Fitch Ratings has downgraded SOLOCAL Group's Long-Term Issuer Default Rating (IDR) to 'CC' from 'CCC+'.
Fitch has also downgraded Solocal's senior secured debt to 'CCC-' from 'B-' with a Recovery Rating of 'RR3'.
The downgrade reflects a material increase in the default risk by Solocal following its announcement of its intention to defer the coupon payments due next week and in September 2023 on its floating rate notes, which mature in 2025. We expect the company to enter into talks with bondholders to negotiate a waiver or a standstill agreement on payments due for the rest of 2023.
Fitch expects to downgrade the IDR to 'C' upon a missed interest payment, and further to 'RD' upon the uncured expiry of any applicable original grace period, in accordance with our rating definitions.
Key Rating Drivers
Coupon Payment Deferral: Solocal announced on 7 June its intention to defer its June and September coupon payments and is open to discussions with creditors to negotiate an agreement. Coupons are paid quarterly and will be due on 15 June 2023 for its EUR176.7 million bond and EUR18.7 million mini bond, which matures in March 2025.
We understand that the decision to suspend the coupon payment is to preserve liquidity and ongoing operations. We expect management to hold talks with bondholders to achieve a mutually agreed interest waiver under the 'mandat ad-hoc' procedure opened at the Court of Nanterre.
Imminent Default: Failure to pay the quarterly coupon on its senior secured bonds will result in the company entering the contractual 30-day grace period. An event of default will be triggered if the company fails to pay within the end of the 30-day grace period.
Solocal's preparation for negotiations with creditors means we believe debt restructuring is very likely and needed to avert a liquidity crisis. If it agrees with bondholders the deferral of interest payments on the bonds this would represent a worsening of terms for noteholders and would be likely to be recognized as a distressed debt exchange (DDE) under our criteria. The missed payment or a recognition of a DDE would result in a downgrade to 'C'. Failure to cure the interest payment within the 30-day grace period or the completion of the DDE would be likely to result in a further downgrade to 'RD'.
RCF Maturity Extension Likely: Solocal's revolving credit facility (RCF) expires in September 2023 and it is fully drawn for EUR34 million following its EUR10 million repayment in 2022. Solocal has the option to make a full cash reimbursement of the RCF. However, due to poorer trading and following recent payment deferral requests to preserve liquidity, we believe it is likely that Solocal will request lenders to accept a share-based payment.
However, creditors might reject this request and opt for an extension of the maturity into 2024, as allowed by the financial documentation. The payment of the RCF and its terms is likely to be negotiated as part of the mandat ad hoc.
Debt Reimbursements Pressure Liquidity: Fitch estimates minimum cash for running Solocal's operations at around EUR25 million. We assume EUR38 million of debt repayments in 2024 under its RCF and the BPI France loan to result in minimal liquidity headroom, although this may be mitigated by some capex flexibility. We therefore see high execution risks over the next 12 to 18 months, which makes a debt restructuring very likely to avert insolvency.
Recovery Prospects: We believe Solocal will be restructured rather than liquidated under distress, in particular considering the immaterial nature of the company's asset base, fairly low leverage and cash generation of restructured operations. We consider the risk of liquidation low, in view of efforts that could be made by European governments to preserve employment. Our ultimate recovery prospects remain unchanged for senior secured creditors, at 66%.
Derivation Summary
Solocal's rating reflects a transitioning business model, in particular in its shift to a subscription-based digital platform from directories. Competition in digital advertising is fierce. Changes to management and leading shareholders, and high salesforce turnover add to execution risk.
Leverage is lower than other 'CC' category peers' since Solocal's recent restructuring of its financial liabilities. However, it is at the maximum sustainable level given its record of debt-to-equity conversions. However, Solocal's debt-to-equity swaps keep financial risk high, particularly in light of limited refinancing alternatives.
