MOODY'S ASSIGNS A (P)Ba3 SENIOR IMPLIED RATING TO AVIO HOLDING S.P.A. AND A (P)B2 RATING TO ASPROPULSION CAPITAL B.V.'S PROPOSED SENIOR NOTES ISSUE; OUTLOOK STABLE.
Approximately Euro 200 million of Debt Securities Affected.
London, 23 September 2003 -- Moody's Investors Service today assigned a (P)Ba3 senior implied
rating to Avio Holding S.p.A. ("Avio Holding")
and a (P)B2 rating to the proposed issue by ASPropulsion Capital B.V.
of Euro 200 million of senior notes due 2013. The proposed issue,
along with Euro 749.4 million of drawings under Avio S.p.A.'s
("Avio" or "the company") senior secured credit
facilities, will primarily be used to refinance existing indebtedness
assumed by Avio in connection with the contribution of the Avio business
by the Fiat group to Avio. New ratings assigned include:
- Senior implied rating of Avio Holding S.p.A.
- Unsecured issuer rating of Avio Holding S.p.A.
- Proposed Euro 200 million in senior notes due 2013 at ASPropulsion
Capital B.V. at (P)B2.
The outlook for all ratings is stable.
SUMMARY RATING RATIONALE:
The (P)Ba3 senior implied rating reflects: (i) the company's
leading position as a global supplier in the aeroengine market; (ii)
the high market barriers to entry that exist in the aeronautical industry;
(iii) Avio's long-term relationships with leading aircraft
engine manufacturers and national governments and its experienced management
team; (iv) the political and strategic importance of Avio to the
Italian government; (v) the stable and predictable nature of the
majority of the company's earnings and cash flow; (vi) its
diverse engine portfolio; (vii) its conservative hedging policy;
and (viii) Moody's expectation that Avio should maintain adequate liquidity
given available cash balances, undrawn bank commitments and limited
mandatory debt amortisation before 2005.
However, the rating also reflects: (i) Avio's significant
exposure to the commercial airline sector; (ii) the company's
high financial leverage; (iii) strong competition in both Avio's
direct and end customer markets; (iv) Avio's increasing participation
in risk/revenue sharing programmes which exposes the company to downside
risk including cost overruns as well as negatively impacts working capital;
and (v) the prevalence of large revenue programmes which, whilst
customary for this industry, result in high customer concentration
and large fluctuations in working capital, and can be subject to
material delays or cancellations due to both technical and financial reasons
which could negatively impact Avio's operating performance.
The stable outlook reflects Moody's opinion that despite the prevailing
weak market conditions in the civil aerospace industry, Avio's
near term earnings will be supported by its more predictable military
division and that consequently Avio will remain free cash flow generative
and will use its free cash flow to reduce indebtedness and will not make
acquisitions that will materially impact leverage or free cash flow generation.
KEY CREDIT POSITIVES:
Avio benefits from its leadership position as a global supplier in the
aeroengine market including being a leading supplier of accessory gearbox
modules and low pressure turbine components, a leading independent
manufacturer worldwide for power transmissions for turboprops and helicopters
and the sole supplier to European space programmes of solid rocket motors
for space launchers.
High market barriers to entry exist in this sector given: (i) the
stringent certifications and approvals required from government regulators,
aviation authorities and customers; (ii) the capital intensive nature
of the business with substantial upfront investments and technological
expertise required to design and produce for long life components;
(iii) the necessity to develop strong customer relationships; and
(iv) the reluctance of customers to change partners after products have
received design approval.
The company has a well established record of working in the aeronautical
industry and benefits from the long-term relationships it has developed
with a number of leading aircraft engine manufacturers, e.g.
