Fitch affirms Singer (Sri Lanka) at ‘A-(lka)’; outlook stable

Fitch Ratings has affirmed Sri Lanka-based consumerdurables retailer Singer (Sri Lanka) PLC’s National Long-Term Rating at ‘A-(lka)’ with a Stable Outlook. Fitch has also affirmed the National rating on Singer’s outstanding senior unsecured debentures at ‘A-(lka)’. A full list of rating actions is at the end of this commentary.

The affirmation of Singer’s rating reflects our view that its net leverage, defined as lease adjusted net debt/operating EBITDAR (excluding the finance subsidiary), will improve and remain below the negative trigger of 5.5x over the medium term after it deteriorated to 5.5x by end-2017 from 4.3x in 2016 amid a weak operating environment. We expect the improvement in its leverage to be supported by a recovery in sales volumes. Singer’s rating also reflects its leading position in the retailing of consumer durables, its extensive product and brand portfolio across different price points and its well-managed hire-purchase business.

KEY RATING DRIVERS

Recovery in Sales Volumes: We believe the demand for consumer durables will recover in the medium term as consumers adjust to higher costs, earnings in the agricultural sector recover, personal taxes stay low and interest rates remain stable. Singer’s consumer electronics and home appliance revenue growth slowed to 1% in 2017 after two years of double-digit growth on weak demand due to a prolonged drought in the country, which affected the livelihood of a significant proportion of the population, and an increase in indirect taxes. We believe Singer was able to better respond to the weak demand compared with peers due to its more defensive product portfolio and strong brand presence.

Growth in IT, Digital Media: Fitch expects Singer’ IT and mobile segment to be the key growth driver in the medium term, aided by increasing smartphone penetration in the country and short replacement cycles compared with most other consumer durables. Singer is currently the largest smartphone retailer in Sri Lanka and it is the exclusive agency for Huawei, the second largest smartphone brand in the country. Singer’s IT and digital media revenue has grown at a CAGR of about 57% over the last five years. We expect the company to maintain its leadership in this market amid the renewal of its contract with Huawei for the next three years.

EBITDAR Margins to Stabilise: Fitch expects Singer’s EBITDAR margin to improve by around 50bp-60bp from the current level of 9.1% and stabilise at around 9.5% from 2019 on the growth in sales volume and better cost pass-through to customers. Singer’s EBITDAR margin contracted by almost 150bp in 2017 due to lower sales and increases in indirect taxes and sales costs. The margin contraction was seen across most product segments as weak demand compelled the company to absorb a majority of the tax increases and cost escalations to sustain its top-line growth.

Leverage to Improve: We expect Singer’s leverage to improve meaningfully from 2019 amid the recovery in the operating environment and margin improvement but headroom under the current rating will remain low due to high capex, dividend payments and working capital investments, which may limit any material debt pay down. Higher inventory build-up amid sluggish demand coupled with lower profitability in 2017 saw Singer’s leverage worsening to 5.5x compared with 4.3x at end-2016.

No Extraordinary Support from Hayleys: In Fitch’s view, we will continue to rate Singer on its financial strength due to the weak-to-moderate linkages between Singer and its new parent, Hayleys PLC, under Fitch’s Parent and Subsidiary Rating Linkage methodology, and the size of Singer’s balance sheet and significant debt at end-2017. Hayleys acquired a controlling stake of 81% in Singer in 2017. We do not believe there will be additional pressure on Singer for higher dividend payments to its new parent as Singer’s average dividend payout has already been high on average at around 60% of after-tax profit in the past.

Low Dependence of Singer Finance: We do not believe Singer will be called upon for additional capital infusion to Singer Finance (Lanka) PLC (BBB(lka)/Stable) due to the finance subsidiary’s strong capitalisation, which is well above the regulatory minimum, its better-than-peer asset quality and strong funding profile. Singer’s last equity infusion of LKR550 million was in 2017 to support the subsidiary’s new credit card business.

DERIVATION SUMMARY

Singer is the co-market leader in consumer-durable retail in the country, backed by a strong portfolio of well-known brands and an extensive distribution network. Singer is rated one notch above its closest peer, Abans PLC (BBB+(lka)/Stable), to reflect its stronger financial risk profile. Abans’ business profile has also weakened relative to Singer due to investments in a large real-estate project. The one-notch differential between DSI Samson Group (Private) Limited (BBB+(lka)/Stable) and Singer stems from Singer’s better business risk profile as it enjoys a robust market position in the sale of consumer durables domestically while DSI’s sales remain under pressure due to increasing local market competition.

Sunshine Holdings PLC (A-(lka)/Stable) is rated at the same level. Singer has a stronger business risk profile due to its leading market position in consumer durables and a significantly larger operating scale. However, this is offset by Singer’s much higher leverage and more volatile operating cash flows because of the higher discretionary demand for its products compared with Sunshine, resulting in both companies having the same rating. Richard Pieris & Company PLC (A(lka)/Stable) is rated one notch above Singer to reflect its stronger business risk profile, reflected in its cash flow diversity, more defensive end-markets as well as its lower leverage.

KEY ASSUMPTIONS

Fitch’s Key Assumptions Within Our Rating Case for the Issuer
– Revenue growth to average in the low double digits from 2019-2021, helped by volume
recovery in consumer electronics and home appliances and strong growth in IT and mobileproduct
sales.
– EBITDAR margin to improve from the current levels and stabilise at around 9.5% from 2019
amid better cost pass-through and volume recovery.
– Capex to average around LKR800million/annum over the next couple of years to be spent
mainly on store refurbishments.
– Dividend payout to average around LKR820million/annum over the next couple of years.
– No equity infusions into Singer Finance.

RATING SENSITIVITIES

Developments that May, Individually or Collectively, Lead to Positive Rating Action
– Singer’s leverage (measured as adjusted net debt/EBITDAR excluding Singer Finance) falling
below 4.5x on a sustained basis (end-2017:5.5x)
– Fixed-charge coverage (measured as operating EBITDAR/ interest paid + rent) sustained above
1.5x (end-2017:1.4x)
Developments that May, Individually or Collectively, Lead to Negative Rating Action
– A sustained increase in Singer’s leverage to over 5.5x
– Fixed-charge coverage falling below 1.2x on a sustained basis
– Any significant equity support to Singer’s 80%-owned subsidiary, Singer Finance

LIQUIDITY

Tight but Manageable Liquidity Position: As at end-December 2017, Singer had LKR1.8 billion of cash and LKR11.2 billion in unutilised credit facilities to meet LKR14.4 billion of long-term debt maturing in 2018, leaving the company in a tight liquidity position. We do not expect the company to generate positive free cash flow in the next 12 months due to high capex and shareholder returns. However, we believe Singer will be able to roll over its short-term working capital-related debt amounting to around LKR9.2 billion in the normal course of business, leaving the company’s liquidity position more manageable.

FULL LIST OF RATING ACTIONS

Singer (Sri Lanka) PLC
– National Long-Term Rating affirmed at ‘A-(lka)’; Outlook Stable
– National Long-Term Rating on outstanding senior unsecured debentures affirmed at ‘A-(lka)’
– National Short-Term Rating on commercial paper affirmed at ‘F2(lka)’