oPassenger demand is gradually recovering for public transport in the U.K. as pandemic-related restrictions ease. The U.K. government continues to provide financial support to the bus and rail sectors, albeit to a moderating degree.
oWe expect the operating performance of U.K.-based transport operator Stagecoach Group PLC (Stagecoach) to stabilize, enabling it to resume capital investments while maintaining S&P Global Ratings-adjusted funds from operations (FFO) to debt above 23%.
oWe have therefore revised our outlook on Stagecoach to stable from negative. At the same time, we have affirmed our 'BBB-' long-term issuer credit rating on Stagecoach and our 'BBB-' issue rating on the group's $400 million 4% senior unsecured notes due September 2025.
oThe stable outlook reflects that our view that Stagecoach will maintain weighted-average adjusted FFO to debt above 23% over the next two years.
oStagecoach has announced that it is in discussion about a possible all-share merger with National Express Group PLC. However, this is still subject to shareholder approval from both companies, and regulatory and competition authority approvals should it proceed. We will continue to monitor the potential impact on our ratings on Stagecoach when further information becomes available.
LONDON (S&P Global Ratings) --S&P Global Ratings today took the rating actions listed above.
Stagecoach's operating performance is stabilizing as passenger volumes recover and government support for the bus sector continues.
As pandemic-related restrictions eased in the U.K., Stagecoach saw regional commercial bus revenue reach 65%-70% of 2019 levels in June 2021. Although this is still significantly below the pre-pandemic level, the U.K. government remains committed to securing the continuity of essential transport services across the country and to providing financial support to the bus and rail sectors, albeit to a moderating degree as passenger demand recovers.
Stagecoach will continue to benefit from a recovery grant until April 2022.
The regional bus segment, which accounted for about 80% of Stagecoach's pre-pandemic total revenue, benefits from the Department for Transport's £226.4 million recovery grant for the regional bus sector from September 2021 to April 2022. This grant succeeded the previous COVID-19 Bus Service Support Grant, which supported regional bus services on a "no net gain or loss" basis from the start of the pandemic to the end of August 2021. The current recovery grant allows for a smoother transition back to a commercially viable business model for regional bus operators, targeting routes where passenger numbers are recovering more slowly. This grant will be followed by the implementation of the government's announced national bus strategy, which aims to improve bus services in England and outside London with simpler fares, newer buses, improved routes, and higher frequencies in the long term. The London bus segment, which accounted for more than 15% of Stagecoach's pre-pandemic total revenue, has a high proportion of contracted revenues. Despite the reduced passenger demand in London, Transport for London (TfL) has been paying for the bus services as contracted, contributing to Stagecoach's stable cash flow.
We recognize Stagecoach's commitment to maintain investment-grade ratings.
We forecast adjusted FFO to debt of about 25%-30% in the financial year (FY) ending May 1, 2022, and in FY2023. This is above our 23% downgrade threshold. As the U.K. government targets net zero carbon emissions by 2035, we believe that Stagecoach will replace its diesel bus fleet with primarily electric vehicles over time. However, electric vehicles are costly to purchase, and we would expect the government to provide stronger incentives to make such vehicles commercially viable and to allow bus operators to undertake the long-term transition to more environmentally friendly bus fleets and achieve the government's zero carbon goal. Provided that the government provides sufficient incentives, we expect that the group will progressively increase capital expenditure (capex) from FY2023. The extent of this increase will also depend on the strength of Stagecoach's operating cash flows, which have been recovering as more passengers return. Our investment-grade ratings incorporate our view that Stagecoach maintains a prudent financial policy, and that it will adjust capex and shareholder returns according to its earnings and cash flow, as it did during FY2021.
Stagecoach has preserved strong liquidity, which should allow it to withstand short-term earnings fluctuations as passenger volumes gradually recover further.
Stagecoach had over £700 million of liquidity sources as of May 1, 2021, excluding £150 million that is subject to a minimum liquidity covenant. These sources are sufficient to cover the group's near-term debt maturities--a £300 million COVID Corporate Financing Facility (CCFF) due in February and March 2022; a £119 million repayment of bank overdrafts; and the repayment of £17.4 million of loan notes. We also believe that these liquidity sources, combined with continued government support for the U.K. bus sector, provides the group with the financial flexibility to withstand potential short-term swings in earnings on the path to a recovery in passenger demand.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
oHealth and safety
The stable outlook reflects that our view that Stagecoach will maintain weighted-average adjusted FFO to debt of above 23% over the next two years.
We could lower the rating if Stagecoach's weighted-average adjusted FFO to debt fell below 23%. This could occur, for instance, if passenger volumes remained significantly lower than the pre-pandemic level for a prolonged period, and if government support and the group's cash-preservation measures did not sufficiently compensate for the decline in earnings. Ratings pressure could also emerge if the group adopts a more aggressive financial policy regarding capital investments and shareholder returns.
We could consider an upgrade if Stagecoach's weighted-average adjusted FFO to debt improves to above 30%, in combination with a financial policy that would support this on a sustainable basis.
Related Criteria
oGeneral Criteria: Group Rating Methodology, July 1, 2019
oCriteria | Corporates | General: Corporate Methodology: Ratios And Adjustments, April 1, 2019
oCriteria | Corporates | General: Reflecting Subordination Risk In Corporate Issue Ratings, March 28, 2018
oCriteria | Corporates | General: Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Dec. 16, 2014
oGeneral Criteria: Methodology: Industry Risk, Nov. 19, 2013
oGeneral Criteria: Country Risk Assessment Methodology And Assumptions, Nov. 19, 2013
oCriteria | Corporates | General: Corporate Methodology, Nov. 19, 2013
oGeneral Criteria: Methodology: Management And Governance Credit Factors For Corporate Entities, Nov. 13, 2012
oGeneral Criteria: Principles Of Credit Ratings, Feb. 16, 2011
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