General Electric, Rolls-Royce and Pratt & Whitney,
as well as partnerships with national governments and their ministries,
e.g. the Italian military and the UK, German and Saudi
air forces, as well as certain national and domestic airlines,
e.g. Alitalia. In addition, the management
team is highly experienced and has an established track record in running
its business. Whilst the buy-out will introduce new challenges
to management, including operating in a leveraged environment,
management will benefit from the guidance and support of its experienced
As one of only two Italian-controlled companies operating in the
Aerospace & Defence industry, Moody's believes that the
company is of significant political and strategic importance to the Italian
government and is therefore likely to benefit going forward from political
backing within Italy as well as government support e.g.
through continued Law 808/85 financing, whereby the Italian government
provides funding to Avio and other Italian companies operating in the
aerospace industry in order to encourage research and development activities.
Such financing is long term and interest free, with payback linked
to the commercial success of the related programme.
The majority of the company's earnings and cash flow are derived
from its stable and long-term military, space and spares
businesses. The company therefore benefits from long term visibility
of earnings for a significant percentage of its business. While
2002 and H1 2003 operating performance has been weak due to the difficulties
in the civil divisions, order backlog is currently Euro 2.6
billion (up from Euro 2.4 billion in December 2002) and the company
is expected to remain free cash flow positive going forward.
Historically the profitability of civil and military engine programmes
has varied significantly during their life cycles, which involves
development, production and aftermarket phases. Avio benefits
from a diverse engine portfolio which includes a significant proportion
of young commercial engines that are currently entering the more profitable
mature phase of the engine life cycle, which should help to support
margins in the civil division over the medium term.
Pro-forma for the close of the transaction, the company will
have cash balances of Euro 13.5 million as well as access to a
Euro 150 million revolving credit facility (which is projected to be undrawn
at close) and a Euro 200 million performance guarantee facility.
Drawdown under the revolver is subject to certain conditions including
compliance with financial covenants (including inter alia a total debt/EBITDA
test, a senior debt/EBITDA test and certain interest cover tests)
and the facility also contains a material adverse change clause.
However mandatory amortisation under the bank facilities is low in the
first two years and headroom under the financial covenants appears reasonable.
Liquidity is therefore believed to be adequate. In addition,
whilst Avio is exposed to fluctuations in foreign exchange given that
the majority of Avio's manufacturing costs are in Euros whereas
a substantial amount of revenue is generated in other currencies (particularly
US$), the company is putting in place a comprehensive foreign
exchange hedging strategy, which should reduce future earnings volatility.
KEY CREDIT RISKS:
The senior implied rating also reflects Avio's significant exposure
to the commercial airline sector, which is a highly cyclical industry
and currently suffering a severe downturn with no expectation of improvements
in the near term. In light of this and pro-forma credit
metrics, with Total Debt/EBITDA of 4.6x and EBITDA/cash interest
expense of 3.2x, the company is viewed as highly leveraged.
In addition, Moody's has taken into consideration the high
level of performance guarantees given by the company to customers (expected
to be in the region of Euro 130 million going forward), albeit that
there have been no significant warranty claims in the past, as well
as unsecured non-trade payables relating to employee severance
indemnities and Law 808/85 funding (currently approximately Euro 425 million).
Avio also faces strong competition in both its direct market, i.e.
the provision of components and assemblies to aeroengine manufacturing
customers, as well as its end customer market where aeroengine manufacturing
customers compete for business from airlines and governments. As
a consequence, the company is increasingly participating in risk/revenue
sharing programmes with original equipment manufacturers and major suppliers,
particularly for civil projects. Whilst this benefits Avio to the
extent that it participates in the upside of the project and is locked
in to long term new engine sales and spare parts sales over the life of
the programme, it also exposes Avio to downside risk including cost
overruns and negatively impacts working capital since Avio must fund a
portion of the associated development costs, which includes an upfront
cash entry fee.
In addition, given that a significant proportion of Avio's
revenues are generated from large projects, customer concentration
is high, e.g. General Electric represented 32%
of 2002 revenues whilst Avio's top eight customers represented 76%
of 2002 revenues, and working capital can be subject to large variations
depending on the timing of programmes. Also, such projects
can be subject to material delays or cancellations due to both technical
and financial reasons which could negatively impact Avio's operating
Moody's notes that the company may pursue potential acquisitions
in the future but cautions that any acquisition that materially impacts
leverage or free cash flow generation is likely to put downward pressure
on the ratings.
