Credit Opinion: Heraeus Holding GmbH

Transcription

1 Credit Opinion: Heraeus Holding GmbH Global Credit Research - 16 Feb 2016 Germany Ratings Category Outlook Issuer Rating Moody's Rating Stable Baa1 Contacts Analyst Phone Jeanine Arnold/Frankfurt am Main Matthias Volkmer/Frankfurt am Main Anke Rindermann/Frankfurt am Main Key Indicators [1][2]Heraeus Holding GmbH 12/31/ /31/ /31/ /31/ /31/2010 Total Revenues incl. Trading Business (EUR million) 15,589 17,040 19,968 26,183 22,025 Product Revenue (EUR million) 3,356 3,578 3,979 4,840 4,079 EBITA (EUR million) EBITA Margin on Product Revenues 7.5% 8.6% 9.9% 10.5% 10.3% EBITA / Interest Expense 5.2x 6.3x 6.9x 6.6x 5.6x Debt / EBITDA 3.5x 2.3x 2.5x 2.2x 2.5x Retained Cash Flow / Net Debt 127.4% % 69.0% 64.9% 56.3% Free Cash Flow / Debt -0.8% 1.9% 10.1% 8.3% -2.5% [1] All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non- Financial Corporations. Source: Moody's Financial Metrics. The EBITA margin on Product Revenues has been calculated on a Product Revenue basis. EBITA includes contributions from the company's Trading business, but is still viewed as a better indicator of the company's underlying performance and manufacturing activities. [2] The RCF/Net Debt < 0 in 2013 reflects Heraeus' adjusted net cash position. RCF was positive. Note: For definitions of Moody's most common ratio terms please see the accompanying User's Guide. Opinion Rating Drivers - Leading global market positions with barriers to entry due to technological know-how - Diversified product portfolio mitigates cyclicality to some degree but operational challenges persist - Strong liquidity and conservative financial policy currently sufficient to absorb earning pressures - Significant precious metal trading activities, but effective control mechanisms and no proprietary trading

2 - Significant precious metal trading activities, but effective control mechanisms and no proprietary trading Corporate Profile Heraeus is a family-owned company, headquartered in Hanau, Germany, with around 12,600 employees. The company, founded in 1851, is a leading provider of diversified high-value technological solutions in the markets chemical and metals, energy and the environment, communications and electronics, health, mobility, and industrial applications. A large proportion of the products contain or use precious metals, such as gold, silver and platinum metals in their production process. Up until 31 December 2014 Heraeus operated through six Business Groups - Precious Metals (35% of group product sales in 2013), Materials Technologies (37%), Electro-Nite (12%), Medical (2%), Quartz Glass (10%) and Noblelight (4%). As of 1 January 2015, however, Heraeus has divided its Precious Metals and Material Technologies Business Groups to be more industry-focused and will operate in a new management structure of 11 Global Business Units. These will in turn report under four industry-related segments: Health; Electronics; Environment; and Industrial Applications. In 2014, Heraeus generated EUR3.4 billion revenues from its product business and around EUR12.2 billion sales from precious metal trading, representing one of the top five industrial precious metal trading companies globally. Heraeus' trading division supplies its own manufacturing processes but predominantly procures precious metals for customers, in which it charges a trading fee. Rating Rationale Heraeus' Baa1 rating continues to be supported by its leading positions in global markets with high entry standards. Its industry and technological know-how provide entry barriers, which combined with its diversified business portfolio, support earnings to a large degree. However, exposure to cyclical end-markets such as the semiconductor, automotive and steel industries, as well as short business cycles and weak demand fundamentals in some instances, have meant that the company is not immune to earnings or working capital volatility. Heraeus has also witnessed increased competition in some segments. Indeed, EBITA has fallen consecutively, and contrary to Moody's expectations over the last few years. EBITA was around EUR510 million in 2011 but in 2014 fell to EUR252 million. This decline was in part due to structural changes in the photovoltaic business, which contributed significantly to the EBITA in 2011, but also continuing weak market fundamentals, which have impacted some of its other businesses over the last few years. In addition, 2014 EBITA included some restructuring costs. We expect 2015 EBITA to remain under pressure driven by continued weak demand for some of the company's products and additional restructuring charges due to the restructuring program announced in September Earning improvements in 2016 are uncertain, and are likely to remain dependent on the global economic environment as well as the success and pace of the company's restructuring and optimization plans. Despite earning pressures, Heraeus' credit rating continues to benefit from relatively resilient free cash flow (FCF) generation and adjusted net debt/ebitda, which is expected to remain around 0.5x in the short to medium-term. Leverage, cash flow coverage metrics and liquidity benefit from the company's conservative risk management and financial strategy. Heraeus has substantial precious metal trading activities, which operate as a profit center. However, as exemplified by the company's track record of precious metal trading margins, risks are controlled given the company's conservative hedging policy, rigid trading limits and the close monitoring of counterparty risk. DETAILED RATING CONSIDERATIONS LEADING GLOBAL MARKET POSITIONS WITH BARRIERS TO ENTRY DUE TO TECHNOLOGICAL KNOW- HOW Heraeus ranks among the top three players in the majority of its globally-diversified markets, which are considered relatively consolidated and profitable. In particular, Heraeus is active in melting and processing metals for recycling purposes, industrial products such as catalysts for the chemical industry and solder pastes for integrated circuits. Heraeus is also a leading player in the manufacture of sensors for the steel industry, bone cements for endoprosthetics, quartz glass and specialty light products. In addition, its metal trading activities are significant and include the sourcing, handling and management of precious metals including the control of market risks on behalf of its industry customers. These also safeguard the supply of precious metals for Heraeus' own manufacturing activities. Heraeus' technological expertise in the

