Fitch Ratings has assigned Iceland Bondco PLC's launched GBP475 million equivalent issuance an expected senior secured rating of 'B+(EXP)' with a Recovery Rating of 'RR3'.
The rating is aligned with its existing senior secured instrument ratings.
Fitch revised the Outlook on WD FF Limited's (Iceland) 'B' Long-Term Issuer Default Rating (IDR) to Stable from Negative on 20 July 2023. This reflected an uplift in expected earnings from savings and more clarity on energy costs leading to forecast around 6.5x EBITDAR gross leverage in the financial year ending March 2024 (FY24), meeting the rating sensitivity for a Stable Outlook.
Refinancing the debt at GBP75 million less is credit positive and will reduce EBITDAR leverage to below 6.0x over the rating horizon, which will be more aligned with the 'B' rating category. This will lead to slightly better EBITDAR coverage ratio than if it was fully refinanced.
The proceeds from the new senior secured notes will be fully applied to part repayment of notes maturing in 2025. The new notes will rank pari passu with existing senior secured notes, but behind revolving credit facility. Assignment of a final rating is contingent on completing the transaction in line with terms already presented.
Key Rating Drivers
Improved Leverage Headroom: We estimate improved leverage headroom under the 'B'/Stable IDR with EBITDAR gross leverage projected to gradually reduce to around 6.0x in FY25 due to the GBP75 million lower refinancing, and below 6.0x subsequently. This leverage profile is more aligned with the 'B' rating category. The rating case captures refinancing at GBP475 million, with GBP25 million repaid upon refinancing and GBP50 million in FY25 from Iceland's comfortable cash position ahead of the maturity in March 2025.
We expect average EBITDAR coverage at around 1.6x, which is adequate for the rating, aided by lower debt. We understand the company plans to hedge the interest rate and currency exposure on the floating euro-denominated portion of the new notes.
Expected EBITDA Recovery: We forecast FY24 EBITDA at around GBP150 million (after Fitch's GBP15 million deduction for leases) up from GBP113 million in FY23. The uplift is due to continued sales growth, benefiting from Iceland's value positioning, reduction in energy cost, and savings that help offset cost inflation. Our forecast of around GBP40 million EBITDA uplift on FY23 prudently builds in some pressure on margin versus the guided GBP50 million reduction from locked in energy cost in FY24.
Profit Pressures Managed: We expect Iceland to continue to benefit from various cost-saving measures to help offset cost inflation. Iceland outperformed our rating case in FY23 due to cost savings and disposal of loss-making business in Ireland (treated as discontinued). Generally, cost inflation is harder to absorb for smaller-scale grocers such as Iceland that operate with thinner EBITDA margins (2.9% in FY23) than large and more diversified mainstream grocers (around 5%-6%). Energy costs are over 95% locked in for FY24, and we build in a further GBP15 million reduction in costs on the back of current market prices, but this is yet to be locked in.
Cash-generative Business: Similar to other food retailers, Iceland is a cash-generative business. We expect neutral to positive free cash flow (FCF) margin, nearing 1% in FY26, which is broadly aligned with peers, and is reflected in the Stable Outlook. This is after GBP40-55 million capex, of which only GBP15 million is maintenance, and higher interest cost.
Limited Outflows From Restricted Group: Our rating case does not capture any further material outflows to support, or any dividends from its restaurant business as its trading recovers. The company has guided about its intentions to reduce its GBP800 million debt instead. Iceland has invested nearly GBP50 million in its non-core restaurant business, which remains outside the restricted group. Iceland initially up-streamed GBP31 million (3Q21), subsequently funded its trading losses and now has repaid its GBP15 million bank loan during FY23-24.
Value Positioning Benefits: Consumer focus on value amid living cost pressures puts Iceland in a good position to gain market share or at least hold on to it. Iceland is UK's second-largest frozen food retailer after Tesco.
Iceland grew its sales during the global financial crisis and slightly increased its share in the UK grocery market between 2008 and 2023, despite competitive pressures and the rapid growth of discount stores. This was achieved by greater differentiation in its product offering, improved pricing, investment in its stores and formats, and improved brand positioning with regard to the environment and sustainability. We expect the UK food industry to continue to have stiff competition
Derivation Summary
Iceland's business risk profile, as a mostly UK-based specialist food retailer, is constrained by the company's modest size and lower diversification compared to that of other Fitch-rated European food retailers, such as Tesco Plc (BBB-/Stable) and Bellis Finco Plc (ASDA; B+/Stable) and Market Holdco 3 Ltd (Morrisons; B+/Stable). All three peers have higher market share, larger scale, and greater diversification than Iceland.
We expect Iceland's EBITDAR leverage to reduce to around 6.5x in FY24 from 7.6x in FY23 which is higher than other Fitch-rated UK peers (Morrisons: from around 7.0x in FYE23 (year-end October) to 6.3x by FYE24; ASDA: from around 6.0x for 2023 to 5.0x by end-2024, Tesco around 3.5x), which also benefit from stronger coverage ratios.
