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Rating action

Scope Ratings GmbH (Scope) has today affirmed the B- issuer rating of Wellis Magyarország Zrt. and assigned a Stable Outlook. The senior unsecured debt category rating has been affirmed at B- and withdrawn due to business reasons. Consequently, the under-review status for a possible downgrade has been resolved. The HUF 9.9bn senior unsecured guaranteed bond (ISIN: HU0000360250) has been assigned a new instrument rating of B-.

The rating action is driven by the restructuring of the HUF 9.9bn bond that has been placed under the Hungarian National Bank’s Bond Funding for Growth Scheme (ISIN: HU0000360250). The restructuring, announced on 23 September 2024, includes the waiver of the rating deterioration covenant (pertaining to a minimum rating level of B+) till January 2026, eliminating the risk of immediate debt acceleration. The execution of the bond restructuring does not constitute a distressed debt exchange under Scope’s definitions.

The affirmation reflects the gradually improving credit metrics, benefitting from the recovery of EBITDA* margin (08/2024: 8.3%), while the financial risk profile is still constrained by high leverage and the need for refinancing in the medium term.

The full list of rating actions and rated entities is at the end of this rating action release.

Key rating drivers

Business risk profile: B (unchanged). The business risk profile remains supported by the moderate diversification in terms of geographies, customers and suppliers. Additionally, the business risk profile is supported by the issuer’s brand strength, benefitting from the international scope of branded sales as well as the solid quality of its products.

The business risk profile remains constrained by the company’s limited absolute size (2023 revenues HUF 29.5bn), which Scope forecasts will increase by 12% in 2024 to HUF 33bn, driven primarily by an expansion of market share in the US. However, Wellis remains a smaller player compared to multinational competitors and has limited capacity to mitigate the risks stemming from the more challenging market conditions.

The operating profitability has demonstrated fluctuations in previous years, with a significant exposure to shifts in global demand for non-discretionary consumer goods (e.g. spas). While 2023 resulted in break-even profitability on the EBITDA level (EBITDA margin: -0.6%), there is evidence of a rebound starting from Q3 2023, which is expected to continue in 2024 based on interim accounts. Scope anticipates that the EBITDA margin will exceed 8% in 2024, driven by the cost-cutting programme and rationalisation of production over the past two years. By 2026, the margin is expected to move above 9%.

Financial risk profile: B- (unchanged). The financial risk profile has settled at a B- following the debt restructuring and eased liquidity concerns. The rating acceleration covenant has been waived till January 2026, providing additional headroom for the recovery of the debt instrument rating to at least B+. Scope does not consider the conducted debt restructuring as a distressed debt exchange. Despite the restructuring is made to avoid a likely default, based on Scope’s analysis, it does not lead to less favourable terms or a loss of value compared to the original terms of the debt: i) the coupon rate of the bond has been increased to 3.5% from 3.0% till the rating of the debt instrument improves to at least B+; ii) additional 10% amortisation of the face value has been introduced in 2026; and iii) the bond is guaranteed by three subsidiaries. Additionally, the debt restructuring has been conducted in an orderly fashion, well in advance to the ending of the grade period.

The leverage, measured by debt/EBITDA, reached levels that are unsustainable over the medium term in 2023 (above 130.0x). In line with the gradual recovery of the EBITDA margin in 2024, and due to the significant debt amortisation (HUF 3bn in 2024, HUF 4bn in 2025-2026), leverage is forecasted to reach 7.8x in 2024, and to gradually improve towards 4.0x by 2026.

The weak profitability and increasing debt level in 2023 have also had a negative effect on debt protection, as evidenced by the EBITDA interest cover ratio, which remained below 1.0x in 2023. While it is anticipated that interest will reach its highest point in 2024, reaching over HUF 900m, interest cover is forecast to grow to 3.0x due to the projected higher EBITDA. Given the significant debt repayments that are due in the coming years, Scope anticipates that paid interest will gradually decrease. As a result of further improving profitability, Scope expects interest cover to improve towards 6.0x in 2025 and 2026, assuming no additional debt is raised.

Free operating cash flow (FOCF) remained negative in 2023, primarily due to the insufficient EBITDA, and the HUF 2bn CAPEX incurred during the year. Going forward, FOCF/debt is expected to return to the positive territory, supported by reduced CAPEX needs (only HUF 900m maintenance CAPEX, in line with the depreciation) and positive cash flow from the changes in the working capital (especially the reduction of inventory).

