (against a 10% decline expectation) thanks to a 19% increase in revenue, which partially offset the decreasing debt protection and increasing leverage. In H1 2023, exponential revenue growth (up 72% YoY) led credit metrics to improve. Scope believes that this growth is somewhat exceptional and driven by a backlog of vehicle orders at end-2022. Nonetheless, Scope expects Tegeta Motors to continue to grow at a double-digit percentage yearly thanks to favourable macroeconomic conditions in Georgia. The expected growing revenue, combined with low inflation and steady interest rates, should allow leverage to remain around 3x and interest cover to sustain in the range 3.0x-3.5x.

Tegeta Motors’ business risk profile (assessed BB-) benefits from a leading position in the Georgian auto retail market in terms of sales. After prudent supply chain management during and after the Covid-19 pandemic, Tegeta continued to serve clients without any major interruptions thanks to sufficient inventory and flexibility in substituting suppliers when necessary. In a fragmented automotive sector, Tegeta has more financial flexibility than its competitors, given its shorter delivery times thanks to high inventory. The issuer historically showed resilience during the unfavourable economic cycle, driven by its strong positioning in the market and the significant amount of fleet deals with governments and corporate institutions, which ensured recurring income.

Diversification remains one of the weak elements in the group’s business risk profile. Tegeta has limited sales outside the Caucasian region and its distribution channels are not diversified. Tegeta’s product diversification, however, provides a line of defense against the economic headwinds compared to its local competitors that are solely focused on car sales. Tegeta offers part and accessories as well as repair and maintenance services, which in 2022 represented 46% of total revenue.

Tegeta’s profitability is the major driver of the business risk profile. With Scope-adjusted EBITDA margins averaging 10% over 2015-2021, the issuer performs usually above the automotive sector average, typically a low margin sector. While 2020 and 2021 were exceptional years, with profit margins of 12% and 11% respectively, in 2022 the margin decreased to 10% due to an increase in general expenses. Scope believes that the issuer will be able to keep margins at around or above 10%, as a result of: i) favourable demand, benefiting from Georgia’s political stability, increased migration and increasing export sales to other Caucasian countries which previously strongly relied on Russia for their car purchases; ii) Tegeta’s ability to keep prices high due to its strong market position; iii) Tegeta’s increasing focus on services, which typically generate higher margins.

Tegeta’s financial risk profile is assessed at BB-, upgraded from B+. While in 2022 debt-financed growth caused leverage, as measured by Scope-adjusted debt/EBITDA, to increase to 3.7x from 3.1x in 2021, Scope expects the metric to sustain at around 3.0x in the medium term in view of the increasing EBITDA, driven by the favourable economic environment. Likewise, the Scope-adjusted interest cover weakened to 2.6x from 3.9x in 2021, as the issuer raised more debt and interest rates kept increasing. Cost of debt is set to remain stable in the short-to-medium term, which in combination with EBITDA growth, should allow the issuer’s interest cover to range between 3.0x and 3.5x.

Cash flow cover remains the weakest element of Tegeta Motor’s financial risk profile. Annual expected capex between GEL 50m and GEL 60m limits room for deleveraging. Scope highlights that Tegeta mainly uses capex to open new points of service and/or showrooms and the company has the necessary flexibility to adjust to weakening demand. However, as the company sees the medium-term expansion plan as a strategic pillar to gain a competitive advantage in the operating region, that flexibility might not be used and Tegeta could decide to use all the headroom that covenants provide. Cash flow is further constrained by Tegeta’s high inventory and short delivery times.

Liquidity is deemed as adequate. The debt structure, with a large amount of short-term debt, historically weakened Tegeta’s liquidity profile. However, the issuer’s recent shift to long-term debt from short term debt through the issuance of bonds slightly mitigates the refinancing risk of the mostly amortizing nature of the company’s current financial debt. Liquidity is also supported by the substantial number of light vehicles in the inventory (around 20% at year-end 2022).

As a retailer and wholesaler of automotive vehicles and parts, Tegeta is exposed to environmental risk due to the regulatory pressure for carbon-neutral vehicles. Tegeta’s strategy towards carbon emission reduction includes: i) the establishment of the first hub for electric car services in the Porsche Center Tbilisi, offering sales of electric vehicles and charging stations; ii) electric trucks usage to transfer vehicles parts within the territory; iii) being engaged in the global project Eco Challenge 2050 to promote the sale of hybrid cars.

Scope notes that the flow of information between management and the rating agency was often very slow. In addition, the audited statements for 2022 were received after the rating assessment, as those were being audited after a change of auditor. (Nonetheless audited figures were in line with preliminary figures on which the rating case is based). Although this has not led to any rating impact yet, Scope highlights this as a governance concern, which will be watched closely going forward.

Outlook and rating-change drivers

The Outlook change to Stable from Negative reflects the expectation that Tegeta will continue to grow its sales by at least 15% yearly, thus keeping credit metrics stable, despite potential risk arising from negative FOCF and refinancing needs. It also incorporates Scope’s view that Georgia’s stable economy (and low inflation) in the short-to-medium term will help the issuer keep stable operating costs and cost of debt at its current level or lower, thus taking pressure away from leverage and interest cover.

A positive rating action could result from Scope-adjusted debt/EBITDA being consistently below 3x combined with a sustained improvement in cash flow. This could be achieved via deleveraging while maintaining relatively high EBITDA. A positive rating action could also be warranted if the company were to increase export sales significantly, leading to better diversification.

A negative rating action could result from a deterioration in credit metrics as indicated by Scope-adjusted debt/EBITDA increasing to above 4.0x on a sustained basis. Weak financial performance could be triggered by an adverse change in the operating environment with muted sales growth pressuring operating profitability.

Long-term debt rating

Scope has also affirmed senior unsecured debt at BB-. The recovery analysis is based on a hypothetical default scenario in 2024, which assumes outstanding senior secured loans, payables and guarantees ranked prior to senior unsecured debt, which results in an above average recovery rate. However, given high sensitivity to advance rates, Scope refrained from upgrading the rating.

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 Outlook, (General Corporate Rating Methodology, 15 July 2022; Retail and Wholesale Rating Methodology, 27 April 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 Rated Entity and/or its Related Third Parties participated in the Credit Rating process.
The following substantially material sources of information were used to prepare the Credit Ratings: public domain, the Rated Entity 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 Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and Outlook are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and Outlook are UK-endorsed.
Lead analyst: Claudia Aquino, Associate Director
Person responsible for approval of the Credit Ratings: Thomas Faeh, Executive Director
The Credit Ratings/Outlooks were first released by Scope Ratings on 22 March 2019. The Credit Ratings/Outlooks were last updated on 5 October 2022.

Potential conflicts
See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest disclosures related to the issuance of Credit Ratings.

Conditions of use/exclusion of liability
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