Research Update: French Auto Supplier Valeo Outlook Revised To Stable From Positive; Ratings Affirmed At Primary Credit Analyst: Margaux Pery, Paris +33 1 44 20 73 35; margaux.pery@spglobal.com Secondary Contact: Eve Seiltgens, Frankfurt (49) 69-33-999-124; eve.seiltgens@spglobal.com Table Of Contents Overview Rating Action Rationale Liquidity Outlook Ratings Score Snapshot Issue Ratings--Subordination Risk Analysis Related Criteria Ratings List WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 1
Research Update: French Auto Supplier Valeo Outlook Revised To Stable From Positive; Ratings Affirmed At Overview We believe that high research and development costs and capital expenditures to support solid revenue growth will constrain Valeo's free operating cash flow (FOCF) generation over the next two years. We see Valeo as comfortably positioned at its current 'BBB' rating level, but the likelihood for an upgrade in the short term is limited because we believe the company will stay opportunistic on acquisitions. We are therefore revising the outlook on Valeo to stable from positive, and affirming our long-term corporate credit ratings. The stable outlook reflects our view that, over the next two years, Valeo's funds from operations to debt will be 40%-45% and its FOCF-to-debt ratio will be 12%-15%. Rating Action On Jan. 29, 2018, S&P Global Ratings revised its outlook to stable from positive on France-based auto supplier Valeo S.A. At the same time, we affirmed our 'BBB' long-term and 'A-2' short-term corporate credit ratings on Valeo. We also affirmed the 'BBB' issue rating on the company's senior unsecured notes. Rationale The outlook revision reflects our view that Valeo's investments in research and development (R&D) and in capital expenditure (capex) are currently hampering free cash flow generation, with limited scope for material improvement in the next 18-24 months. As we do not expect Valeo to reduce returns to shareholders or to refrain from making possible opportunistic acquisitions during this investment period, we view prospects for an upgrade as limited in the short term. We believe that Valeo benefits from favorable medium-to-long term growth prospects. This is due to the drive for lower carbon emissions, powertrain electrification, and automated driving assistance. Valeo's current order backlog is a testimony of its positioning within these high growth segments with products such as external sensors, thermal systems for electric WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 2
batteries, invertors, and in telematics. Nevertheless, we project that Valeo's strong revenue progression of about 10% annually over the next two years will prompt the company to maintain high investments. We expect that Valeo's capex will continue to climb, mirroring its increasing order intake. In the first half of 2017, order intake surged by 16% to 14.9 billion. Furthermore, given the company's focus on innovative products (defined as a product released in the last three years) and investments in powertrain electrification and intuitive and autonomous driving, we think that R&D spending, including both expensed and capitalized costs, will also increase. In spite of its focus on innovation, Valeo's EBITDA margin (as adjusted by S&P Global Ratings) at about 10%-11%, still lags some of its EU peers, such as Schaeffler, Bosch, or Continental. The acquisition of FTE Automotive completed in October 2017 should contribute to a gradual rise of the company's EBITDA margin owing to its much higher profitability (EBITDA margin at around 16%) than Valeo. On the other hand, the benefit from the shift of the product portfolio toward more technology offerings may take time to materialize given the initial investments needed to develop these. Overall, the company's global reach with a diversified product portfolio and leading market positions in its segments continue to support Valeo's business risk profile. In addition, the company stems about 10%-15% of its sales from the aftermarket, which we see as less cyclical than sales to original equipment manufacturers. This provides some further stability to the company's operations. For the next two years, we forecast that Valeo will continue to invest to meet customer demand and therefore we expect that free operating cash flow (FOCF) to debt will remain weak for the rating level, at around 12%-15%. Our forecast also includes assumptions of stable dividend payout ratios as well as possible appetite for additional bolt-on acquisitions. Assumptions Real global GDP growth of 3.8% in 2018 and 2019. We expect Western Europe's real GDP to increase by 1.8% and 1.7%, respectively, in 2018 and 2019; NAFTA at 2.5% and 1.9%. In Latin America we expect GDP growth of 2.4% in 2018 and 2.7% in 2019, and China to grow at 6.5% and 6.3%, respectively. An increase of 1.9% in global automotive sales, on the back of moderate growth in European markets, and stable to positive trends in China, despite some signs softness in the U.S. markets. This is directionally consistent with our assumptions of GDP growth. Continued revenue growth in 2018 and 2019 of about 10% supported by a strong order backlog and accretive acquisitions. Gradually improving EBITDA margins of around 10.5%-11.0% (versus 10% in 2016) primarily on the back of revenue growth, despite higher R&D costs. We assume capex of around 1.4 billion, excluding capitalized R&D. We assume stable dividends and no share buybacks in 2018. WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 3