On 1 July 2003, Avio Holding, a newly incorporated Italian
company ultimately controlled by The Carlyle Group ("Carlyle")
and Finmeccanica S.p.A. ("Finmeccanica")
and certain of their affiliates, entered into an agreement to purchase
the entire share capital of Avio from Fiat S.p.A.
for a total consideration of approximately Euro 1.5 billion (including
the assumption of debt). Avio is a newly incorporated company containing
substantially all of the assets and liabilities related to the aviation
business previously contained in FiatAvio S.p.A.,
with the exception of certain assets and liabilities related to businesses
discontinued by FiatAvio S.p.A. in the past or other
businesses not aviation related.
It is proposed that the acquisition will be funded through Euro 625 million
of equity (comprising Euro 475 million cash equity contributed by Carlyle
and Finmeccanica and a Euro 150 million vendor loan note from Fiat),
Euro 200 million of senior notes and drawings under the Euro 899.4
million of senior secured credit facilities (Euro 749.4 million
drawn at closing), with Euro 25.6 million of existing indebtedness
remaining in place. Post closing, Carlyle will own approximately
70% of the company, whilst Finmeccanica will own the remaining
stake. Management will hold stock options on 6% of the company
subject to certain return targets being met.
The Euro 899.4 million of senior secured facilities and a Euro
200 million senior performance bond facility will both be contractually
and effectively senior to the proposed notes. The vendor loan note
will be both structurally and contractually subordinated to both the senior
facilities and the proposed notes, will have a tenor of twelve years
and six months, i.e. two and a half years longer than
the notes, and will be non cash pay for life. In addition,
the holders of the vendor loan notes will not benefit from any acceleration
rights whilst the notes are outstanding.
The (P)B2 rating on the senior notes reflects the fact that the proposed
issuer is a special purpose vehicle, hence the claims of note holders
are removed from the main operating company (Avio), as well as the
fact that the notes are contractually subordinated to a significant amount
of priority debt at Avio, including both secured creditors,
i.e. Euro 749.40 million of drawn credit facilities,
a Euro 150 million revolver and a Euro 200 million performance bond facility,
and unsecured creditors including, inter alia, approximately
Euro 100 million of employee severance indemnities and Euro 325 million
of Law 808/85 payables.
However, Moody's acknowledges the benefit to note holders
of the Euro 200 million indirect claim at Avio, albeit subordinated,
which exists by virtue of the second secured inter-company loans
in place between ASPropulsion Capital B.V., ASPropulsion
International B.V. and Avio as well as the senior guarantee
from Aero Invest 2 S.a.r.l., the senior
subordinated guarantees from Avio Holding, Avio and certain of its
subsidiaries and the second secured lien over the stock of Avio.
The proposed notes will be sold in a privately negotiated transaction
without registration under the United States Securities Act of 1933 ("the
Act") under circumstances reasonably designed to preclude a distribution
thereof in violation of the Act. The issuance will be designed
to permit resale under Rule 144A and Regulation S of the Act.
The assigned ratings assume there will be no material variations to the
draft legal documentation reviewed by Moody's and assume that these
agreements are legally valid, binding and enforceable.
Registered in Italy, Avio is a leading designer and manufacturer
of subsystems and components for military and civil aircraft engines and
a producer of propulsion systems for space launch vehicles and tactical
missile applications. For the last twelve months ended 30 June
2003, Avio generated revenues of Euro 1,350.3 million
and EBITDA of Euro 208.4 million.
Eric de Bodard
Corporate Finance Group
Moody's France S.A.
JOURNALISTS: 33 1 53 43 93 78
SUBSCRIBERS: 44 20 7772 5454
Asst Vice President - Analyst
Corporate Finance Group
Moody's Investors Service Ltd.
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454