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Rating Action:

Moody's changes Li & Fung's rating outlook to negative

 The document has been translated in other languages

Global Credit Research - 14 Jan 2013

Hong Kong, January 14, 2013 -- Moody's Investors Service has changed to negative from stable the outlook for Li & Fung Limited's A3 issuer and senior unsecured ratings, after the company warned that its 2012 core operating profit will likely be 40% lower than a year ago.

Moody's has also changed the outlook for the company's Baa2 subordinated perpetual bond (the "hybrid") rating to negative from stable.

In addition, Moody's has affirmed the issuer and senior unsecured ratings at A3 and the hybrid rating at Baa2.

RATINGS RATIONALE

"The negative outlook is triggered by a profit warning Li & Fung issued on January 11, 2013, which reflects the negative operating profit and cash flow impact from the restructuring of the company's US business and the discontinuation of several of its US brands," says Lina Choi, a Moody's Vice President and Senior Analyst.

Including the impact of the write-off related to the restructuring, Moody's estimates that Li & Fung's Debt/EBITDA for 2012 will rise over 3.0x from 2.1x in 2011, while EBITDA/interest will slip to 5.0x-5.5x from 7.3x.

"These metrics are weak for its A3 ratings," Choi adds.

While management expects profit to recover in the next 6 to 12 months, it is not clear whether Li & Fung can restore its profitability and financial profile in line with its A3 ratings, given that the weak consumer sentiment is likely to persist in the US and Europe, which are two of its core operating markets.

Li & Fung's revenue before the write-off was close to $20 billion, while core operating profit (COP) was around $1.0 billion for FY2011-2012, based on Moody's estimates. These exhibit a flattish trend versus the company's original 3-year COP target implied compound annual growth rate (CAGR) of 20%-25% over 2010-2013.

Moody's believes that the muted growth is partially due to weak macroeconomic conditions in the US and Europe. In addition, one-off and unforeseen events, such as Hurricane Sandy and a dock strike at year-end 2012, dampened improving consumer sentiment. Li & Fung incurred inventory mark-downs due to these events, which in turn pressured the operating margins of its US business.

While it experienced robust growth after entering the US market in 2005/2006, rapid expansion through acquisitions and new product development have led to integration risks. In fact, its US business has been under restructuring since H2 2011, reflecting the need for the company to revisit the pace of its acquisitions and fine-tune its integration measures.

The company's A3 rating continues to reflect its ample liquidity, the cash-generative nature of its business, and, more importantly, management's commitment to execute its revised business plan and improve its financial standing relative to the A3 rating level.

Its cash balance of $300 million as of 30 June 2012 is more than sufficient to cover its short-term debt of $190 million.

In addition, the company's Asian business continues to enjoy robust growth, partially compensating for the weakness in the US and Europe. The change in dividend policy announced at Interim Results presentation 2012-- i.e. linking dividend payment to core operating profit instead of net profit -- will also lower its payout and conserve cash.

However, the current A3 rating is constrained by Li & Fung's strong acquisition appetite and the lackluster economic outlook for Europe and the US. While its Asian business is growing well, it accounts for a small portion of the company's overall portfolio.

The outlook for Li & Fung will return to stable if the company: (1) is able to achieve its revised core operating profit targets; (2) strengthens EBITDA/interest coverage to above 6.0x and Debt/EBITDA to below 2.5x, levels that are commensurate with its A3-rated peers; (3) adopts a less aggressive acquisition strategy and is successful in managing its integration needs.

On the other hand, downgrade pressure may emerge if: (1) Li & Fung's financial profile deteriorates, or it pursues further debt-funded acquisitions, such that EBITDA/interest coverage fails to recover to more than 6x or debt/EBITDA exceeds 2.5x-3x on a sustainable basis; and (2) operating margins continue to decline.

An unlikely scenario where the company needs to provide material financial support to other companies within the Li & Fung Group will also be negative for the ratings.

Li & Fung Limited's ratings were assigned by evaluating factors that Moody's considers relevant to the credit profile of the issuer, such as the company's (i) business risk and competitive position compared with others within the industry; (ii) capital structure and financial risk; (iii) projected performance over the near to intermediate term; and (iv) management's track record and tolerance for risk. Moody's compared these attributes against other issuers both within and outside Li & Fung Limited's core industry and believes Li & Fung Limited's ratings are comparable to those of other issuers with similar credit risk.

Li and Fung is a 100-year old global consumer-product-sourcing and trading company based in Hong Kong. It has over 70 offices in more than 40 economies.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the rating action on the support provider and in relation to each particular rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this rating action, and whose ratings may change as a result of this rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

The first name below is the lead rating analyst for this Credit Rating and the last name below is the person primarily responsible for approving this Credit Rating.

Lina Choi
Vice President - Senior Analyst
Corporate Finance Group
Moody's Investors Service Hong Kong Ltd.
24/F One Pacific Place
88 Queensway
Hong Kong
China (Hong Kong S.A.R.)
JOURNALISTS: (852) 3758 -1350
SUBSCRIBERS: (852) 3551-3077

Gary Lau
MD - Corporate Finance
Corporate Finance Group
JOURNALISTS: (852) 3758 -1350
SUBSCRIBERS: (852) 3551-3077

Releasing Office:
Moody's Investors Service Hong Kong Ltd.
24/F One Pacific Place
88 Queensway
Hong Kong
China (Hong Kong S.A.R.)
JOURNALISTS: (852) 3758 -1350
SUBSCRIBERS: (852) 3551-3077

Moody's changes Li & Fung's rating outlook to negative
No Related Data.

 

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