Fitch Affirms Flowers' IDR at 'BBB'; Outlook Stable
NEW YORK -- March 28, 2013
Fitch Ratings has affirmed the ratings of Flowers Foods Inc. (Flowers; NYSE:
FLO) as follows:
--Issuer Default Rating (IDR) at 'BBB';
--$500 million Revolving Credit Facility at 'BBB';
--$400 million Senior Unsecured Note at 'BBB';
--$68 million Term Loan A at 'BBB'.
The Rating Outlook is Stable.
Key Rating Drivers:
Flowers' ratings reflect its leading position as the second largest producer
of baked goods in the U.S., with over $3 billion in 2012 revenues, successful
geographic expansion over the past several years, and a stable business model.
Flowers is a low-cost operator in a highly mature industry. The firm has
generated low single-digit organic revenue growth rates, even though industry
volumes have been slightly negative, due to its ability to price for these
daily consumed staples. Flowers has steadily increased its market share over
Fitch notes that as expected, Flowers' credit protection measures remain good
but are not at historically strong levels. The company had been under-levered
and had a significant cushion in its rating category through 2010. Total
Adjusted Debt/EBITDAR was under 2.4x with funds from operations (FFO) interest
coverage well in excess of 28x from 2004 through 2010. The cushion in the
rating was expected to provide the company with flexibility to participate as
a leader in a consolidating industry and also in recognition of limited
geographic diversification. Through 2010, the company primarily competed in
the southern U.S.
The company is focused on growth and has made or announced several
acquisitions over the past two years in order to expand its geographic
footprint. The change removed a qualitative constraint on upward rating
movements. However, leverage is likely to continue to increase above
historical levels through 2013. Fitch anticipates that credit protection
measures will be weak for the current rating category in the near term.
Flowers is committed to using internally generated cash flow to reduce debt
within 18 to 24 months after it closes on the Hostess Brands, Inc. (Hostess)
asset purchase this year. Fitch expects that the company will not execute any
sizeable acquisitions until debt/EBITDA is comfortably under 2x (roughly 3.25x
on a total adjusted debt/EBITDAR basis). The company's solid liquidity and
commitment to de-levering post the Hostess acquisition, discussed below,
underpins the rating and the Stable Outlook.
In 2011, Flowers announced its goal to accelerate its geographic footprint to
reach 75% of the U.S. population by 2016. Half of the growth would be
accomplished via acquisitions and it was anticipated that leverage would
increase as a result. Within the past 18 months, Flowers purchased Tasty
Baking Company in May 2011 for $172 million, Lepage Bakeries, Inc. (Lepage) in
July 2012 for $382 million and the Sara Lee bread, buns and roll brand in
California in February 2013 for $50 million. By the end of this year the
company will have accomplished its goal to access 75% of the U.S. population
and significantly expanded its geographic footprint 3 years early. However, as
a result, debt increased by almost $500 million in 2010, from $127 million to
$607 million at the end of 2012. Debt/EBITDAR leverage followed a similar
trajectory to 3x.
In 2013, Flowers announced it would purchase five bread brands including
Wonder, Merita and Butternut, along with 20 bakeries and other assets for $360
million from Hostess. After filing for Chapter 11 in January 2012, Hostess
unexpectedly exited the market in November 2012 and its assets became
available for sale. Pending regulatory approval, Flowers expects to close on
the Hostess asset purchase in the second half of 2013. The purchase is likely
to be largely debt financed, since Flowers typically carries very little cash
on its balance sheet. As a result, Fitch expects the company's leverage to
increase moderately in 2013. Debt could grow to $1 billion if the entire $360
million purchase price is financed.
Fitch has determined after a review of Hostess' court filing that Hostess'
gross margins were in line with Flowers' and that over its past three fiscal
years there appeared to be no major deterioration of its brands, as reflected
in a relatively stable revenue line. Furthermore, in buying assets, Flowers is
not exposed to Hostess' legacy liabilities which include substantial pension
obligations. Although unexpected, Fitch believes this acquisition is
strategically important and beneficial to Flowers' operations immediately and
in the long term as it cements its geographic expansion.
Flowers began recording double-digit volume growth after Hostess shut down.
Further, at its analyst presentation on March 20, 2013 the company announced
that revenues were up 20% to 25% and that gross margins had improved through
mid-March 2013. Importantly, Flowers is adding meaningful volumes to its fixed
cost base and its capacity utilization has improved as have margins since
fourth quarter 2012 (4Q'12). Volume growth is being driven by the company's
organic expansion, Hostess-related gains, and incremental revenues from the
mid-2012 Lepage acquisition. Lepage and the Sara Lee brand acquisition in
California should add 7 points of revenue growth in 2013, while recently
enacted pricing to offset commodity input cost should add 4 to 6 points. Given
this, there is support for Flowers to see revenues increase in the 20% range
Pro forma leverage (total adjusted debt/EBITDAR) if the Hostess transaction
was financed entirely with debt would be in the low 3x range. The calculation
is based on a 20% increase in revenues ($3.7 billion) against a stable
historical 13.4% EBITDAR margin. As such, leverage would not be substantially
more than the 3x seen at year end. However, as mentioned previously it is weak
versus historical levels and for the rating category.
Liquidity and Debt:
Much of the company's immediate liquidity is derived from internally generated
cash flow and access to its $500 million revolver which matures in November
2017. There was $373 million in revolver availability at year end. Flowers
generated positive free cash flow (FCF) in eight of the past 10 years.
However, Flowers' FCF is variable given the impact of hedging on cash flows.
The company recorded $63 million in FCF in 2012, which was a material but
anticipated improvement from the negative $24 million recorded in 2011. Given
volume growth and margin improvement year to date, Fitch expects meaningful
improvements in FCF in 2013. Again, volatile commodity costs - primarily wheat
costs - could change Fitch's expectations for FCF in either the negative or
Long-term debt maturities are very modest over the next five years. A $66
million term loan matures in 2013, but from 2014 through 2016 less than $5
million is currently due each year. That is likely to change depending on how
the company finances the Hostess acquisition. Flowers plans to use the bank
market and obtain pre-payable or amortizable debt. As a result, annual
maturities of long-term debt are likely to increase. Fitch expects obligations
to remain manageable over the intermediate term.
An upgrade beyond 'BBB' is not anticipated in the near term.
Future developments that may, individually or collectively, lead to a negative
rating action include:
A downgrade could occur if deleveraging is slower than Fitch expects with
Total Adjusted Debt/EBITDAR remaining over the mid-3x range over the next 18
to 24 months. A downgrade could also occur with another sizeable acquisition,
which is not expected, or the negative cash impact of commodity cost spikes,
although those have been short in duration.
Additional information is available at 'www.fitchratings.com'.The ratings
above were solicited by, or on behalf of, the issuer, and therefore, Fitch has
been compensated for the provision of the ratings.
Applicable Criteria and Related Research
'Corporate Rating Methodology', Aug. 8, 2012;
'Fitch: No Immediate Rating Impact from Flowers Foods' Bid for Certain Hostess
Assets', Jan. 14, 2013.
Applicable Criteria and Related Research
Corporate Rating Methodology
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