"The expected rating is based on the yet-to-be restructured Future Retail Ltd's (FRL) entity; under the restructuring, FRL will buy the in-store infrastructure assets it currently leases from Future Enterprises Ltd and the cross-guarantee arrangements between FRL and Future Enterprises will cease.
Fitch Ratings on Thursday said it has downgraded Future Retail’s rating and put the company on Rating Watch Negative (RWN) list reflecting heightened risk to its liquidity position. In a statement, Fitch said it has downgraded the firm’s Long-Term Issuer Default Rating (IDR) to ‘B-(EXP)’, from ‘BB(EXP)’, and the expected rating on its USD 500 million 5.6 per cent senior secured notes due in 2025 to ‘B-(EXP)’ with a Recovery Rating of ‘RR4’, from ‘BB(EXP)’.
“The expected rating is based on the yet-to-be restructured Future Retail Ltd’s (FRL) entity; under the restructuring, FRL will buy the in-store infrastructure assets it currently leases from Future Enterprises Ltd and the cross-guarantee arrangements between FRL and Future Enterprises will cease.
“We will look to convert the expected ratings to final once the transaction is completed and the cross-guarantee is removed, ensuring that the final terms and conditions of the notes conform to our understanding,” it said.
The downgrade, Fitch said, reflects the heightened risk to FRL’s liquidity position due to a sharp fall in its share price, which has prompted lenders at its promoter shareholder – Future Corporate Resources Pvt Ltd (FCRPL) – to demand more of FRL’s shares as collateral.
“The sustained fall in FRL’s share price has lowered FCRPL’s flexibility to submit more shares as collateral,” it said.
Nearly all of FCRPL 41.1 per cent stake in FRL has been pledged to lenders and certain lenders are attempting to invoke pledges on shares that amount to an 8 per cent stake in FRL following a breach of the collateral coverage requirement.
This has raised the risk of a reduction in the stake held by permitted holders, primarily the promoters – Amazon.com, and related entities – which together hold around 49 per cent stake in FRL, to below 26 per cent; a threshold that could trigger a change of control redemption on FRL’s US-dollar bond.
“The RWN reflects the high and immediate risk to the promoter group’s efforts to reduce share pledges and restore financial flexibility at FCRPL in a timely manner, particularly in the current challenging environment, which has seen a continuous drop in FRL’s share price amid the coronavirus pandemic. FRL’s liquidity position is vulnerable to a prolonged pandemic and a failure to resolve the debt situation at FCRPL could damage FRL’s relationships with lenders, compounding the overall liquidity risk,” it said.
Fitch Ratings said it aims to resolve the RWN upon further clarity on FCRPL’s plan to resolve the debt situation and improve its financial flexibility. The rating agency said the promoter group is evaluating multiple options to lower debt and free-up pledged FRL stakes. These include the monetisation of stakes in other entities and investment properties as well as raising equity from new and existing partners.
“These steps, if successful, will raise financial flexibility at the promoter entities and lower the risk of a change of control being triggered for the redemption for the US-dollar bonds. Nonetheless, a subdued valuation, a high level of share pledges at the group’s other listed entities and a lack of liquidity in the current environment pose risks,” it said.
Possible delays in finalising new investments and lenders enforcing their rights following the breach of collateral cover requirements could also present significant challenges, despite a court ruling providing interim relief until May 4 2020 from lenders invoking pledges on FRL shares.
FRL’s operating performance is vulnerable to the developing coronavirus pandemic, which has prompted the government to impose a nationwide lockdown until mid-April. FRL’s stores will remain open, but can only sell groceries and other essential items that carry lower margins compared with discretionary items, such as apparel.
“We believe this will significantly hurt FRL’s profitability and cash flow in the quarter ending June 2020, followed by gradual stabilisation over the following few quarters,” Fitch said adding the company’s banking relationships will enable it to secure additional lines to manage the increased liquidity needs over the next few quarters. A default at the promoter entities or a prolonged disruption due to the coronavirus pandemic could pose significant liquidity risk, notwithstanding the government’s supportive measures, it added.