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Fitch Affirms JSC Aeroflot at 'B+'; Outlook Stable

March 06, 2017 | Cbonds

Fitch Ratings has affirmed Public Joint Stock Company Aeroflot - Russian Airlines' (Aeroflot) Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'B+', Outlook Stable, is reported on company's website. A full list of rating actions is available at the end of this commentary.

The affirmation reflects the improvement in Aeroflot's credit metrics and our expectations that the company will maintain a robust financial profile over 2016-2019. We currently anticipate FFO adjusted gross leverage to be slightly above 5x on average over 2016-2019. The rating incorporates the company's strong Russian market position which increased to about 42% in 9M16 and its ability to adapt to challenging market conditions. The group has continued to outperform the market and it reported a 9% yoy increase in the number of passengers carried (PAX) in 9M16 against a decrease of 8% in the overall Russian air transportation market. Aeroflot's business profile is supported by the company's fairly diversified route network, favourable hub position and competitive cost structure. The 'B+' rating incorporates a one-notch uplift reflecting its links with the state.

KEY RATING DRIVERS

Improving Financials: Aeroflot's financial performance improved over 2015-2016 and the company reported revenue and EBITDA growth by about 20% and 30% yoy respectively in 2016. This is supported by a rise in passenger traffic, a material increase in yields in rouble terms and lower oil prices. We anticipate these factors will continue to support revenue growth in 2017-2019. We expect Funds from operations (FFO) adjusted gross leverage will drop to slightly above 5x on average over 2016-2019 from 5.9x at end-2015 and FFO fixed charge coverage to remain above 1.5x over the same period.

Passenger Traffic Growth Expected: In 2016 Aeroflot reported an almost 15% growth in revenue-passenger-kilometres (RPK) and we expect this trend to continue over 2017-2020, though at a slower pace. The anticipated average increase in the high single digits in RPK over this period will be supported by the new slots obtained from Transaero and organic capacity expansion. We anticipate growth across all destinations, especially on its domestic routes.

Higher Dividends Expected: We consider the company's current dividend policy, which envisages a payout ratio of 25% of IFRS net income as moderate. However, there is a high risk of an increase in dividend payments, as has happened at other state-owned companies. We therefore assume a 50% payout ratio for the company from 2017, which together with moderate capex would be manageable due to its strong cash-flow generation. We anticipate it will remain free cash-flow positive over 2016-2018.

High FX Exposure: Aeroflot is exposed to FX fluctuations as almost all of its debt at end-9M16 (about 90%) was denominated in foreign currencies, mainly US dollars. The majority of debt is in the form of finance leases for aircraft purchases (about 89%). This is partially mitigated by revenue generated mainly in dollars or euros, or linked to euros accounting for about 60% of traffic revenue over 9M16, although about 55% of operating expenses are also denominated in foreign currencies.

Strong Business Profile: Aeroflot has a solid business profile due to a fairly diversified route network, high frequency of international flights, a favourable hub position and the company's position as Russia's largest airline and flagship carrier and as a medium-sized airline among European peers. The implementation of a multi-brand strategy within Aeroflot Group provides the group with greater operational flexibility without diluting Aeroflot's brand and enables the group to target multiple customer and geographic segments, adapt more quickly to customer demands and utilise feeder traffic from regional airline subsidiaries.

One-Notch Uplift: The 'B+' rating incorporates a one-notch uplift to the companies 'B' standalone rating for parental support from its ultimate majority shareholder, the Russian Federation. There has been little evidence of tangible financial support, except for royalties, but Aeroflot remains on the list of Russia's strategic enterprises and its operational and financial strategies are overseen by the state. It is seen as a means of promoting and developing Russia's aviation market. A reduction in the state's stake to below 50% coupled with evidence of diminishing state support, could lead to the withdrawal of the one-notch uplift.

DERIVATION SUMMARY

Aeroflot has a solid business profile due to a fairly diversified route network, high frequency of international flights, a favourable hub position and the company's position as Russia's largest airline and flagship carrier and a medium-sized airline among European peers. The rating is constrained by Aeroflot's financial profile. Parental links are reflected in a one-notch uplift in the rating.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:
- Russian GDP growth of 1.3%-2% in Russian over 2017-2019;
- Russian CPI of 5.7%-6.5% over 2017-2019;
- Average USD/RUB exchange rate of 66.8 in 2016 and 62.5-65.7 over 2017-2019;
- capex in line with the company's forecast;
- RPK growth of about 9% CAGR over 2017-2020;
- yield recovery in the low single digits.

RATING SENSITIVITIES

Future Developments That May, Individually or Collectively, Lead to Positive Rating Action
- Evidence of stronger state support.
- Improvement in the financial profile (eg FFO adjusted gross leverage below 5.0x and FFO fixed charge cover above 1.5x on a sustained basis) due to yield recovery, successful integration of the received slots, personnel and fleet assets, moderation of investments in the fleet and/or a drop in fuel prices

Future Developments That May, Individually or Collectively, Lead to Negative Rating Action
- Material deterioration of the credit metrics (eg FFO adjusted gross leverage well above 6.0x and FFO fixed charge cover below 1.25x on a sustained basis) due to further rouble depreciation, a protracted downturn in the Russian economy, drop in yields or overly ambitious fleet expansion
- Weakening of state support

LIQUIDITY

Adequate Liquidity: At end-3Q16 its cash and short-term deposits stood at RUB61bn which together with available unused credit facilities of RUB70bn were sufficient to cover short-term debt maturities of RUB34bn. Moreover, we expect the company to be free cash-flow positive over 2016-2018. The majority of cash at end-2015 was held with Sberbank (BBB-/Stable).

FULL LIST OF RATING ACTIONS


Long-Term Foreign- and Local-Currency IDRs: affirmed at 'B+', Outlook Stable
Short-term foreign- and local-currency IDRs: affirmed at 'B'
Foreign- and local-currency senior unsecured ratings: affirmed at 'B+/RR4'

Company: Aeroflot

Full company namePJSC Aeroflot Russia Airlines
Country of riskRussia
Country of registrationRussia
IndustryTransportation

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