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Rating Action:

Moody's downgrades DIA's ratings to Ba2; ratings on review for downgrade

18 Oct 2018

Paris, October 18, 2018 -- Moody's Investors Service has today downgraded to Ba2 from Baa3 the senior unsecured long-term ratings of Spanish grocer Distribuidora Internacional de Alimentacion (DIA). This decision follows the company's profit warning announced on 15 October 2018. Concurrently, Moody's has assigned a Ba2 long-term corporate family rating (CFR), a Ba2-PD probability of default rating (PDR). The ratings were simultaneously put under review for downgrade.

DIA's Baa3 issuer rating has been withdrawn, in line with Moody's practice for non-financial corporate issuers with sub-investment-grade ratings, for its own business reasons. Please refer to the Moody's Investors Service's Policy for Withdrawal of Credit Ratings, available on its website, www.moodys.com.

"Our decision to downgrade DIA's ratings and to place them under review reflects Moody's view that earnings will fall meaningfully in 2018 and 2019, on the back of market share losses in Spain and currency depreciation in emerging markets, pushing leverage well above our expectations for an investment grade rating," says Vincent Gusdorf, a Moody's Vice President - Senior Analyst and lead analyst for DIA. "Moody's believes that the magnitude of the earnings revision highlights weaknesses in DIA's business model and governance, which will likely make it difficult for DIA to recover its competitive position and improve its operating performance going forward," Mr. Gusdorf added.

RATINGS RATIONALE

Today's rating action reflects Moody's view that DIA's EBITDA will fall sharply over the next 18 months. On 15 October 2018, it announced that its company-adjusted EBITDA would drop to EUR350-400 million in 2018 from EUR568 million in 2017. Moody's foresees that earnings will continue to fall in 2019 as well, albeit at a slower pace, because DIA faces headwinds in all of its markets, which will not be fully offset by potential cost-cutting measures. Moreover, the rating agency expects DIA to post sizable restructuring charges in the coming years. Failing to attract and retain franchisees, which operated 57% of DIA's stores on 30 June 2018, could exacerbate the earnings decline.

DIA's market share in Spain has been eroding steadily since the second half of 2016 and the deterioration has accelerated in recent months, with a year-on-year decline of 70 basis points in August 2018, based on an average of the previous three months, according to research firm Kantar Worldpanel. The market leader Mercadona has cut its profitability and increased its capital expenditure (capex) to keep prices low, enhance its offering, optimise logistics and refurbish its stores. German discounter Lidl is also improving the quality of its products and renovating its stores.

At the same time, Latin American currencies have depreciated significantly: the Brazilian real and the Argentinean peso are down by about 10% and 50% against the euro year-to-date. Moreover, DIA's EBITDA in emerging markets was down by 12% in local currency during the second quarter of 2018.

Based on the company's latest earnings guidance, we estimate that DIA's debt/EBITDA which will rise significantly to nearly 6x, compared to 3.7x in 2017, on a Moody's-adjusted basis, a level much weaker than previously expected.

Weak cash flow generation will also constrain DIA's credit quality. Moody's expects free cash flow generation after dividends, which stood at negative EUR122 million in 2017, to deteriorate significantly in 2018 because of lower EBITDA, higher working capital and sizable investments. Although cash flow will likely improve in 2019 because DIA intends to cut its dividend and could decrease its capex, we expect free cash flow to remain negative. Moreover, Moody's believes that any capex cut will not be sustainable, since DIA faces the challenge of repositioning its store portfolio to stop market share losses at a time when Mercadona and Lidl are investing significantly.

Weaker free cash flow generation together with tighter covenant headroom weighs on DIA's liquidity profile. The reported net debt/EBITDA ratio jumped to 3.3x on 30 June 2018 from 2.2x on 30 June 2017, and will likely exceed the 3.5x limit required by the syndicated credit facilities.

Moody's thinks that the magnitude of the profit warning points to weaknesses in DIA's governance. It has started addressing these governance issues by changing part of its management team, and notably by appointing a new CEO in August 2018. However, significant management changes adds to the execution risks associated to the expected transformation plan. DIA has also indicated that it will restate its 2017 equity by EUR70 million.

The rating review process will focus on (1) DIA's ability to gradually stabilize its earnings despite adverse operating conditions in all its markets; (2) the company's liquidity profile, in particular future covenant levels and the refinancing plans of the bond maturing in July 2019; (3) cash flow generation, at a time when DIA needs to restructure its business model while bolstering free cash flows; and (4) the company's leverage trajectory and financial policy.

LIST OF AFFECTED RATINGS

..Issuer: Distribuidora Internacional de Alimentacion

Assignments:

.... Corporate Family Rating, Assigned Ba2, Placed Under Review for Downgrade

.... Probability of Default Rating, Assigned Ba2-PD, Placed Under Review for Downgrade

Downgrades:

....Senior Unsecured Medium-Term Note Program, Downgraded to (P)Ba2 from (P)Baa3; Placed Under Review for Downgrade

....Senior Unsecured Regular Bond/Debenture, Downgraded to Ba2 from Baa3; Placed Under Review for Downgrade

Outlook Actions:

....Outlook, Changed To Rating Under Review From Stable

PRINCIPAL METHODOLOGY

The principal methodology used in these ratings was Retail Industry published in May 2018. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

COMPANY PROFILE

Based in Madrid, Spain, DIA is one of the main food discounters in Europe, with EUR8.6 billion of revenue in 2017. Excluding its Chinese operations, which it sold in August 2018, the company operated 7,388 stores as of 31 December 2017. Of those, 4,713 were in Spain, 630 were in Portugal, 1,115 in Brazil and 930 in Argentina. In 2017, Spain and Portugal accounted for 64% of revenue and 75% of company-adjusted EBITDA.

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 credit rating action on the support provider and in relation to each particular credit 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 credit rating action, and whose ratings may change as a result of this credit 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.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

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.

Vincent Gusdorf
Vice President - Senior Analyst
Corporate Finance Group
Moody's France SAS
96 Boulevard Haussmann
Paris 75008
France
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Yasmina Serghini
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
Moody's France SAS
96 Boulevard Haussmann
Paris 75008
France
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

No Related Data.
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