3 precious metal processing, its good relationships with industry customers and numerous patents, represent sound entry barriers. However, Heraeus is witnessing increased competition in some segments as well as structural problems affecting demand. This is evidenced by earning pressures and Heraeus' need to restructure and optimize its operations through the re-organization of production and phasing out/substitution of existing products. DIVERSIFIED PRODUCT PORTFOLIO MITIGATES CYCLICALITY TO SOME DEGREE BUT OPERATIONAL CHALLENGES PERSIST Heraeus benefits from a diversified industry and product portfolio, as well as good geographical diversification. It operates in different industries including energy, chemicals, healthcare, transport, communication and steel. Heraeus' revenues are also well spread across customers and economic regions. This diversified product portfolio allows the company to reduce top-line and earnings volatility to some degree. However, end market demand for a number of the company's products remains cyclical in nature and product revenues and Moody's adjusted EBITA have fallen consecutively, and contrary to Moody's expectations over the last few years. In 2014 Moody's adjusted EBITA was EUR252 million, a considerable decrease from the high of around EUR510 million in This continuing deterioration in operating performance evidences the fact that the company's diversification has not successfully mitigated the company's challenging market conditions. In 2014 for example, weak demand for Heraeus' products from the electronics industry was unable to be sufficiently offset by the more stable demand in the quartz glass, medical products and components business. Indeed we expect Heraeus' 2015 results to continue to be impacted by challenging economic conditions as well as further restructuring costs. We expect favorable demand fundamentals in the medical components and quartz glass business to continue to benefit from the high levels of investments in fiber optic networks, but be offset by both weaker demand in the company's steel sensor business and fundamental challenges in Heraeus' electronics business. According to the world steel association, 2015 crude steel production declined by around 3% compared to 2014, and this in particular is likely to have a negative impact on Heraeus businesses. We also expect Heraeus' electronics business to be challenged by more fundamental developments such as the substitution of gold bonding wire through copper palladium bonding wire. The restructuring program announced in 2015 represents the company's most recent efforts to streamline its diverse and multiple operations so that it may sustainably improve profitability and adjust its product portfolio to a changing market environment. Some efficiencies have already been realized from the standardization of business processes, but the degree to which further efficiencies will allow for earning improvements in 2016 remains uncertain and come with upfront costs. STRONG LIQUIDITY PROFILE AND CONSERVATIVE FINANCIAL POLICY CURRENTLY SUFFICIENT TO ABSORB EARNING PRESSURES Heraeus' strong liquidity profile and low adjusted net debt/ebitda, a consequence of their conservative risk management and financial strategy, continue to support the company's Baa1 rating, especially in the context of Heraeus' continuing operating underperformance. We believe this provides the company with headroom to undertake the necessary restructuring measures to turnaround its performance. The company's strong liquidity position (around EUR1 billion as at 2014) follows the sale of its dental business. In addition, despite persistent deteriorations in performance, the company continues to generate only moderately negative to breakeven FCF (after dividends). FCF was only negative by around EUR9 million in 2014 and we expect it will be at least breakeven in 2015, albeit aided by expected reversals of the working capital build-up in Interest cover is strong at around 7.2x in 2014 (2013: 5.7x). Over the last five years the company has on average maintained a cash balance (incl. marketable securities) in excess of EUR 800 million. In our view this evidences the company's conservative financial policy, including Heraeus' dividend and acquisition policy. For example Heraeus' dividend payout policy is typically at or around 25% of net income. We also expect the company to remain moderate in terms of its acquisition spending and as in the past, engage in relatively small bolt-on acquisitions. Larger strategic acquisitions, if accompanied by still material operating underperformance, could place pressure on Heraeus' current rating. Maintaining a strong cash balance is important as we consider Heraeus' adjusted leverage of around 3.5x in 2014 to be high in the context of the Baa1 rating level. Given our expectations that 2015 will continue to be impacted by earning pressures and restructuring costs, we believe this leverage could rise to as much as 4.0x. We adjust