Iceland is larger than Picard Bondco S.A. (B/Negative), a French specialist food retailer also active in frozen foods, but its profitability is materially weaker (EBITDAR margin of 6% versus Picard's 17%). Picard operates mostly in the higher-margin premium segment and benefits from strong brand awareness. Picard's financial leverage is currently similar to Iceland's on EBITDAR gross leverage basis. We expect it to remain above 7.0x in FY23-FY25, but it has better deleveraging capability and a stronger business profile.
Key Assumptions
Fitch's Key Assumptions Within its Rating Case for the Issuer:
Retail revenue (excluding restaurants) growth of 4.0% in FY24 driven by consumer focus on value, Food Warehouse store openings offset by core Iceland store closures. Growth of about 1.0%-1.6% thereafter.
Four Food Warehouse openings in FY24, increasing to 20-25 stores per year in the following years, partly offset by core Iceland store closures of 10-20 per year
EBITDA margin to recover to 3.7% in FY24 and 4% thereafter, driven by cost savings initiatives helping more than offset wage inflation and some normalisation in energy cost.
Working capital outflow of GBP16 million in FY24 and neutral thereafter.
Capex of GBP40 million in FY24 in line with management guidance, increasing to GBP55 million to fund Warrington depot in FY25 and then reverting to GBP40-50 million thereafter.
Refinancing of GBP550 million senior secured notes (SSN) in FY24 with GBP475 million equivalent SSN.
No dividends or other distributions over the rating horizon; FY24 includes the repayment of bank loan (GBP12.5 million) borrowed by restaurant business
Fitch's Key Recovery Rating Assumptions:
Fitch's recovery analysis assumes that Iceland would be reorganised as a going-concern in bankruptcy scenario rather than liquidated.
We have assumed a 10% administrative claim.
Iceland's going-concern EBITDA assumption reflects the scale of the company's business with new stores openings each year, improved cost base with visibility on energy cost and disposed loss making business in Ireland. We have excluded the restaurant business from our going-concern EBITDA calculation as the lenders under the rated debt instruments have no recourse to these cash flows.
The going-concern EBITDA estimate of GBP120 million reflects our view of a sustainable, post-reorganisation EBITDA upon which we base the enterprise valuation (EV), and excluding the loss-making Irish operations following their disposal. The assumption also reflects corrective measures taken in the reorganisation to offset the adverse conditions that trigger its default, such as cost-cutting efforts or a material business repositioning.
We apply an EV multiple of 4.5x to the going-concern EBITDA to calculate a post-reorganisation EV.
Iceland's RCF at GBP50 million is assumed to be fully drawn upon default. The RCF is super-senior to the company's senior notes in the debt waterfall.
On completion of the refinancing in line with the expected terms, we estimate the recovery of the planned GBP475 million senior secured debt to remain in the 'RR3' Recovery Rating for the, with a recovery percentage of 56%.
Until the refinancing completion, the recovery expectations for the existing rated notes totaling GBP800 million remain unchanged, 'RR3' with a recovery percentage of 55%. Once the refinancing completes and GBP25 million debt has been repaid, then recovery percentage on existing notes will align with the new notes. We expect further improvement in recovery percentage, within 'RR3' rating, once remaining GBP50 million outstanding amount of GBP550 million notes is repaid before its maturity in March 2025.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
We view an upgrade of the IDR as unlikely over the next two years, unless Iceland adopts and follows a more conservative financial policy.
Evidence of positive and profitable like-for-like sales growth and the maintenance of stable market shares, leading to resilient profitability with EBITDA margins increasing towards 5%, could lead to positive rating action.
Total EBITDAR leverage below 5.5x on a sustained basis.
EBITDAR fixed-charge coverage above 2.0x on a sustained basis.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
Absence of advanced refinancing in the 12-15 months before the major contractual maturity (March 2025)
Evidence of negative like-for-like sales growth, with loss of market shares due to a competitive environment or to permanently lower capex, or inability to pass on or to mitigate cost inflation, leading to a prolonged and accelerating EBITDA margin erosion or neutral FCF.
Tightening of liquidity amid unexpected cash outflows
EBITDAR leverage above 6.5x on a sustained basis.
EBITDAR fixed-charge coverage below 1.5x on a sustained basis.
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
Comfortable Liquidity: Fitch views Iceland's current liquidity as comfortable, comprising around GBP139 million at end-FY23, which excludes restricted GBP20 million for working-capital purposes (Fitch's adjustment) along with an around GBP46 million undrawn RCF. Iceland has used GBP12.5 million to repay debt borrowed by the restaurant business after end-FY23.
The liquidity position will tighten as Iceland has chosen to refinance GBP75 million less debt by raising GBP475 million senior secured notes to part re-finance GBP550 million notes (maturing in 2025). Iceland plans to repay GBP25 million upon refinancing and GBP50 million post completion of the refinancing from cash. We expect available liquidity to remain satisfactory at around GBP125 million at end-FY25 (after the restriction for working capital), which includes a GBP50 million RCF that will be extended to 2027 as part of the refinancing. After the refinancing, financial debt maturities will be in 2027 and 2028.
Issuer Profile
Iceland is a British food retailer specialising in frozen and chilled food products at a low price point. It operates around 1,000 stores in the UK.
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.
TESCO PLC 