Solocal's most direct comparable peer is Yell, part of the Hibu group, which has a similar market position in the UK and is facing similar operational and financial challenges. Comparisons can be made between Solocal and specialised directories businesses such as Speedster Bidco GMBH (Autoscout24, B/Negative) or online classifieds media groups such as Adevinta ASA (BB/Stable) and Traviata B.V. (B/Stable).
Autoscout24 is more geographically diversified, and is better positioned in its business niche, while Adevinta has materially larger scale, with stronger profitability and cash generation, underpinned by its greater diversification and strong eBay classifieds brand.
Traviata, the owner of a minority stake in Axel Springer SE, also has a stronger business model than Solocal, due to larger scale and greater diversification and stronger brands. These peers have higher leverage metrics, but they are protected by stronger barriers to entry and by a higher product criticality for its customers, resulting in a higher debt capacity and lower refinancing risk.
We see similar reduction in leverage and comparable declines in revenue and profitability to other post-distressed debt exchange ratings in European leveraged credits such as Subcalidora 1 S.a.r.l. (Imagina, B/Stable). However, Imagina's competitive position is stronger in its covered regions, with higher barriers to entry, although its customer diversification remains weak.
Key Assumptions
Fitch's Key Assumptions Within Our Rating Case for the Issuer
Number of customers slowly declining to around 280,000 in 2023 followed by slight growth to 2025
Average Fitch-calculated average revenue per account decreasing slightly to EUR1,350 for 2023 and stable thereafter
EBITDA margin at 23.1% in 2023 and slightly recovering to around 24.8% by 2025
Average capex EUR34 million annually for 2023-2026
Average working-capital outflows of EUR20 million-30 million for 2023-2026
Super senior facility prepayment of EUR34 million and EUR4 million of BPI loan repayment due in 2024
Key Recovery Assumptions
Fitch adopts a going-concern (GC) approach to assessing recoveries for Solocal. This reflects the higher probability of a surviving cash-generative business with GC enterprise value as the basis for financial stakeholder recovery than liquidation in the event of default. We have assumed a 10% administrative claim.
We expect Solocal to be potentially attractive to trade buyers, particularly after the completion of its redundancy plan. We estimate a Fitch-defined GC EBITDA of EUR90 million, factoring in the current capital structure, the potential for slow growth in the number of clients, and a lower interest burden.
Our enterprise value/EBITDA is constant at 2.0x, considering business-model pressures and below 50% recoveries for senior secured loans after the restructuring in 2020.
We factor in the outstanding super senior facility ranking ahead of the bonds and view the BPI France state-guaranteed loan as unsecured.
Based on current metrics and assumptions, the waterfall analysis generates a ranked recovery at 66%, representing ultimate recovery prospects, in the 'RR3' band for the existing senior secured debt. This indicates a 'CCC-' senior secured debt rating.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Mitigation of default including interest payments and material repayments under the RCF in 2023, in the presence of a cash buffer for 2023 and 2024, also through access to alternative funding sources
Evidence of progress in business overhaul, with an increase in the number of clients and average revenue per account, improving churn and EBITDA margin
Factors that could, individually or collectively, lead to negative rating action/downgrade:
Lack of payment of interest on the bonds on 15 June 2023
Entering into a formal bankruptcy procedure
Evidence of worsening terms for noteholders resulting in a distressed debt exchange
Deterioration of liquidity with reduced available cash buffer signaling acceleration to insolvency
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
Liquidity and Debt Structure
Minimal Liquidity: We forecast Solocal's liquidity to be under pressure in 2024 at around our estimated EUR25 million cash buffer. Liquidity is pressured after the repayment of its EUR34 million of the RCF due in September 2023, which we expect to be extended to 2024. Liquidity may be put under additional pressure from deteriorating business conditions or restructuring payments.
Issuer Profile
Solocal (formerly PagesJaunes, rebranded in 2013) is a French advertising company that provides digital content, websites and media campaign services to customers and businesses on a local basis. The customer base mainly includes small businesses in suburban or rural areas of France, belonging to housing, general services and health professions.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg
SOLOCAL GROUP 
