MOODY'S ASSIGNS A3 RATING TO SAFEWAY PLC PROPOSED NOTES ISSUE
Moody's Investors Service assigned an A3 rating to Safeway plc's proposed issue of senior notes. The rating reflects Safeway's stable market position and relatively conservative financial management. The rating also reflects the highly competitive nature of the UK food retail industry, and Moody's expectation that Safeway's margins, traditionally higher than the industry average, will continue to converge with those of its major competitors. Incorporated in the rating is our anticipation that organic growth in the UK food retail market will be increasingly difficult to achieve, as concentration continues, and new store openings are restricted. This is the first time that Moody's has rated debt of Safeway plc.
With a market share of 7.7%, Safeway is the fourth largest supermarket operator in the UK. The UK food retail market is mature, highly competitive, and increasingly concentrated. In addition, planning restrictions make it increasingly difficult to open new out-of-town stores. In this context, Safeway, the smallest of the four major supermarket operators, has lagged its major competitors in terms of sales area growth, same store sales growth, and market share gains over the past ten years. This is partly the result of a legacy of disparity in trading fascias, which the company has now addressed, having sold, closed, or converted its non Safeway stores. Moody's believes that this is also due to Safeway's historical lack of focus in its marketing strategy, as well as its higher price positioning. Starting in 1995, Safeway has implemented a new marketing strategy, with a core target market, young families. Management has thoroughly reviewed the company's product and service offering in order to satisfy the needs of this very substantial customer base. Moody's believes that these initiatives should help Safeway towards reducing the gap with its major competitors in terms of growth.
Despite a significant decline over the past several years, Safeway's operating margins remain the highest of those of the major UK food retailers. Moody's believes this is due in part to the efficiency of its systems and supply chain management, but also in part to its higher price positioning. Safeway will need to continue to invest heavily, both in revenue costs and capital spending in order to meet its ambitious goal of increasing same store sales by STG 1 billion over three years. As a result, we believe that further savings in operating costs will need to be reinvested in the business, thus maintaining pressure on operating margins.
Except for a 50% investment in a joint venture in Ireland, Safeway has not sought to diversify its revenue base outside of the UK. This is the result of a strategy to focus on improving the performance of the company's existing operations, which will require significant cash outlays. As a result, Safeway is unlikely to participate in the movement towards internationalization currently happening in Europe. Moody's believes that Safeway is exposed to the risk of remaining a solid, but small regional operator at a time when the largest European food retailers are aggressively consolidating and expanding internationally in order to supplement the slow growth of their domestic markets, expand their scale, and improve their negotiating power with major suppliers.
Safeway's financial management is conservative. Moody's believes that despite continuing heavy investment in improving and expanding its store base, and its commitment to return STG 600 million to shareholders by dividend or share buy-back over three years, Safeway should be able to maintain a solid financial structure. Nevertheless, Moody's does not anticipate significant improvements in debt ratios over the next several years, as operating cash-flows, although improving moderately, will not be sufficient to fund continuing high levels of capital spending.
The rating outlook is stable, reflecting Moody's expectations that Safeway will be able to maintain a relatively solid financial structure, despite continuing pressures on operating performance from an increasingly competitive environment.
Headquartered in Hayes, England, Safeway plc is the fourth largest food retailer in the UK. Safeway had revenues of STG 7.5 billion for the year ended March 28, 1998.
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