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Rating action

Scope Ratings GmbH (Scope) has today downgraded the issuer rating of Hungarian construction company Vasútvill Kft. to C/Negative from B-/Under review for a possible downgrade. Scope has also downgraded the company’s senior unsecured debt rating to C from B-/Under Review for a possible downgrade.

Rating rationale

The rating downgrade reflects Vasútvill’s severe liquidity problems. In Scope’s view, the company will struggle to cover its operating costs without external cash funding in the short term. While parental support would temporarily boost its cash levels, it does not address Vasútvill’s stressed cash flow generation. As outlined in November 2023, the substantial deterioration of the company’s order book since 2022, exacerbated by the cancellation of key projects in early 2023, has weakened its credit metrics and is now hampering its operations. The dispute between the ultimate owners of Vasútvill is a further obstacle to its recovery.

The Negative Outlook reflects severe liquidity challenges and uncertain business viability in the near term. The coverage of fixed operating costs will require external liquidity support, which Scope understands to be done by a cash injection in H1 2024. In Scope’s view, a rapid recovery in the order backlog will not be achievable in the short term. The Outlook also reflects Scope’s view on the issuer’s proximity to default under the agency’s rating definitions.

Vasútvill’s business risk profile (revised to CCC from B-) has deteriorated due to a significant reduction in both the top line and the order backlog, the latter being highly concentrated and subject to high execution risk. Profitability, as measured by the Scope-adjusted EBITDA margin, is expected to be negative in 2023 and is not expected to improve significantly in 2024.

The order backlog stood at around HUF 5bn as of February 2024 (considering some projects to be signed in Q1 2024). Despite some progress, the order backlog remains weak and highly concentrated in a few small projects, reflecting i) the lack of public procurement in Hungary, which is dependent on budget constraints; and ii) the slow pace of business creation outside the domestic market. Vasútvill’s management is looking for subcontracting opportunities in other markets, such as Bulgaria and Romania, which remain dynamic as European Union funds support the development and modernisation of transport infrastructure. A separate company owned by Mr. Zsolt Homlok, the majority owner of Vasútvill, is participating in several tenders at different stages of the bidding stages. However, given the usual time lag between securing a new contract and its execution, Scope does not expect Vasútvill’s top line to recover to an adequate level in 2024, thus cash flow is expected to remain very weak in 2024.

Vasútvill’s financial risk profile (revised to CC from B-) has weakened significantly, with further deteriorated credit metrics forecasted for FY 2023 compared to the last review, and no recovery expected in 2024 and beyond. Leverage, as measured by Scope-adjusted debt/ EBITDA, is expected to be negative in 2023 (due to negative EBITDA) and is projected to reach an elevated 18x in 2024. Cash flow has been negative in recent quarters, and Scope forecasts it to remain negative during 2024. Vasútvill’s cash flow plan for H1 2024 shows a dependency on i) a handful of minor projects currently under execution; ii) a cash injection from Rafinanz Promotion CZ s.r.o.; and iii) the timely collection of advance payments from contracted projects. There has been no significant improvement over the last few quarters, and the company remains highly dependent on a few sources of cash income. Scope also highlights the risk that the cash flow plan may not be executed on time and that the recovery in 2024 might fall short of expectations due to unsuccessful tenders and uncertainty about the timing of a recovery in the construction market.

The liquidity position has severely deteriorated due to the company’s very weak cash flow generation. The available sources of liquidity consist of around HUF 170m of cash as of early March 2024. Although Vasútvill has no significant upcoming debt maturities, and the bond interest payment of HUF 90m was made at the end of January 2024, the company has to cover monthly fixed costs of HUF 80m-90m. Based on these figures, Vasútvill will struggle to cover its operating costs without external cash funding. Scope acknowledges that the company is working on a comprehensive refinancing plan to address these liquidity concerns and understands that Vasútvill expects to receive around HUF 450m during March 2024 from its parent company, Rafinanz Promotion CZ s.r.o., for liquidity support and international expansion. While parental support would temporarily boost its cash levels, it does not address Vasútvill’s stressed operating cash generation. As a result, Scope considers liquidity as inadequate, which weighs negatively on the financial risk profile and overall rating, with the agency deducting one notch in its liquidity assessment.