We include 150 million- 200 million for bolt-on acquisitions although no contractual commitments exist to date. Based on these assumptions, we arrive at the following credit measures: Adjusted FFO to debt of 40%-45% over the next two years. Adjusted debt to EBITDA of 1.5x-2.0x in 2018-2019. Adjusted FOCF to debt of 12%-15% in 2018-2019. Liquidity The short-term rating is 'A-2'. We view Valeo's liquidity as strong, based on a ratio of sources to uses of liquidity above 1.5x for the 12 months from July 1, 2017, and remaining above 1.0x in the ensuing 12 months. Valeo's good standing in the credit markets and prudently managed liquidity support our assessment. In 2017, the company issued 500 million six-year notes and 600 million five-year notes at a low coupon of 0.625% and 0.375%, respectively. Valeo is subject to maintenance covenants in some of its bank lines and loans, which limit net debt to EBITDA to 3.25x. We expect there will be ample headroom under this covenant, even if EBITDA were to decline by 30%. We estimate that Valeo's principal liquidity sources for the next 12 months will comprise: About 2.25 billion in available cash, excluding about 400 million we view as not immediately available for debt repayment. 1.1 billion of available committed credit lines maturing beyond 12 months. Our forecast of about 2.6 billion- 2.9 billion of FFO (before adjustments). We estimate that Valeo's principal liquidity uses for the same period will comprise: 0.5 billion of short-term debt outstanding under the commercial paper program. Capex of about 2 billion (including capitalized R&D costs) according to our assumption. Dividends of about 350 million- 400 million annually in 2018 and 2019. Outlook The stable outlook reflects S&P Global Ratings' view that Valeo will maintain high levels of R&D and capex investments over the next 18 to 24 months to support revenue growth. We expect FFO to debt of 40%-45% and a FOCF-to-debt ratio of 12%-15%. WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 4
Upside scenario We could upgrade Valeo if the company demonstrated solid organic growth and sustained its FFO to debt comfortably above 45%. We would expect higher capex and R&D to be offset by stronger EBITDA generation and a prudent acquisition policy. Also, a higher rating would require evidence of gradually strengthening margins and consistently positive sizable FOCF generation. Downside scenario We could lower our rating on Valeo if its FFO to debt fell below 30%. This could happen if Valeo experienced operational slowdown, undertook a more sizable debt-funded M&A, and did not adjust its capex accordingly in timely manner. Also, we would view negatively evidence of a more opportunistic financial policy. Ratings Score Snapshot Corporate Credit Rating: BBB/Stable/A-2 Business risk: Satisfactory Country risk: Low Industry risk: Moderately high Competitive position: Satisfactory Financial risk: Intermediate Cash flow/leverage: Intermediate Anchor: bbb Modifiers Diversification/Portfolio effect: Neutral (no impact) Capital structure: Neutral (no impact) Financial policy: Neutral (no impact) Liquidity: Strong (no impact) Management and governance: Satisfactory (no impact) Comparable rating analysis: Neutral (no impact) Issue Ratings--Subordination Risk Analysis Capital structure Valeos' capital structure consists of senior unsecured debt issued at the Valeo S.A. level. Analytical conclusions We rate Valeo's senior unsecured debt at 'BBB', in line with our 'BBB' long-term corporate credit rating on Valeo. This reflects the absence of WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 5
material liabilities that would rank ahead of the company's unsecured debt by way of structural or contractual subordination in a default scenario. Related Criteria Criteria - Corporates - General: Reflecting Subordination Risk In Corporate Issue Ratings, Sept. 21, 2017 General Criteria: Methodology For Linking Long-Term And Short-Term Ratings, April 7, 2017 Criteria - Corporates - General: Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Dec. 16, 2014 General Criteria: Group Rating Methodology, Nov. 19, 2013 Criteria - Corporates - Industrials: Key Credit Factors For The Auto Suppliers Industry, Nov. 19, 2013 Criteria - Corporates - General: Corporate Methodology: Ratios And Adjustments, Nov. 19, 2013 Criteria - Corporates - General: Corporate Methodology, Nov. 19, 2013 General Criteria: Country Risk Assessment Methodology And Assumptions, Nov. 19, 2013 General Criteria: Methodology: Industry Risk, Nov. 19, 2013 General Criteria: Methodology: Management And Governance Credit Factors For Corporate Entities And Insurers, Nov. 13, 2012 General Criteria: Use Of CreditWatch And Outlooks, Sept. 14, 2009 Ratings List Outlook Action; Ratings Affirmed To From Valeo S.A. Corporate Credit Rating BBB/Stable/A-2 BBB/Positive/A-2 Senior Unsecured BBB BBB Additional Contact: Industrial Ratings Europe; Corporate_Admin_London@spglobal.com Certain terms used in this report, particularly certain adjectives used to express our view on rating relevant factors, have specific meanings ascribed to them in our criteria, and should therefore be read in conjunction with such criteria. Please see Ratings Criteria at www.standardandpoors.com for further information. Complete ratings information is available to subscribers of RatingsDirect at www.capitaliq.com. All ratings affected by this rating action can be found on the S&P Global Ratings' public website at www.standardandpoors.com. Use the Ratings search box located in the left column. Alternatively, call one of the following S&P Global Ratings numbers: Client Support Europe (44) 20-7176-7176; London Press Office (44) 20-7176-3605; Paris (33) 1-4420-6708; Frankfurt (49) 69-33-999-225; Stockholm WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 6
(46) 8-440-5914; or Moscow 7 (495) 783-4009. WWW.STANDARDANDPOORS.COM/RATINGSDIRECT JANUARY 29, 2018 7
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