Liquidity: inadequate (unchanged). Liquidity is assessed as inadequate, although the sources (HUF 426m available cash at YE 2023 and HUF 3.4bn FOCF forecasted for 2024) does cover the scheduled debt amortisation of HUF 3bn, Scope anticipates very limited headroom in terms of liquidity, while the debt service is highly dependent on the development of working capital (HUF 2.5bn debt service already paid by the end of September 2024). Looking ahead, liquidity is expected to remain tight in 2025, close to 100%. In 2026, liquidity is expected to fall below 100%, signalling the need to refinance at least part of the maturing financial debt.

Scope highlights that Wellis’s bond issued under the Hungarian National Bank’s Bond Funding for Growth Scheme has a covenant requiring the accelerated repayment of the outstanding nominal debt amount (HUF 9.9bn) if the debt rating of the bonds stays below B+ for more than two years (grace period) or drops below B- (accelerated repayment within 30 days). Such a development could adversely affect the company’s liquidity profile. Following the downgrade of the senior unsecured debt rating to B- on 20 October 2022, Wellis has entered the grace period. Based on the restructured debt prospectus dated 23 September 2024, the rating deterioration covenant is waived till January 2026. This means the company must ensure the debt rating returns to B+ before the waiver period ends. If the debt rating does not return to B+ within the waiver period, the company 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.

Supplementary rating drivers: credit-neutral (unchanged). Supplementary rating drivers are deemed credit-neutral.

Outlook and rating sensitivities

The Stable Outlook reflects Scope's expectations that Wellis' credit metrics will gradually improve. This incorporates the forecasts of an EBITDA margin gradually improving above 9% till 2026, driving credit metrics in the positive direction. The rating case assumes positive free operating cash-flow generation and leverage, measured by debt/EBITDA, to improve to below 5.0x in the medium term. While liquidity risks remain, Scope’s rating case assumes the successful refinancing of Wellis’ loans which is supported by the ongoing operational recovery. Scope notes that the acceleration of bond repayment might have default implications for Wellis, with the current waiver period for rating recovery ending in January 2026.

The upside scenario for the ratings and Outlook is:

1. Adequate liquidity on a sustained basis paired with credit metrics developing in line with expectation

The downside scenarios for the ratings and Outlook are (individually):

1. Deterioration of the liquidity profile, e.g. failure to refinance the existing loans or extend the rating recovery waiver beyond 2026
    
2. Increasing concerns that EBITDA interest coverage does not improve to above 2.0x

Debt rating

Wellis has issued a HUF 9.9bn senior unsecured corporate bond under Hungary’s Bond Funding for Growth Scheme in 2021, which has been restructured to a senior unsecured guaranteed bond in September 2024. The bond’s tenor is 10 years, with a coupon of 3.0% till September 2024, and 3.5% afterwards till the debt instrument rating recovers to at least B+. Repayment in six tranches: 20% of the face value in 2026; 10% yearly between 2027 and 2030; and 40% at maturity in 2031.

The recovery expectation is ‘average’ for senior unsecured debt holders in a liquidation scenario, thus Scope has rated all senior unsecured debt positions at B-, the same level as the issuer rating, resolving the under review for possible downgrade status. Subsequently, the senior unsecured debt rating has been withdrawn due to business reasons.

The senior unsecured guaranteed bond (ISIN: HU0000360250) has been assigned a new instrument rating of B-. The guarantees of Wellis USA Inc., Wellis Leisure Ltd. and Wellis Deutschland GmbH have no significant effect on the expected recovery rate of the debt instrument.

Environmental, social and governance (ESG) factors

Overall, ESG factors have no impact on this credit rating action.

All rating actions and rated entities

Wellis Magyarország Zrt.

Issuer rating: B-/Stable, affirmation

Senior unsecured debt rating: B-, affirmation and subsequent withdrawal

Senior unsecured guaranteed debt instrument rating (ISIN: HU0000360250): B-, new

*All credit metrics refer to Scope-adjusted figures.

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; Consumer Products Rating Methodology, 3 November 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 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: 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 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: Istvan Braun, Senior Representative
Person responsible for approval of the Credit Ratings: Sebastian Zank, Managing Director
The Credit Ratings/Outlook were first released by Scope Ratings on 22 January 2021. The Credit Ratings/Outlook were last updated on 3 May 2024.

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, as well as a list of Ancillary Services and certain non-Credit Rating Agency services provided to Rated Entities and/or Related Third Parties.

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.