The dispute between the ultimate owners of Vasútvill’s also exacerbated this situation, causing a main customer (R-Kord Kft.) to terminate major contracts in 2023. More recently, the non-payment of expected compensation for cancelled projects (about HUF 750m) with uncertain timing of recovery and possible use of a guarantee, has become evident. Expected negotiations to simplify Vasútvill’s shareholder structure by acquiring the minority stakes have not progressed. In Scope’s view, this limits the company’s path to recovery (ESG factor: credit negative), resulting in a negative one-notch adjustment of Vasútvill’s standalone rating.

Scope highlights that Vasútvill’s senior unsecured bonds issued under the Hungarian Central Bank’s bond scheme have accelerated repayment clauses requiring repayment of the nominal amount (HUF 3bn) if the rating deteriorates (two-year cure period for a B- rating, repayment within 90 days below B-). Such a development could adversely affect the company’s liquidity profile.

Following the downgrade of the senior unsecured debt rating to B- on 6 July 2023, Vasútvill has entered the grace period of two years to restore the issue rating to at least B+. With the current downgrade, the company has triggered the bond rating covenant and could face severe liquidity constraints and enter a default, unless it obtains refinancing that covers the early repayment of the outstanding bond amount, or it proactively obtains an investor waiver related to the accelerated repayment.

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

Outlook and rating-change drivers

The Outlook for Vasútvill is Negative as Scope forecasts severe liquidity problems in the short-term. The coverage of fixed operating cost will require external liquidity support, which Scope understands will be done by a cash injection in H1 2024. In Scope’s view, a rapid recovery in the order backlog, and thereby improving operational visibility, will not be achievable in the short-term term. Furthermore, the company’s performance in 2024 depends on the successful execution of few small projects. The Outlook also reflects Scope’s view on the issuer’s proximity to default under the agency’s rating definitions. Scope will closely monitor developments at Vasútvill regarding a possible restructuring agreement or waiver of the accelerated repayment clause of the bond.

A negative rating action could occur if the company is unable to secure the liquidity needed to pay its fixed operating costs in the very short term and to service its debt and a potential restructuring agreement in the short term, and the lenders refuse to waive their requirement to accelerate repayment. The bond prospectus specifies a repayment of the total bond nominal amount within 90 working days, which applies to the assigned rating today. Such a scenario is therefore likely to result in a corporate default.

A positive rating action back to stable requires securing short-term liquidity to meet fixed operating payments in addition to obtaining a waiver on the accelerated bond repayment. An upgrade is remote but may be warranted if i) enough liquidity, via operational cash flow, is secured to cover operating cost at all times; ii) proceeds from large contracts materialise later this year, reflecting the ability to secure future operations; iii) debt is restructured and lenders agree that the company does not have to repay the nominal bond amount.

Long-term debt ratings

The rated entity issued a HUF 3bn senior unsecured corporate bond (ISIN HU0000360151) in 2021. The bond terms include a yearly amortisation of 20% from 2026 until maturity, a fixed annual coupon and a 10-year tenor. Scope’s recovery analysis is based on a hypothetical default scenario in 2024, taking into account Vasútvill’s liquidation value and assumed outstanding senior unsecured debt of HUF 3bn. Scope expects an ‘average’ recovery on Vasútvill’s senior unsecured debt. Although asset values are high (machinery with a net book value of HUF 2bn as at December 2023), liquidation would occur at distressed prices in the event of default. Scope has downgraded the unsecured debt class rating to C from B-, in line with the issuer 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/or Outlook, (General Corporate Rating Methodology, 16 October 2023; Construction and Construction Materials Rating Methodology, 25 January 2024), 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 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 these 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 and/or Outlook 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: Rigel Scheller, Director
Person responsible for approval of the Credit Ratings: Olaf Tölke, Managing Director
The Credit Ratings/Outlook were first released by Scope Ratings on 7 July 2020. The Credit Ratings/Outlook were last updated on 6 December 2023.

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
© 2024 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Ratings UK Limited, Scope Fund Analysis GmbH, and Scope ESG Analysis GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions 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. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5 D-10785 Berlin.