Tough Trade Weakens Hand of U.K. Retailers as Refinancing Looms

  • Retail vulnerable to weaker consumer confidence as pound falls
  • Investors may demand premium for refinancing: Old Mutual

Deteriorating credit outlooks for two U.K. retailers serving different ends of the wealth spectrum show that investors may drive a hard bargain when those companies next tap the debt market.

First S&P Global Ratings downgraded value clothing chain Matalan one notch further into high-yield territory to CCC, citing a proposal to buy back some debt in the secondary market. This could amount to a "selective default," if it purchases debt at a market price that’s below par, S&P said.

Then Moody’s Investors Service changed its outlook on upmarket department store group House of Fraser to negative from stable, highlighting mounting challenges to its bottom line such as fragile consumer confidence.

Retail is emerging as a sickly sector within a U.K. economy that grew at 2 percent last year. With the pound about 15 percent weaker since the country voted to leave the European Union last June, import costs are rising and shoppers’ purchasing power is under pressure. December retail sales fell at the fastest pace in almost five years.

That comes at an awkward time for both retailers, which have debt coming due that will need to be refinanced -- Matalan has a 342 million pound ($428 million) bond maturing in June 2019, while House of Fraser has 225 million pounds in debt due in July 2019 of which 125 million pounds is a term loan. Both companies declined to comment.

Retailers "probably will have to pay up if they have to refinance," said Bastian Wagner, a portfolio manager at Old Mutual Global Investors U.K. Ltd. in London, which has about 29 billion pounds in assets. "People will ask for a risk premium.”

The average yield on the debt of UK retailers is currently 100 basis points higher than the average for high-yield sterling-denominated bonds, according to Bank of America Merrill Lynch index data.

S&P and Fitch Ratings have both cited U.K. retail as potentially under enough pressure to prompt debt restructurings this year, even with central bank policy keeping borrowing costs near historic lows.

"The vast majority of these businesses need to pay costs in dollars and given the weakness of the pound, that’s a big challenge for them,” said Jeff Mueller, a high-yield portfolio manager at Eaton Vance Management International who helps oversee about $352 million in assets, according to data compiled by Bloomberg.

Some retailers are weathering the storm for now. Fashion chain New Look is likely to outperform peers as it opens new stores, broadens product ranges and expands into China, Moody’s said in a report. It’s also less indebted than peers and has no maturities until 2021. New Look declined to comment.

That may still not be enough to fend off all the challenges facing the British high street, according to Old Mutual’s Wagner.

"If prices and volumes are falling, it’s going to have a knock on effect on retailers," he said. "It doesn’t matter if you have longer maturities or a little bit more flexibility."

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