4 Heraeus' reported debt for pension liabilities, operating leases and precious metal loans. However, precious metal loans in the past have been volatile and add an additional element of uncertainty when forecasting the company's leverage metrics. METAL TRADING RISKS ARE WELL MANAGED, BUT TRADING OPERATIONS DISTORT FINANCIALS Heraeus has substantial precious metal trading activities. These are used to hedge and physically secure precious metals needed for the group's own manufacturing of its products as well as providing services to industry customers. Trading activities operate as a profit center but risks are controlled given spot pricing, rigid trading limits and the close monitoring of counterparty risk. Risks from volatile precious metal prices are typically borne by customers or hedged back-to-back. The company's trading activities are inherently lower-margined as earning contributions reflect the charging of trading fees only. These distort the company's overall group margins and therefore, in our view, EBITA margins calculated on a product revenue basis (excluding Trading revenues) are considered to be a better indicator of the company's underlying performance. While these continue to include contributions of the company's trading business they provide greater insight into the profitability of the company's manufacturing activities. The company's weaker operating performance over the past few years is reflected in the 300bps fall in EBITA margins to 7.5% in 2014 from 10.5% back in Heraeus also uses precious metal loans (PM loans) as a short-term financing tool. Within the loan transaction, Heraeus receives from lenders (e.g. banks) a fixed quantity of precious metal for a certain period of time and in return pays interest for borrowing the precious metal. We include these off-balance sheet PM loans in our adjusted gross debt figure. Depending on Heraeus' choice to directly use cash to temporarily buy (hedged) precious metal or enter into PM loans, Heraeus faces higher working capital consumption in the first case and higher adjusted debt in the latter case. In addition, volatility of precious metal prices affects group sales inventory level as well as the absolute amount of PM loans. Liquidity Profile We consider Heraeus' liquidity profile to be solid. As at December 2014, Heraeus had cash and cash equivalents of EUR616 million and marketable securities of EUR429 million, more than sufficient to cover short-term debt maturities of 131million. Moreover, Heraeus maintains a EUR300 million syndicated credit facility, which was undrawn as at 2014 and is expected to remain undrawn in This facility is set to mature in December 2020 (both two one year extension options have been exercised). This is considered a strong source of liquidity since it contains neither financial covenants nor a repeating MAC clause. In addition, Heraeus benefits from a few bilateral credit facilities, the majority of which are not considered in our liquidity assessment due to their short-term nature. Heraeus also has access to a EUR500 million commercial paper program, but given the company's healthy cash balance, this is used infrequently. Rating Outlook Based on 2014 results Heraeus remains well-positioned at Baa1 although we believe Heraeus' persistent operating underperformance is reducing the headroom at the current rating level. The stable outlook incorporates our expectation that Heraeus will continue to maintain a disciplined conservative financial policy, including a solid liquidity profile. In particular, we expect that Heraeus will be able to sustainably maintain its leverage well below 1.5x net debt/ebitda and RCF/net debt above the high forties over a business cycle. What Could Change the Rating - Up Volatility and limited earnings visibility represent key rating constraints. Positive rating pressure, therefore, would require i) sustainable EBIT improvement including greater resilience in profitability (including more stable EBITA margins) and cash flow generation as well as ii) adjusted net debt/ebitda remaining sustainably below 1.0x and iii) an interest coverage ratio remaining sustainably above 6.0x EBITA/Interest Expense. A rating uplift would also require continued management discipline regarding acquisitions and shareholder distributions. What Could Change the Rating - Down The rating would come under pressure if i) the RCF/Net debt sustainably slips below the high forties or ii) adjusted net debt/ebitda remains consistently above 1.5x, or iii) EBITA/Interest expense falls consistently below 4.0x, or

