oWe believe Spanish auto parts manufacturer Gestamp Automocion's (Gestamp's) earnings will suffer from lower light vehicle production volumes in 2020-2021 due to the COVID-19 pandemic.
oWe anticipate a 20%-22% revenue decline in 2020, pushing the company's S&P Global Ratings-adjusted funds from operations (FFO) to debt of 12%-14% from an already weak 20% in 2019.
oAlthough we expect Gestamp will generate positive free operating cash flow (FOCF) in 2020 and 2021, we think the company's FOCF to debt will likely only reach 5%-6%.
oWe are therefore lowering our long-term issuer rating on Gestamp to 'BB-' from 'BB' and our issue rating on its debt to 'BB' from 'BB+'. We have removed all the ratings from CreditWatch negative, where we placed them on April 21, 2020.
oThe stable outlook reflects our expectation that the company's cash preservation measures will lead to sizable positive FOCF in 2020 and 2021, and that its adjusted FFO to debt and leverage will recover from a dip in 2020.
PARIS (S&P Global Ratings) Aug. 6, 2020--S&P Global Ratings today took the rating actions listed above. Lower auto production volumes will hit Gestamp's earnings in 2020 despite efforts to cut costs, causing a spike in leverage.
We expect auto unit sales will decline by 20%-25% in Europe, by about 21% in the U.S., and by about 10% in China in 2020 due to the consequences of the COVID-19 pandemic. We anticipate auto production volumes will follow similar trends. With about 80% of its sales stemming from Europe and North America (based on 2019 revenue), we forecast that Spain-based auto parts manufacturer Gestamp's revenue will decline by 20%-22% in 2020. We acknowledge that Gestamp is taking measures to adjust its cost base to lower revenue, but we anticipate that the company's S&P Global Ratings-adjusted EBITDA margin will drop to 7.5%-8.5% in 2020 from 11.0% in the previous year. This estimate takes into consideration continued use of furlough schemes, cuts in discretionary expenses, and provision of EUR90 million in relation to a transformation plan. This plan is designed to help the company reach a reported EBITDA margin of about 13% by 2022 from an expected 9%-10% in 2020 (excluding the EUR90 million provision) and 11.8% in 2019. Gestamp is looking to absorb the expected lower level of auto production volumes through efficiency gains and a leaner cost structure (including lower operating costs, research and development (R&D) costs, and headquarter costs). As a result of the drop in earnings, however, we project the company's S&P Global Ratings-adjusted FFO to debt will fall to below 14% in 2020, from about 20% in 2019, which was already at the weaker end of what we require for the 'BB' issuer rating. We forecast leverage will also deteriorate, with adjusted debt to EBITDA soaring to more than 5.5x in 2020 from 3.6x in 2019.
Since 2011, Gestamp has been expanding organically and almost doubled its revenue to reach sales of about EUR9.1 billion in 2019. This expansion phase came with large capex in order to increase production capacity and win new business from auto original equipment manufacturers (OEM) looking to outsource the production of body-in-white structures and chassis. In 2019, gross capex (including capitalized R&D and excluding grants and asset sales) still accounted for a high 9.2% of sales, or EUR832 million. In light of our expectations of subdued auto production volumes over the next couple of years, we believe Gestamp will de-emphasize capacity expansion and reduce its annual gross capex to EUR500 million-EUR600 million in 2020-2021 (about 7% of sales). Although this should support positive adjusted FOCF from 2020, after negative EUR84 million in 2019 and negative EUR413 million in 2018, we consider our forecast adjusted FOCF to debt ratio of 5%-6% in 2020-2021 as relatively weak in the light of anticipated lower future volumes. To bolster FOCF, we understand the company has set specific internal work streams to optimize its working capital. For 2020, we assume Gestamp will benefit from a cash inflow related to working capital of about EUR200 million thanks to the lower revenue base, better inventory management given the lower number of new program launches, and lower tooling collection needs, reflecting the lower number of new projects. In first-half 2020, Gestamp recorded an inflow in working capital of about EUR180 million excluding factoring.
oHealth and safety
The stable outlook reflects our expectation that the company's cash preservation measures will lead to materially positive FOCF in 2020 and 2021, and that adjusted FFO to debt and debt to EBITDA will recover from a dip in 2020.
We could lower the ratings if Gestamp's adjusted FFO to debt remains below 12%, or its adjusted debt to EBITDA rises and does not fall to below 5x over the course of 2021. This could happen if, for instance, the auto market recovery was slower than expected, exacerbated by unexpected weaker cost control and working capital management. A negative rating action could also occur if Gestamp's FOCF to debt falls well below 5% for a prolonged period.
We could raise our rating if stronger-than-expected topline growth, combined with successful cost and cash management, enables Gestamp to increase its FOCF to debt toward 10%, while maintaining its FFO debt comfortably above 20%.
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