5 iv) consistently negative free cash flow generation. Principal Rating Methodology The principal methodology used in this rating was the Global Manufacturing Methodology published in July The grid-implied rating for the last-twelve-months period ending 31 December 2014 and the months forwardlooking grid indicate a Baa2 rating, one notch below the current Baa1 rating. This is due to the scoring of the company's business profile, which is considered borderline with a Baa business profile, and Heraeus' strong liquidity reserve, which is not factored into Moody's methodology rating grid. Heraeus' trading operations, also negatively distort the company's operating margins. On a more meaningful Product Revenue only basis, the EBITA margin is expected to remain in the mid to high single digit range albeit we recognize the revenue scoring is also overstated by the company's trading business. Rating Factors Heraeus Holding GmbH Manufacturing Industry Grid Current FY [3]Moody's Month Forward ViewAs [1][2] 12/31/2014 of 1/26/2016 Factor 1 : Business Profile (20%) Measure Score Measure Score a) Business Profile Ba Ba Ba Ba Factor 2 : Scale (20%) a) Revenue (USD Billion) $20.7 Aa $21 - $22 Aa Factor 3 : Profitability (10%) a) EBITA Margin 1.6% Caa 1.5% - 2% Caa Factor 4 : Coverage and Leverage (40%) a) EBITA / Interest Expense 5.2x Baa 5x - 6x Baa b) Debt / EBITDA 3.5x Ba 3x - 4x Ba c) Retained Cash Flow / Net Debt 127.4% Aaa 130% - 140% Aaa d) Free Cash Flow / Debt -0.8% Caa 5% - 8% Ba Factor 5 : Financial Policy (10%) a) Financial Policy A A A A Rating: a) Indicated Rating from Grid Baa2 Baa2 b) Actual Rating Assigned Baa1 [1] All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non- Financial Corporations. [2] As of 12/31/2014; Source: Moody's Financial Metrics [3] This represents Moody's forward view; not the view of the issuer; and unless noted in the text, does not incorporate significant acquisitions and divestitures This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on for the most updated credit rating action information and rating history Moody s Corporation, Moody s Investors Service, Inc., Moody s Analytics, Inc. and/or their licensors and

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